SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
Form 10-QSB
|X| Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended September 30, 2006
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from _______________ to ________________
Commission file number 000-29245
GALES INDUSTRIES INCORPORATED
(Exact name of small business as specified in its charter)
Delaware 20-4458244
(State or other jurisdiction of (IRS Employer Identification Number)
incorporation or organization)
1479 Clinton Avenue, Bay Shore, New York 11706
(Address of principal executive offices)
(631) 968-5000
(Issuer's telephone number, including area code)
Indicate by check mark whether the issuer (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act. Yes |_| No |X|
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 57,269,301 shares of Common
Stock, $.001 per share, as of October 30, 2006.
Transitional Small Business Disclosure Format (check one): Yes |_| No |X|
GALES INDUSTRIES INCORPORATED
INDEX
Page No.
PART I. FINANCIAL INFORMATION
Item: 1 Condensed Consolidated Financial Statements Balance Sheets
as of September 30, 2006 (unaudited) and December 31, 2005
(audited) 3
Statement of Operations for the three month period and the
nine month period ended September 30, 2006 (unaudited) and
September 30, 2005 (unaudited). 5
Statement of Cash Flow for the nine month period ended
September 30, 2006(unaudited) and September 30, 2005
(unaudited) 6
Notes to Condensed Consolidated Financial Statements 7
Item: 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
Item: 3 Controls and Procedures 20
PART II. OTHER INFORMATION
Item: 1 Legal Proceedings 22
Item: 4 Unregistered Sales of Equity Securities 22
Item: 6 Exhibits 23
SIGNATURES 24
2
Item 1:
Gales Industries Incorporated
Condensed Consolidated Balance Sheet
September December 31,
30, 2006 2005
-----------------------------
(Unaudited) (Audited)
ASSETS
Current Assets
Cash and Cash Equivalents $ 295,070 $ 1,058,416
Accounts Receivable, Net of Allowance for Doubtful Accounts
of $45,000 for September 30, 2006 and December 31, 2005
respectively 3,199,204 2,623,612
Inventory 13,584,677 12,603,810
Prepaid Expenses and Other Current Assets 71,320 210,124
Deposits 147,801 65,595
-----------------------------
Total Current Assets 17,298,072 16,561,557
Property, Plant, and Equipment, net 7,518,923 7,716,469
Cash Surrender Value - Officer's Life 35,373 66,216
Deferred Financing Costs 399,802 486,207
Other Assets 41,222 41,306
Goodwill 1,265,963 1,265,963
-----------------------------
TOTAL ASSETS $ 26,559,355 $ 26,137,718
=============================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts Payable and Accrued Expenses $ 5,348,835 $ 5,294,629
Advance Payment - Customers 188,199 188,199
Notes Payable and Revolver - Current Portion 6,911,033 6,322,665
Notes Payable - Sellers - Current Portion 96,200 192,400
Capital Lease Obligations - Current Portion 372,215 359,197
Due to Sellers 74,310 91,232
-----------------------------
Total current liabilities 12,990,792 12,448,322
Long term liabilities
Notes Payable - Net of Current Portion 3,562,863 3,648,131
Notes Payable - Sellers - Net of Current Portion 1,386,762 1,434,862
Capital Lease Obligations - Net of Current Portion 539,517 820,375
Deferred Tax Liability 676,394 676,394
-----------------------------
Total liabilities 19,156,328 19,028,084
-----------------------------
Commitments and contingencies
Stockholders' Equity
Series A Convertible Preferred - $.001 Par value, 8,003,716
Shares Authorized; No Shares Outstanding September
30,2006 and 900 Shares issued and outstanding December
31,2005 1
Common Stock - $.001 Par value, 120,055,746 Shares
Authorized; 57,269,301 Shares issued and outstanding as of
September 30, 2006 and 14,723,421 Shares Issued and
Outstanding for December 31, 2005 57,269 14,723
Additional Paid-In Capital 8,311,685 7,844,614
Accumulated Deficit (965,927) (749,704)
-----------------------------
Total Stockholders' Equity 7,403,027 7,109,634
-----------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 26,559,355 $ 26,137,718
=============================
See notes to condensed consolidated financial statements
3
Gales Industries Incorporated (1)(2)
Condensed Consolidated Statement of Operations
(Unaudited)
Three months ended Nine months ended
September 30 September 30
----------------------------- -----------------------------
Predecessor Predecessor
2006 2005 2006 2005
---------------------------------------------------------------
Net sales $ 7,883,485 $ 7,773,187 $ 26,001,922 $ 21,851,532
Cost of sales 6,362,076 6,776,665 21,214,968 19,050,166
---------------------------------------------------------------
Gross profit 1,521,409 996,522 4,786,954 2,801,366
Operating costs and expenses:
Selling and marketing 175,515 74,856 473,760 244,125
General and administrative 1,108,651 545,499 2,982,584 1,287,727
---------------------------------------------------------------
Income from operations 237,243 376,167 1,330,610 1,269,514
Interest and financing costs (290,853) (164,271) (978,029) (411,493)
Gain on sale of life insurance policy -- -- 53,047 --
Other Income -- 152 803 152
---------------------------------------------------------------
Income (loss) before income taxes (53,610) 212,048 406,431 858,173
Benefit (provision) for income taxes (2) 21,455 -- (162,654) --
---------------------------------------------------------------
Net income(loss) (32,155) $ 212,048 243,777 $ 858,173
============ ============
Less: Dividend for preferred stockholders (100,000) (460,000)
------------ ------------
Net loss attributable to common
stockholders $ (132,155) $ (216,223)
============ ============
Loss per share:
Basic $ 0.000 $ 0.000
============ ============
Weighted average shares outstanding
Basic 41,545,824 23,762,472
(1) For the period from October 28, 2004 (date of inception) through September
30, 2005 the Company (Original Gales) had no business activity other than
the issuance of a $22,500 convertible bridge note and the $150,000 bridge
loan that accrued approximately $2,077 and $1,420 in interest for the nine
and three month period ended September 30, 2005 respectively. The note and
respective accrued interest were subsequently converted to shares of the
Company's Common Stock as part of the merger and the bridge loan was paid
back at the time of closing. The Company has presented the Statements of
Operations of Air Industries Machining Corp. (AIM), as the Company has
succeeded all of the business activity of AIM.
(2) AIM was a privately held subchapter S Corporation prior to the merger and
accordingly the financial statements of the Successor and Predecessor are
not comparable in all material respects, and accordingly since AIM was an
"S" Corporation a provision for income taxes was not recorded.
See notes to condensed consolidated financial statements
4
GALES INDUSTRIES INCORPORATED (1) (2)
Condensed Consolidated Statement of Cash Flows
(Unaudited)
Nine Months September 30,
---------------------------
2006 2005
Predecessor
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 243,777 $ 858,173
Adjustments to Reconcile Net Income to Net
Cash Provided by (Used in) Operating Activities:
Depreciation and amortization of property and equipment 409,361 347,732
Amortization of deferred financing costs 86,405
Gain on sale of officer's life insurance policy (53,047)
Non cash compensation expense 108,271
Warrants issued for services 41,345
(Increase) Decrease in Assets:
Accounts receivable (575,592) 373,757
Inventory (980,867) (925,913)
Prepaid expenses and other current assets 138,804 55,674
Deposits (82,206) 21,160
Cash surrender value - officer's life insurance (2,110) 211,302
Other assets 84 31,278
Decrease (Increase) in Liabilities:
Accounts payable and accrued expenses (45,794) 450,245
Advance Payments Customers (686,494)
----------- -----------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES (711,569) 736,914
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (211,815) (740,572)
----------- -----------
NET CASH USED IN INVESTING ACTIVITIES (211,815) (740,572)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments of capital lease obligations, net (267,840) 1,156,992
Proceeds from sale of officer's life insurance policy 86,000
Repayment of notes payable to and due sellers (161,222) --
Proceeds from ( payment of) notes payable, net 503,100 (924,915)
----------- -----------
NET CASH PROVIDED BY FINANCING ACTIVITIES 160,038 232,077
----------- -----------
Net (decrease) increase in cash and cash equivalents (763,346) 228,419
Cash and cash equivalents at the beginning of period 1,058,416 10,308
----------- -----------
Cash and cash equivalents at the end of period $ 295,070 $ 238,727
=========== ===========
Supplemental schedule of noncash financing and investing activities
Issuance of Common Shares:
Conversion of Preferred to Common Stock $ 40,909
===========
Conversion of PIK Dividend to Common Shares $ 360,000
===========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest $ 788,409 $ 369,772
5
(1) For the period from October 28, 2004 (date of inception) through September
30, 2005 the Company (Original Gales) had no business activity other than
the issuance of a $22,500 convertible bridge note and the $150,000 bridge
loan that accrued approximately $2,077 and $1,420 in interest for the nine
and three month period ended September 30, 2005 respectively. The note and
respective accrued interest were subsequently converted to shares of the
Company's Common Stock as part of the merger and the bridge loan was paid
back at the time of closing. The Company has presented the Statements of
Operations of Air Industries Machining Corp. (AIM), as the Company has
succeeded all of the business activity of AIM.
(2) The Company has presented the Statement of Cash Flows of AIM, as the
Company has succeeded to all of the business activity of AIM. AIM was a
privately held subchapter S Corporation prior to the merger and
accordingly the financial statements of the Company and Predecessor are
not comparable in all material respects. See notes to condensed
consolidated financial statements
6
Note 1:
FORMATION, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Merger and Acquisition
Ashlin Development Corp. (the "Company" or "Ashlin"), a Florida corporation and
its newly-formed subsidiary Merger Sub, entered into a Merger Agreement (the
"Merger Agreement") on November 14, 2005 with Gales Industries Incorporated, a
privately-held Delaware corporation ("Original Gales"). On November 30, 2005
(the "Closing Date") Original Gales merged (the "Merger") into Merger Sub.
Pursuant to the Merger Agreement, the Company issued 10,773,107 shares of Common
Stock (representing 73.6% of Ashlin's outstanding shares) and 900 shares of
Series A Convertible Preferred Stock which was initially convertible into
40,909,500 shares of Common Stock of the Company for all the issued and
outstanding shares of Original Gales the "Successor". As a result of the
transaction, the former stockholders of Original Gales became the controlling
stockholders of Ashlin. Additionally, since Ashlin had no substantial assets
prior to the merger, the transaction was treated for accounting purposes as a
reverse acquisition of a public shell. Accordingly, for financial statement
presentation purposes, Original Gales is the surviving entity.
On February 15, 2006, Ashlin changed its name to Gales Industries Incorporated
and its state of domicile from Florida to Delaware.
Prior to the closing of the Merger, Original Gales, which did not have any
business operations other than in connection with the transactions contemplated
by the Merger Agreement, acquired (the "Acquisition") all of the outstanding
capital stock of Air Industries Machining, Corp. ("AIM"). Because of the change
in ownership, management and control that occurred in connection with the
Acquisition, in accordance with Statement of Financial Accounting Standards
("SFAS") 141, Business Combinations, the transaction was accounted for as a
purchase. Accordingly, the purchase price was allocated to assets acquired and
liabilities assumed based on SFAS No. 141. Simultaneously with the Acquisition,
AIM entered into a bank facility (the "New Loan Facility") and used proceeds
from the facility to acquire real estate (the "Real Estate Acquisition").
Prior to the Acquisition, Original Gales raised bridge financing. In connection
with the Acquisition, Original Gales procured a private placement of Series A
Preferred Stock, the proceeds of which were used to acquire AIM. Immediately
prior to the Merger, Original Gales had outstanding certain bridge notes
convertible into shares of Original Gales' common stock and certain bridge
warrants to purchase shares of Original Gales' common stock.
Original Gales was formed in October 2004 and, since prior to the acquisition it
did not have any business operations or activity other then the transactions
contemplated with the merger and succeeded substantially all of the business
operations of AIM, AIM is the "Predecessor" to Original Gales. The Company is
required to separately present the historical statement of operations and cash
flows of the Predecessor. The financial information presented in these financial
statements may not reflect the combined financial position. The operating
results and cash flows of the Predecessor and Successor are not compatible in
all material respects.
Certain information and footnote disclosures normally included in the annual
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations. The Company believes that the disclosures are adequate to make the
financial information presented not misleading. These condensed consolidated
financial statements should be read in conjunction with the audited consolidated
financial statements and the notes thereto included in the Company's Annual
Report on Form 10-KSB for the year ended December 31, 2005, filed with the
Securities and Exchange Commission on April 17, 2006. All adjustments were of a
normal recurring nature unless otherwise disclosed. In the opinion of
management, all adjustments necessary for a fair statement of the results of
operations for the interim period have been included. The results of operations
for such interim periods are not necessarily indicative of the results for the
full year.
Reverse stock split
Pursuant to the terms of the Merger Agreement, prior to the Merger, Ashlin
effected a 1-for-1.249419586 reverse split of its Common Stock (the "Reverse
Split"). The Reverse Split became effective November 21, 2005. The Reverse Split
reduced the number of shares of Common Stock which the Company had outstanding
on a fully diluted basis to 3,868,000. As a result of the Reverse Split, the
conversion of the outstanding shares of Original
7
Gales pursuant to the Merger for new shares of the Company's Common Stock was on
a one-for-one basis. Any of the Company's shareholders who, as a result of the
Reverse Split, held a fractional share of Common Stock received a whole share of
Common Stock in lieu of such fractional share. After giving effect to the
Reverse Split, prior to the Merger, the Company had outstanding 3,823,980 shares
of Common Stock which continued to be outstanding after the Merger.
Use of Estimates
In preparing the financial statements, management is required to make estimates
and assumptions that affect the reported amounts in the financial statements and
accompanying notes. The more significant management estimates are the useful
lives of property and equipment, provisions for inventory obsolescence,
unamortized finance costs, accrued expenses and various contingencies. Actual
results could differ from those estimates. Changes in facts and circumstances
may result in revised estimates, which are recorded in the period in which they
become known.
Stock-Based Compensation
In December 2004, the FASB issued SFAS 123(R) which is a revision of SFAS No.
123 and supersedes Accounting Principles Board Opinion No. 25. SFAS No. 123(R)
requires all share-based payments to employees, including grants of employee
stock options, to be recognized in the income statement based on their fair
values at the date of grant. The Company recorded an expense of $42,866 in the
accompanying statement of operations for the three month period ended September
30, 2006 and an expense of $108,271 for the nine month period ended September
30, 2006, in accordance with the measurement requirements under SFAS No. 123(R)
Note 2:
CASH SURRENDER VALUE - LIFE INSURANCE
During the quarter ended March 31, 2006, the Company sold one of its key-man
life insurance policies. Proceeds from the sale of the insurance policy were
$86,000 which was offset by the cash surrender value of $32,953. The resulting
gain of $53,047 was recognized as Other Non-Operating Income in the accompanying
Statement of Operations for the nine month period ended September 30, 2006.
Note 3:
STOCK-BASED COMPENSATION ARRANGEMENTS
During 2005, the Company's Board of Directors approved a stock option plan and
reserved 10,000,000 shares of its Common Stock for issuance under the plan. The
stock option plan permits the Company to grant non-qualified and incentive stock
options to employees, directors, and consultants. Awards granted under the
Company's plans vest over four and seven years.
The Company accounts for its stock option plans under the measurement provisions
of Statement of Financial Accounting Standards No. 123(R) (revised 2004),
Share-Based Payment ("SFAS 123R"). The fair value of each option grant is
estimated on the date of grant using the Black-Scholes option pricing model.
During the nine months September 30, 2006 no stock options were granted.
Certain of the Company's stock options contain features which include
variability in grant prices. A portion of the currently issued stock options
will be issued based on average trading prices of the Company's Common Stock at
the end of a given future period. Due to this variable feature, these stock
options are not deemed to be granted for purposes of applying SFAS 123(R) and
accordingly, their fair value will be calculated and expensed in future periods.
8
A summary of the status of the Company's stock options as of September 30, 2006,
and changes during the period then ended is presented below:
Weighted Weighted
Number Average Average Aggregate
of Exercise Remaining Intrinsic
Options Price Contractual Term Value
---------- ---------- ---------------- ----------
Outstanding at
January 1, 2006 2,370,000 $ 0.38
Outstanding at
January 1, 2006 2,480,000 *
Granted --
Forfeited or expire -- --
Exercised -- --
---------- ---------- ---------- ----------
Outstanding at
September 30, 2006 4,850,000 $ 0.38 9 $ 39,500
========== ========== ========== ==========
Options vested and exercisable at
September 30, 2006 1,580,000 $ 0.32 9 $ 39,500
========== ========== ========== ==========
- ----------
* The exercise price of such options will be based upon future market prices of
the underlying shares.
The Company recorded a compensation expense of $42,866 in its consolidated
condensed statement of operations for the three month period ended September 30,
2006 and a stock option expense of $108,271 for the nine month period ended
September 30, 2006. The stock option expense relates to stock options granted in
the previous fiscal year. The Company granted no stock options during the
quarter ended September 30, 2006. The following table illustrates stock options
granted through September 30, 2006:
Options Outstanding Options Vested and Exercisable
-------------------------------------------- ------------------------------
Weighted-
Average Weighted-
Remaining Average Weighted-
Range of Exercise Number Contractual Exercise Number Average
Prices Outstanding Life (Years) Price Exercisable Exercise Price
- ----------------- ----------- ------------ --------- ----------- --------------
$0.22 790,000 9 $ 0.220 790,000 $ 0.22
$0.428 790,000 9 $ 0.428 790,000 $ 0.428
$0.48 790,000 9 $ 0.480 -- --
Based on future
market price 2,480,000 9 NA -- --
---------- ---------- --------- ---------- ---------
4,850,000 9 $ 0.38 1,580,000 $ 0.32
========== ========== ========= ========== =========
9
A summary of the status of the Company's non-vested options as of September 30,
2006 and changes during the nine month ended September 30, 2006 is presented
below:
Weighted Average
Weighted Average Remaining
Number of Exercise Price Contractual Term
Options Per Option (in years)
---------- ---------------- ----------------
Non-vested Options at
January 1, 2006 1,580,000 $ 0.453 9
Options based on future
market price 2,480,000 N/A N/A
Options granted -- --
Options vested (790,000) $ 0.428 --
Options forfeited or
expired -- -- --
---------- ---------- ----------
Non-vested Options at
September 30, 2006 3,270,000 $ 0.45 9
========== ========== ==========
As of September 30, 2006, there was $225,471 of unrecognized compensation cost
related to non vested stock option awards, which is to be recognized over the
remaining weighted average vesting period of eleven months.
During the quarter ended September 30, 2006, the company issued to a consulting
firm, in return for services an aggregate of 31,251warrants, exercisable during
a five year term, to purchase 31,251 shares of the company's Common Stock. Such
warrants have a "cashless exercise" feature and have varying exercise prices
equal to 120% of the average closing price of the Company's Common Stock during
the month immediately preceding the date of issuance. The warrants were valued
using the Black-Scholes model and the Company recorded an expense of $23,219 and
$41,345 in its consolidated condensed statement of operations for the three and
nine month period ended September 30, 2006. The Company's agreement with this
consultant was terminated during the first week of September 2006.
The following table summarizes the Company's outstanding warrants as of
September 30, 2006 and changes during the period then ended:
Weighted
Weighted Average
Number Average Remaining
of Exercise Contractual Life
Warrants Price (Years)
--------- --------- ----------------
Outstanding January 1, 2006 5,229,589 $ 0.21 4.1
Cancelled -- --
Granted 72,919 $ 1.23 4.8
Exercised -- --
--------- --------- ---------
Outstanding at September 30, 2006 5,302,508 $ 0.22 4.1
========= ========= =========
10
Note 4.
STOCKHOLDERS'EQUITY
On August 4, 2006 Gales Industries Incorporated's Registration Statement on Form
SB-2 became effective and as a result the outstanding preferred stock of 900
shares automatically converted to 40,909,500 shares of common stock, exclusive
of the 1,636,380 shares of common stock which were paid as a dividend on the 900
shares of preferred stock. An additonal dividend of $100,000 on the preferred
shares, for the period of June 15, 2006 through August 4, 2006, is included in
accrued expenses as of September 30, 2006.
11
Item 2.
Management's Discussion and Analysis or Plan of Operation
General
We, through our wholly owned subsidiary AIM, manufacture aircraft
structural parts and assemblies principally for prime defense contractors in the
defense/aerospace industry. Approximately 85% of AIM's revenues are derived from
sales of parts and assemblies directed toward military applications, although
direct sales to the military (U.S. and NATO) constitute less than 8.5% of AIM's
revenues. The remaining 15% of revenues represent sales in the airframe
manufacturing sector to major aviation manufacturers.
AIM has evolved from being an individual parts manufacturer to being a
manufacturer of subassemblies (i.e. being an assembly constructor) and being an
engineering integrator. AIM currently produces over 2,400 individual products
(SKU's) that are assembled by a skilled labor force into electromechanical
devices, mixer assemblies, rotorhub components, rocket launching systems,
arresting gear, vibration absorbing assemblies, landing gear components and many
other subassembly packages.
Sales of parts and services to one customer accounted for approximately
66% of AIM's revenue in the third quarter of 2006, and are subject to General
Ordering Agreements which were recently renegotiated and extended through 2010.
During the nine month period ending September 30, 2006, the Company
received an initial contract applicable to the Memorandum of Agreement from The
Goodrich Corporation for the manufacture of A380 (AirBus) Drag Brace assemblies.
This Memorandum of Agreement covers approximately five years starting in 2006
through 2011. The value of deliveries currently projected for the time period
covered by the Agreement is estimated to reach $20,450,000. As orders for A380
aircraft increase, delivery obligations and revenues for Air Industries will
increase correspondingly. In addition to this A380 contract Air Industries
received approximately $26 million in additional contracts from other aerospace
customers during the period. As a result of these contracts, the Company's
18-month "firm backlog" currently stands at $30 million. Furthermore,
management's "projected backlog" for the same 18-month period, which includes
both the firm backlog as well as anticipated order releases against long term
general purchase agreements ("GPA's") with the Company's prime aerospace
contractors currently stands at approximately $60 million. Although the
forecasted releases against GPA's within the forward 18-month period are
included in the "projected backlog", the Company may actually receive additional
substantial "follow-on" awards through the balance of a GPA contract period,
some of which currently extend through 2012.
AIM historically operated as a private company. There can be no assurance
that our future operating results will be comparable to those achieved by AIM in
the past. It should also be noted that, prior to the Acquisition, AIM operated
as a Subchapter "S" company and incurred no income taxes.
Results of Operations
Prior to the acquisition of AIM, the Company had limited business
operations or activities other then the transactions contemplated by the Merger
Agreement between the Company and Gales Industries, See Note 1 to the condensed
consolidated financial statements. The Company succeeded to substantially all of
the business operations of AIM and AIM represents substantially all of the
Company's current operations. AIM is considered to be the Predecessor to the
Company and for financial reporting purposes the Company is required to present
the historical statement of operations and cash flows of AIM for periods prior
to its acquisition by the Company. The financial information of AIM for the
period ended September 30, 2005, presented in the condensed consolidated
financial statements is not comparable in all material respects to that of the
Company for subsequent periods as adjustments resulting from the Merger, the
Acquisition and the Real Estate Acquisition are not reflected in the Predecessor
financial statements. These adjustments include, among others interest expense
from the refinancing, taxes from the change in "S" to "C" Corporation status,
increased amortization due to a step-up in the basis of certain assets,
additional officers' salaries, and the change in officers' functions which
caused a reallocation of salary expense from cost of goods sold to general
administrative expense.
12
Three months ended September 30, 2006 compared with the three months ended
September 30, 2005.
Net Sales. Net sales were $7,883,485 for the three months ended September
30 2006 ("Third Quarter 2006"), an increase of $110,298 (or 1.4%) from net sales
of $7,773,187 for the three months ended September 30, 2005 ("Third Quarter
2005"). The increase in net sales was attributable to increased shipments of
parts and related defense components to two (2) customers which caused the
portion of our revenues derived these customers to increase from approximately
60.1% % in 2005 to approximately 74.4% % in the Third Quarter 2006.
The Company's net sales for the nine month period ended September 30,
2006, were substantially greater than the Company's net sales for the comparable
period in 2005. Nevertheless, net sales during the Third Quarter 2006 were less
than the amounts recorded during each of the first and second quarters of 2006,
but modestly higher (1.4%) than the same period in 2005. This decrease in net
sales for the Third Quarter resulted primarily from the need to prepare for
production of subassemblies for the Joint Strike Fighter ("JSF") landing gear,
the E2D arresting gear and the A380 drag brace. We anticipate that the delivery
of the first article of each of these products will occur no later than the end
of this year, in the case of the JSF landing gear, during the first quarter of
2007 in the case of the E2D arresting gear and during the first half of 2007 in
the case of the A380 drag brace. Management believes that the necessary tooling
and testing for each of the products mentioned above has been substantially
completed.
Sales during the Third Quarter were also negatively impacted by a decision
by one of our largest customers to delay deliveries of units previously
projected to be delivered during this time period. These delivery delays may
continue through the fourth quarter and will be reflected in higher inventory
levels and potentially lower revenue. These delivery delays are the result of a
strike at aforementioned customer's facility earlier in the year and its
inability to achieve complete production recovery prior to the year-ended 2006.
Gross Profit. Gross profit was $1,521,409 for the three months ended
September 30, 2006, 19.3% of net sales, compared to gross profit of $996,522 for
the three months ended September 30, 2005, 12.8% of net sales. The increase in
gross profit primarily reflects an increase in the sale of higher margin
products and the increase in net sales. The increase in gross profit as a
percentage of net sales represents a slight increase in the sales of higher
margin products, as well as the elimination of rent paid on the Company's
facilities as a result of the Real Estate Acquisition, partially offset by the
mortgage interest and depreciation of the Company's facilities allocated to
sales, and lower salaries as a result of the reallocation of the costs of
certain executives.
Selling and Marketing Expenses. Selling and marketing expenses were
$175,515 for the three months ended September 30, 2006, an increase of 134.5%
from selling and marketing expenses of $74,856 for the three months ended
September 30, 2005. The increase in selling and marketing expenses reflects the
up-front recognition of costs related to leased automobiles for the Company's
executives and increased travel and entertainment expenses related to increased
sales activity.
General and Administrative Expenses. General and administrative expenses
were $1,108,651 the three months ended September 30, 2006, an increase of
$563,152 or 103%, from general and administrative expenses of $545,499 for the
three months ended September 30, 2005. The increase reflects (i) higher
depreciation relating to the step-up in basis of the Company's real property,
partially offset by the elimination of rent expense, and (ii) higher salaries as
a result of the reallocation of the costs of certain executives and higher
professional fees due to the increase in accounting, legal and consulting
expenses associated with being a public company.
Interest and Financing Costs. Interest and financing costs were $290,853
for the three months ended September 30, 2006, an increase of $126,582, or 77.
1%, from interest and financing costs of $164,271 for the three months ended
September 30, 2005. The increase in interest and financing costs resulted from
higher interest rates, interest accruing on the promissory notes issued to the
former shareholders of AIM in connection with the AIM Acquisition, interest
accruing on the new term loan and larger revolving credit facility, portions of
which were used to finance the costs of the Acquisition and the Real Estate
Acquisition.
13
Income/ (loss) before Income Taxes. Net (loss)/ income before provision
for income taxes was $(53,610) for the three months ended September 30, 2006 and
$212,048 for the three months ended September 30, 2005.
Net Loss. Net loss was $ (32,155) for the three months ended September 30,
2006. A comparison of net income with prior year is not informative because the
predecessor company was an "S" Corporation.
Net Loss Attributable to Common Stock. During the Third Quarter 2006 the
Company accrued a cash dividend payable on its preferred stock of $100,000. The
accrual of such dividends stopped as of August 4, 2006 the date the Company's
registration statement was declared effective. The cash dividend results from
the failure to cause the company's registration statement to become effective
within the time period required by the terms of the preferred stock.
Nine months ended September 30, 2006 compared with the nine months ended
September 30, 2005.
Net Sales. Net sales were $26,001,922 for the nine months ended September
30, 2006; an increase of $4,150,390, or 19%, from net sales of $21,851,532 for
the nine months ended September 30, 2005. The increase in net sales was
attributable to increased shipments of parts and related defense components to
two (2) customers which caused the portion of our revenues derived these
customers to increase from approximately 56.7 % in 2005 to approximately 72.6 %
in the first nine months of 2006.
Gross Profit. Gross profit was $4,786,954 for the nine months ended
September 30, 2006 (18.4% of net sales), compared to gross profit of $2,801,366,
(12.8% of net sales), for the nine months ended September 30, 2005. The increase
in gross profit primarily reflects the increase in net sales. The increase in
gross profit as a percentage of net sales represents a slight increase in the
sales of higher margin products, as well as the elimination of rent paid on the
Company's facilities as a result of the Real Estate Acquisition, partially
offset by the mortgage interest and depreciation of the Company's facilities
allocated to sales, and. lower salaries as a result of the reallocation of the
costs of certain executives.
Selling and Marketing Expenses. Selling and marketing expenses were
$473,760 for the nine months ended September 30, 2006, an increase of 94.1% from
selling and marketing expenses of $244,125 for the nine months ended September
30, 2005. The increase in selling and marketing expenses reflects the up-front
recognition of costs related to leased automobiles for the Company's executives
and increased travel and entertainment expenses related to increased sales
activity.
General and Administrative Expenses. General and administrative expenses
were $2,982,584 for the nine months ended September 30, 2006 an increase of
$1,694,857 or 132.0%, from general and administrative expenses of $1,287,727 for
the nine months ended September 30, 2005. The increase reflects (i) higher
depreciation relating to the step-up in basis of the Company's real property,
partially offset by the elimination of rent expense, and (ii) higher salaries as
a result of the reallocation of the costs of certain executives and (iii) higher
professional fees due to the increase in accounting, legal and consulting
expenses associated with being a public company.
Interest and Financing Costs. Interest and financing costs were $978,029
for the nine months ended September 30, 2006 an increase of $566,536 or 137.63%,
from interest and financing costs of $411,493 for the nine months ended
September 30, 2005. The increase in interest and financing costs resulted from
higher interest rates, interest accruing on the promissory notes issued to the
former shareholders of AIM in connection with the AIM Acquisition, interest
accruing on the new term loan and larger revolving credit facility.
Gain on the Sale of Life Insurance Policy. Gain on the sale of life
insurance policy was $53,047 in the first nine months of 2006 and was a one-time
gain.
Income before Income Taxes. Net income before provision for income taxes
was $406,431 for the nine months ended September 30, 2006 and $858,173 for the
nine months ended September 30, 2005. The decrease in net income is
attributable; in part, to the expenses incurred in connection with the Company's
reporting obligations as a public company.
Net Income. Net income was $243,777 for the nine months ended September
30, 2006. A comparison of net income with prior year is not informative because
the predecessor company was an "S" Corporation.
14
Net Loss Attributable to Common Stock. Net Loss was $(216,223) for the
nine months ended September 30, 2006. Dividends are $460,000 resulting from PIK
and cash dividends of $360,000 and $100,000 respectively. PIK dividend resulted
from the quarterly accrued dividends at 8% per annum that were declared
resulting from effective filing of registration statement. Cash dividend results
from the penalty incurred in not going effective by the agreed date in
accordance with the preferred shareholder agreement.
Impact of Inflation
Inflation has not had a material effect on our financial position, results
of operations, or cash flows.
Liquidity and Capital Resources
We used approximately $711,569 in our operations during the nine months
ended September 30, 2006. The use of cash in operations reflects in the increase
in our accounts receivable and inventory of $575,592 and $980,867 respectively
offset by net income after non cash adjustments.
At September 30, 2006, we had cash and cash equivalents of $295,070 and
working capital of $4,307,280 as compared to $1,058,416 and $4,113,235 as of
December 31, 2005. We believe that our cash requirements in the next twelve
months will be met by our revenues from operations, our cash reserves, and the
amounts available under the New Loan Facility put in place in connection with
the acquisition of AIM.
AIM had financed its operations and investments up to the date it was
acquired by us principally through revenues from operations. As a private
company, AIM did not have many of the expenses which we have as a public
company. As a result of the AIM Acquisition, we have significantly increased
cash requirements relating to the filing of financial statements, our compliance
with requirements under the Securities Exchange Act of 1934, the registration of
shares under the Securities Act of 1933, and other requirements applicable to
public companies. We expect such increased cash requirements to be approximately
$750,000 in 2006, subject to a substantial increase if we become obligated to
comply with Section 404 of Sarbanes-Oxley.
In connection with the Acquisition of AIM, we entered into the New Loan
Facility and incurred notes payable obligations to the sellers in the aggregate
principal amount of $1,627,262 of which $665,262 are in the form of convertible
promissory notes held by senior members of our management. The original terms of
the New Loan Facility are set forth in our Consolidated Financial Statements
included in our Annual Report on Form 10-KSB for the year ended December 31,
2005. Under the New Loan Facility, as of September 30, 2006, we had revolving
loan balances of $6,911,033 and a term loan balance of $3,151,663. As of
September 30, 2006, we had capital lease and equipment loan obligations totaling
$1,322,932. In addition, as of September 30, 2006, $1,482,962 million remained
outstanding on the notes held by the sellers of AIM.
On October 24, 2006, we completed the sale and lease-back of our corporate
headquarters for a gross sales price of $6,200,000. The net proceeds of the sale
were applied to outstanding payables, including $ 4.9 million used to reduce the
amounts due under the New Loan Facility, of which $2.8 million was used to
reduce the outstanding principal amount due under the term loan. Giving effect
to such payment, the amount outstanding under the New Loan Facility (term and
revolver) as of September 30, 2006, would have been reduced by approximately 49%
to approximately $5.2 million down from $10.1 million. The reduction in the
amount due under the New Loan Facility has resulted in approximately $2.1
million of increased availability under our existing loan agreements and this
increased availability is planned to be used as the cornerstone of our
contemplated acquisition program. In addition, at current interest rates, such
reduction will result in lower interest payments and reduced principal payments
approximately equal to the initial rent under our new lease. The sale and lease
back of the of the Company's real estate resulted in a net taxable gain to the
Company and any taxes resulting there from will be paid out of future cash flows
or borrowings under the New Loan Facility.
As part of the payment under the New Loan Facility, the Term Note
Agreement was reduced by $2.8 million and the remaining balance of $383,330
became an Amended and Restated Term Note. To reflect the changes in the balances
due under the New Loan Facility, on November 10, 2006, the Company and PNC
amended the terms of the New Loan Facility and the Company delivered to PNC an
Amended and Restated Term Note in the principal amount of $383,330 providing for
principal payments of $10,648 per month. The corresponding section in the New
Loan Facility was amended to reflect the change in principal amount and the
monthly principal installment amount due under the Term Note, as well as the
change in the Maturity Date to the first business day of October 2009.
15
In addition to the foregoing, the New Loan Facility was further amended to
allow for the Company to borrow or to obtain the issuance, renewal, extension
and increase of standby letters of credit, up to an aggregate availability of
$500,000, for its account until the Termination Date, which will occur on
November 30, 2009.
As of September 30, 2006, one customer accounted for approximately 38% of
our accounts receivable. In addition, this customer accounted for approximately
59% of our total revenue for the quarter ended September 30, 2006. In the event
such customer is unable or unwilling to pay us our accounts receivable from such
customer, or in the event our relationship with such customer is severed or
negatively affected, our results of operations will be materially adversely
affected and we may not have the resources to meet our capital obligations.
Forward Looking Statements
The Company desires to take advantage of the "safe harbor" provisions of
the Private Securities Litigation Reform Act of 1995. This report contains a
number of forward-looking statements that reflect management's current views and
expectations with respect to our business, strategies, future results and events
and financial performance. All statements made in this Report other than
statements of historical fact, including statements that address operating
performance, events or developments that management expects or anticipates will
or may occur in the future, including statements related to distributor
channels, volume growth, revenues, profitability, adequacy of funds from
operations, statements expressing general optimism about future operating
results and non-historical information, are forward looking statements. In
particular, the words "believe," "expect," "intend," "anticipate," "estimate,"
"may," "will," variations of such words, and similar expressions identify
forward-looking statements, but are not the exclusive means of identifying such
statements and their absence does not mean that the statement is not
forward-looking. These forward-looking statements are subject to certain risks
and uncertainties, including those discussed below. Our actual results,
performance or achievements could differ materially from historical results as
well as those expressed in, anticipated or implied by these forward-looking
statements. We do not undertake any obligation to revise these forward-looking
statements to reflect any future events or circumstances.
Readers should not place undue reliance on these forward-looking
statements, which are based on management's current expectations and projections
about future events, are not guarantees of future performance, are subject to
risks, uncertainties and assumptions (including those described below) and apply
only as of the date of this report. Our actual results, performance or
achievements could differ materially from the results expressed in, or implied
by, these forward-looking statements. Factors that could cause or contribute to
such differences include, but are not limited to, those discussed below in "Risk
Factors" as well as those discussed elsewhere in this report, and the risks
discussed in our press releases and other communications to shareholders issued
by us from time to time which attempt to advise interested parties of the risks
and factors that may affect our business. We undertake no obligation to publicly
update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
Risk Factors
If any of the events described below occurs, our operating results would
be dramatically adversely affected, which in turn could cause the price of our
Common Stock to decline, perhaps significantly. Further, we may not be able to
continue our operations.
Risks of the Acquisition
There can be no assurance that any benefits to AIM's business will be
achieved from its acquisition by Original Gales and the merger of Original Gales
into the Company, the Real Estate Acquisition or the New Loan Facility (the
"Transactions") or that the results of operations of AIM prior to the Merger
will not be adversely impacted by the Transactions. As of November 30, 2005,
Luis Peragallo and Jorge Peragallo, formerly the principal shareholders of AIM,
resigned from their positions with AIM. Even though Peter Rettaliata and Dario
Peragallo, two of AIM's officers (President and Executive Vice President,
respectively), serve as officers of AIM and as officers of our Company, there
can be no assurance that the management of our company will have the necessary
experience to operate AIM's business. The process of combining the organizations
of Original Gales, AIM and our Company could interrupt the activities of part or
all of AIM's business, and could cause fundamental changes in AIM's business,
which could have an adverse effect on the results of operations. The past
results of AIM's operations are not necessarily indicative of the future results
of our operations. In addition, AIM's results of operations will be affected by
the significant increase in expenses relating to financial statements
preparation and other requirements applicable to publicly traded companies.
16
The inability to successfully manage the growth of our business may have a
material adverse effect on our business, results or operations and financial
condition.
We expect to experience growth in the number of employees and the scope of
our operations as a result of internal growth and acquisitions. Such activities
could result in increased responsibilities for management.
Our future success will be highly dependent upon our ability to manage
successfully the expansion of operations. Our ability to manage and support our
growth effectively will be substantially dependent on our ability to implement
adequate improvements to financial, inventory, management controls, reporting,
union relationships, order entry systems and other procedures, and hire
sufficient numbers of financial, accounting, administrative, and management
personnel. There can be no assurance that we will be able to identify, attract
and retain experienced personnel.
Our future success depends on our ability to address potential market
opportunities and to manage expenses to match our ability to finance operations.
The need to control our expenses will place a significant strain on our
management and operational resources. If we are unable to control our expenses
effectively, our business, results of operations and financial condition may be
adversely affected.
The unsuccessful integration of a business or business segment we acquire could
have a material adverse effect on our results.
As part of our business strategy, we expect to acquire assets and
businesses relating to or complementary to our operations. These acquisitions
will involve risks commonly encountered in acquisitions. These risks include,
among other things, exposure to unknown liabilities of the acquired companies,
additional acquisition costs and unanticipated expenses. Our quarterly and
annual operating results will fluctuate due to the costs and expenses of
acquiring and integrating new businesses. We may also experience difficulties in
assimilating the operations and personnel of acquired businesses. Our ongoing
business may be disrupted and our management's time and attention diverted from
existing operations. Our acquisition strategy will likely require additional
debt or equity financing, resulting in additional leverage or dilution of
ownership. We cannot assure you that any future acquisition will be consummated,
or that if consummated, that we will be able to integrate such acquisition
successfully.
Any reduction in government spending on defense could materially adversely
impact our revenues, results of operations and financial condition.
There are risks associated with programs that are subject to appropriation
by Congress, which could be potential targets for reductions in funding to pay
for other programs. Future reductions in United States Government spending on
defense or future changes in the kind of defense products required by United
States Government agencies could limit demand for our products, which would have
a materially adverse effect on our operating results and financial condition.
In addition, potential shifts in responsibilities and functions within the
defense and intelligence communities could result in a reduction of orders for
defense products by segments of the defense industry that have historically been
our major customers. As a result, demand for our products could decline,
resulting in a decrease in revenues and materially adversely affecting our
operating results and financial condition.
We depend on revenues from a few significant customer relationships and any
loss, cancellation, reduction, or interruption in these relationships could harm
our business.
As of September 30, 2006, one customer accounted for approximately 38% of
our accounts receivable. In addition, this customer accounted for approximately
59% of our total revenue for the quarter ended September 30, 2006. In the event
such customer is unable or unwilling to pay us our accounts receivable from such
customer, or in the event our relationship with such customer is severed or
negatively affected, our results of operations will be materially adversely
affected and we may not have the resources to meet our capital obligations. In
general, AIM has derived a material portion of its revenue from one or a limited
number of customers. We expect that in future periods we may enter into
contracts with customers which represent a significant concentration of our
revenues. If such contracts were terminated, our revenues and net income could
significantly decline. Our success will depend on our continued ability to
17
develop and manage relationships with significant customers. Any adverse change
in our relationship with our significant customers could have a material adverse
effect on our business. Although we are attempting to expand our customer base,
we expect that our customer concentration will not change significantly in the
near future. The markets in which we sell our products are dominated by a
relatively small number of customers who have contracts with United States
governmental agencies, thereby limiting the number of potential customers. We
cannot be sure that we will be able to retain our largest customers or that we
will be able to attract additional customers, or that our customers will
continue to buy our products in the same amounts as in prior years. The loss of
one or more of our largest customers, any reduction or interruption in sales to
these customers, our inability to successfully develop relationships with
additional customers or future price concessions that we may have to make, could
significantly harm our business.
Continued competition in our markets may lead to a reduction in our revenues and
market share.
The defense and aerospace component manufacturing market is highly
competitive and we expect that competition will continue to increase. Current
competitors have significantly greater technical, manufacturing, financial and
marketing resources than we do. We expect that more companies will enter the
defense and aerospace component manufacturing market. We may not be able to
compete successfully against either current or future competitors. Increased
competition could result in reduced revenue, lower margins or loss of market
share, any of which could significantly harm our business.
Our future revenues are inherently unpredictable; our operating results are
likely to fluctuate from period to period and if we fail to meet the
expectations of securities analysts or investors, our stock price could decline
significantly.
Our quarterly and annual operating results are likely to fluctuate
significantly in the future due to a variety of factors, some of which are
outside our control. Accordingly, we believe that period-to-period comparisons
of our results of operations are not meaningful and should not be relied upon as
future indications of performance. Some of the factors that could cause
quarterly or annual operating results to fluctuate include conditions inherent
in government contracting and our business such as the timing of cost and
expense recognition for contracts, the United States Government contracting and
budget cycles, introduction of new government regulations and standards,
contract closeouts, variations in manufacturing efficiencies, our ability to
obtain components and subassemblies from contract manufacturers and suppliers,
general economic conditions and economic conditions specific to the defense
market. Because we base our operating expenses on anticipated revenue trends and
a high percentage of our expenses are fixed in the short term, any delay in
generating or recognizing forecasted revenues could significantly harm our
business. Fluctuations in quarterly results, competition or announcements of
extraordinary events such as acquisitions or litigation may cause earnings to
fall below the expectations of securities analysts and investors. In this event,
the trading price of our Common Stock could significantly decline. In addition,
there can be no assurance that an active trading market will be sustained for
our Common Stock. These fluctuations, as well as general economic and market
conditions, may adversely affect the future market price of our Common Stock, as
well as our overall operating results.
We may lose sales if our suppliers fail to meet our needs.
Although we procure most of our parts and components from multiple sources
or believe that these components are readily available from numerous sources,
certain components are available only from sole sources or from a limited number
of sources. While we believe that substitute components or assemblies could be
obtained, use of substitutes would require development of new suppliers or would
require us to re-engineer our products, or both, which could delay shipment of
our products and could have a materially adverse effect on our operating results
and financial condition.
Attracting and retaining key personnel is an essential element of our future
success.
Our future success depends to a significant extent upon the continued
service of our executive officers and other key management and technical
personnel and on our ability to continue to attract, retain and motivate
executive and other key employees, including those in managerial, technical,
marketing and information technology support positions. Attracting and retaining
skilled workers and qualified sales representatives is also critical to us.
Experienced management and technical, marketing and support personnel in the
defense and aerospace industries are in demand and competition for their talents
is intense. The loss of the services of one or more of our key employees or our
failure to attract, retain and motivate qualified personnel could have a
material adverse effect on our business, financial condition and results of
operations.
18
Terrorist acts and acts of war may seriously harm our business, results of
operations and financial condition.
United States and global responses to the Middle East conflict, terrorism,
perceived nuclear, biological and chemical threats and other global crises
increase uncertainties with respect to U.S. and other business and financial
markets. Several factors associated, directly or indirectly, with the Middle
East conflict, terrorism, perceived nuclear, biological and chemical threats,
and other global crises and responses thereto, may adversely affect the Company.
While some of our products may experience greater demand as a result of
increased U.S. Government defense spending, various responses could realign U.S.
Government programs and affect the composition, funding or timing of our
government programs and those of our customers. U.S. Government spending could
shift to defense programs in which we and our customers do not participate. As a
result of the September 11th terrorist attacks and given the current Middle East
and global situation, U.S. defense spending is generally expected to increase
over the next several years. Increased defense spending does not necessarily
correlate to increased business, because not all the programs in which we
participate or have current capabilities may be earmarked for increased funding.
Terrorist acts of war (wherever located around the world) may cause damage
or disruption to us, our employees, facilities, partners, suppliers,
distributors and resellers, and customers, which could significantly impact our
revenues, expenses and financial condition. The terrorist attacks that took
place in the United States on September 11, 2001 were unprecedented events that
have created many economic and political uncertainties. The potential for future
terrorist attacks, the national and international responses to terrorist
attacks, and other acts of war or hostility have created many economic and
political uncertainties, which could adversely affect our business and results
of operations in ways that cannot presently be predicted. In addition, as a
company with headquarters and significant operations located in the United
States, we may be impacted by actions against the United States.
Our indebtedness and rent obligation may affect operations.
We incurred significant indebtedness under the New Loan Facility. This
indebtedness far exceeds the amount of pre-Merger debt of AIM. As a result, we
are significantly leveraged and our indebtedness is substantial in relation to
our stockholders' equity. To reduce our debt, we completed the sale and
lease-back of our corporate headquarters, as a result of which we are now
obligated to pay rent for our corporate headquarters. Our ability to make
principal and interest payments on our debt and our ability to make rent
payments a under our lease will depend on future performance, which is subject
to many factors, some of which are outside our control. In addition, the New
Loan Facility is secured by substantially all of our assets, including our
rights as tenant. In the case of a continuing default under the New Loan
Facility, the lender will have the right to foreclose on AIM's assets, which
would have a material adverse effect on the Company. In the event of a failure
to pay rent or otherwise comply with the terms of our lease, the landlord could
evict us from our headquarters. Payment of principal and interest on the New
Loan Facility may limit our ability to pay cash dividends to shareholders and
the documents governing the New Loan Facility will prohibit the payment of cash
dividends. Our leverage may also adversely affect our ability to finance future
operations and capital needs, may limit our ability to pursue other business
opportunities and may make our results of operations more susceptible to adverse
economic conditions.
Absence of Principal Shareholders' Guarantees and Financial Accommodations
Historically, AIM obtained money and achieved other financial
accommodations through arrangements guaranteed by the AIM's former shareholders.
Since they sold their shares of AIM in connection with the Acquisition, such
former shareholders of AIM will not be providing any financial assistance to us
or AIM on a going-forward basis. Consequently, we are no longer able to rely
upon the credit of AIM's former shareholders when seeking to borrow money or
obtain other financial accommodations.
We may issue shares of our capital stock or debt securities to complete an
acquisition, which would reduce the equity interest of our stockholders.
We will, in all likelihood, issue additional shares of our Common Stock or
preferred stock, or a combination of common and preferred stock, to complete an
acquisition. The issuance of additional shares of our Common Stock or any number
of shares of our preferred stock may significantly reduce the equity interest of
our current stockholders, may subordinate the rights of holders of our Common
Stock if preferred stock is issued with rights senior to the Common Stock and
may adversely affect prevailing market prices for our Common Stock.
19
Similarly, if we issue debt securities, it could result in default and
foreclosure on our assets if our operating revenues after an acquisition were
insufficient to pay our debt obligations, could result in the acceleration of
our obligations to repay the indebtedness even if we have made all principal and
interest payments when due if the debt security contains covenants that require
the maintenance of certain financial ratios or reserves and any such covenant is
breached without a waiver or renegotiation of that covenant, and could result in
our inability to obtain additional financing if the debt security contains
covenants restricting our ability to obtain additional financing while such
security is outstanding.
Because of our limited resources and the significant competition for
acquisitions, we may not be able to consummate an acquisition with growth
potential.
We expect to encounter intense competition from other entities having a
business objective similar to ours, including venture capital funds, leveraged
buyout funds and operating businesses competing for acquisitions. Many of these
entities are well established and have extensive experience in identifying and
effecting business combinations directly or through affiliates. Many of these
competitors possess greater technical, human and other resources than we do and
our financial resources will be relatively limited when contrasted with those of
many of these competitors. While we believe that there are numerous potential
target businesses that we could acquire, our ability to compete in acquiring
certain target businesses will be limited by our available financial resources.
This inherent competitive limitation gives others an advantage in pursuing the
acquisition of certain target businesses.
We may be unable to obtain additional financing, if required, to complete an
acquisition or to fund the operations and growth of any business acquired, which
could compel us to abandon a particular prospective acquisition.
If we require additional financing to complete an acquisition, we cannot
assure you that such financing would be available on acceptable terms, if at
all. To the extent that additional financing proves to be unavailable when
needed to consummate a particular acquisition, we would be compelled to
restructure the transaction or abandon that particular acquisition. In addition,
if we consummate an acquisition, we may require additional financing to fund the
operations or growth of the business acquired. The failure to secure additional
financing could have a material adverse effect on the continued development or
growth of our business.
There is only a limited public market for our securities.
The trading market for our Common Stock is limited and conducted on the
OTC Bulletin Board. Our Common Stock is very thinly traded. There can be no
assurance that we will ever achieve a listing of our securities on NASDAQ or a
stock exchange or that a more active trading market will ever develop, or, if
developed, that it will be sustained.
Potential Adverse Effect on Market Price of Securities from Future Sales of
Common Stock.
Future sales of Common Stock pursuant to a registration statement or Rule
144 under the Securities Act, or the perception that such sales could occur,
could have an adverse effect on the market price of the Common Stock. Our
Registration Statement on Form SB-2 covering the resale by selling security
holders of more than 61, 000,000 shares of Common Stock was declared effective
on August 4, 2006. Relative to the number of shares of our freely-trading Common
Stock which had been outstanding prior to such declaration of effectiveness the
number of shares which may be sold into the marketplace pursuant to our current
Registration Statement is enormous.
We believe that any significant sales of our Common Stock may severely
depress the market price of our Common Stock. We also intend to register on Form
S-8 under the Securities Act an additional 10,000,000 shares of Common Stock,
which are the shares available for issuance under our 2005 Stock Incentive Plan,
of which, as of September 30, 2006, we have granted stock options to purchase
4,850,000 shares of our Common Stock. In addition, shares of our Common Stock
held for one year or more will be eligible for public resale pursuant to Rule
144. In general, the shares of Common Stock which we issued in connection with
the Merger and the Acquisition will become eligible for public resale under Rule
144 as of November 30, 2006. In addition, we may use our capital stock in the
future to finance acquisitions and to compensate employees and management, which
will further dilute the interests of our existing shareholders and could
eventually significantly depress the trading price of our Common Stock.
20
Dilution from Shares to Be Issued in Potential Acquisitions
Our business plan calls for our making acquisitions in the future. We will
very likely issue a significant number of shares of our capital stock to pay for
each such acquisition. Such issuances of shares will dilute the interests of our
existing shareholders and could depress the trading price of our Common Stock.
Effect of Stock Options
Our 2005 Stock Incentive Plan allows for the issuance of up to 10,000,000
shares of Common Stock, either as stock grants or options, to employees,
officers, directors, advisors and consultants of the Company. As of November 30,
2005, options to purchase 4,850,000 shares of Original Gales' common stock
became options to purchase shares of our Common Stock under our 2005 Stock
Incentive Plan. The committee administering such plans will have sole authority
and discretion to grant options under such plans. We may grant options which
become immediately exercisable in the event of a change in control of the
Company and in the event of certain mergers and reorganizations of the Company.
The existence of such options could limit the price that certain investors might
be willing to pay in the future for shares of our Common Stock and may have the
effect of delaying or preventing a change in control of the Company. The
issuance of additional shares upon the exercise of such options could also
decrease the amount of earnings and assets available for distribution to the
holders of the Common Stock and could result in the dilution of voting power of
the Common Stock.
The Series A Convertible Preferred Stock
On August 4, 2006, as a result of the effectiveness of our registration
statement on Form SB-2, which was declared effective on August 4, 2006, the 900
shares of Series A Convertible Preferred Stock ("Preferred Stock") issued and
outstanding immediately prior to such date were automatically converted into an
aggregate of 40,909,500 shares of Common Stock. Those who previously held our
Preferred Stock now, as a group, control a majority of the voting shares of the
Company and have the ability to elect a majority of the members of our Board of
Directors and otherwise control the Company.
Prior to November 30, 2005, AIM was not subject to Sarbanes-Oxley regulations
and, therefore, may have lacked the financial controls and procedures of public
companies.
Prior to November 30, 2005, AIM did not have the internal or financial
control infrastructure necessary to meet the standards of a public company,
including the standards required by the Sarbanes Oxley Act of 2002 ("Sarbanes
Oxley"). Because AIM was not subject to Sarbanes Oxley, its internal and
financial controls reflected its status as a non-public company. AIM did not
have the internal infrastructure necessary to complete an attestation about its
financial controls that would be required under Section 404 of Sarbanes Oxley.
We are now required to comply with portions of Sarbanes Oxley and currently
estimate that the costs of complying with Sarbanes Oxley and other requirements
associated with being a public company will be $750,000 during calendar year
2006, and such cost will likely increase at such time as we are required to
comply with Section 404 of Sarbanes Oxley.
Item 3: Controls and Procedures
As of the end of the period covered by this report, our management,
including our principal executive officer and our principal financial officer,
have conducted an evaluation of the effectiveness of our disclosure controls and
procedures (as defined in Rule 13a-15 under the Securities Exchange Act of
1934). Based upon that evaluation, our principal executive officer and our chief
financial officer have concluded that our disclosure controls and procedures are
effective in timely alerting them of material information relating to us that is
required to be disclosed by us in the reports we file or submit under the
Exchange Act.
Because AIM was subject to stringent performance criteria imposed by its
customers and as a consequence of its government contracts, in our management's
estimation, its disclosure controls and procedures were superior to those of
most privately held companies of comparable size. Nevertheless, its controls and
procedures were not designed to facilitate the external financial reporting
required of a publicly held company. Although no material weaknesses were found
in our disclosure controls and procedures as of September 30, 2006, to ensure
the reliability of future financial reports, our management has determined to
complete the implementation of a total financial and operating control system
that AIM installed during 2005. In addition, management has determined to hire
21
support personnel experienced with the reporting requirements imposed upon
public companies to facilitate the timely preparation of accurate financial
reports. Except for these planned changes and those resulting from the
acquisition of AIM and the substitution of its accounting procedures for those
of ours in effect prior to November 30, 2005, there have been no significant
changes made in our internal controls or in other factors that could
significantly affect our internal controls subsequent to September30, 2006 or
during the quarter ended September30, 2006.
PART II
OTHER INFORMATION
Item 1: Legal Proceedings
We were involved in litigation with J.C. Herbert Bryant, III, a former
officer, director and shareholder of our Company, and KMS-Thin Tab 100, Inc.,
which was settled in September 2002. As part of the settlement, we entered into
a distribution agreement with KMS permitting it to purchase certain products
from us and to exclusively distribute those products in Florida from Orlando
south. In October 2003, we terminated the distribution agreement with KMS. On
December 1, 2003, we filed suit against KMS in the Palm Beach County Circuit
Court for breach of contract, trademark infringement and for a declaration of
rights that the distribution agreement is terminated. KMS answered the complaint
and filed its own counterclaim for fraud in the inducement, trademark
infringement, dilution and fraudulent misrepresentation; the fraud-based
counterclaims were dismissed with prejudice by the Court on summary judgment.
KMS subsequently amended its counterclaim to allege a breach of contract under
the distribution agreement. In January 2005, the State Court in Florida ruled
that neither party should prevail and rejected a request for attorney's fees by
KMS of approximately $60,000. KMS subsequently filed a notice of appeal.
Subsequent to our emergence from Bankruptcy, KMS requested that the Bankruptcy
Court reopen our bankruptcy case and award it the attorney's fees previously
rejected by the Florida State Court. The Bankruptcy Court granted the motion in
so far as it allowed KMS to prosecute in the Fourth District Court of Appeal in
Florida its appeal of the State Court decision. Subsequently, KMS filed its
appeal and brief with the Fourth District seeking attorney's fees. We intend to
contest this claim vigorously and are in the process of preparing our response.
In March 2004 Michael Gales, our Executive Chairman, acting on behalf of a
then unformed company, entered into a "finder's agreement" with a third party.
This party has advised a director of the Company that it believes that it is
entitled to a fee as a result of the Company's aquisition of AIM and the
completion of the financing with PNC. The Company believes that there is no
merit to this claim, and, if it is brought, intends to contest it vigourously.
Item 4: Unregistered Sales of Equity Securities
Pursuant to a consulting agreement with a consultant that was terminated
in September 2006, we remain obligated to deliver warrants to purchase an
aggregate of 31,251 shares of our Common Stock, that were to have been delivered
in increments of 10,417 shares as of the first day of each of July, August and
September. The exercise price per share for such warrants to be issued will
equal 120% of the average closing price of the Common Stock during the months of
June, July and August, respectively. Upon delivery of such warrants we will have
delivered an aggregate of 72,919 warrants to the same firm which are exercisable
for an aggregate of 72,919 shares of Common Stock.
Such issuances of warrants to our consulting firm were, and will be,
exempt from registration pursuant to Section 4(2) under the Securities Act of
1933, as amended.
The 900 shares of Preferred Stock accumulated $360,000 in 8%
Payable-In-Kind (PIK) dividends. This Payable-In-Kind dividend was earned during
the six month period from December 15, 2005 to June 15, 2006 and is equal to 36
shares of preferred stock convertible into 1,636,380 shares of common stock.
Such dividends, as well as the outstanding Preferred Stock, automatically
converted into shares of Common Stock when our registration statement on Form
SB-2 became effective on August 4, 2006.
22
Item 6. Exhibits
Exhibit No. Description of Exhibit
10.1 Amended and Restated Term Note dated November 10, 2006
10.2 First Amendment to Revolving Credit, Term Loan, Equipment Line of
Credit and Security Agreement dated November 10, 2006
31.1 Certification of Chief Executive Officer pursuant to Rule
13a-14(a) under the Securities Exchange Act of 1934.
31.2 Certification of Chief Financial Officer pursuant to Rule
13a-14(a) under the Securities Exchange Act of 1934.
32.1 Certification of Chief Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
32.2 Certification of Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
23
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the
Registrant has caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
Dated: November 14 , 2006
GALES INDUSTRIES INCORPRATED
By: /s/ Michael A. Gales
-----------------------------------
Michael A. Gales,
Executive Chairman
By: /s/ Louis A. Giusto
-----------------------------------
Louis A. Giusto,
Chief Financial Officer
(Principal Financial and Accounting
Officer)
24
EXHIBIT INDEX
Exhibit No. Description of Exhibit
10.1 Amended and Restated Term Note dated November 10, 2006
10.2 First Amendment to Revolving Credit, Term Loan, Equipment Line of
Credit and Security Agreement dated November 10, 2006
31.1 Certification of Chief Executive Officer pursuant to Rule
13a-14(a) under the Securities Exchange Act of 1934.
31.2 Certification of Chief Financial Officer pursuant to Rule
13a-14(a) under the Securities Exchange Act of 1934.
32.1 Certification of Chief Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
32.2 Certification of Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
AMENDED AND RESTATED TERM NOTE
$383,330 November 10, 2006
New York, New York
This Amended and Restated Term Note (this "Note") is executed and
delivered under and pursuant to the terms of that certain Revolving Credit, Term
Loan, Equipment Line of Credit and Security Agreement dated November 30, 2005
(as amended, restated, supplemented or modified from time to time, the "Loan
Agreement") by and among AIR INDUSTRIES MACHINING, CORP., a corporation
organized under the laws of the State of New York ("Borrower") and PNC BANK,
NATIONAL ASSOCIATION ("PNC"), the various financial institutions named therein
or which hereafter become a party thereto, (together with PNC, collectively,
"Lenders") and PNC as agent for Lenders (in such capacity, "Agent"). Capitalized
terms not otherwise defined herein shall have the meanings provided in the Loan
Agreement.
FOR VALUE RECEIVED, Borrower hereby promises to pay to the order of PNC,
at the office of Agent located at PNC Bank Center, Two Tower Center, 8th Floor,
East Brunswick, New Jersey 08816, or at such other place as Agent may from time
to time designate to Borrower in writing:
(i) the principal sum of THREE HUNDRED EIGHTY THREE THOUSAND THREE HUNDRED
THIRTY AND 00/100 DOLLARS ($383,330), payable in accordance with the provisions
of the Loan Agreement and subject to acceleration upon the occurrence of an
Event of Default under the Loan Agreement or earlier termination of the Loan
Agreement pursuant to the terms thereof;
(ii) interest on the principal amount of this Note from time to time
outstanding, payable at the Term Loan Rate in accordance with the provisions of
the Loan Agreement. In no event, however, shall interest exceed the maximum
interest rate permitted by law. Upon and after the occurrence of an Event of
Default, and during the continuation thereof, interest shall be payable at the
Default Rate; and
(iii) notwithstanding anything to the contrary herein, in the Loan
Agreement and/or in any Other Document, all outstanding principal and interest
hereunder is due and payable on the Termination Date.
This Note is one of the Term Notes referred to in the Loan Agreement and
is secured, inter alia, by the liens granted pursuant to the Loan Agreement and
the Other Documents, is entitled to the benefits of the Loan Agreement and the
Other Documents and is subject to all of the agreements, terms and conditions
therein contained.
This Note is subject to mandatory prepayment and may be voluntarily
prepaid, in whole or in part, on the terms and conditions set forth in the Loan
Agreement.
If an Event of Default under Section 10.7 or 10.8 of the Loan Agreement
shall occur, then this Note shall immediately become due and payable, without
notice, together with reasonable attorneys' fees if the collection hereof is
placed in the hands of an attorney to obtain or enforce payment hereof. If any
other Event of Default shall occur under the Loan Agreement or any of the Loan
Documents, which is not cured within any applicable grace period, then this Note
may, as provided in the Loan Agreement, be declared to be immediately due and
payable, without notice, together with reasonable attorneys' fees, if the
collection hereof is placed in the hands of an attorney to obtain or enforce
payment hereof.
This Note is intended to amend, restate and replace in its entirety a
certain Term Note executed by the Borrower in favor of the Agent, for the
benefit of the Lenders, dated November 30, 2005 in the original principal amount
of $3,500,000, as amended and/or otherwise modified from time to time. This Note
is not a novation.
This Note shall be construed and enforced in accordance with the laws of
the State of New York.
Borrower expressly waives any presentment, demand, protest, notice of
protest, or notice of any kind except as expressly provided in the Loan
Agreement.
ATTEST: AIR INDUSTRIES MACHINING, CORP.
By:_____________________________ By:________________________________
Name: LOUIS A. GIUSTO Name: MICHAEL A. GALES
Title: Vice Chairman Title: Executive Chairman
2
FIRST AMENDMENT TO REVOLVING CREDIT, TERM LOAN, EQUIPMENT LINE OF
CREDIT AND SECURITY AGREEMENT
THIS FIRST AMENDMENT TO REVOLVING CREDIT, TERM LOAN, EQUIPMENT LINE OF
CREDIT AND SECURITY AGREEMENT (this "Agreement") is entered into November 10,
2006 by and among AIR INDUSTRIES MACHINING, CORP. (as successor by merger with
Gales Industries Acquisition Corp., Inc.), a corporation organized under the
laws of the State of New York ("Borrower"), the financial institutions which are
now or which hereafter become a party hereto (collectively, the "Lenders" and
individually a "Lender") and PNC BANK, NATIONAL ASSOCIATION ("PNC"), as agent
for Lenders (PNC, in such capacity, the "Agent").
RECITALS
Whereas, the Borrower and PNC entered into a certain Revolving Credit,
Term Loan, Equipment Line of Credit and Security Agreement dated November 30,
2005 (as is being and may be further amended, replaced, restated, modified
and/or extended, the "Loan Agreement"); and
Whereas, Borrower and PNC have agreed to modify the terms of the Loan
Agreement as set forth in this Agreement.
Now, therefore, in consideration of PNC's continued extension of credit
and the agreements contained herein, the parties agree as follows:
AGREEMENT
1) ACKNOWLEDGMENT OF BALANCE. Borrower acknowledges that the most recent
statement of account sent to Borrower with respect to the Obligations is
correct.
2) MODIFICATIONS. The Loan Agreement be and hereby is modified as follows:
(a) The following definitions in Section 1.2 of the Loan Agreement are
hereby deleted, and are replaced to read as follows:
"Advances" shall mean and include the Revolving Advances and as well as
Letters of Credit, the Term Loan, the Converted Equipment Loans and the
Equipment Loans.
"Commitment Percentage" of any Lender shall mean the percentage set forth
below such Lender's name on the signature page hereof as same may be
adjusted upon any assignment by a Lender pursuant to Section 15.3(c) or
(d) hereof.
"Purchasing Lender" shall have the meaning set forth in Section 15.3(c)
hereof.
"Revolving Advances" shall mean the Advances made other than Letters of
Credit, Equipment Loans, the Converted Equipment Loans and the Term Loan.
"Transferee" shall have the meaning set forth in Section 15.3(d) hereof.
(b) The following definitions are hereby added to Section 1.2 of the
Loan Agreement to read as follows:
"Issuer" shall mean any Person who issues a Letter of Credit and/or
accepts a draft pursuant to the terms hereof.
"Letter of Credit Fees" shall have the meaning set forth in Section 3.11.
"Letter of Credit Borrowing" shall have the meaning set forth in Section
2.17(d).
"Letter of Credit Sublimit" shall mean $500,000.
1
"Letters of Credit" shall have the meaning set forth in Section 2.14.
"Maximum Face Amount" shall mean, with respect to any outstanding Letter
of Credit, the face amount of such Letter of Credit including all
automatic increases provided for in such Letter of Credit, whether or not
any such automatic increase has become effective.
"Maximum Undrawn Amount" shall mean with respect to any outstanding Letter
of Credit, the amount of such Letter of Credit that is or may become
available to be drawn, including all automatic increases provided for in
such Letter of Credit, whether or not any such automatic increase has
become effective.
"Modified Commitment Transfer Supplement" shall have the meaning set forth
in Section 15.3(d).
"Participation Commitment" shall mean each Lender's obligation to buy a
participation of the Letters of Credit issued hereunder.
"Purchasing CLO" shall have the meaning set forth in Section 15.3(d)
hereof.
"Register" shall have the meaning set forth in Section 15.3(e).
"First Amendment Closing Date" shall mean November 10, 2006.
(c) The initial paragraph of Subsection 2.1(a) of the Loan Agreement is
deleted, and is replaced by a new initial paragraph of Subsection
2.1(a) to read as follows:
(a) Amount of Revolving Advances. Subject to the terms and
conditions set forth in this Agreement including Section 2.1(b), each
Lender, severally and not jointly, will make Revolving Advances to
Borrower in aggregate amounts outstanding at any time equal to such
Lender's Commitment Percentage of the lesser of (x) the Maximum Revolving
Advance Amount less the aggregate Maximum Undrawn Amount of all
outstanding Letters of Credit or (y) an amount equal to the sum of:
(d) Subsection 2.4(a) of the Loan Agreement is deleted, and is replaced
by a new Subsection 2.4(a) to read as follows:
(a) Term Loan. Subject to the terms and conditions of this
Agreement, each Lender, severally and not jointly, will make a Term Loan
to Borrower in the sum equal to such Lender's Commitment Percentage of
$383,330. The Term Loan shall be advanced on the First Amendment Closing
Date and shall be, with respect to principal, payable as follows, subject
to acceleration upon the occurrence of an Event of Default under this
Agreement or termination of this Agreement: thirty six (36) consecutive
monthly principal installments, the first thirty five (35) of which shall
be in the amount of $10,648 commencing on the first Business Day of
November, 2006, and continuing on the first Business Day of each month
thereafter, with a thirty sixth (36th) and final payment of any unpaid
balance of principal and interest payable on the first Business Day of
October, 2009, subject to mandatory prepayment and acceleration upon the
occurrence of an Event of Default hereunder or earlier termination of the
Loan Agreement pursuant to the terms hereof. Notwithstanding anything to
the contrary herein, in the Term Note and/or in any Other Document, all
outstanding principal and interest hereunder is due and payable on the
Termination Date in the event that the Termination Date is before the
first Business Day of October, 2009. The Term Loan shall be evidenced by
one or more secured promissory notes (collectively, the "Term Note") in
substantially the form attached hereto as Exhibit 2.4a.
(e) Section 2.5 of the Loan Agreement is deleted, and is replaced by a
new Section 2.5 to read as follows:
2
2.5 Maximum Advances. The aggregate balance of Revolving Advances
outstanding at any time shall not exceed the lesser of (a) the Maximum
Revolving Advance Amount or (b) the Formula Amount less, in each case, the
aggregate Maximum Undrawn Amount of all issued and outstanding Letters of
Credit.
(f) Subsection 2.12(a) of the Loan Agreement is deleted, and is replaced
by a new Subsection 2.12(a) to read as follows:
(a) Borrower shall apply the proceeds of Advances to (i)
purchase the Mortgaged Premises, (ii) repay existing indebtedness owed to
Citibank, (iii) pay fees and expenses relating to this transaction, and
(iv) provide for its working capital needs and reimburse drawings under
Letters of Credit.
(g) Sections 2.14, 2.15, 2.16, 2.17, 2.18, 2.19, 2.20, 2.21, 2.22 and
2.23 are hereby added to the Loan Agreement to read as follows:
2.14. Letters of Credit. Subject to the terms and conditions hereof,
Agent shall issue or cause the issuance of standby Letters of Credit
("Letters of Credit") for the account of the Borrower; provided, however,
that Agent will not be required to issue or cause to be issued any Letters
of Credit to the extent that the issuance thereof would then cause the sum
of (i) the outstanding Revolving Advances plus (ii) the Maximum Undrawn
Amount of all outstanding Letters of Credit to exceed the lesser of (x)
the Maximum Revolving Advance Amount or (y) the Formula Amount. The
Maximum Undrawn Amount of outstanding Letters of Credit shall not exceed
in the aggregate at any time the Letter of Credit Sublimit. All
disbursements or payments related to Letters of Credit shall be deemed to
be Domestic Rate Loans consisting of Revolving Advances and shall bear
interest at the applicable Contract Rate for Domestic Rate Loans; Letters
of Credit that have not been drawn upon shall not bear interest.
2.15. Issuance of Letters of Credit.
(a) Borrower may request Agent to issue or cause the issuance
of a Letter of Credit by delivering to Agent at the Payment Office, prior
to 10:00 a.m. (New York time), at least five (5) Business Days' prior to
the proposed date of issuance, Agent's form of Letter of Credit
Application (the "Letter of Credit Application") completed to the
satisfaction of Agent; and, such other certificates, documents and other
papers and information as Agent may reasonably request. Borrower also has
the right to give instructions and make agreements with respect to any
application, any applicable letter of credit and security agreement, any
applicable letter of credit reimbursement agreement and/or any other
applicable agreement, any letter of credit and the disposition of
documents, disposition of any unutilized funds, and to agree with Agent
upon any amendment, extension or renewal of any Letter of Credit.
(b) Each Letter of Credit shall, among other things, (i)
provide for the payment of sight drafts, other written demands for
payment, or acceptances of usance drafts when presented for honor
thereunder in accordance with the terms thereof and when accompanied by
the documents described therein and (ii) have an expiry date not later
than twenty-four (24) months after such Letter of Credit's date of
issuance and in no event later than the last day of the Term. Each standby
Letter of Credit shall be subject either to the Uniform Customs and
Practice for Documentary Credits (1993 Revision), International Chamber of
Commerce Publication No. 500, and any amendments or revision thereof
adhered to by the Issuer ("UCP 500") or the International Standby
Practices (ISP98-International Chamber of Commerce Publication Number 590)
(the "ISP98 Rules"), as determined by Agent, and each trade Letter of
Credit shall be subject to UCP 500.
(c) Agent shall use its reasonable efforts to notify Lenders
of the request by Borrower for a Letter of Credit hereunder.
3
2.16. Requirements For Issuance of Letters of Credit.
(a) Borrower shall authorize and direct any Issuer to name the
Borrower as the "Applicant" or "Account Party" of each Letter of Credit.
If Agent is not the Issuer of any Letter of Credit, Borrower shall
authorize and direct the Issuer to deliver to Agent all instruments,
documents, and other writings and property received by the Issuer pursuant
to the Letter of Credit and to accept and rely upon Agent's instructions
and agreements with respect to all matters arising in connection with the
Letter of Credit, the application therefor or any acceptance therefor.
(b) In connection with all Letters of Credit issued or caused
to be issued by Agent under this Agreement, Borrower hereby appoints
Agent, or its designee, as its attorney, with full power and authority if
an Event of Default shall have occurred, (i) to sign and/or endorse
Borrower's name upon any warehouse or other receipts, letter of credit
applications and acceptances, (ii) to sign Borrower's name on bills of
lading; (iii) to clear Inventory through the United States of America
Customs Department ("Customs") in the name of Borrower or Agent or Agent's
designee, and to sign and deliver to Customs officials powers of attorney
in the name of Borrower for such purpose; and (iv) to complete in
Borrower's name or Agent's, or in the name of Agent's designee, any order,
sale or transaction, obtain the necessary documents in connection
therewith, and collect the proceeds thereof. Neither Agent nor its
attorneys will be liable for any acts or omissions nor for any error of
judgment or mistakes of fact or law, except for Agent's or its attorney's
willful misconduct. This power, being coupled with an interest, is
irrevocable as long as any Letters of Credit remain outstanding.
2.17. Disbursements, Reimbursement.
(a) Immediately upon the issuance of each Letter of Credit,
each Lender shall be deemed to, and hereby irrevocably and unconditionally
agrees to, purchase from Agent a participation in such Letter of Credit
and each drawing thereunder in an amount equal to such Lender's Commitment
Percentage of the Maximum Face Amount of such Letter of Credit and the
amount of such drawing, respectively.
(b) In the event of any request for a drawing under a Letter
of Credit by the beneficiary or transferee thereof, Agent will promptly
notify Borrower. Provided that Borrower shall have received such notice,
the Borrower shall reimburse (such obligation to reimburse Agent shall
sometimes be referred to as a "Reimbursement Obligation") Agent prior to
12:00 Noon, New York time on each date that an amount is paid by Agent
under any Letter of Credit (each such date, a "Drawing Date") in an amount
equal to the amount so paid by Agent. In the event Borrower fail to
reimburse Agent for the full amount of any drawing under any Letter of
Credit by 12:00 Noon, New York time, on the Drawing Date, Agent will
promptly notify each Lender thereof, and Borrower shall be deemed to have
requested that a Domestic Rate Loan be made by the Lenders to be disbursed
on the Drawing Date under such Letter of Credit, subject to the amount of
the unutilized portion of the lesser of Maximum Revolving Advance Amount
or the Formula Amount and subject to Section 8.2 hereof. Any notice given
by Agent pursuant to this Section 2.17(b) may be oral if immediately
confirmed in writing; provided that the lack of such an immediate
confirmation shall not affect the conclusiveness or binding effect of such
notice.
(c) Each Lender shall upon any notice pursuant to Section
2.17(b) make available to Agent an amount in immediately available funds
equal to its Commitment Percentage of the amount of the drawing, whereupon
the participating Lenders shall (subject to Section 2.17(d)) each be
deemed to have made a Domestic Rate Loan to Borrower in that amount. If
any Lender so notified fails to make available to Agent the amount of such
Lender's Commitment Percentage of such amount by no later than 2:00 p.m.,
New York time on the Drawing Date, then interest shall accrue on such
Lender's obligation to make such payment, from the Drawing Date to the
date on which such Lender makes such payment (i) at a rate per annum equal
to the Federal Funds Rate during the first three days following the
Drawing Date and (ii) at a rate per annum equal to the rate applicable to
Domestic Rate Loans on and after the fourth day following the Drawing
Date. Agent will promptly give notice of the occurrence of the Drawing
Date, but failure of Agent to give any such notice on the Drawing Date or
4
in sufficient time to enable any Lender to effect such payment on such
date shall not relieve such Lender from its obligation under this Section
2.17(c), provided that such Lender shall not be obligated to pay interest
as provided in Section 2.17(c)(i) and (ii) until and commencing from the
date of receipt of notice from Agent of a drawing.
(d) With respect to any unreimbursed drawing that is not
converted into a Domestic Rate Loan to Borrower in whole or in part as
contemplated by Section 2.17(b), because of Borrower's failure to satisfy
the conditions set forth in Section 8.2 (other than any notice
requirements) or for any other reason, Borrower shall be deemed to have
incurred from Agent a borrowing (each a "Letter of Credit Borrowing") in
the amount of such drawing. Such Letter of Credit Borrowing shall be due
and payable on demand (together with interest) and shall bear interest at
the rate per annum applicable to a Domestic Rate Loan. Each Lender's
payment to Agent pursuant to Section 2.17(c) shall be deemed to be a
payment in respect of its participation in such Letter of Credit Borrowing
and shall constitute a "Participation Advance" from such Lender in
satisfaction of its Participation Commitment under this Section 2.17.
(e) Each Lender's Participation Commitment shall continue
until the last to occur of any of the following events: (x) Agent ceases
to be obligated to issue or cause to be issued Letters of Credit
hereunder; (y) no Letter of Credit issued or created hereunder remains
outstanding and uncancelled and (z) all Persons (other than the Borrower)
have been fully reimbursed for all payments made under or relating to
Letters of Credit.
2.18. Repayment of Participation Advances.
(a) Upon (and only upon) receipt by Agent for its account of
immediately available funds from Borrower (i) in reimbursement of any
payment made by the Agent under the Letter of Credit with respect to which
any Lender has made a Participation Advance to Agent, or (ii) in payment
of interest on such a payment made by Agent under such a Letter of Credit,
Agent will pay to each Lender, in the same funds as those received by
Agent, the amount of such Lender's Commitment Percentage of such funds,
except Agent shall retain the amount of the Commitment Percentage of such
funds of any Lender that did not make a Participation Advance in respect
of such payment by Agent.
(b) If Agent is required at any time to return to Borrower, or
to a trustee, receiver, liquidator, custodian, or any official in any
insolvency proceeding, any portion of the payments made by Borrower to
Agent pursuant to Section 2.18(a) in reimbursement of a payment made under
the Letter of Credit or interest or fee thereon, each Lender shall, on
demand of Agent, forthwith return to Agent the amount of its Commitment
Percentage of any amounts so returned by Agent plus interest at the
Federal Funds Effective Rate.
5
2.19. Documentation. The Borrower agrees to be bound by the terms of
the Letter of Credit Application and by Agent's reasonable interpretations
of any Letter of Credit issued on behalf of Borrower and by Agent's
written regulations and customary practices relating to letters of credit,
though Agent's interpretations may be different from Borrower's own. In
the event of a conflict between the Letter of Credit Application and this
Agreement, this Agreement shall govern. It is understood and agreed that,
except in the case of gross negligence or willful misconduct (as
determined by a court of competent jurisdiction in a final non-appealable
judgment), Agent shall not be liable for any error, negligence and/or
mistakes, whether of omission or commission, in following the Borrower's
instructions or those contained in the Letters of Credit or any
modifications, amendments or supplements thereto.
2.20. Determination to Honor Drawing Request. In determining whether
to honor any request for drawing under any Letter of Credit by the
beneficiary thereof, Agent shall be responsible only to determine that the
documents and certificates required to be delivered under such Letter of
Credit have been delivered and that they comply on their face with the
requirements of such Letter of Credit and that any other drawing condition
appearing on the face of such Letter of Credit has been satisfied in the
manner so set forth.
2.21. Nature of Participation and Reimbursement Obligations. Each
Lender's obligation in accordance with this Agreement to make the
Revolving Advances or Participation Advances as a result of a drawing
under a Letter of Credit, and the obligations of Borrower to reimburse
Agent upon a draw under a Letter of Credit, shall be absolute,
unconditional and irrevocable, and shall be performed strictly in
accordance with the terms of this Section 2.21 under all circumstances,
including the following circumstances:
(i) any set-off, counterclaim, recoupment, defense or
other right which such Lender may have against Agent, Borrower or any
other Person for any reason whatsoever;
(ii) the failure of Borrower or any other Person to
comply, in connection with a Letter of Credit Borrowing, with the
conditions set forth in this Agreement for the making of a Revolving
Advance, it being acknowledged that such conditions are not required for
the making of a Letter of Credit Borrowing and the obligation of the
Lenders to make Participation Advances under Section 2.17;
(iii) any lack of validity or enforceability of any
Letter of Credit;
(iv) any claim of breach of warranty that might be made
by Borrower or any Lender against the beneficiary of a Letter of Credit,
or the existence of any claim, set-off, recoupment, counterclaim,
crossclaim, defense or other right which Borrower or any Lender may have
at any time against a beneficiary, any successor beneficiary or any
transferee of any Letter of Credit or the proceeds thereof (or any Persons
for whom any such transferee may be acting), Agent or any Lender or any
other Person, whether in connection with this Agreement, the transactions
contemplated herein or any unrelated transaction (including any underlying
transaction between Borrower or any Subsidiaries of Borrower and the
beneficiary for which any Letter of Credit was procured);
(v) the lack of power or authority of any signer of (or
any defect in or forgery of any signature or endorsement on) or the form
of or lack of validity, sufficiency, accuracy, enforceability or
genuineness of any draft, demand, instrument, certificate or other
document presented under or in connection with any Letter of Credit, or
any fraud or alleged fraud in connection with any Letter of Credit, or the
transport of any property or provisions of services relating to a Letter
of Credit, in each case even if Agent or any of Agent's Affiliates has
been notified thereof;
(vi) payment by Agent under any Letter of Credit against
presentation of a demand, draft or certificate or other document which
does not comply with the terms of such Letter of Credit;
6
(vii) the solvency of, or any acts or omissions by, any
beneficiary of any Letter of Credit, or any other Person having a role in
any transaction or obligation relating to a Letter of Credit, or the
existence, nature, quality, quantity, condition, value or other
characteristic of any property or services relating to a Letter of Credit;
(viii) any failure by the Agent or any of Agent's
Affiliates to issue any Letter of Credit in the form requested by
Borrower, unless the Agent has received written notice from Borrower of
such failure within three (3) Business Days after the Agent shall have
furnished Borrower a copy of such Letter of Credit and such error is
material and no drawing has been made thereon prior to receipt of such
notice;
(ix) any Material Adverse Effect on Borrower;
(x) any breach of this Agreement or any Other Document
by any party thereto;
(xi) the occurrence or continuance of an insolvency
proceeding with respect to Borrower;
(xii) the fact that a Default or Event of Default shall
have occurred and be continuing;
(xiii) the fact that the Term shall have expired or this
Agreement or the Obligations hereunder shall have been terminated; and
(xix) any other circumstance or happening whatsoever,
whether or not similar to any of the foregoing.
2.22. Indemnity. In addition to amounts payable as provided in
Section 15.5, Borrower hereby agrees to protect, indemnify, pay and save
harmless Agent and any of Agent's Affiliates that have issued a Letter of
Credit from and against any and all claims, demands, liabilities, damages,
taxes, penalties, interest, judgments, losses, costs, charges and expenses
(including reasonable fees, expenses and disbursements of counsel and
allocated costs of internal counsel) which the Agent or any of Agent's
Affiliates may incur or be subject to as a consequence, direct or
indirect, of the issuance of any Letter of Credit, other than as a result
of (A) the gross negligence or willful misconduct of the Agent as
determined by a final and non-appealable judgment of a court of competent
jurisdiction or (b) the wrongful dishonor by the Agent or any of Agent's
Affiliates of a proper demand for payment made under any Letter of Credit,
except if such dishonor resulted from any act or omission, whether
rightful or wrongful, of any present or future de jure or de facto
Governmental Body (all such acts or omissions herein called "Governmental
Acts").
2.23. Liability for Acts and Omissions. As between Borrower and
Agent and Lenders, Borrower assumes all risks of the acts and omissions
of, or misuse of the Letters of Credit by, the respective beneficiaries of
such Letters of Credit. In furtherance and not in limitation of the
respective foregoing, Agent shall not be responsible for: (i) the form,
validity, sufficiency, accuracy, genuineness or legal effect of any
document submitted by any party in connection with the application for an
issuance of any such Letter of Credit, even if it should in fact prove to
be in any or all respects invalid, insufficient, inaccurate, fraudulent or
forged (even if Agent shall have been notified thereof); (ii) the validity
or sufficiency of any instrument transferring or assigning or purporting
to transfer or assign any such Letter of Credit or the rights or benefits
thereunder or proceeds thereof, in whole or in part, which may prove to be
invalid or ineffective for any reason; (iii) the failure of the
beneficiary of any such Letter of Credit, or any other party to which such
Letter of Credit may be transferred, to comply fully with any conditions
required in order to draw upon such Letter of Credit or any other claim of
Borrower against any beneficiary of such Letter of Credit, or any such
transferee, or any dispute between or among Borrower and any beneficiary
of any Letter of Credit or any such transferee; (iv) errors, omissions,
interruptions or delays in transmission or delivery of any messages, by
mail, cable, telegraph, telex or otherwise, whether or not they be in
7
cipher; (v) errors in interpretation of technical terms; (vi) any loss or
delay in the transmission or otherwise of any document required in order
to make a drawing under any such Letter of Credit or of the proceeds
thereof; (vii) the misapplication by the beneficiary of any such Letter of
Credit of the proceeds of any drawing under such Letter of Credit; or
(viii) any consequences arising from causes beyond the control of Agent,
including any Governmental Acts, and none of the above shall affect or
impair, or prevent the vesting of, any of Agent's rights or powers
hereunder. Nothing in the preceding sentence shall relieve Agent from
liability for Agent's gross negligence or willful misconduct (as
determined by a court of competent jurisdiction in a final non-appealable
judgment) in connection with actions or omissions described in such
clauses (i) through (viii) of such sentence. In no event shall Agent or
Agent's Affiliates be liable to Borrower for any indirect, consequential,
incidental, punitive, exemplary or special damages or expenses (including
without limitation attorneys' fees), or for any damages resulting from any
change in the value of any property relating to a Letter of Credit.
Without limiting the generality of the foregoing, Agent and each of
its Affiliates (i) may rely on any oral or other communication believed in
good faith by Agent or such Affiliate to have been authorized or given by
or on behalf of the applicant for a Letter of Credit, (ii) may honor any
presentation if the documents presented appear on their face substantially
to comply with the terms and conditions of the relevant Letter of Credit;
(iii) may honor a previously dishonored presentation under a Letter of
Credit, whether such dishonor was pursuant to a court order, to settle or
compromise any claim of wrongful dishonor, or otherwise, and shall be
entitled to reimbursement to the same extent as if such presentation had
initially been honored, together with any interest paid by Agent or its
Affiliates; (iv) may honor any drawing that is payable upon presentation
of a statement advising negotiation or payment, upon receipt of such
statement (even if such statement indicates that a draft or other document
is being delivered separately), and shall not be liable for any failure of
any such draft or other document to arrive, or to conform in any way with
the relevant Letter of Credit; (v) may pay any paying or negotiating bank
claiming that it rightfully honored under the laws or practices of the
place where such bank is located; and (vi) may settle or adjust any claim
or demand made on Agent or its Affiliate in any way related to any order
issued at the applicant's request to an air carrier, a letter of guarantee
or of indemnity issued to a carrier or any similar document (each an
"Order") and honor any drawing in connection with any Letter of Credit
that is the subject of such Order, notwithstanding that any drafts or
other documents presented in connection with such Letter of Credit fail to
conform in any way with such Letter of Credit.
In furtherance and extension and not in limitation of the specific
provisions set forth above, any action taken or omitted by Agent under or
in connection with the Letters of Credit issued by it or any documents and
certificates delivered thereunder, if taken or omitted in good faith and
without gross negligence (as determined by a court of competent
jurisdiction in a final non-appealable judgment), shall not put Agent
under any resulting liability to Borrower or any Lender.
(h) Subsection 3.2(b) of the Loan Agreement is deleted, and is replaced
by a new Subsection 3.2(b) to read as follows:
(b) Facility Fee. If, for any calendar quarter during the
Term, the average daily unpaid balance of the Revolving Advances and
undrawn amount of any outstanding Letters of Credit for each day of such
calendar quarter does not equal the Maximum Revolving Advance Amount, then
Borrower shall pay to Agent for the ratable benefit of Lenders a fee at a
rate equal to one half of one percent (.50%) per annum on the amount by
which the Maximum Revolving Advance Amount exceeds such average daily
unpaid balance. Such fee shall be payable to Agent in arrears on the first
day of each calendar quarter with respect to the previous calendar
quarter.
(i) Sections 3.11 is hereby added to the Loan Agreement to read as
follows:
3.11. Letter of Credit Fees.
8
(a) Borrower shall pay (x) to Agent, for the ratable benefit
of Lenders, fees for each Letter of Credit for the period from and
excluding the date of issuance of same to and including the date of
expiration or termination, equal to the average daily face amount of each
outstanding Letter of Credit multiplied per annum by two and one half of
one percent (2.50%), such fees to be calculated on the basis of a 360-day
year for the actual number of days elapsed and to be payable quarterly in
arrears on the first day of each quarter and on the last day of the Term,
and (y) to the Issuer, a fronting fee of one quarter of one percent
(0.25%) per annum, together with any and all administrative, issuance,
amendment, payment and negotiation charges with respect to Letters of
Credit and all fees and expenses as agreed upon by the Issuer and the
Borrower in connection with any Letter of Credit, including in connection
with the opening, amendment or renewal of any such Letter of Credit and
any acceptances created thereunder and shall reimburse Agent for any and
all fees and expenses, if any, paid by Agent to the Issuer (all of the
foregoing fees, the "Letter of Credit Fees"). All such charges shall be
deemed earned in full on the date when the same are due and payable
hereunder and shall not be subject to rebate or pro-ration upon the
termination of this Agreement for any reason. Any such charge in effect at
the time of a particular transaction shall be the charge for that
transaction, notwithstanding any subsequent change in the Issuer's
prevailing charges for that type of transaction. All Letter of Credit Fees
payable hereunder shall be deemed earned in full on the date when the same
are due and payable hereunder and shall not be subject to rebate or
pro-ration upon the termination of this Agreement for any reason.
(b) On demand, Borrower will cause cash to be deposited and
maintained in an account with Agent, as cash collateral, in an amount
equal to one hundred and five percent (105%) of the Maximum Undrawn Amount
of all outstanding Letters of Credit, and Borrower hereby irrevocably
authorizes Agent, in its discretion, on Borrower's behalf and in
Borrower's name, to open such an account and to make and maintain deposits
therein, or in an account opened by Borrower, in the amounts required to
be made by Borrower, out of the proceeds of Receivables or other
Collateral or out of any other funds of Borrower coming into any Lender's
possession at any time. Agent will invest such cash collateral (less
applicable reserves) in such short-term money-market items as to which
Agent and Borrower mutually agree and the net return on such investments
shall be credited to such account and constitute additional cash
collateral. Borrower may not withdraw amounts credited to any such account
except upon the occurrence of all of the following: (x) payment and
performance in full of all Obligations, (y) expiration of all Letters of
Credit and (z) termination of this Agreement.
(j) Section 11.5 of the Loan Agreement is deleted, and is replaced by a
new Section 11.5 to read as follows:
11.5. Allocation of Payments After Event of Default. Notwithstanding
any other provisions of this Agreement to the contrary, after the
occurrence and during the continuance of an Event of Default, all amounts
collected or received by the Agent on account of the Obligations or any
other amounts outstanding under any of the Other Documents or in respect
of the Collateral may, at Agent's discretion, be paid over or delivered as
follows:
FIRST, to the payment of all reasonable out-of-pocket costs and
expenses (including reasonable attorneys' fees) of the Agent in connection
with enforcing its rights and the rights of the Lenders under this
Agreement and the Other Documents and any protective advances made by the
Agent with respect to the Collateral under or pursuant to the terms of
this Document;
SECOND, to payment of any fees owed to the Agent;
THIRD, to the payment of all reasonable out-of-pocket costs and
expenses (including reasonable attorneys' fees) of each of the Lenders in
connection with enforcing its rights under this Agreement and the Other
Documents or otherwise with respect to the Obligations owing to such
Lender;
FOURTH, to the payment of all of the Obligations consisting of
accrued fees and interest;
FIFTH, to the payment of the outstanding principal amount of the
Obligations (including the payment or cash collateralization of any
outstanding Letters of Credit);
9
SIXTH, to all other Obligations and other obligations which shall
have become due and payable under the Other Documents or otherwise and not
repaid pursuant to clauses "FIRST" through "FIFTH" above; and
SEVENTH, to the payment of the surplus, if any, to whoever may be
lawfully entitled to receive such surplus.
In carrying out the foregoing, (i) amounts received shall be applied
in the numerical order provided until exhausted prior to application to
the next succeeding category; (ii) each of the Lenders shall receive (so
long as it is not a Defaulting Lender) an amount equal to its pro rata
share (based on the proportion that the then outstanding Advances held by
such Lender bears to the aggregate then outstanding Advances) of amounts
available to be applied pursuant to clauses "FOURTH", "FIFTH" and "SIXTH"
above; and (iii) to the extent that any amounts available for distribution
pursuant to clause "FIFTH" above are attributable to the issued but
undrawn amount of outstanding Letters of Credit, such amounts shall be
held by the Agent in a cash collateral account and applied (A) first, to
reimburse the Issuer from time to time for any drawings under such Letters
of Credit and (B) then, following the expiration of all Letters of Credit,
to all other obligations of the types described in clauses "FIFTH" and
"SIXTH" above in the manner provided in this Section 11.5.
(k) Section 15.3 of the Loan Agreement is deleted, and is replaced by a
new Section 15.3 to read as follows:
15.3. Successors and Assigns; Participations; New Lenders.
(a) This Agreement shall be binding upon and inure to the
benefit of Borrower, Agent, each Lender, all future holders of the
Obligations and their respective successors and assigns, except that
Borrower may not assign or transfer any of its rights or obligations under
this Agreement without the prior written consent of Agent and each Lender.
(b) Borrower acknowledges that in the regular course of
commercial banking business one or more Lenders may at any time and from
time to time sell participating interests in the Advances to other
financial institutions (each such transferee or purchaser of a
participating interest, a "Participant"). Each Participant may exercise
all rights of payment (including rights of set-off) with respect to the
portion of such Advances held by it or other Obligations payable hereunder
as fully as if such Participant were the direct holder thereof provided
that Borrower shall not be required to pay to any Participant more than
the amount which it would have been required to pay to Lender which
granted an interest in its Advances or other Obligations payable hereunder
to such Participant had such Lender retained such interest in the Advances
hereunder or other Obligations payable hereunder and in no event shall
Borrower be required to pay any such amount arising from the same
circumstances and with respect to the same Advances or other Obligations
payable hereunder to both such Lender and such Participant. Borrower
hereby grants to any Participant a continuing security interest in any
deposits, moneys or other property actually or constructively held by such
Participant as security for the Participant's interest in the Advances.
(c) Any Lender, with the consent of Agent which shall not be
unreasonably withheld or delayed, may sell, assign or transfer all or any
part of its rights and obligations under or relating to Revolving Advances
under this Agreement and the Other Documents to one or more additional
banks or financial institutions and one or more additional banks or
financial institutions may commit to make Advances hereunder (each a
"Purchasing Lender"), in minimum amounts of not less than $5,000,000,
pursuant to a Commitment Transfer Supplement, executed by a Purchasing
Lender, the transferor Lender, and Agent and delivered to Agent for
recording. Upon such execution, delivery, acceptance and recording, from
and after the transfer effective date determined pursuant to such
Commitment Transfer Supplement, (i) Purchasing Lender thereunder shall be
a party hereto and, to the extent provided in such Commitment Transfer
Supplement, have the rights and obligations of a Lender thereunder with a
Commitment Percentage as set forth therein, and (ii) the transferor Lender
thereunder shall, to the extent provided in such Commitment Transfer
Supplement, be released from its obligations under this Agreement, the
Commitment Transfer Supplement creating a novation for that purpose. Such
Commitment Transfer Supplement shall be deemed to amend this Agreement to
the extent, and only to the extent, necessary to reflect the addition of
such Purchasing Lender and the resulting adjustment of the Commitment
Percentages arising from the purchase by such Purchasing Lender of all or
a portion of the rights and obligations of such transferor Lender under
10
this Agreement and the Other Documents. Borrower hereby consents to the
addition of such Purchasing Lender and the resulting adjustment of the
Commitment Percentages arising from the purchase by such Purchasing Lender
of all or a portion of the rights and obligations of such transferor
Lender under this Agreement and the Other Documents. Borrower shall
execute and deliver such further documents and do such further acts and
things in order to effectuate the foregoing.
(d) Any Lender, with the consent of Agent which shall not be
unreasonably withheld or delayed, may directly or indirectly sell, assign
or transfer all or any portion of its rights and obligations under or
relating to Revolving Advances under this Agreement and the Other
Documents to an entity, whether a corporation, partnership, trust, limited
liability company or other entity that (i) is engaged in making,
purchasing, holding or otherwise investing in bank loans and similar
extensions of credit in the ordinary course of its business and (ii) is
administered, serviced or managed by the assigning Lender or an Affiliate
of such Lender (a "Purchasing CLO" and together with each Participant and
Purchasing Lender, each a "Transferee" and collectively the
"Transferees"), pursuant to a Commitment Transfer Supplement modified as
appropriate to reflect the interest being assigned ("Modified Commitment
Transfer Supplement"), executed by any intermediate purchaser, the
Purchasing CLO, the transferor Lender, and Agent as appropriate and
delivered to Agent for recording. Upon such execution and delivery, from
and after the transfer effective date determined pursuant to such Modified
Commitment Transfer Supplement, (i) Purchasing CLO thereunder shall be a
party hereto and, to the extent provided in such Modified Commitment
Transfer Supplement, have the rights and obligations of a Lender
thereunder and (ii) the transferor Lender thereunder shall, to the extent
provided in such Modified Commitment Transfer Supplement, be released from
its obligations under this Agreement, the Modified Commitment Transfer
Supplement creating a novation for that purpose. Such Modified Commitment
Transfer Supplement shall be deemed to amend this Agreement to the extent,
and only to the extent, necessary to reflect the addition of such
Purchasing CLO. Borrower hereby consents to the addition of such
Purchasing CLO. Borrower shall execute and deliver such further documents
and do such further acts and things in order to effectuate the foregoing.
(e) Agent shall maintain at its address a copy of each
Commitment Transfer Supplement and Modified Commitment Transfer Supplement
delivered to it and a register (the "Register") for the recordation of the
names and addresses of each Lender and the outstanding principal, accrued
and unpaid interest and other fees due hereunder. The entries in the
Register shall be conclusive, in the absence of manifest error, and
Borrower, Agent and Lenders may treat each Person whose name is recorded
in the Register as the owner of the Advance recorded therein for the
purposes of this Agreement. The Register shall be available for inspection
by Borrower or any Lender at any reasonable time and from time to time
upon reasonable prior notice. Agent shall receive a fee in the amount of
$3,500 payable by the applicable Purchasing Lender and/or Purchasing CLO
upon the effective date of each transfer or assignment (other than to an
intermediate purchaser) to such Purchasing Lender and/or Purchasing CLO.
(f) Borrower authorizes each Lender to disclose to any
Transferee and any prospective Transferee any and all financial
information in such Lender's possession concerning Borrower which has been
delivered to such Lender by or on behalf of Borrower pursuant to this
Agreement or in connection with such Lender's credit evaluation of
Borrower.
3) ACKNOWLEDGMENTS. Borrower acknowledges and represents that:
(A) the Loan Agreement and Other Documents, as amended hereby, are in full
force and effect without any defense, claim, counterclaim, right or claim
of set-off;
11
(B) to the best of its knowledge, no default by the Agent or Lenders in
the performance of their duties under the Loan Agreement or the Other
Documents has occurred;
(C) all representations and warranties of the Borrower contained herein,
in the Loan Agreement and in the Other Documents are true and correct in
all material respects as of this date, except for any representation or
warranty that specifically refers to an earlier date;
(D) Borrower has taken all necessary action to authorize the execution and
delivery of this Agreement; and
(E) this Agreement is a modification of an existing obligation and is not
a novation.
4) PRECONDITIONS. As a precondition to the effectiveness of any of the
modifications, consents, or waivers contained herein, the Borrower agrees
to:
(A) provide the Agent with this Agreement and the Amended and Restated
Term Note, properly executed;
(B) provide the Agent with a resolution, in form and substance acceptable
to the Agent, which approves the modification contemplated hereby;
(C) pay all legal fees incurred by the Agent in entering into this
Agreement to Wilentz, Goldman & Spitzer via wire transfer; and
(D) pay all other fees and costs incurred by the Lenders in entering into
this Agreement.
5) MISCELLANEOUS. This Agreement shall be construed in accordance with and
governed by the laws of the State of New York, without reference to that
state's conflicts of law principles. This Agreement, the Loan Agreement
and the Other Documents constitute the sole agreement of the parties with
respect to the subject matter thereof and supersede all oral negotiations
and prior writings with respect to the subject matter thereof. No
amendment of this Agreement, and no waiver of any one or more of the
provisions hereof shall be effective unless set forth in writing and
signed by the parties hereto. The illegality, unenforceability or
inconsistency of any provision of this Agreement shall not in any way
affect or impair the legality, enforceability or consistency of the
remaining provisions of this Agreement, the Loan Agreement or the Other
Documents. This Agreement, the Loan Agreement and the Other Documents are
intended to be consistent. However, in the event of any inconsistencies
among this Agreement, the Loan Agreement and/or any of the Other
Documents, the terms of this Agreement, then the Loan Agreement, shall
control. This Agreement may be executed in any number of counterparts and
by the different parties on separate counterparts. Each such counterpart
shall be deemed an original, but all such counterparts shall together
constitute one and the same agreement.
6) DEFINITIONS. The terms used herein and not otherwise defined or modified
herein shall have the meanings ascribed to them in the Loan Agreement. The
terms used herein and not otherwise defined or modified herein or defined
in the Loan Agreement shall have the meanings ascribed to them by the
Uniform Commercial Code as enacted in State of New York.
[SIGNATURES TO FOLLOW]
12
SIGNATURE PAGE TO FIRST AMENDMENT
TO REVOLVING CREDIT, TERM LOAN, EQUIPMENT LINE OF
CREDIT AND SECURITY AGREEMENT
IN WITNESS WHEREOF, the undersigned have signed and sealed this Agreement
the day and year first above written.
ATTEST: AIR INDUSTRIES MACHINING, CORP.
By:_____________________________ By:________________________________
Name: LOUIS A. GIUSTO Name: MICHAEL A. GALES
Title: Vice Chairman Title: Executive Chairman
13
PNC BANK, NATIONAL ASSOCIATION
Lender and as Agent
By:________________________________
Name: STEPHEN V. MANGIANTE
Title: Vice President
14
EXHIBIT 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO
SECTION 302(a) OF THE SARBANES-OXLEY ACT OF 2002
I, Michael A. Gales, Executive Chairman of Gales Industries Incorporated
(the "Company"), certify that:
1. I have reviewed this quarterly report on Form 10-QSB of the Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Company as of,
and for, the periods presented in this report;
4. The Company's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Company and have:
a. Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision, to
ensure that material information relating to the Company, including its
consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this report is being prepared;
b. Evaluated the effectiveness of the Company's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this report based on such evaluation; and
c. Disclosed in this report any change in the Company's internal
control over financial reporting that occurred during the Company's most recent
fiscal quarter (the Company's fourth fiscal quarter in the case of an annual
report) that has materially affected, or is reasonably likely to materially
effect, the Company's internal control over financial reporting; and
5. The Company's other certifying officer(s) and I have disclosed, based
on our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of Company's board of
directors (or persons performing the equivalent functions):
a. All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the Company's ability to record, process,
summarize and report financial information; and
b. Any fraud, whether or not material, that involves management or
other employees who have a significant role in the Company's internal control
over financial reporting.
Date: November 14, 2006 /s/ Michael A. Gales
-------------------------------
Name: Michael A. Gales
Title: Executive Chairman
EXHIBIT 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO
SECTION 302(a) OF THE SARBANES-OXLEY ACT OF 2002
I, Louis A. Giusto, Chief Financial Officer of Gales Industries
Incorporated (the "Company"), certify that:
1. I have reviewed this quarterly report on Form 10-QSB of the Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Company as of,
and for, the periods presented in this report;
4. The Company's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Company and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision, to
ensure that material information relating to the Company, including its
consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this report is being prepared;
(b) Evaluated the effectiveness of the Company's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the Company's most recent
fiscal quarter (the Company's fourth fiscal quarter in the case of an annual
report) that has materially affected, or is reasonably likely to materially
effect, the Company's internal control over financial reporting; and
5. The Company's other certifying officer(s) and I have disclosed, based
on our most recent evaluation of internal control over financial reporting, to
the Company's auditors and the audit committee of Company's board of directors
(or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the Company's ability to record, process,
summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the Company's internal control
over financial reporting.
Date: November 14, 2006 /s/ Louis A. Giusto
--------------------------------
Name: Louis A. Giusto
Title: Chief Financial Officer
EXHIBIT 32.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned
officer of Gales Industries Incorporated (the "Company") does hereby certify, to
such officer's knowledge, that the Quarterly Report on Form 10-QSB of the
Company for the quarter ended September 30, 2006 fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934
and information contained in that Form 10-QSB fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Dated November 14, 2006 /s/ Michael A. Gales
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Michael A. Gales,
Executive Chairman
EXHIBIT 32.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned
officer of Gales Industries Incorporated (the "Company") does hereby certify, to
such officer's knowledge, that the Quarterly Report on Form 10-QSB of the
Company for the quarter ended September 30, 2006 fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934
and information contained in that Form 10-QSB fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Dated: November 14,, 2006 /s/ Louis A. Giusto
----------------------------
Louis A. Giusto
Chief Financial Officer