SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): August 29, 1997
AVIATION DISTRIBUTORS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 0-29028 33-0715685
(State or other jurisdiction of (Commission File Number) (I.R.S. Employer
incorporation or organization) Identification No.)
ONE WRIGLEY DRIVE
IRVINE, CALIFORNIA 92618
(Address of Principal Executive Office) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (714) 586-7558
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ITEM 4. CHANGE IN REGISTRANT'S CERTIFYING ACCOUNTANT.
WITHDRAWAL OF REPORTS; RESIGNATION OF AUDITOR. On Friday, August 29,
1997, Arthur Andersen LLP (the "Former Auditor") requested a meeting with the
Chairman of the Audit Committee of Aviation Distributors, Inc. (the
"Company") and Kenneth A. Lipinski, an independent consultant to the Audit
Committee, at which the Former Auditor disclosed its decision to withdraw its
previously issued reports on the Company's financial statements dated
December 31, 1994, 1995, and 1996 and June 30, 1996 (collectively, the
"Withdrawn Reports"). Afterwards, the Former Auditor expressed the need to
meet internally to discuss the possibility of resigning as the Company's
independent auditors. Later that afternoon, the Former Auditor delivered its
letter of resignation to the Chairman of the Audit Committee. A copy of the
Letter is filed as an exhibit (see Exhibit 7.1 to Item 7 below) to this
Current Report on Form 8-K and incorporated herein in its entirety by this
reference (the "Letter").
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In the Letter, the Former Auditor advised the Company that the Former
Auditor believes that the Company (i) prepared false sales invoices and
provided them to the Company's former bank to obtain financing; (ii) that the
Company prepared false documents and provided them to the Former Auditor to
support the collectibility of accounts receivable balances; and (iii) that
the Company prepared false documents which resulted in inappropriate
recording of sales at December 31, 1996 on orders that had not been shipped
as of that date. The Former Auditor also advised the Company that it
believes that the foregoing matters have had a material impact on the
Company's December 31, 1996 financial statements and that they occurred with
the knowledge and involvement of management of the Company. Based on its
beliefs, the Former Auditor was unwilling to continue to rely on management's
representations in connection with its audits of the Company's financial
statements and unwilling to serve as the Company's independent public
accountant.
The Company understands that one of the allegations of the Former Auditor
relates to certain transactions with the Company's former bank. The former
bank was paid in full in June 1997. See Item 5, Other Events, for additional
information relating to the status of the Company's relationship with BNY
Financial Corporation, its current bank.
With respect to the allegations
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in the Letter, the Company is in the process of engaging a replacement
auditor to evaluate the Former Auditor's concerns and commence an audit of
the Company's financial statements at December 31, 1995 and 1996 and at
September 30, 1997.
None of the Withdrawn Reports contained an adverse opinion or disclaimer of
opinion, nor were the Withdrawn Reports qualified or modified as to uncertainty,
audit scope, or accounting principles.
OTHER DISAGREEMENTS. In May 1996, the Former Auditor informed the Company
of significant deficiencies in the design and operation of its internal
controls that it had observed in connection with its audit of the Company's
December 31, 1995 financial statements. The Company addressed these
deficiencies by hiring a new Chief Financial Officer and a new Chief
Accounting Officer in June 1996, as well as implementing changes in its
internal controls.
In connection with the December 31, 1996 audit, the Former Auditor proposed
an adjustment to the bad debt reserve for $100,000. The matter was discussed
with management and an adjustment was made which satisfied the Former
Auditor, who then issued an unqualified report for that period.
In connection with limited review procedures performed on the quarter
ended March 31, 1997, the Former Auditor became aware of the fact that
certain receivables were collected by accepting inventory from some customers.
These inventory exchanges are non-monetary transactions which the Former
Auditor believed should not have resulted in the recognition of revenue
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and profit on the related orginal sales. Management of the Company believed
that its recognition policy was in accordance with industry standards. The
Former Auditor proposed an adjustment to reverse the original profit relating
to these exchanges. No amount was recorded in the first quarter as
management believed that it had excess reserves in inventory and had
overaccrued on certain liabilities, which would negate any impact on the
quarterly results.
In connection with limited review procedures performed on the
quarter ended June 30, 1997, the Former Auditor raised issues with respect
to (i) a sale for $240,000 recorded in June 1997 which may not have been
shipped until July 3, 1997, (ii) the level of bad debt and credit memo
reserves, which on the basis of limited testing by the Former Auditor, was
believed by it to be in the range of $125,000 to $250,000 low, and (iii)
additional inventory exchanges recorded in the second quarter. In response to
discussions with the Former Auditor concerning these items, the Company
adopted the recommendation to increase the reserves for bad debts and credit
memos to $346,000 and reversed several excess accrued liabilities and part of
its inventory reserves. The Company also made the adjustment necessary to
reverse the $240,000 sale transaction in question. The Former Auditor
continues to express concern that further adjustments may be required upon
completion of the review of the matters addressed in the Letter.
Subsequent to the issuance of the press release by the Company of its
second quarter 1997 results and prior to the Company's filing of its second
quarter 1997 Form 10-Q, which did include known adjustments recommended by the
Former Auditor, the Former Auditor requested and the Company agreed to delay
the filing of a registration statement for a secondary offering until certain
allegations brought to the attention of the Former Auditor were completely
reviewed and evaluated as to the potential impact on the Company's previously
released financial reports.
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The Company expressed a concern to the Former Auditor regarding numerous
changes of experienced personnel, including the audit partners, and as to
whether these changes were the cause of increasing audit costs.
The Company will authorize the Former Auditor to respond fully to the
inquiries of a successor auditor, when selected, concerning the subject
matter of each of the foregoing disagreements.
COMMUNICATIONS BETWEEN THE FORMER AUDITOR AND THE AUDIT COMMITTEE. On
July 24, 1997, the Former Auditor notified an outside director that it had
become aware of information from an informant(s) regarding the Company's
practices, including allegations of falsification of documents given to the
Former Auditor and allegations of improper financial reporting and, based
upon a limited procedural review, the Former Auditor reiterated its concern
about the filing for a secondary offering. The Company had previously agreed
to delay the secondary offering based upon the Former Auditor's disclosure to
management that the Former Auditor needed more time to perform additional
tests of the Company's internal controls and reporting procedures. The Former
Auditor requested a meeting with all of the outside Directors.
On July 25, 1997, two of the outside Directors, the Company's securities
counsel, and representatives of the Former Auditor participated in a
conference call wherein the Former Auditor informed the Directors that the
allegations included (i) the existence of previously undisclosed related
party transactions, (ii) falsified documents, such as shipping documents,
receiving reports, and purchase orders, (iii) fictitious sales and exchanges
of inventory, and (iv) improper recording of sales and receivable agings to
misrepresent the characterization of accounts receivable.
On July 25, 1997, the Board of Directors of the Company appointed the three
non-employee Directors to serve on the Company's Audit Committee. On July 28,
1997, the Audit Committee engaged the Former Auditor to conduct an investigation
into the allegations.
On August 9, 1997, the Former Auditor participated in a conference call
with two of the members of the Audit Committee and special counsel to the
Company to update the status of the investigation work. The Former Auditor
reported that they believed that some of the allegations had proven correct,
most significantly, that false invoices had been created and sent to the
Company's former bank in order to
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obtain financing on the accounts receivable and working capital lines. In
addition, the Former Auditor reported that there had been an admission by a
Company employee that a falsified document was prepared purporting to document
an inventory exchange and that the false document had been provided to the
Former Auditor in connection with its limited review procedures in the first
quarter of 1997. The Former Auditor also recommended that the Board replace or
suspend the Chief Executive Officer, bring in a senior management person to
direct the Company's investigation, and discuss requirements for disclosure of
the investigation with its legal counsel.
On August 12, 1997, the Audit Committee engaged the services of Kenneth A.
Lipinski, an independent consultant reporting directly to the Audit Committee,
to work with the Former Auditor in connection with the investigation, to monitor
the performance of the Company's accounting personnel, and to make
recommendations to the Audit Committee with respect to the subject matter of the
allegations.
On August 29, 1997, the consultant and two members of the Audit Committee
met with the Former Auditor to discuss the status of the Former Auditor's
investigation. At the meeting, the Former
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Auditor indicated that on August 28, 1997 it internally came to the conclusion
that the December 31, 1996 financial statements were materially misstated and
the Former Auditor delivered the Letter to the Company.
ITEM 5. OTHER EVENTS.
The Company reported the following additional events:
1. The Company met with BNY on September 3, 1997 to advise BNY of
the actions taken by the Former Auditor. BNY agreed that it would waive the
violations of loan covenants requiring audited financial statements for a
90-day period to enable the Company to complete an audit of its financial
statements. In consideration of the waiver, the Company and BNY agreed to
amend their Credit and Security Agreement dated June 25, 1997 to provide for,
among other things, the personal guarantee of the Company's Chief Executive
Officer. BNY has indicated its intention to continue to monitor the
situation. Pursuant to compliance with the terms of the amended Credit and
Security Agreement, the Company believes it will be able to maintain the
$15.0 million credit facility in place.
2. On September 8, 1997, the Company announced the election of
Kenneth A. Lipinski as Chief Operating Officer. Mr. Lipinski will report
directly to the Audit Committee of the Board of Directors and will have
managerial control over all accounting and administrative functions of the
Company.
3. On September 8, 1997, the Company announced the formation of an
Executive Committee to monitor the day-to-day activities of the Company and to
approve transactions out of the ordinary course of business. The members of the
Executive Committee will be the Company's Chief Executive Officer, the Company's
Chief Operating Officer, and the Chairman of the Company's Audit Committee.
4. The Company is also evaluating other corporate governance and
structural changes which have not been finalized as of the date of the filing of
this Report.
ITEM 7. FINANCIAL STATEMENTS AND EXHIBITS.
7.1 Letter from Arthur Andersen LLP to the Board of Directors of the
Company dated August 29, 1997.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
AVIATION DISTRIBUTORS, INC.
September 8, 1997 By: /s/OSAMAH S. BAKHIT
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Osamah S. Bakhit, President
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