UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------------------
FORM 10-Q
---------------------------
_X_ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
OR
___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___ to ___
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Commission File No. 33-2794
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POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
State of Organization: California
IRS Employer Identification No. 94-2985086
201 Mission Street, 27th Floor, San Francisco, California 94105
Telephone - (415) 284-7400
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (2) has been subject to such filing
requirements for the past 90 days.
Yes _X_ No ___
This document consists of 19 pages.
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
FORM 10-Q - For the Quarterly Period Ended September 30, 1997
INDEX
Part I. Financial Information Page
Item 1. Financial Statements
a) Balance Sheets - September 30, 1997 and
December 31, 1996........................................3
b) Statements of Operations - Three and Nine Months
Ended September 30, 1997 and 1996........................4
c) Statements of Changes in Partners' Capital
(Deficit) - Year Ended December 31, 1996
and Nine Months Ended September 30, 1997.................5
d) Statements of Cash Flows - Nine Months
Ended September 30, 1997 and 1996........................6
e) Notes to Financial Statements............................7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations...........11
Part II. Other Information
Item 1. Legal Proceedings.......................................17
Item 6. Exhibits and Reports on Form 8-K........................18
Signature ....................................................19
2
Part 1. Financial Information
-----------------------------
Item 1. Financial Statements
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
BALANCE SHEETS
(Unaudited)
September 30, December 31,
1997 1996
---- ----
ASSETS:
CASH AND CASH EQUIVALENTS $ 19,905,524 $ 22,224,813
RENT AND OTHER RECEIVABLES 935,629 6,648
NOTES RECEIVABLE 11,932,202 1,522,956
AIRCRAFT, net of accumulated depreciation of
$68,202,912 in 1997 and $120,260,981 in 1996 47,160,397 63,638,062
AIRCRAFT INVENTORY -- 113,248
OTHER ASSETS 6,991 117,015
------------ ------------
$ 79,940,743 $ 87,622,742
============ ============
LIABILITIES AND PARTNERS' CAPITAL (DEFICIT):
PAYABLE TO AFFILIATES $ 177,345 $ 66,631
ACCOUNTS PAYABLE AND ACCRUED
LIABILITIES 373,124 209,781
SECURITY DEPOSITS 50,000 116,000
MAINTENANCE RESERVES -- 223,528
DEFERRED INCOME 203,335 597,915
NOTES PAYABLE 16,748,131 14,193,178
------------ ------------
Total Liabilities 17,551,935 15,407,033
------------ ------------
PARTNERS' CAPITAL (DEFICIT):
General Partner (1,579,246) (1,480,858)
Limited Partners, 499,997 units
issued and outstanding 63,968,054 73,696,567
------------ ------------
Total Partners' Capital 62,388,808 72,215,709
------------ ------------
$ 79,940,743 $ 87,622,742
============ ============
The accompanying notes are an integral part of these statements.
3
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1997 1996 1997 1996
---- ---- ---- ----
REVENUES:
Rent from operating leases $3,145,676 $ 3,430,000 $11,646,396 $10,368,600
Interest 626,445 384,612 1,316,784 1,168,907
Claims related to lessee defaults -- -- -- 567,500
Loss on sale of aircraft -- (26,079) --
Other 49,240 -- 851,683 49,974
---------- ----------- ----------- -----------
Total Revenues 3,821,361 3,814,612 13,788,784 12,154,981
---------- ----------- ----------- -----------
EXPENSES:
Depreciation 2,221,949 3,309,927 8,291,387 9,329,780
Management fees to general partner 42,815 162,500 409,518 486,500
Provision for credit losses -- 92,508 -- 192,917
Operating 35,332 57,997 117,259 210,047
Interest 415,571 -- 1,267,556 --
Administration and other 87,134 63,968 280,045 216,296
---------- ----------- ----------- -----------
Total Expenses 2,802,801 3,686,900 10,365,765 10,435,540
---------- ----------- ----------- -----------
NET INCOME $1,018,560 $ 127,712 $ 3,423,019 $ 1,719,441
========== =========== =========== ===========
NET INCOME ALLOCATED TO
THE GENERAL PARTNER $ 390,145 $ 413,733 $ 1,226,604 $ 1,254,563
========== =========== =========== ===========
NET INCOME (LOSS) ALLOCATED
TO LIMITED PARTNERS $ 628,415 $ (286,021) $ 2,196,415 $ 464,878
========== =========== =========== ===========
NET INCOME (LOSS) PER LIMITED
PARTNERSHIP UNIT $ 1.26 $ (0.57) $ 4.39 $ 0.93
========== =========== =========== ===========
The accompanying notes are an integral part of these statements.
4
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
STATEMENTS OF CHANGES IN PARTNERS' CAPITAL (DEFICIT)
(Unaudited)
Year Ended December 31, 1996 and
Nine Months Ended September 30, 1997
------------------------------------
General Limited
Partner Partners Total
------- -------- -----
Balance, December 31, 1995 $(1,139,155) $ 107,507,678 $ 106,368,523
Net income (loss) 1,602,730 (16,311,216) (14,708,486)
Cash distributions to partners (1,944,433) (17,499,895) (19,444,328)
----------- ------------- -------------
Balance, December 31, 1996 (1,480,858) 73,696,567 72,215,709
Net income 1,226,604 2,196,415 3,423,019
Cash distributions to partners (1,324,992) (11,924,928) (13,249,920)
----------- ------------- -------------
Balance, September 30, 1997 $(1,579,246) $ 63,968,054 $ 62,388,808
=========== ============= =============
The accompanying notes are an integral part of these statements.
5
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended September 30,
-------------------------------
1997 1996
---- ----
OPERATING ACTIVITIES:
Net income $ 3,423,019 $ 1,719,441
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation 8,291,387 9,329,780
Gain on sale of aircraft inventory (49,240) --
Loss on sale of aircraft 26,079 --
Provision for credit losses -- (153,323)
Changes in operating assets and liabilities,
net of effect of sale of aircraft:
Decrease in marketable securities, trading -- 2,356,506
Decrease (increase) in rent and other receivables (929,403) 241,053
Decrease in other assets 110,024 --
Increase (decrease) in payable to affiliates 110,714 (12,764)
Increase in accounts payable and accrued liabilities 97,944 89,514
Decrease in security deposits (66,000) (400,000)
Increase (decrease) in maintenance reserves (6,453) 60,906
Decrease in deferred income (394,580) --
------------ ------------
Net cash provided by operating activities 10,613,491 13,231,113
------------ ------------
INVESTING ACTIVITIES:
Increase in aircraft capitalized costs (4,784,633) --
Payments to Purchaser related to sale of aircraft (1,001,067) --
Proceeds from sale of aircraft 2,519,495 --
Principal payments on notes receivable 865,904 1,505,689
Net proceeds from sale of aircraft inventory 162,488 203,946
------------ ------------
Net cash provided by (used in) investing activities (2,237,813) 1,709,635
------------ ------------
FINANCING ACTIVITIES:
Increase in notes payable 3,884,633 --
Principal payments on notes payable (1,329,680) --
Cash distributions to partners (13,249,920) (13,749,917)
------------ ------------
Net cash used in financing activities (10,694,967) (13,749,917)
------------ ------------
CHANGES IN CASH AND CASH
EQUIVALENTS (2,319,289) 1,190,831
CASH AND CASH EQUIVALENTS AT
BEGINNING OF PERIOD 22,224,813 25,884,742
------------ ------------
CASH AND CASH EQUIVALENTS AT
END OF PERIOD $ 19,905,524 $ 27,075,573
============ ============
The accompanying notes are an integral part of these statements.
6
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
1. Accounting Principles and Policies
In the opinion of management, the financial statements presented herein include
all adjustments, consisting only of normal recurring items, necessary to
summarize fairly Polaris Aircraft Income Fund II's (the Partnership's) financial
position and results of operations. The financial statements have been prepared
in accordance with the instructions of the Quarterly Report to the Securities
and Exchange Commission (SEC) Form 10-Q and do not include all of the
information and note disclosures required by generally accepted accounting
principles. These statements should be read in conjunction with the financial
statements and notes thereto for the years ended December 31, 1996, 1995, and
1994 included in the Partnership's 1996 Annual Report to the SEC on Form 10-K
(Form 10-K).
2. Sale of Boeing 737-200 Aircraft
On January 30, 1997, one Boeing 737-200 formerly on lease to Viscount Air
Services, Inc. (Viscount), was sold to American Aircarriers Support,
Inc.(American Aircarriers) on an "as-is, where-is" basis for $660,000 cash. In
addition, the Partnership retained maintenance reserves from the previous lessee
of $217,075, that had been held by the Partnership, which were recognized as
additional sale proceeds. A net loss of $26,079 was recorded on the sale of the
aircraft.
3. TWA Lease Extension
GE Capital Aviation Services, Inc (GECAS), on behalf of the Partnership, and
TransWorld Airlines, Inc. (TWA) negotiated for the acquisition of
noise-suppression devices, commonly known as "hushkits," for the 14 Partnership
aircraft currently on lease to TWA, as well as 18 other aircraft beneficially
owned by Polaris Aircraft Income Fund III and Polaris Holding Company and leased
to TWA. Hushkit installation was completed on 11 of the Partnership's aircraft
in November 1996. Installation of hushkits on the remaining three aircraft was
completed during February 1997.
The aggregate cost of the hushkit reconditioning completed in February 1997 for
the 3 remaining aircraft was $4,784,633 or approximately $1.6 million per
aircraft, which was capitalized by the Partnership during 1997. The Partnership
paid $900,000 of the aggregate hushkit cost and the balance of $3,884,633 was
financed by UT Finance Corporation (UT Finance), a wholly owned subsidiary of
United Technologies Corporation, of which a division is Pratt and Whitney Group,
the hushkit manufacturer, over a 6-year period at an interest rate of
approximately 10% per annum.
The rent payable by TWA under the leases has been increased by an amount
sufficient to cover the monthly debt service payments on the hushkits and fully
repay, during the term of the TWA leases, the amount borrowed. The loan from UT
Finance is non-recourse to the Partnership and secured by a security interest in
the lease receivables. The leases for these 3 aircraft were extended for a
period of eight years until February 2005.
4. Sale of Aircraft to Triton
On May 28, 1997, Polaris Investment Management Corporation (the "General
Partner" or "PIMC"), on behalf of the Partnership, executed definitive
7
documentation for the purchase of 7 of the Partnership's 21 remaining aircraft
(the "Aircraft") and certain of its notes receivables by Triton Aviation
Services II LLC, a special purpose company (the "Purchaser"). The closings for
the purchase of the 7 Aircraft occurred from May 28, 1997 to June 16, 1997. The
Purchaser is managed by Triton Aviation Services, Ltd. ("Triton Aviation"or the
"Manager"), a privately held aircraft leasing company which was formed in 1996
by Triton Investments, Ltd., a company which has been in the marine cargo
container leasing business for 17 years and is diversifying its portfolio by
leasing commercial aircraft. Each Aircraft was sold subject to the existing
leases.
The Terms of the Transaction - The total contract purchase price (the "Purchase
Price") to the Purchaser is $13,988,000 which is allocable to the Aircraft and
to certain notes receivable by the Partnership. The Purchaser paid into an
escrow account $1,575,888 of the Purchase Price in cash upon the closing of the
first aircraft and delivered a promissory note (the "Promissory Note") for the
balance of $12,412,112. The Partnership received payment of $1,575,888 from the
escrow account on June 24, 1997.
The Promissory Note is due in 28 quarterly installments of principal and
interest commencing June 30, 1997 in the amount of $608,772 over a period of
seven years bearing interest at a rate of 12% per annum with a balloon principal
payment in the amount of $2,262,866 due on March 31, 2004. The Purchaser has the
right to voluntarily prepay the Promissory Note in whole or in part at any time
without penalty. In addition, the Promissory Note is subject to mandatory
partial prepayment in certain specified instances. The Purchaser is current on
its Promissory Note obligation.
Under the terms of the transaction, the Purchaser's assets, which are limited to
the Aircraft, including any income or proceeds therefrom, and any funds made
available to Purchaser under the working capital line described below constitute
the sole source of payments under the Promissory Note. Although no security
interest over the Aircraft or the leases is granted in favor of the Partnership,
the equity interests in the Purchaser have been pledged to the Partnership. In
connection with that pledge, the Purchaser is prohibited from incurring
indebtedness other than (i) the Promissory Note; (ii) deferred taxes not yet due
and payable; (iii) indebtedness incurred to hushkit Aircraft owned by the
Purchaser; (iv) demand loans to another SPC (defined below) at a market rate of
interest; and (v) debt to trade creditors incurred in the ordinary course of
business. In addition, the Purchaser undertakes to keep the Aircraft and leases
free of any lien, security interest or other encumbrance other than (i) inchoate
taxes and materialmen's liens and the like; (ii) in the event that the Purchaser
elects to install hushkits on any Aircraft, secured debt to the extent of the
full cost of such hushkit and other hushkits acquired with proceeds from the
same loan facility; and (iii) liens lessees are customarily permitted to incur
that are required to be removed. The Purchaser has the right to sell any of the
Aircraft without the consent of the Partnership, except that the Partnership's
consent would be required in the event that the sale price is less than the
portion of the outstanding balance of the Promissory Note which is allocable to
the Aircraft in question and the Purchaser does not have sufficient funds to
make up the difference. In the event that any of the Aircraft are sold by the
Purchaser, the Promissory Note is subject to a mandatory prepayment of the
portion of the Promissory Note which is allocable to the Aircraft sold.
Under the terms of the transaction, the Purchaser's Manager has undertaken to
make available a working capital line to the Purchaser of up to approximately
$1,222,000 to fund operating obligations of the Purchaser. This working capital
line is guaranteed by Triton Investments, Ltd., the parent of the Purchaser's
Manager and such guarantor provided the Partnership with a copy of its most
recent balance sheet showing a consolidated net worth (net of minority
interests) of at least $150-million at December 31, 1996. Provided that the
Purchaser is not in default in making payments due under the Promissory Note to
the Partnership, the Purchaser is permitted to dividend to its equity owners an
amount not to exceed approximately $33,000 per month. The Purchaser may
distribute additional dividends to the equity owners to the extent of the
working capital advances made by the Purchaser's Manager provided that the
working capital line available to the Purchaser will be deemed increased to the
extent of such dividends.
8
Under the purchase agreement, the Purchaser purchased the Aircraft effective as
of April 1, 1997 notwithstanding the actual closing dates. The utilization of an
effective date facilitated the determination of rent and other allocations
between the parties. The Purchaser has the right to receive all income and
proceeds, including rents and receivables, from the Aircraft accruing from and
after April 1, 1997, and the Promissory Note commenced bearing interest as of
April 1, 1997 subject to the closing of the Aircraft. Each Aircraft was sold
subject to the existing leases.
Neither PIMC nor GECAS will receive a sales commission in connection with the
transaction. In addition, PIMC will not be paid a management fee with respect to
the collection of the Promissory Note or on any rents accruing from or after
April 1, 1997 with respect to the 7 Aircraft. Neither PIMC nor GECAS or any of
its affiliates holds any interest in Triton Aviation or any of Triton Aviation's
affiliates. John Flynn, the current President of Triton Aviation, was a Polaris
executive until May 1996 and has over 15 years experience in the commercial
aviation industry. At the time Mr. Flynn was employed at PIMC, he had no
affiliation with Triton Aviation or its affiliates.
Polaris Aircraft Income Fund III, Polaris Aircraft Income Fund IV, Polaris
Aircraft Income Fund V and Polaris Aircraft Income Fund VI have also sold
certain aircraft assets to separate special purpose companies under common
management with the Purchaser (collectively, together with the Purchaser, the
"SPC's") on terms similar to those set forth above, with the exception of the
Polaris Aircraft Income Fund VI aircraft, which were sold on an all cash basis.
The Accounting Treatment of the Transaction - In accordance with generally
accepted accounting principles (GAAP), the Partnership recognized rental income
up until the closing date for each aircraft which occurred from May 28, 1997 to
June 16, 1997. However, under the terms of the transaction, the Purchaser was
entitled to receive payment of the rents, receivables and other income accruing
from April 1, 1997. As a result, the Partnership made payments to the Purchaser
in the amount of the rents, receivables and other income due and received from
April 1, 1997 to the closing date of $1,001,067, which is included in rent from
operating leases and interest income. For financial reporting purposes, the cash
down payment portion of the sales proceeds of $1,575,888 has been adjusted by
the following: income and proceeds, including rents and receivables from the
effective date of April 1, 1997 to the closing date, interest due on the cash
portion of the purchase price, interest on the Promissory Note from the
effective date of April 1, 1997 to the closing date and estimated selling costs.
As a result of these GAAP adjustments, the net adjusted sales price recorded by
the Partnership, including the Promissory Note, was $13,205,140.
The Aircraft sold pursuant to the definitive documentation executed on May 28,
1997 had been classified as aircraft held for sale from that date until the
actual closing date. Under GAAP, aircraft held for sale are carried at their
fair market value less estimated costs to sell. The adjustment to the sales
proceeds described above and revisions to estimated costs to sell the Aircraft
required the Partnership to record an adjustment to the net carrying value of
the aircraft held for sale of $749,373 during the three months ended June 30,
1997. This adjustment to the net carrying value of the aircraft held for sale is
included in depreciation and amortization expense on the statement of
operations.
5. Related Parties
Under the Limited Partnership Agreement, the Partnership paid or agreed to pay
the following amounts for the current quarter to the general partner, PIMC, in
connection with services rendered or payments made on behalf of the Partnership:
9
Payments for the
Three Months Ended Payable at
September 30, 1997 September 30, 1997
------------------ ------------------
Aircraft Management Fees $ 72,128 $ 94,713
Out-of-Pocket Administrative and Selling
Expense Reimbursement 97,180 38,994
Out-of-Pocket Operating Expense
Reimbursement 67,436 43,638
-------- --------
$236,744 $177,345
======== ========
10
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
At September 30, 1997, Polaris Aircraft Income Fund II (the Partnership) owned a
portfolio of 14 used commercial jet aircraft and certain inventoried aircraft
parts out of its original portfolio of 30 aircraft. The portfolio consists of 14
McDonnell Douglas DC-9-30 aircraft leased to Trans World Airlines, Inc. (TWA).
The Partnership transferred six Boeing 727-200 aircraft, previously leased to
Pan American World Airways, Inc., to aircraft inventory in 1992. These aircraft
have been disassembled for sale of their component parts. Of its original
portfolio, the Partnership sold one Boeing 727-200 aircraft in February 1995,
one Boeing 737-200 Combi aircraft in March 1996, and one Boeing 737-200 aircraft
in January 1997. During the second quarter of 1997, the Partnership sold three
McDonnell Douglas DC-9-30 aircraft and one McDonnell Douglas DC-9-40 aircraft
leased to TWA, two Boeing 727-200 Advanced aircraft leased to Continental
Micronesia, Inc. (Continental Micronesia), and one Boeing 727-200 Advanced
aircraft leased to Continental Airlines, Inc. (Continental), to Triton Aviation
Services II LLC.
Sale of Boeing 737-200 Aircraft
On January 30, 1997, one Boeing 737-200 formerly on lease to Viscount, was sold
to American Aircarriers Support, Inc.(American Aircarriers) on an "as-is,
where-is" basis for $660,000 cash. In addition, the Partnership retained
maintenance reserves from the previous lessee of $217,075, that had been held by
the Partnership, which were recognized as additional sale proceeds. A net loss
of $26,079 was recorded on the sale of the aircraft.
TWA Lease Extension
GE Capital Aviation Services, Inc. (GECAS), on behalf of the Partnership, and
TWA negotiated for the acquisition of noise-suppression devices, commonly known
as "hushkits," for the 14 Partnership aircraft currently on lease to TWA, as
well as 18 other aircraft beneficially owned by Polaris Income Fund III and
Polaris Holding Company and leased to TWA. Hushkit installation was completed on
11 of the Partnership's aircraft in November 1996. Installation of hushkits on
the remaining three aircraft was completed during February 1997.
The aggregate cost of the hushkit reconditioning completed in February 1997 for
the three remaining aircraft was $4,784,633, or approximately $1.6 million per
aircraft, which was capitalized by the Partnership during 1997. The Partnership
paid $900,000 of the aggregate hushkit cost and the balance of $3,884,633 was
financed by UT Finance Corporation (UT Finance), a wholly owned subsidiary of
United Technologies Corporation, of which a division is Pratt and Whitney Group,
the hushkit manufacturer, over a 6-year period at an interest rate of
approximately 10% per annum.
The rent payable by TWA under the leases has been increased by an amount
sufficient to cover the monthly debt service payments on the hushkits and fully
repay, during the term of the TWA leases, the amount borrowed. The loan from UT
Finance is non-recourse to the Partnership and secured by a security interest in
the lease receivables. The leases for these three aircraft were extended for a
period of eight years until February 2005.
Sale of Aircraft to Triton
On May 28, 1997, Polaris Investment Management Corporation (the "General
Partner" or "PIMC"), on behalf of the Partnership, executed definitive
documentation for the purchase of 7 of the Partnership's 21 remaining aircraft
(the "Aircraft") and certain of its notes receivables by Triton Aviation
Services II LLC, a special purpose company (the "Purchaser" or "Triton"). The
closings for the purchase of the 7 Aircraft occurred from May 28, 1997 to June
16, 1997. The Purchaser is managed by Triton Aviation Services, Ltd. ("Triton
Aviation" or the "Manager"), a privately held aircraft leasing company which was
formed in 1996 by Triton Investments, Ltd., a company which has been in the
11
marine cargo container leasing business for 17 years and is diversifying its
portfolio by leasing commercial aircraft. Each Aircraft was sold subject to the
existing leases.
The General Partner's Decision to Approve the Transaction - In determining
whether the transaction was in the best interests of the Partnership and its
unitholders, the General Partner evaluated, among other things, the risks and
significant expenses associated with continuing to own and remarket the Aircraft
(many of which were subject to leases that were nearing expiration). The General
Partner determined that such a strategy could require the Partnership to expend
a significant portion of its cash reserves for remarketing and that there was a
substantial risk that this strategy could result in the Partnership having to
reduce or even suspend future cash distributions to limited partners. The
General Partner concluded that the opportunity to sell the Aircraft at an
attractive price would be beneficial in the present market where demand for
Stage II aircraft is relatively strong rather than attempting to sell the
aircraft "one-by-one" over the coming years when the demand for such Aircraft
might be weaker. GE Capital Aviation Services, Inc. ("GECAS"), which provides
aircraft marketing and management services to the General Partner, sought to
obtain the best price and terms available for these Stage II aircraft given the
aircraft market and the conditions and types of planes owned by the Partnership.
Both the General Partner and GECAS approved the sale terms of the Aircraft (as
described below) as being in the best interest of the Partnership and its unit
holders because both believe that this transaction will optimize the potential
cash distributions to be paid to limited partners. To ensure that no better
offer could be obtained, the terms of the transaction negotiated by GECAS
included a "market-out" provision that permitted the Partnership to elect to
accept an offer for all (but not less than all) of the assets to be sold by it
to the Purchaser on terms which it deemed more favorable, with the ability of
the Purchaser to match the offer or decline to match the offer and be entitled
to be compensated in an amount equal to 1 1/2% of the Purchaser's proposed
purchase price. The Partnership did not receive any other offers and,
accordingly, the General Partner believes that a valid market check has occurred
confirming that the terms of this transaction were the most beneficial that
could have been obtained.
The Terms of the Transaction - The total contract purchase price (the "Purchase
Price") to the Purchaser is $13,988,000 which is allocable to the Aircraft and
to certain notes receivable by the Partnership. The Purchaser paid into an
escrow account $1,575,888 of the Purchase Price in cash upon the closing of the
first aircraft and delivered a promissory note (the "Promissory Note") for the
balance of $12,412,112. The Partnership received payment of $1,575,888 from the
escrow account on June 24, 1997.
The Promissory Note is due in 28 quarterly installments of principal and
interest commencing June 30, 1997 in the amount of $608,772 over a period of
seven years bearing interest at a rate of 12% per annum with a balloon principal
payment in the amount of $2,262,866 due on March 31, 2004. The Purchaser has the
right to voluntarily prepay the Promissory Note in whole or in part at any time
without penalty. In addition, the Promissory Note is subject to mandatory
partial prepayment in certain specified instances. The Purchaser is current on
its Promissory Note obligation.
Under the terms of the transaction, the Purchaser's assets, which are limited to
the Aircraft, including any income or proceeds therefrom, and any funds made
available to Purchaser under the working capital line described below constitute
the sole source of payments under the Promissory Note. Although no security
interest over the Aircraft or the leases is granted in favor of the Partnership,
the equity interests in the Purchaser have been pledged to the Partnership. In
connection with that pledge, the Purchaser is prohibited from incurring
indebtedness other than (i) the Promissory Note; (ii) deferred taxes not yet due
and payable; (iii) indebtedness incurred to hushkit Aircraft owned by the
Purchaser; (iv) demand loans to another SPC (defined below) at a market rate of
interest; and (v) debt to trade creditors incurred in the ordinary course of
business. In addition, the Purchaser undertakes to keep the Aircraft and leases
free of any lien, security interest or other encumbrance other than (i) inchoate
taxes and materialmen's liens and the like; (ii) in the event that the Purchaser
elects to install hushkits on any Aircraft, secured debt to the extent of the
full cost of such hushkit and other hushkits acquired with proceeds from the
same loan facility; and (iii) liens lessees are customarily permitted to incur
that are required to be removed. The Purchaser has the right to sell any of the
12
Aircraft without the consent of the Partnership, except that the Partnership's
consent would be required in the event that the sale price is less than the
portion of the outstanding balance of the Promissory Note which is allocable to
the Aircraft in question and the Purchaser does not have sufficient funds to
make up the difference. In the event that any of the Aircraft are sold by the
Purchaser, the Promissory Note is subject to a mandatory prepayment of the
portion of the Promissory Note which is allocable to the Aircraft sold.
Under the terms of the transaction, the Purchaser's Manager has undertaken to
make available a working capital line to the Purchaser of up to approximately
$1,222,000 to fund operating obligations of the Purchaser. This working capital
line is guaranteed by Triton Investments, Ltd., the parent of the Purchaser's
Manager and such guarantor provided the Partnership with a copy of its most
recent balance sheet showing a consolidated net worth (net of minority
interests) of at least $150-million at December 31, 1996. Provided that the
Purchaser is not in default in making payments due under the Promissory Note to
the Partnership, the Purchaser is permitted to dividend to its equity owners an
amount not to exceed approximately $33,000 per month. The Purchaser may
distribute additional dividends to the equity owners to the extent of the
working capital advances made by the Purchaser's Manager provided that the
working capital line available to the Purchaser will be deemed increased to the
extent of such dividends.
Under the purchase agreement, the Purchaser purchased the Aircraft effective as
of April 1, 1997 notwithstanding the actual closing dates. The utilization of an
effective date facilitated the determination of rent and other allocations
between the parties. The Purchaser has the right to receive all income and
proceeds, including rents and receivables, from the Aircraft accruing from and
after April 1, 1997, and the Promissory Note commenced bearing interest as of
April 1, 1997 subject to the closing of the Aircraft. Each Aircraft was sold
subject to the existing leases.
Neither PIMC nor GECAS will receive a sales commission in connection with the
transaction. In addition, PIMC will not be paid a management fee with respect to
the collection of the Promissory Note or on any rents accruing from or after
April 1, 1997 with respect to the 7 Aircraft. Neither PIMC nor GECAS or any of
its affiliates holds any interest in Triton Aviation or any of Triton Aviation's
affiliates. John Flynn, the current President of Triton Aviation, was a Polaris
executive until May 1996 and has over 15 years experience in the commercial
aviation industry. At the time Mr. Flynn was employed at PIMC, he had no
affiliation with Triton Aviation or its affiliates.
Polaris Aircraft Income Fund III, Polaris Aircraft Income Fund IV, Polaris
Aircraft Income Fund V and Polaris Aircraft Income Fund VI have also sold
certain aircraft assets to separate special purpose companies under common
management with the Purchaser (collectively, together with the Purchaser, the
"SPC's") on terms similar to those set forth above, with the exception of the
Polaris Aircraft Income Fund VI aircraft, which were sold on an all cash basis.
The Accounting Treatment of the Transaction - In accordance with generally
accepted accounting principles (GAAP), the Partnership recognized rental income
up until the closing date for each aircraft which occurred from May 28, 1997 to
June 16, 1997. However, under the terms of the transaction, the Purchaser was
entitled to receive payment of the rents, receivables and other income accruing
from April 1, 1997. As a result, the Partnership made payments to the Purchaser
in the amount of the rents, receivables and other income due and received from
April 1, 1997 to the closing date of $1,001,067, which is included in rent from
operating leases and interest income. For financial reporting purposes, the cash
down payment portion of the sales proceeds of $1,575,888 has been adjusted by
the following: income and proceeds, including rents and receivables from the
effective date of April 1, 1997 to the closing date, interest due on the cash
portion of the purchase price, interest on the Promissory Note from the
effective date of April 1, 1997 to the closing date and estimated selling costs.
As a result of these GAAP adjustments, the net adjusted sales price recorded by
the Partnership, including the Promissory Note, was $13,205,140.
The Aircraft sold pursuant to the definitive documentation executed on May 28,
1997 had been classified as aircraft held for sale from that date until the
13
actual closing date. Under GAAP, aircraft held for sale are carried at their
fair market value less estimated costs to sell. The adjustment to the sales
proceeds described above and revisions to estimated costs to sell the Aircraft
required the Partnership to record an adjustment to the net carrying value of
the aircraft held for sale of $749,373 during the three months ended June 30,
1997. This adjustment to the net carrying value of the aircraft held for sale is
included in depreciation and amortization expense on the statement of
operations.
Partnership Operations
The Partnership recorded net income of $1,018,560, or $1.26 per limited
partnership unit during the three months ended September 30, 1997, compared to
net income of $127,712, or an allocated net loss of $0.57 per limited
partnership unit, for the same period in 1996. The Partnership recorded net
income of $3,423,019, or $4.39 per limited partnership unit during the nine
months ended September 30, 1997, compared to net income of $1,719,441, or $0.93
per limited partnership unit, for the same period in 1996.
Rental revenues, net of related management fees, increased during the nine
months ended September 30, 1997, compared to the same periods in 1996. This
increase was primarily the result of an increase in rental revenues from TWA. In
November 1996 and February 1997, installation of hushkits was completed on the
14 aircraft leased to TWA and the leases were extended for eight years. The rent
payable by TWA under the leases has been increased by an amount sufficient to
cover the monthly debt service payments on the hushkits and fully repay, during
the term of the TWA leases, the amount borrowed. The Partnership recorded
$415,571 and $1,267,556 in interest expense on the amount borrowed to finance
the hushkits during the three and nine months ended September 30, 1997,
respectively. The decrease in rental revenues during the three months ended
September 30, 1997 was due to the sale of the 8 Aircraft to Triton during the
second quarter of 1997. In addition to the decrease in rental revenues, the sale
of the 8 Aircraft to Triton caused a decrease in depreciation expense and
management fees.
The increase in interest income during the three and nine months ended September
30, 1997, as compared to the same period in 1996, was attributable to interest
earned on the Promissory Note related to the Triton sale that occurred during
the second quarter of 1997. Partially offsetting this increase, was a decrease
in interest earned on the cash reserves balances retained by the Partnership at
September 30, 1997 as compared to September 30, 1996.
The Partnership recorded an increase in other revenue during the nine months
ended September 30, 1997. This increase in other income was the result of the
receipt of $802,443 related to amounts due under the TWA maintenance credit and
rent deferral agreement.
Partially offsetting the increase in 1997 net income was a net loss recorded on
the sale of the Boeing 737- 200 aircraft to American Aircarriers for $660,000
cash in January 1997. In addition, the Partnership retained maintenance reserves
from the previous lessee of $217,075, which were recognized as additional sale
proceeds. A net loss of $26,079 was recorded on the sale of aircraft.
In consideration for a rent deferral, the Partnership received warrants to
purchase 227,133 shares of TWA Common Stock from TWA in November 1995 and
exercised the warrants on December 29, 1995. The Partnership sold the TWA Common
Stock by February 1996, net of broker commissions, for $2,406,479 and recognized
a gain on trading securities of $49,974 during the first quarter of 1996, which
is included in other revenue.
In May 1996, the Partnership received from Pan American World Airways, Inc. (Pan
Am) a payment of $567,500 as full satisfaction of the Partnership's
administrative expense priority claim. The Partnership has recorded this payment
as revenue in claims related to lessee defaults in the statement of operations.
The Partnership's balance sheet shows an increase in rent and other receivables
at September 30, 1997, as compared to December 31, 1996. This increase in rent
14
and other receivables was the result of certain rental payments due from TWA on
September 27, 1997 that were subsequently received by the Partnership on October
2, 1997.
The decrease in the deferred income balance at September 30, 1997 is
attributable to differences between the payments due and the rental income
earned on the TWA leases for the 14 Partnership aircraft currently on lease to
TWA that were extended in 1996 and 1997. For income recognition purposes, the
Partnership recognizes rental income over the life of the lease in equal monthly
amounts. As a result, the difference between rental income earned and the rental
payments due is recognized as deferred income. The rental income earned on the
TWA leases during the nine months ended September 30, 1997 exceeded the rental
payments due from TWA, causing a decrease in the deferred income balance.
The Partnership recorded an allowance for credit losses of $100,409 during the
first quarter of 1996 for certain unpaid rent and accrued interest receivables
from Viscount as a result of Viscount's default on certain obligations due the
Partnership and Viscount's subsequent bankruptcy filing. The Partnership
recorded an allowance for credit losses of $92,508 during the third quarter of
1996 for Viscount's outstanding balance of the line of credit and accrued
interest. In addition, the Partnership recognized legal expenses of
approximately $123,000 related to the Viscount defaults and Chapter 11
bankruptcy filing. These legal costs are included in operating expense in the
Partnership's statement of operations for the nine months ended September 30,
1996. In addition, the Partnership recognized an impairment loss of $300,000 on
the aircraft formerly leased to Viscount, which was recorded as additional
depreciation expense during the third quarter of 1996.
Administration and other expenses increased during the three and nine months
ended September 30, 1997 as compared to the same periods in 1996, due to
increases in printing and postage costs combined with an increase in outside
services.
Liquidity and Cash Distributions
Liquidity -The Partnership received all payments due from Triton and all lease
payments due from lessees during the nine months ended September 30, 1997,
except for the September 1997 lease payment from TWA. On October 2, 1997, the
Partnership received its $935,000 rental payment from TWA that was due on
September 27, 1997. This amount was included in rent and other receivables on
the balance sheet at September 30, 1997. As discussed above, the Partnership
received from TWA warrants to purchase 227,133 shares of TWA Common Stock in
consideration for a rent deferral. The Partnership exercised the warrants in
1995 and sold the TWA Common Stock in the first quarter of 1996, net of broker
commissions, for $2,406,479.
Payments of $162,488 and $203,946 have been received during the first three
quarters of 1997 and 1996, respectively, from the sale of inventoried parts from
the six disassembled aircraft and have been applied against aircraft inventory.
The net book value of the Partnership's aircraft inventory was $0 as of
September 30, 1997.
PIMC has determined that the Partnership maintain cash reserves as a prudent
measure to insure that the Partnership has available funds in the event that the
aircraft presently on lease to TWA require remarketing, the Purchaser defaults
under the Promissory Note, and for other contingencies including expenses of the
Partnership. The Partnership's cash reserves will be monitored and may be
revised from time to time as further information becomes available in the
future.
Cash Distributions - Cash distributions to limited partners during the three
months ended September 30, 1997 and 1996 were $3,799,977, or $7.60 per limited
partnership unit and $4,124,975, or $8.25 per unit, respectively. Cash
distributions to limited partners during the nine months ended September 30,
1997 and 1996 were $11,924,928, or $23.85 per limited partnership unit and
$12,734,926 or $24.75 per unit, respectively. The timing and amount of future
cash distributions are not yet known and will depend on the Partnership's future
15
cash requirements (including expenses of the Partnership) and need to retain
cash reserves as previously discussed in the Liquidity section; the receipt of
rental payments from TWA; the receipt of note payments from Triton; and payments
generated from the aircraft disassembly process.
16
Part II. Other Information
--------------------------
Item 1. Legal Proceedings
As discussed in Item 3 of Part I of Polaris Aircraft Income Fund II's (the
Partnership) 1996 Annual Report to the Securities and Exchange Commission (SEC)
on Form 10-K (Form 10-K) and in Item 1 of Part II of the Partnership's Quarterly
Report to the SEC on Form 10-Q (Form 10-Q) for the periods ended March 31, 1997
and June 30, 1997, there are a number of pending legal actions or proceedings
involving the Partnership. Except as discussed below, there have been no
material developments with respect to any such actions or proceedings during the
period covered by this report.
Viscount Air Services, Inc. (Viscount) Bankruptcy - As discussed in the
Partnership's 1996 Form 10- K, First Security Bank, National Association (FSB),
the owner/trustee under the Partnership's leases with Viscount, is involved in
litigation with BAE Aviation, Inc., dba Tucson Aerospace, STS Services, Inc. and
Piping Design Services, Inc., dba PDS Technical Services, which assert
mechanics' liens over an airframe for the aircraft bearing registration no.
N306VA (the "306 Aircraft") belonging to the Partnership. As previously
disclosed, the Superior Court heard cross-motions for summary judgment on July
7, 1997. On September 5, 1997, the Court determined that STS Services, Inc. did
not have a lien under a filing in Tennessee. The Court denied FSB's motion for
summary judgment concerning assignment of the lien, but granted a motion for
summary judgment in part, ruling that the claim against the bond may not exceed
the value of the 306 Aircraft. The case continues in discovery and pretrial
preparation.
As reported in the Partnership's Form 10-Q for the period ended June 30, 1997,
FSB, as owner trustee, is involved in litigation against Thomas Cook, a painter
who was holding the right elevator at his shop due to an unpaid bill. On July
29, 1997, the Superior Court denied FSB's motion for summary judgment and
determined that a worker holding an aircraft part may claim a lien for the
charges associated with the particular item. The Court directed Mr. Cook to
provide documentation of his claim limited to work on the elevator he is
holding.
Equity Resources, Inc., et al. v. Polaris Investment Management Corporation, et
al. - As previously disclosed, on May 23, 1997, the defendants filed a motion to
dismiss this action. Subsequently, plaintiffs voluntarily sought dismissal of
their suit without prejudice. On September 16, 1997, the court dismissed
plaintiffs' complaint without prejudice.
Ron Wallace v. Polaris Investment Management Corporation, et al. - On September
2, 1997, an amended complaint was filed adding additional plaintiffs. On
September 16, 1997, the Polaris defendants filed a demurrer seeking to dismiss
the amended complaint. Simultaneously with the filing of the demurrer, the
Polaris defendants sought a stay of discovery. The hearing on the demurrer
occurred on November 4, 1997. On November 5, 1997, the court granted the Polaris
defendants' demurrer and ordered that plaintiffs be given 10 days leave to amend
their complaint to plead demand futility.
On or about October 14, 1997, the plaintiffs in this action filed a separate
Petition for Writ of Mandate in the San Francisco Superior Court entitled Ron
Wallace, et al. v. Polaris Investment Management Corp., et al., seeking to
obtain access to all the Partnership's books, records and documents.
Subsequently, pursuant to an agreement between the parties, plaintiffs agreed to
dismiss their Petition for Writ of Mandate with prejudice and the Polaris
defendants agreed to withdraw its motion seeking a stay of discovery.
Other Proceedings - Item 10 in Part III of the Partnership's 1996 Form 10-K and
Item 1 in Part II of the Partnership's Form 10-Q for the periods ended March 31,
1997 and June 30, 1997 discuss certain actions which have been filed against
Polaris Investment Management Corporation and others in connection with the sale
of interests in the Partnership and the management of the Partnership. With the
exception of Novak, et al v. Polaris Holding Company, et al, (which has been
17
dismissed, as discussed in the Partnership's 1996 Form 10-K) where the
Partnership was named as a defendant for procedural purposes, the Partnership is
not a party to these actions. There have been no material developments with
respect to any of the actions described therein during the period covered by
this report.
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits (numbered in accordance with Item 601 of Regulation S-K)
27. Financial Data Schedule
b) Reports on Form 8-K
A Current Report on Form 8-K/A, dated May 28, 1997, amending certain
exhibits listed in Item 7, was filed on August 18, 1997.
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SIGNATURE
Pursuant to the requirements of section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
POLARIS AIRCRAFT INCOME FUND II,
A California Limited Partnership
(Registrant)
By: Polaris Investment
Management Corporation,
General Partner
November 12, 1997 By: /S/Marc A. Meiches
- -------------------------------- --------------------------------
Mark A. Meiches
Chief Financial Officer
(principal financial officer and
principal accounting officer of
Polaris Investment Management
Corporation, General Partner of
the Registrant)
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