- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 - --------------------- FORM 10-K (Mark One) [ X ]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the period ended DECEMBER 31, 1997 [ ]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: 1-8984 WEDGESTONE FINANCIAL (Exact Name of Registrant as Specified in its Charter) MASSACHUSETTS 04-26950000 (State or other jurisdiction (I.R.S. Employer of incorporation) Identification Number) 5200 N. IRWINDALE AVENUE SUITE 168 IRWINDALE, CALIFORNIA 91706 (626) 338-3555 (Address, including zip code and telephone number, including area code of registrant's principal executive offices) --------------------- Securities registered pursuant to Section 12(b) of the Act: NONE Securities registered pursuant to Section 12(g) of the Act: SHARES OF BENEFICIAL INTEREST, $1.00 PAR VALUE Indicate by check mark whether the registrant has (1) 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 such shorter period that the registrant was required to file such reports) and (2) has been subject to filing requirements for the past 90 days. [ X ] YES [ ] No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained here, and will not be contained, to the best of registrant's knowledge, in definitive proxy of information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ X ] YES [ ] No Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. [ X ] YES [ ] No As of February 6, 1998, 21,885,668 shares of beneficial interest were outstanding. The aggregate market value of the shares held by non-affiliates of the registrant on that date was approximately $ 2,720,000 based on the last reported sale price of the shares at that date. Total number of pages in this document: 43 Exhibits at page: 37 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- PART I ITEMS 1. AND 2. BUSINESS AND PROPERTIES A. INTRODUCTION AND BACKGROUND Wedgestone Financial ("Wedgestone" or the "Company"), a Massachusetts business trust which was organized in 1980, commenced operations as a real estate investment trust under the Internal Revenue Code of 1986, as amended, and continued those operations through December 31, 1991. On August 9, 1991, Wedgestone filed a petition with the United States Bankruptcy Court for the district of Massachusetts Eastern Division (the "Bankruptcy Court") under Chapter 11 of the United States Bankruptcy Code, Case No. 91-16930-WCH (the "Bankruptcy Proceeding"). Wedgestone's plan of reorganization (the "Plan") was confirmed by the Bankruptcy Court on May 5, 1992. Wedgestone operates in two business segments as follows: A) Automotive Products for the light duty truck aftermarket; and B) Real Estate and Lending activities. The business of the Automotive Products segment is conducted primarily through Wedgestone's wholly owned subsidiary, Wedgestone Automotive Corp ("Wedgestone Automotive"), which, in turn, wholly owns the subsidiaries Fey Automotive Products, Inc. ("Fey"), St. James Automotive Corp ("St. James"), Sigma Plating Co., Inc. ("Sigma"). The Automotive Product segment also included Hercules Automotive Products, Inc., a former subsidiary of the Company which was acquired on January 9, 1995 and sold on April 18, 1996. Fey and Sigma were acquired on November 18, 1994, and have been accounted for as a put-together, which is similar to the pooling of interest method of accounting. FINANCIAL INFORMATION RELATING TO BUSINESS SEGMENTS (Amounts in Thousands) FOR THE YEARS ENDED DECEMBER 31, REVENUES: 1997 1996 1995 ------- ------- ------- AUTOMOTIVE PRODUCTS: Manufactured Products for Light Duty Trucks $47,604 $41,452 $39,970 Contract Plating 3,937 3,312 3,680 All Other 846 1,522 2,462 ------- ------- ------- TOTAL $52,387 $46,286 $46,112 ------- ------- ------- ------- ------- ------- REAL ESTATE AND LENDING (a) --- --- --- OPERATING INCOME (LOSS): Automotive Products $ 4,488 $ 2,944 $ 3,259 Real Estate and Lending (265) (174) (529) ------- ------- ------- TOTAL $ 4,223 $ 2,770 $ 2,730 ------- ------- ------- ------- ------- ------- IDENTIFIABLE ASSETS: Automotive Products $18,984 $16,221 $17,228 Real Estate and Lending 1,948 1,167 1,375 ------- ------- ------- TOTAL IDENTIFIABLE ASSETS $20,932 $17,388 $18,603 ------- ------- ------- ------- ------- ------- (a) Real Estate and Lending revenues are immaterial and reported with operating costs. 1 B. AUTOMOTIVE PRODUCTS BUSINESS SEGMENT On June 15, 1992, Wedgestone acquired St. James Automotive Corp. This subsidiary manufactures and sells tubular products, consisting primarily of accessories for the light-duty truck market such as grille guards, push bars and step rails. On November 18, 1994, Wedgestone acquired the Automotive segment of Standun, Inc. ("Standun") which consisted of Sigma and the Fey Automotive Products division. The assets of the Fey division, which included the stock of Sigma, were merged into Wedgestone's wholly owned subsidiary Fey Automotive Products, Inc. In conjunction with the acquisition of the Automotive Segment of Standun, Wedgestone placed St. James, Fey and Sigma under the common ownership of its wholly owned subsidiary, Wedgestone Automotive. Collectively, these companies comprise the Automotive Products business segment which, unless the context requires otherwise, will be hereinafter referred to as Wedgestone Automotive. On January 5, 1995, Wedgestone Automotive, through its wholly owned subsidiary Hercules Automotive Products, Inc. ("Hercules"), acquired substantially all of the assets of Hercules Bumpers, Inc., a Georgia company. This acquisition was intended to provide greater access to the dealer direct business segment for Wedgestone Automotive. The segment involved the sale of rear step bumpers for light duty trucks to new vehicle dealers as an alternative to the factory supplied bumper. Hercules Bumpers, Inc., was the largest domestic supplier in this dealer direct segment. During 1995, a major Original Equipment Manufacturer ("OEM") initiated a program to secure a greater portion of rear step bumper sales. The program, which involved severe price competition and program buying, eroded a substantial portion of Hercules' sales base and placed Hercules in a loss position for the fourth quarter of 1995. In response to the likely prospect of significant continued losses, Wedgestone Automotive ceased manufacturing operations at Hercules on March 5, 1996. In a further decision to exit this segment, Wedgestone Automotive sold its stock ownership in Hercules to MBC Corporation for $1.00 and the assumption of certain debt and other liabilities approximating $4.5 million pursuant to a Stock Purchase Agreement. The Pelham, Georgia manufacturing plant along with its inventory and accounts receivable constituted all of the material assets of Hercules. There are no remaining assets of Hercules. Wedgestone Automotive manufactures and distributes automotive aftermarket products for the light duty truck market. Principal products include rear bumpers; tubular products such as grille guards, push bars, and step rails; and various other related aftermarket products. Additionally, Sigma provides contract chrome plating services to other unrelated parties. Combined sales for all products were $52,387,000, $46,286,000 and $46,112,000 for the years ended December 31, 1997, 1996 and 1995, respectively. The Company's automotive products are sold in the following markets: TRADITIONAL AFTERMARKET: This market includes dealership replacement parts departments, body shops, speed shops, off-road specialty shops and van and truck converters. Wedgestone Automotive reaches these customers through an established network of warehouse distributors, jobbers, dealer expediters and specialty wholesalers. ORIGINAL EQUIPMENT AFTERMARKET: Utilizing products specifically approved by truck manufacturers including Ford, General Motors, Mercedes-Benz, Nissan and Subaru, Wedgestone Automotive ships directly into their distribution channels in order to take advantage of factory supported sales of its truck accessories through dealer level service parts operations. RETAIL AFTERMARKET: Wedgestone Automotive reaches the retail consumer through local, regional and national chains dedicated to automotive products as well as independent retailers whose stores support a large assortment of automotive product lines. Since 1994 the Company has operated solely within the automotive aftermarket, serving both OE manufacturers and aftermarket customers with bumpers and tubular steel accessories. Since 1996, an erosion of Wedgestone's bumper sales has occurred due to a desire on the part of truck manufacturers to integrate the design of rear step bumpers into their current designs for light duty pick-up trucks and sport utility vehicles. New vehicle dealers who might choose Wedgestone's bumpers instead of the factory equivalent due to advantages in either price or greater tow capacity are returning to the factory bumper due to the incompatibility of the Company's current bumper line with current vehicle designs. For the near term, sales of Wedgestone bumpers to the crash replacement market will continue, however, unless the Company invests in new designs, its current line will not support the long term demands of the crash replacement market for aftermarket bumpers. In the past, the expected return on investment for updating the Company's bumper line was based on both crash replacement and aftermarket sales for new vehicles. Sales in both of these markets is used to justify the cost of new tooling. Since 1995, however, there has been a significant effort on the part of the OE manufacturers to improve dealer loyalty for their products. These efforts, which have been promoted through the use of pricing strategies designed to enhance dealer profits, have significantly eroded the Company's sales of bumpers to new vehicle dealers. As a result of the success of OE campaigns to enhance dealer loyalty, the Company does not believe there would be a sufficient return on investment to support the 2 estimated $2 million required to develop new tooling to replicate current OE bumper designs. The Company is looking at alternative methods to lower the cost of this investment, including avoiding the investment through the import of components that more closely conform to the appearance of the new OE bumpers. In recent years, particularly with the development of their new truck designs, the OE manufacturers have increased their own line of aftermarket truck accessories. These accessories are being offered to their dealer networks in an effort to enhance OE profitability by participating in the more profitable aspects of the accessory aftermarket for their light duty trucks and sport utility vehicles. The sale of OE accessories has significantly benefitted from the OE programs designed to promote dealer loyalty. Wedgestone's line of tubular accessories has also benefitted from the OE accessory programs in that the Company has been able to secure supplier agreements from several OE manufacturers for Step Bars, Grille Guards, Light Bars, Push Bars and Combo Bars. These accessories are all tubular in nature and represent one consistent style of product. The Company's ability to rely on the sales of these products in the future is entirely dependant on the consumer's continued acceptance of these types of accessories. Due to the vulnerability of continued earnings stemming from a decline in bumper sales and the Company's dependancy on tubular products for its OE programs, Wedgestone intends to seek additional products and markets. While remaining committed to its core competency of metal fabrication and finishing, and maintaining its commitment to the light duty pickup and sport utility aftermarket, Wedgestone intends to reduce its dependancy on this market as the sole source of return on invested capital. This expansion of product and markets will require significant investments in tooling, processes and product design. The Company expects this expansion to take several years and will involve a significant financial commitment to procure equipment and finance the acquisition of companies that would assist and accelerate Wedgestone's penetration of market segments compatible with its core competency. On February 9, 1998 the Company announced a Tender Offer (the "Offer" or "Tender Offer") to acquire all of the issued and outstanding shares of the Company, including vested stock options and warrants, not owned by certain majority shareholders which include Stockwood LLC, JCS Management Co. Inc., PFG Corporation, RAB Management Corp., and JMS Holdings Co., Inc. whom collectively own 62.1% of the current issued and outstanding shares. The Offer price is $ .67 net per share to sellers in cash. On February 6, 1998, the last full trading day before the Offer, the price was $ .35 per share. Shares not tendered will be converted into the right to receive $ .67 per share in a merger to be consummated as soon as practical after the tender offer. SIGNIFICANT CUSTOMERS, COMPETITIVE POSITION, INTELLECTUAL PROPERTY There is no single customer whose purchases exceeded 10% of Wedgestone Automotive's sales. The sectors of the automotive industry in which Wedgestone operates are extremely competitive and heavily influenced by policies and programs implemented by the OE Manufacturers. The companies servicing Wedgestone Automotive's markets with competing products vary in size and capability with none dominating the market as a whole. All such companies compete on the basis of product design, availability, lead time, price and product performance. Wedgestone Automotive has no patents, franchises or concessions. It markets its products under various trade names including FEY, TUFF BAR AND WESTIN and holds registered trademarks on the names QUAD TUBE, SURSTEP, CONTOUR and DIAMONDSTEP. RAW MATERIALS, DISTRIBUTION, INVENTORIES AND SEASONALITY Raw materials are purchased under standard industry terms through a number of vendors located within the vicinity of the plant being served. Management does not anticipate any shortages of materials. Wedgestone Automotive utilizes direct sales personnel and manufacturer's representatives to market its products which are distributed through the manufacturing facilities in California and Minnesota and further through distribution warehouses in Utah and Texas. Sales are primarily serviced out of finished goods inventories. For this reason, inventories are a material portion of the Company's operating assets. The Company schedules manufacturing to maintain desired inventory levels. Order backlogs for Wedgestone Automotive totaled $4,594,000 as of December 31, 1997, as compared to $2,300,000 as of December 31, 1996. This growth is attributed to the growing demand for Westin products manufactured at St. James as well as orders received under new OE supplier agreements which increase the order backlog due to the OE manufacturers tendency to schedule orders several weeks in advance of required deliveries. While the automotive aftermarket is not considered to be seasonal, it is subject to the annual effects of new model introductions and, as such, business can increase in the fall after new models are released and in the spring as dealers seek to move inventory in anticipation of the next model year. SUBSIDIARY OPERATIONS; EMPLOYEES, AND FACILITIES As of February 19, 1998, Wedgestone Automotive manufactures its products in several subsidiaries as follows: 3 Facility Square Footage Employees Products -------- -------------- --------- -------- Fey Automotive Products, Inc. 89,000 180 Bumpers, Step Rails & Related Products St. James Automotive Corp. 95,000 200 Bumpers, Grille Guards, Step Bars & other Tubular Products Sigma Plating Co., Inc. 26,000 100 Intercompany and outside ------- --- contract plating services 210,000 480 ------- --- ------- --- The manufacturing employees of Fey are represented by a union whose contract expires in March 1999. Employees at Sigma and St. James are not subject to a collective bargaining agreement. Wedgestone believes that its relations with all of its employees are satisfactory. Fey leases 89,000 square feet of manufacturing, warehousing and office space located in Irwindale, California, approximately 30 miles east of Los Angeles. Fey also leases distribution warehouses in Salt Lake City, Utah and North Richland Hills, Texas. The leases expire at various times through 2002. St. James leases a 95,000 square foot facility in St. James, Minnesota, which is approximately 120 miles southwest of Minneapolis. The lease obligation extends through October 31, 1998. The lease contains a purchase option for the facility. St. James also leases a warehouse facility in Fairmont, Minnesota under a two year agreement that includes an option to purchase the property. Sigma owns a 26,000 square foot facility on 3 acres of land in La Puente, California, approximately 25 miles east of Los Angeles. ENVIRONMENTAL MATTERS St. James and Sigma operate chrome plating facilities. Hazardous wastes generated by these operations are disposed of in the normal course for this type of business. Aqueous wastes are treated at the facility to meet applicable regulatory standards and then discharged to the public treatment works. Solid wastes and by-products are transported to a recycler for processing and destruction. All current activities at the facilities are believed to be within the operational parameters of the required environmental permits and are monitored both internally by facility personnel and periodically by regulatory agencies. In anticipation of expanding the St. James facility and its operations, St. James conducted tests which revealed environmental contamination by a previous operator/tenant. St. James notified the principal shareholder of the prior operator, who is also the landlord, and the relevant regulatory authorities of the test results. St. James has been partially indemnified from costs relating to potential clean-up by the principal shareholder of the landlord. St. James, working in conjunction with local, state and federal authorities, has performed the remediation work required on this site. Post remediation site approval has been granted. The Company does not anticipate any material expenditures in 1998 in connection with compliance with environmental regulations. C. REAL ESTATE AND LENDING SEGMENT Although its primary focus has shifted toward its Automotive Products business segment, Wedgestone's Real Estate and Lending business segment has continued since emerging from bankruptcy in 1992. REAL ESTATE ACQUIRED BY FORECLOSURE Wedgestone owned three properties that were acquired by foreclosure, one of these was sold in 1997. The remaining properties include four vacant first-floor units in a seven-story condo building in Peabody, Massachusetts and 53 acres of undeveloped land in Bristol, Connecticut. The Company does not intend to develop the Bristol, Connecticut property at the present time. If the Company did decide to develop this property, the Company would require the assistance of a real estate development partner. On January 31, 1997, the Company signed a contract for the sale of approximately 21 acres of land in Queens, New York, 15 acres of which are below water (the "College Point" property) for $1.375 million less expenses of $42,200. Of this amount, $137,500 was tendered upon signing of the agreement and the balance, $1,237,500, was received at closing on February 27, 1997. The book value of this property as of December 31, 1996 was $914,800. The Company recognized a gain 4 of $418,000 in 1997 on this transaction. PROMISSORY NOTES AND CLAIMS RECEIVABLE Wedgestone had one outstanding loan receivable on one property in Sebago Lake, Maine, the aggregate value of which totaled approximately $81,000 as of December 31, 1996, net of reserves. On November 10, 1997, in connection with the sale of the Sebago property, the Company received full payment on this loan receivable. ENVIRONMENTAL MATTERS Under the Comprehensive Environmental Response Compensation and Liability Act of 1983, as amended ("CERCLA"), an owner or operator of property (including, in certain circumstances, a lender who takes title by foreclosure or who participates in the management of the property) may be liable to reimburse the federal government or a third party for the cost of cleaning up oil or hazardous substances found on the property. Many states in which Wedgestone conducts business, including Massachusetts, have enacted similar statutes ("Superfund Laws"), under which an owner or operator of property (including a foreclosing lender or a lender who actively participates in the management of the property) may be liable to reimburse the state government or a third party for clean-up costs and to compensate the state or any other person for injuries or damages caused by oil or hazardous-substance contamination. The liability created by CERCLA and the state Superfund Laws is joint and several subject, in a limited number of cases, to certain defenses. A number of states in which Wedgestone conducts business, including Massachusetts, also allow the state to impose a lien on the property of a liable party as security for the payment of clean-up costs. Many of these jurisdictions provide that this lien, at least as it pertains to the contaminated property, is senior to all pre-existing liens. Accordingly, if real estate securing a Wedgestone loan were found to contain oil or hazardous substances, enforcement of a state Superfund Law could significantly reduce the value of Wedgestone's lien. In the event real estate owned or controlled by Wedgestone pursuant to foreclosure or exercise of other remedies under its loan documents were found to contain hazardous substances, enforcement of a state Superfund Law or CERCLA could potentially require expenditure of funds in amounts which may have a significant adverse impact upon Wedgestone's earnings, capital expenditure requirements and liquidity. NET OPERATING LOSS Wedgestone has a net operating loss carry forward for federal income tax purposes of approximately $38,123,000 as of December 31, 1997. ITEM 3. LEGAL PROCEEDINGS BANKRUPTCY CLAIMS An appeal was filed against the Company on May 25, 1995, by a holder of the Company's formerly issued Special Income Shares (the "Income Shares"). The Income Shares were designated to receive a distribution of any excess "profit or appreciation" realized by the Company on certain specific mortgages and notes receivable. The one remaining outstanding loan under which income rights had been granted related to a loan the Company participated in with a bank. This bank subsequently was liquidated and the FDIC assumed control. The FDIC approached the Company to seek approval to foreclose on the note since it was in default. Since the Company was involved in a bankruptcy proceeding, the Company sought bankruptcy court approval to proceed on the foreclosure action. In the motion seeking such approval was a request that (i) the FDIC remit to the Company any excess proceeds from the note, (ii) the Company cancel the Special Income Shares since this note was the sole remaining loan and (iii) the Company pay any funds, net of costs and fees collected from the FDIC to the holders of Income Shares as a liquidating distribution. This motion was approved by the bankruptcy court and the appeal was instituted. On January 6, 1998 the appeal was denied. OTHER A complaint was filed against Fey, a wholly owned subsidiary of Wedgestone Automotive Corp ("WAC"), on September 10, 1996, in the Superior Court of Mitchell County in the state of Georgia, by Mitchell Real Estate Partnership, C. Ray Council, Hal A. Council, Max R. Council, Rex A. Council, June Council Hunter and Gay Council Moring (collectively, "Mitchell"). In its complaint, Mitchell asserts breach of contract and fraud claims against the defendants resulting from a Marketing Agreement between Mitchell, Fey and HAP for marketing consulting services relating to Hercules products, alleging, among other things, that Fey has impeded Mitchell's ability to earn commissions under the Marketing Agreement. Mitchell seeks monetary damages in excess of $4 million. Fey and the other defendants have removed the case to the United States District Court for the Middle District of Georgia. Fey and the other defendants have filed a motion to dismiss the case. Fey has 5 agreed to extend the period for filing a responsive pleading pending the resolution of the procedural issues. Additional named defendants are John C. Shaw, chairman and trustee of the Company, Jeffrey S. Goldstein, a trustee of the Company, James J. Pinto, the President of PFG Corporation, which holds in excess of 5% of the Company's shares, and David L. Sharp, the Chief Executive Officer of WAC and President of the Company. This litigation is in the initial stages and as of February 13, 1998, no discovery has taken place. Fey and the other defendants believe Mitchell's claims are without merit and intend to vigorously contest the Mitchell complaint and pursue counter claims and affirmative defenses. Management is unable to evaluate the likelihood of an unfavorable outcome or estimate the amount or range of potential loss, if any. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. 6 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS Wedgestone's shares of beneficial interest are currently traded in the over-the-counter market under the trading symbol "WDGF". The prices set forth below represent trades between dealers, without adjustment for retail mark up, mark down or commission, and do not necessarily represent actual transactions. The following table sets forth the high and low bid prices of Wedgestone's shares of beneficial interest for each quarter of 1997 and 1996. Market Price Range --------------------------------- 1997 1996 -------------- ------------- Quarter High Low High Low ------- ---- ---- ---- ---- First .37 .32 .25 .20 Second .32 .26 .60 .22 Third .27 .27 .60 .35 Fourth .27 .27 .45 .31 ---------------------------------- On February 6, 1998, the bid price of Wedgestone's shares of beneficial interest was $ .35. RECORD HOLDERS On February 19, 1998, there were approximately 3,100 holders of record Wedgestone's shares of beneficial interest. CASH DIVIDENDS DECLARED AND PAID PER SHARE There were no dividends declared or paid by Wedgestone on its shares of beneficial interest for the years ended December 31, 1991 through 1997. Wedgestone presently intends to retain all earnings in connection with its business. Payment of dividends in the future will be within the discretion of the Board of Trustees and will depend upon, among other factors, earnings and the operating and financial condition of the business. 7 ITEM 6. SELECTED FINANCIAL DATA The following selected financial data have been derived from Wedgestone's Consolidated Financial Statements and should be read in conjunction with the Management Discussion and Analysis and the Consolidated Financial Statements and related notes. YEAR ENDED DECEMBER 31, --------------------------------------------------------------- 1997 1996 1995 1994 1993 OPERATING DATA: (In Thousands) Net sales $52,387 $46,286 $46,112 $34,618 $29,472 Net Income (loss) $ 2,946 $ 1,372 $ 1,845 $ 1,493 ($ 116) ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- PER SHARE DATA: Net income (loss) basic and diluted $ .13 $ .06 $ .08 $ .07 ($ .01) ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Weighted average Shares outstanding basic and diluted 21,885,668 21,885,668 21,764,280 20,385,668 20,385,668 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- BALANCE SHEET DATA: (In Thousands) Working Capital $ 8,511 $ 5,324 $ 4,188 $ 3,418 $ 2,390 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total assets $22,543 $20,350 $21,398 $14,391 $11,530 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Long-term debt $ 5,364 $ 5,269 $ 8,447 $ 5,676 $ 3,835 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total shareholders' equity $ 8,293 $ 7,119 $ 5,747 $ 3,382 $ 2,558 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- 8 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996 BACKGROUND On June 15, 1992, Wedgestone acquired St. James Automotive Corp. This subsidiary manufactures and sells tubular products for the light-duty truck market such as grille guards, push bars and step bars. On November 18, 1994, Wedgestone acquired the Automotive Segment of Standun, Inc. ("Standun") which consisted of Sigma and the Fey Automotive Products division. The assets of the Fey division, which included the stock of Sigma, were merged into Wedgestone's wholly owned subsidiary Fey Automotive Products, Inc. In conjunction with the acquisition of the Automotive Segment of Standun, Wedgestone placed St. James, Fey and Sigma under the common ownership of its wholly owned subsidiary, Wedgestone Automotive. Collectively, these companies comprise Wedgestone Automotive. On January 5, 1995, Wedgestone Automotive, through its former wholly owned subsidiary Hercules Automotive Products, Inc. acquired substantially all of the assets of Hercules Bumpers, Inc., a Georgia company. This acquisition was intended to provide access to a new business segment for Wedgestone Automotive. The segment, known as dealer direct, involved the sale of rear step bumpers for light-duty trucks to new vehicle dealers as an alternative to the factory supplied bumper. Hercules Bumpers, Inc., was the largest domestic supplier in this dealer direct segment offering dealers a line of specialty bumpers. During 1994, a major OE manufacturer initiated a program to secure a greater portion of rear step bumper sales. The program, which involved severe price competition and program buying, eroded a substantial portion of Hercules' sales base and placed Hercules in a loss position for the fourth quarter of 1995. In response to the likely prospect of continued losses, Wedgestone Automotive ceased manufacturing operations at Hercules on March 5, 1996. In a further decision to exit this segment, Wedgestone Automotive sold its ownership in Hercules to MBC Corporation for $1.00 and the assumption of certain debt and other liabilities approximating $4.5 million pursuant to a Stock Purchase Agreement. The Pelham, Georgia manufacturing plant along with the then existing inventory and accounts receivable constituted all of the material assets of Hercules. Since 1994 the Company has operated solely within the automotive aftermarket, serving both OE manufacturers and aftermarket customers with bumpers and tubular steel accessories. Since 1996, an erosion of Wedgestone's bumper sales has occurred due to a desire on the part of truck manufacturers to integrate the design of rear step bumpers into their current designs for light duty pick-up trucks and sport utility vehicles. New vehicle dealers who might choose Wedgestone's bumpers instead of the factory equivalent due to advantages in either price or greater tow capacity are returning to the factory bumper due to the incompatibility of the Company's current bumper line with current vehicle designs. For the near term, sales of Wedgestone bumpers to the crash replacement market will continue, however, unless the Company invests in new designs, management believes that the current line will not support the long term demands of the crash replacement market for aftermarket bumpers. In the past, the expected return on investment for updating the Company's bumper line was based on both crash replacement and aftermarket sales for new vehicles. Sales in both of these markets is required to justify the cost of new tooling. Since 1995, however, there has been a significant effort on the part of the OE manufacturers to improve dealer loyalty for their products. These efforts, which have been promoted through the use of pricing strategies designed to enhance dealer profits, have significantly eroded the Company's sales of bumpers to new vehicle dealers. As a result of the success of OE campaigns to enhance dealer loyalty, the Company does not believe there would be a sufficient return on investment to support the estimated $2 million required to develop new tooling to replicate current OE bumper designs. The Company is looking at alternative methods to lower the cost of this investment, including avoiding the investment through the import of components that more closely conform to the appearance of the new OE bumpers. In recent years, particularly with the development of their new truck designs, the OE manufacturers have increased their own line of aftermarket truck accessories. These accessories are being offered to their dealer networks in an effort to enhance OE profitability by participating in the more profitable aspects of the accessory aftermarket for their light duty trucks and sport utility vehicles. The sale of OE accessories has significantly benefitted from the OE programs designed to promote dealer loyalty. Wedgestone's line of tubular accessories has also benefitted from the OE accessory programs in that the Company has been able to secure supplier agreements from several OE manufacturers for Step Bars, Grille Guards, Light Bars, Push Bars and Combo Bars. These accessories are all tubular in nature and represent one consistent style of product. The Company's ability to rely on the sales of these products in the future is entirely dependant on the consumer's continued acceptance of these types of accessories. Due to the vulnerability of continued earnings stemming from a decline in bumper sales and the Company's dependancy on tubular products for its OE programs, Wedgestone intends to seek additional products and markets. While remaining committed to its core competency of metal fabrication and finishing, and maintaining its commitment to the light duty pickup and sport utility aftermarket, Wedgestone intends to reduce its dependancy on this market as the sole source of return on invested capital. This expansion of product and markets will require significant investments in tooling, processes and 9 product design. The Company expects this expansion to take several years and will involve a significant financial commitment to procure equipment and finance the acquisition of companies that would assist and accelerate Wedgestone's penetration of market segments compatible with its core competency. On February 9, 1998 the Company announced a Tender Offer (the "Offer" or "Tender Offer") to acquire all of the issued and outstanding shares of the Company not owned by certain majority shareholders which include Stockwood LLC, JCS Management Co. Inc., PFG Corporation, RAB Management Corp., and JMS Holdings Co., Inc. whom collectively own 62.1% of the current issued and outstanding shares. The Offer price is $ .67 net per share to sellers in cash. Shares not tendered will be converted into the right to receive $ .67 per share in a merger to be consummated as soon as practical after the Tender Offer. The Company has arranged for financing the Offer through its primary lender, The CIT Group / Credit Finance. The arrangements include additional borrowings under the Company's current revolver credit line approximating $3,000,000, additional advances under equipment financing term notes approximating $500,000 and an 18 month term note for $1,500,000. The Company will use approximately $1,000,000 of existing cash to fund the balance of the $6,000,000 estimated cost pf the Tender Offer assuming that all shares are tendered. LIQUIDITY AND CAPITAL RESOURCES To date, Wedgestone has financed its business activities through cash flows from operations. Additional debt has been incurred primarily for working capital and acquisitions. See Note 8 to the Consolidated Financial Statements. Cash flows from operations totaling $3,315,000 were supplemented by $682,000 in additional advances by unsecured creditors and a reduction of $127,000 in other assets. These funds were used to provide $2,922,000 in additional working capital consisting of $1,469,000 in additional advances to customers, $1,364,000 in inventories and $89,000 in other current assets resulting in net cash provided by operations totaling $1,202,000 in 1997 compared to $280,000 in 1996. Net cash flows from operations were further supplemented by collections on mortgage notes totaling $166,000, net proceeds from the sale of real estate totaling $1,328,000 and additional borrowings on long-term debt totaling $1,572,000. During 1997, the Company invested $825,000 in new equipment, made payments on long-term debt totaling $860,000, reduced revolving debt by $375,000 and entered into a note receivable with a related party totaling $1,650,000 for a net increase in cash of $558,000 in 1997 compared to a decrease of $21,000 in 1996. On May 20, 1997 Wedgestone advanced Stockwood, LLC. ("Stockwood") $1,650,000 under a one year secured note with interest at 12 percent. The note is secured by 3,500,000 shares of beneficial interest of Wedgestone Financial with principal and interest due at maturity. Stockwood is a related party through common ownership by certain Wedgestone Financial shareholders and owns 6,795.223 shares of beneficial interest in Wedgestone Financial. On February 9, 1998, the Company signed a commitment letter with The CIT Group / Credit Finance ("CIT") in connection with its Tender Offer. The agreement provides additional term loans on equipment totaling approximately $500,000, an 18 month term loan for $1,500,000, and raises the Company's overall credit line with CIT to $13,000,000. Interest on the new loans are unchanged from the Company's current rates which are prime plus 1.375%. (Aggregating 9.75% as of February 6, 1998.) The Company will use approximately $3,000,000 in additional borrowings under its existing revolving credit line with CIT to fund the balance of the Tender Offer costs. On March 18, 1997, the Company amended and restated the agreement with CIT to a five-year $10 million credit facility collateralized by substantially all of the assets of the Company's wholly owned subsidiaries, providing a revolving credit line and term loan under terms substantially similar to the original agreement. The amended and restated agreement provides for borrowings based on a percentage of inventory and receivables and includes an equipment term loan. All loans are stated at the lender's prime rate plus 1.375% (9.75% at December 31, 1997). In connection with the acquisition of Hercules on January 9, 1995, a former wholly-owned subsidiary of Wedgestone assumed certain debt consisting of a term loan of $4.0 million, and an industrial revenue bond of $285,000 due March 1, 1999. On March 5, 1996, the Company closed the Hercules facility in Pelham, Georgia, as a result of unfavorable market conditions. On April 18, 1996, the Company sold its stock ownership in Hercules to MBC Corporation for $1.00 and the assumption of certain debt and other liabilities, including the outstanding borrowings on the term loan and industrial revenue bond. The total debt and liabilities assumed by MBC Corporation approximated $4.5 million. The Company continues to actively seek acquisition opportunities in the Automotive Products Business Segment. While there are no specific opportunities identified at this time, to the extent that Wedgestone expands its operations and makes additional acquisitions, it will need to obtain additional funding from institutional lenders and other sources. Wedgestone's ability to use equity in obtaining funding may be limited by its desire to preserve certain tax attributes including its net operating loss carry forwards. 10 The Company is currently addressing its computer systems and business processes to ensure that its systems will be capable of processing periods for the year 2000 and beyond as well as ensure that its business processes will be able to support current and anticipated future computer system needs. The Company does not anticipate the costs associated with addressing the foregoing capabilities will have a material adverse impact on the Company's financial position or results of operations. RESULTS OF OPERATIONS CURRENT YEAR PERFORMANCE: 1997 COMPARED TO 1996 Net sales increased $6,101,000 or 13% to $52,387,000 in 1997 compared to $46,286,000 in 1996. This reflects a $7,415,000 increase in the sales of products manufactured in the Company's St. James subsidiary and a $2,255,000 decrease in the products manufactured in the Company's Fey subsidiary. Contributing to Fey's decline in net sales is a $4,014,000 decline in the Company's Traditional and Retail market segments for bumpers, offset by a $2,700,000 increase in the Company's OE manufacturers segment. The Company continues to pursue the OE segment of the light-duty truck aftermarket and considers this segment to be an important component of future growth. Gross margins increased $3,534,000 or 24% to $18,259,000 or 35% of sales in 1997 compared to $14,725,000 or 32% of sales in 1996. This increase is due to the increase in sales, a more favorable product sales mix and a greater return on fixed and semi fixed costs in 1997 over 1996. Sales and marketing costs increased by $366,000 or 5% to $7,593,000 or 15% of sales in 1997 compared to $7,227,000 or 16% of sales in 1996. This increase is due to increases in selling costs incurred to support the higher sales volumes achieved in 1997. Administrative costs increased by $1,715,000 or 36% to $6,443,000 in 1997 compared to $4,728,000 in 1996. Product design and development costs account for 43% or $746,000 of this increase. Included in these costs are salaries, benefits and overhead costs for additions to the Company's engineering staff. The Company believes that its future competitive position in the automotive aftermarket will require significant increases in engineering and development costs over the next several years and that overhead expenditures in this area totaling $849,000 in 1997 are expected to increase in 1998. The remainder of the increase in administrative costs include operating costs associated with new EDP systems, insurance and other costs associated with sales growth in 1997 over 1996. Interest expense decreased $290,000 or 26% to $836,000 in 1997 compared to $1,126,000 in 1996. This decrease is attributable to the decrease in interest rates experienced in connection with the lower interest rate on the restated CIT credit line, reductions of outstanding borrowings under the revolver and $122,000 in interest income recorded in 1997 on notes receivable from Shareholders. Other income consists of the gain on the sale of the Company's 21 acres of land known as the College Point property. Income taxes in 1997 reflect a $1,242,000 adjustment to the Company's valuation reserve. The adjustments are due to management's expectations of the Company's ability to utilize its net operating loss carry forwards due to its more recent earnings performance. PRIOR PERFORMANCE: 1996 COMPARED TO 1995 Net sales increased $174,000 to $46,286,000 in 1996 compared to $46,112,000 in 1995. This reflects a $9,668,000 decrease in the sales of Hercules products offset by a $6,592,000 or 67% increase in the sales of products manufactured in the Company's St. James subsidiary and a $3,250,000 increase in the products manufactured in the Company's Fey subsidiary. Contributing to the overall growth in net sales is a 44% and 43% increase in the Company's Traditional and Retail market segments, respectively. Growth in these two segments totaled $11,944,000 and was offset by a $2,102,000 or 27% decline in the Company's Original Equipment Manufacturer's segment. The Company continued to pursue the OE segment of the light-duty truck aftermarket and considers this segment to be an important component of future growth. During 1996, the Company secured orders from two new OE customers whose initial 1996 sales totaled $289,000. Gross margins increased $360,000 or 3% to $14,725,000 or 32% of sales in 1996 compared to $14,365,000 or 31% of sales in 1995. This increase is due to an increase in sales and a more favorable product sales mix in 1996 compared to 1995. 11 Sales and marketing costs increased by $501,000 or 7% to $7,227,000 or 16% of sales in 1996 compared to $6,726,000 or 15% of sales in 1995. The majority of this increase is selling costs incurred to enhance and maintain the higher sales volumes achieved in 1996. A significant amount of the increase is due to additional advertising and promotional costs incurred by the Company to further penetrate the Traditional and Retail market segments. The Company believes that further expenditures in this area are required to maintain the market growth achieved in 1996 and expand these markets further. Administrative costs decreased by $182,000 or 3% to $4,727,000 in 1996 compared to $4,909,000 in 1995. This reflects a decrease of $829,000 in administrative costs attributable to Hercules operations and an increase of $658,000 in continuing administrative costs. Product design and development costs account for 59% or $390,000 of this increase. Included in these costs are salaries, benefits and overhead costs for additions to the Company's engineering staff. The remainder of the increase in administrative costs include management labor, insurance and other costs associated with sales growth in 1996 over 1995. Interest expense decreased $214,000 or 16% to $1,126,000 in 1996 compared to $1,340,000 in 1995. This decrease is attributable to the decrease in debt associated with Hercules offset by additional borrowings under the Company's revolving line of credit used to finance working capital growth. Income taxes in 1996 reflect an $566,000 adjustment to the Company's valuation reserve compared to $1,300,000 recorded in 1995. The adjustments are due to management's expectations of the Company's enhanced ability to utilize its net operating loss carry forwards due to its more recent earnings performance. ACCOUNTING PRONOUNCEMENTS In June 1997, The Financial Accounting Standards Board issued SFAS No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION. This statement is effective for fiscal years beginning after December 15, 1997. This Statement establishes standards for disclosure about the operating segments, products, and services, geographic areas and major customers, as well as descriptive information on how the operating segments were determined. The Company has not yet determined its reportable segments under this Statement. The Company will adopt this Statement in 1998. FORWARD LOOKING INFORMATION Information contained in this Form 10-K contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, which can be identified by the use of forward-looking terminology such as "may", "will", "expect", "plan", "anticipate", "estimate or "continue" or the negative thereof or other variations thereon or comparable terminology. There are certain important factors that could cause results to differ materially from those anticipated by some of these forward-looking statements. Investors are cautioned that all forward-looking statements involve risks and uncertainty. The factors, among others, that could cause actual results to differ materially include: pricing and merchandising policies from the major automotive manufacturers; the Company's ability to execute its business plan; the acceptance of the Company's merchandising strategies by its target customers, particularly dealers; continuity of a relationship with or sales to major auto dealers; competitive pressures on sales and pricing; and increases in other costs which cannot be recovered through improved pricing of merchandise. 12 ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA WEDGESTONE FINANCIAL AND SUBSIDIARIES ------------------------------------- INDEX Page ---- Financial Statements Independent Auditor's Report 14 Consolidated Balance Sheets as of December 31, 1997 and 1996 15 Consolidated Statements of Income for the years ended December 31, 1997, 1996, and 1995. 16 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1997, 1996, and 1995. 17 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995. 18 Notes to Consolidated Financial Statements. 19 13 INDEPENDENT AUDITORS' REPORT To the Board of Trustees and Shareholders of Wedgestone Financial and Subsidiaries: We have audited the accompanying consolidated balance sheets of Wedgestone Financial and Subsidiaries as of December 31, 1997 and 1996 and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1997. Our audits also included the consolidated financial statement schedules listed in the index at Item 14. These financial statements and financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Wedgestone Financial and Subsidiaries as of December 31, 1997 and 1996, and the results of their operations, and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. Also, in our opinion, such consolidated financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth therein. - ----------------------- February 19, 1998 Deloitte & Touche LLP Los Angeles, California 14 WEDGESTONE FINANCIAL AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 1997 and 1996 (Amounts in Thousands--except share data) ASSETS (Note 8) 1997 1996 -------- -------- Current Assets: Cash $ 902 $ 344 Accounts and other receivables - (net of allowances of $344 and $333 in 1997 and 1996, respectively) 8,751 7,282 Inventories (Note 5) 5,983 4,619 Prepaid expenses and other current assets 654 565 Deferred income taxes (Note 9) 1,107 476 -------- -------- Total Current Assets 17,397 13,286 Notes receivable - (Note 7) --- 81 Real estate acquired by foreclosure - net (Note 7) 176 1,086 Property, plant and equipment - net (Note 6) 3,342 3,237 Goodwill - net 87 130 Deferred income taxes (Note 9) 1,420 2,196 Other assets (Deposits) 121 334 -------- -------- 5,146 7,064 -------- -------- Total Assets $ 22,543 $ 20,350 -------- -------- -------- -------- LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities: Revolving credit line and current portion of long-term debt (Note 8) $ 2,194 $ 1,952 Accounts payable 4,488 3,882 Accrued payroll and related expenses 809 593 Other accrued expenses 1,395 1,535 -------- -------- Total Current Liabilities 8,886 7,962 Long-term debt (Note 8) 5,364 5,269 -------- -------- Total liabilities 14,250 13,231 Commitments and contingencies (Notes 10 and 12) Shareholders' Equity: (Notes 11) Shares of Beneficial Interest - par value $1.00 per share: authorized -- unlimited shares; issued and outstanding -- 21,885,668 shares at December 31, 1997 and 1996 21,886 21,886 Additional paid-in capital 31,396 31,396 Note receivable from shareholder (1,772) --- Accumulated deficit (43,217) (46,163) -------- -------- Total Shareholders' Equity 8,293 7,119 -------- -------- Total Liabilities and Shareholders' Equity $ 22,543 $ 20,350 -------- -------- -------- -------- See notes to consolidated financial statements. 15 WEDGESTONE FINANCIAL AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 and 1995 (Amounts in Thousands--except per share data) 1997 1996 1995 -------- -------- -------- Net sales $ 52,387 $ 46,286 $ 46,112 Cost of sales 34,128 31,561 31,747 -------- -------- -------- Gross profit 18,259 14,725 14,365 Selling, general and administrative expenses (Note 4) 14,036 11,955 11,635 -------- -------- -------- Operating income 4,223 2,770 2,730 Goodwill amortization 44 49 106 Interest expense-net (Notes 4 and 8) 836 1,126 1,340 Other (income) expense (Note 3) (418) 67 697 -------- -------- -------- Income before taxes 3,761 1,528 587 Provision (benefit) for income taxes (Note 9) 815 156 (1,258) -------- -------- -------- Net income $ 2,946 $ 1,372 $ 1,845 -------- -------- -------- -------- -------- -------- Net income per share of beneficial interest: Basic and diluted $ .13 $ .06 $ .08 -------- -------- -------- -------- -------- -------- Weighted average number of shares outstanding: Basic and diluted 21,886 21,886 21,764 -------- -------- -------- -------- -------- -------- See notes to consolidated financial statements. 16 WEDGESTONE FINANCIAL AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 and 1995 (Amounts in Thousands) Additional Shares of Beneficial paid-in Shareholder Accumulated Interest capital Loans deficit Total --------------------- ---------- ----------- ----------- ------- Shares Amount Balance at December 31, 1994 20,386 20,386 $32,376 ($49,380) $3,382 Issuance of shares of beneficial interest to secure third party debt guarantee (Note 1) 1,200 1,200 (840) 360 Issuance of shares of beneficial interest in exchange for acquisition services (Note 4) 200 200 (140) 60 Issuance of shares of beneficial interest to pay off outstanding debt (Note 1) 100 100 100 Net income 1,845 1,845 ------- -------- -------- --------- ------- Balance at December 31, 1995 21,886 21,886 31,396 (47,535) 5,747 - ------- Net income 1,372 1,372 ------- -------- -------- --------- ------- - ------- Balance at December 31, 1996 21,886 $ 21,886 $ 31,396 ($46,163) $ 7,119 ------- -------- -------- --------- ------- Advance to shareholder ($1,772) (1,772) Net income 2,946 2,946 ------- -------- -------- ------- --------- ------- Balance at December 31, 1997 21,886 $ 21,886 $ 31,396 ($1,772) ($ 43,217) $ 8,293 ------- -------- -------- ------- --------- ------- ------- -------- -------- ------- --------- ------- See notes to consolidated financial statements. 17 WEDGESTONE FINANCIAL AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOW FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 and 1995 (Amounts in Thousands) 1997 1996 1995 ------- ------- ------- Cash Flows from Operating Activities: Net income $ 2,946 $ 1,372 $ 1,845 Adjustments to reconcile net income to net cash provided by operating activities: Accrued interest receivable (122) --- --- Write-off of note receivable --- 60 697 Depreciation and amortization 764 771 1,198 Deferred income taxes 145 (82) (1,300) Gain on disposal of assets (418) --- --- Loss on sale of subsidiary --- 797 --- Changes in assets and liabilities: Accounts and other receivables (1,469) (2,196) (109) Inventories (1,364) (1,598) 617 Prepaid expenses and other current assets (89) (193) (177) Accounts payable 606 1,143 333 Accrued payroll and related expenses 216 92 211 Other accrued expenses (140) 100 (1,016) Other assets 127 14 (463) ------- ------- -------- Net cash provided by operating activities 1,202 280 1,836 ------- ------- -------- Cash Flows from Investing Activities: Proceed from sale of real estate and equipment 1,328 217 --- Proceeds from repayment of mortgage notes receivable 166 3 1 Cash advanced to shareholder (1,650) --- --- Acquisition costs paid -- --- (401) Capital expenditures (825) (933) (926) Investment in real estate --- --- (126) ------- ------- -------- Net cash used in investing activities (981) (713) (1,452) ------- ------- -------- Cash Flows from Financing Activities: Repayment of long-term debt (860) (1,406) (949) Deferred financing fees paid --- --- (85) Borrowings on long-term debt 1,572 --- 635 Net borrowings (repayments) on revolving debt (375) 1,818 201 ------- ------- -------- Net cash provided by (used in) financing activities 337 412 (198) ------- ------- -------- Net Increase (Decrease) in Cash 558 (21) 186 Cash at Beginning of Year 344 365 179 ------- ------- -------- Cash at End of Year $ 902 $ 344 $ 365 ------- ------- -------- ------- ------- -------- See notes to consolidated financial statements. 18 WEDGESTONE FINANCIAL AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS For the Years Ended December 31, 1997, 1996 and 1995 NOTE 1. BACKGROUND AND BASIS OF PRESENTATION BACKGROUND - Wedgestone Financial ("Wedgestone" or the "Company") was formed in 1980 as a real estate investment trust ("REIT") and, on August 9, 1991, filed for bankruptcy. Wedgestone's plan of reorganization (the "Plan") became effective on August 3, 1992. Wedgestone operates in two business segments, Automotive Products and Real Estate and Lending activities. The automotive segment manufactures and distributes automotive aftermarket products for the light duty truck market. Its principal products include rear bumpers; tubular products such as grille guards, push bars, and step rails; and various other related aftermarket products. The Company's automotive products are marketed in traditional, original equipment and retail automotive aftermarkets. The automotive segment manufactures and sells its products at two locations in California, and one in Minnesota. Sales are also made from distribution centers in Texas and Utah. Although its primary focus has shifted toward its Automotive Products business segment, Wedgestone's Real Estate and Lending business segment has continued since emerging from bankruptcy in 1992. Wedgestone owns two properties that were acquired by foreclosure. The aggregate value, net of reserves, is approximately $176,000 as of December 31, 1997 (See Note 7: Real Estate and Lending). ACQUISITIONS - Since May 1992, Wedgestone has acquired three manufacturing operations. On June 15, 1992, Wedgestone acquired St. James Automotive Corp. ("St. James") in exchange for 6,795,220 shares of beneficial interest of Wedgestone and accounted for this acquisition as a purchase. On November 18, 1994, Wedgestone acquired the Automotive Segment of Standun, Inc. ("Standun"), which consisted of the Fey Automotive Products Division ("Fey") and Sigma Plating Co., Inc. ("Sigma") in exchange for 6,795,223 shares of beneficial interest of Wedgestone and the assumption of approximately $1,104,000 of outstanding debt due to Fifth Avenue Partners, a related party of Wedgestone, and certain other liabilities. The shareholders of Standun owned, directly or indirectly, approximately 48% of Wedgestone prior to the acquisition and, as a result, this acquisition was accounted for as a "put-together" which is similar to the pooling of interest method of accounting. As a result of the acquisition, Standun owned 31% of the outstanding shares of beneficial interest of Wedgestone. On January 9, 1995, Wedgestone acquired substantially all of the assets of Hercules Bumpers, Inc. ("Hercules"). The purchase price for the assets acquired was the assumption of certain debt and other liabilities approximating $5.1 million. In addition, certain debt was guaranteed jointly and severally by Charles W. Brady ("Brady"), the former principal shareholder of Hercules, and Chattahoochee Leasing Corporation ("CLC"), a corporation controlled by Brady. In exchange for this guarantee, Brady received a promissory note in the amount of $300,000 and 1,200,000 shares of beneficial interest of Wedgestone. In consideration for an agreement to pay a liability of Hercules, CLC received a promissory note for $100,000 which was secured by 100,000 shares of beneficial interest of Wedgestone. In June, 1995, the Company exercised its right under the CLC Agreement and acquired the note by issuing these shares to CLC. (See Note 3 - Sale of Subsidiary.) BASIS OF PRESENTATION AND PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include the accounts of Wedgestone and its wholly owned subsidiaries. All significant intercompany transactions have been eliminated in consolidation. NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES INVENTORIES - Inventories are stated at the lower of cost or market, with cost being determined by the FIFO (first-in, first-out) method of accounting. PROPERTY, PLANT, AND EQUIPMENT - Property, plant and equipment are stated at cost. Expenditures that materially increase the life of the related assets are capitalized and maintenance and repairs are charged to expense. The costs and related accumulated depreciation applicable to property, plant and equipment which are sold or retired are removed from the accounts, and any gain or loss is included in income. 19 DEPRECIATION AND AMORTIZATION - Wedgestone uses the straight-line method for depreciating property, plant and equipment over their estimated useful lives. Buildings and improvements are depreciated from 5 to 40 years, machinery and equipment from 3 to 10 years, furniture and fixtures from 3 to 5 years, and leasehold improvements are amortized over the terms of the respective leases or the life of the improvements, whichever is shorter. GOODWILL - The Company reviews the recoverability of goodwill to determine if there has been any permanent impairment. This assessment is performed based on the estimated undiscounted future cash flows (excluding interest charges) from operating activities compared with the carrying value of goodwill. If the undiscounted future cash flows are less than the carrying value, a write-down would be recorded, to reduce the asset to its estimated fair value. Accumulated amortization was $175,000 and $132,000 at December 31, 1997 and 1996, respectively. Goodwill is amortized over a period of seven years. INCOME TAXES - Deferred tax assets and deferred tax liabilities reflect the tax consequences in future years of differences between the income tax bases of assets and liabilities and the corresponding bases used for financial reporting purposes. The measurement of deferred tax assets is adjusted by a valuation reserve, if necessary, so that the net tax benefits are recognized only to the extent that they will more likely than not be realized. USE OF ESTIMATES - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. FAIR VALUE OF FINANCIAL INSTRUMENTS - CASH, ACCOUNTS RECEIVABLE, ACCOUNTS PAYABLE, NOTES PAYABLE AND NOTE RECEIVABLE FROM SHAREHOLDER - The carrying amounts approximate fair value because of the short maturities of these instruments. REVOLVING LINE OF CREDIT AND TERM LOAN - The carrying amount approximates fair value because the interest rate is based on variable reference rates. CONCENTRATION OF CREDIT RISK - Financial instruments which subject the Company to credit risk consist primarily of accounts receivable. This risk is reduced due to the number of customers and their geographic dispersion. The Company performs ongoing credit evaluations of its customers and maintains an allowance for potential credit losses. REAL ESTATE ACQUIRED BY FORECLOSURE - Real estate acquired by foreclosure is recorded at the lower of cost or fair value less estimated selling costs. INCOME/LOSS PER SHARE OF BENEFICIAL INTEREST - During 1997, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 128, Earnings Per Share. The Statement replaces the presentation of primary EPS with a presentation of basic EPS, which excludes dilution and is computed by dividing income available to shareholders of beneficial interest by the weighted average number of shares outstanding for the period. The Statement also requires the dual presentation of basic and diluted EPS on the face of the income statement for all entities with complex capital structures and requires a reconciliation of the numerator and denominator of the basic EPS computation to the numerator and denominator of diluted EPS computation. Diluted EPS is computed similarly to fully diluted EPS pursuant to APB Opinion No. 15. The adoption of SFAS No. 128 did not have an effect on the Company's financial statements as other potentially dilutive securities issued in 1997 were not dilutive. In addition, it is not necessary to restate prior periods presented. ACCOUNTING PRONOUNCEMENTS - In June 1997, The Financial Accounting Standards Board issued SFAS No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION. This statement is effective for fiscal years beginning after December 15, 1997. This Statement establishes standards for disclosure about the operating segments, products, and services, geographic areas and major customers, as well as descriptive information on how the operating segments were determined. The Company has not yet determined its reportable segments under this Statement. The Company will adopt this Statement in 1998. 20 NOTE 3. SALE OF SUBSIDIARY On March 5, 1996, Hercules closed its manufacturing plant in Pelham, Georgia. The market for the bumpers produced in the Pelham facility significantly changed during 1995. Historically, a significant percentage of Hercules business was for sales to dealers of domestic original equipment manufacturers. A new program implemented by one of these manufacturers in late 1994 made it extremely difficult for Hercules to remain competitive in this market segment. Hercules incurred a net loss of $125,000 in 1995 and continued to incur losses in 1996 through the date of sale totaling $966,000. As a result, management determined that closing the Pelham facility was appropriate. On April 18, 1996, the Board of Directors authorized and completed the sale of the Company's stock ownership in Hercules to MBC Corporation for $1.00 and the assumption of certain debt and other liabilities approximating $4.5 million, pursuant to a Stock Purchase Agreement. Included in other expense in 1996 is a loss on the sale of Hercules totaling $920,000 NOTE 4. RELATED PARTIES St. James has renewed its five year consulting agreement with PSG Associates, an affiliate of the former owners of St. James (who are also affiliated with Wedgestone), to provide advisory services to St. James with respect to its operations, expansion and financing activities at a minimum rate of $125,000 per year plus reimbursement of expenses through 2002. St. James paid $125,000 to PSG Associates for each of the years ended December 31, 1997, 1996 and 1995, respectively. In connection with the acquisition of the Automotive Segment of Standun Inc., Resource Holdings Associates and PFG Corp. ("PFG"), both of which are controlled by certain Wedgestone shareholders, received a fee of $220,000, in February 1995 consisting of $160,000 and 200,000 shares of beneficial interest of Wedgestone at a valuation price of $.30 per share. On January 25, 1995, Hercules entered into a five year agreement with PFG and Wedgestone Partners, an affiliate of the aforementioned shareholders, to provide advisory services to Hercules with respect to its operations, expansion and financing activities at an aggregate amount of $175,000. Hercules paid $175,000 for the year ended December 31, 1995, and $44,000 of this fee through April 18, 1996. This agreement was terminated in conjunction with the sale of the Company's stock ownership in Hercules. On January 12, 1993, as amended, Wedgestone entered into a credit facility with Rockaway 605 Corp. ("Rockaway") pursuant to which Wedgestone was permitted to borrow up to a maximum of $300,000 with additional over advances available at the discretion of the lender to fund Wedgestone's working capital needs and those of its subsidiaries. As a requirement of the financing to purchase the Automotive Segment, Wedgestone paid Rockaway $25,000 to release its lien on the stock of St. James and certain of Wedgestone's real estate. The Rockaway Loan was secured by a pledge of all of the stock of Wedgestone's direct subsidiaries and notes receivable. Rockaway is a real estate holding company which is controlled by the former shareholders of St. James. The loan was repaid in November, 1996. Wedgestone assumed a note associated with the termination of Standun's management agreement with Fifth Avenue Partners, a related party of Wedgestone, in the amount of $1,104,000 in conjunction with the acquisition of the Automotive Segment (See Note 1). Effective January 1, 1996, Fey Automotive Products, Inc. entered into a four-year agreement with PFG and Resource Holdings Associates to provide advisory services to Fey with respect to its operations, expansion and financing activities at an aggregate amount of $180,000 per annum. On May 20, 1997 Wedgestone advanced Stockwood, LLC. ("Stockwood") $1,650,000 under a one year secured note with interest at 12 percent. The note is secured by 3,500,000 shares of beneficial interest of Wedgestone Financial with principal and interest due at maturity. Stockwood is a related party through common ownership by certain Wedgestone Financial shareholders. NOTE 5. INVENTORIES Inventories consist of the following: (In Thousands) December 31, 1997 1996 ------ ------ Finished goods $3,056 $2,474 Work in progress 1,528 1,239 Raw materials 1,531 1,025 ----- ----- 6,115 4,738 Less allowances (132) (119) ------ ------ $5,983 $ 4,619 ------ ------ ------ ------ 21 NOTE 6. PROPERTY, PLANT AND EQUIPMENT The components of property, plant and equipment are as follows: (In Thousands) December 31, 1997 1996 ------- -------- Buildings and leasehold improvements $1,364 $1,229 Land 500 500 Machinery and equipment 9,022 8,440 Furniture and fixtures 1,432 1,324 ------ ------ 12,318 11,493 Accumulated depreciation and amortization (8,976) (8,256) ------ ------ Net property, plant and equipment $3,342 $3,237 ------ ------ ------ ------ NOTE 7. REAL ESTATE AND LENDING On January 30, 1997, the Company entered into an agreement to sell its 21 acres of land known as the Queens property for $1,375,000 less expenses of $42,200. Of this amount, $137,500 was tendered upon signing of the agreement and the balance, $1,237,500, was received upon closing on February 27, 1997. The book value of this property as of December 31, 1996 was $914,800. The Company recognized a gain of approximately $418,000 on this transaction. The balance in notes receivable is as follows: (In Thousands) December 31, 1997 1996 ------- -------- Sebago Lake Note --- 81 ------ ------ $ --- $ 81 ------ ------ ------ ------ The balance of real estate acquired by foreclosure is as follows: (In Thousands) December 31, 1997 1996 ------- ------- Gross investment $ 622 $ 7,644 Write down (446) (6,558) ------ ------- Net $ 176 $ 1,086 ------ ------- ------ ------- NOTE 8. REVOLVING CREDIT LINE AND LONG-TERM DEBT Revolving credit lines and long-term debt consist of the following: (In Thousands) December 31, 1997 1996 ------ ------ Revolving credit line with The CIT Group/Credit Finance, interest at prime plus 1.375% (9.75% at December 31, 1997) $5,677 $5,394 Term loan with The CIT Group/Credit Finance, interest at prime plus 2.5% (10% at December 31, 1996) --- 696 Term loan with The CIT Group/Credit Finance, interest at prime plus 2.5% (10% at December 31, 1996) --- 351 Term loan with The CIT Group/Credit Finance, interest at prime plus 1.375% (9.75% at December 31, 1997) 1,336 --- Notes payable to Fifth Avenue Partners, interest at 9%, payable in monthly installments of $22,917 through December 31, 1999 505 720 Other 40 60 ------ ------ Total 7,558 7,221 Less current portion of long-term debt (2,194) (1,952) ------ ------ Total long-term debt $5,364 $5,269 ------ ------ ------ ------ 22 The contractual payments of principal on long-term debt are due as follows: $2,194,000 in 1998, $581,000 in 1999, $319,000 in 2000, $320,000 in 2001 and $4,121,000 in 2002. In connection with the Tender Offer (the "Offer" or "Tender Offer") described in Note 11, the Company has arranged for financing the Offer through its primary lender, The CIT Group / Credit Finance. The arrangements include additional borrowings under the Company's current revolver loan approximating $3,000,000, additional advances under equipment financing term notes approximating $500,000 and an 18 month term note for $1,500,000. The Company will use approximately $1,000,000 in existing cash to fund the balance of the $6,000,000 estimated Tender Offer price assuming that all ofthe shares are tendered. On March 18, 1997, the Company amended and restated the agreement with CIT to a five-year $10 million credit facility collateralized by substantially all of the assets of the Company's wholly owned subsidiaries, providing a revolving credit line and term loan under terms substantially similar to the original agreement. The amended and restated agreement provides for borrowings based on a percentage of inventory and receivables and includes an equipment term loan. All loans are stated at the lender's prime rate plus 1.375% (9.75% at December 31, 1997). Wedgestone assumed a note associated with the termination of Standun's management agreement with Fifth Avenue Partners, a related party of Wedgestone, in the amount of $1,104,000 in conjunction with the acquisition of the Automotive Segment (See Note 1). NOTE 9. INCOME TAXES Wedgestone previously operated as a real estate investment trust ("REIT") under certain sections of the Internal Revenue Code. Wedgestone lost its REIT status when it emerged from bankruptcy in August 1992, and as such, income is taxed at the Wedgestone level. Wedgestone currently has a net operating loss carry forward of approximately $36,800,000 for federal Income tax purposes. These losses expire in various years from 2004 to 2008. In connection with the acquisition of the Automotive Segment, a tax benefit of $440,000 which was attributable to the increase in tax basis of the Automotive Segment's assets was allocated to additional paid-in capital. The provision for income taxes consists of the following components: 1997 1996 1995 ------ ----- ------- Current $ 670 $ 238 $ 42 Deferred 1,387 484 168 Change in valuation allowance (1,242) (566) (1,468) ------ ----- ------- $ 815 $ 156 ($ 1,258) ------ ----- ------- ------ ----- ------- 23 Deferred income tax assets were comprised of the following: 1997 1996 --------- -------- Net operating loss carry forward $ 12,793 $ 13,673 Accruals/Reserves 960 1,065 Depreciation 139 320 Basis difference on automotive segment assets acquired 473 440 Basis difference in real estate 189 443 -------- -------- Total deferred tax assets 14,554 15,941 Less valuation allowance (12,027) (13,269) -------- -------- Net deferred tax assets 2,527 2,672 Less current deferred tax assets (1,107) (476) -------- -------- Noncurrent deferred tax assets $ 1,420 $ 2,196 -------- -------- -------- -------- The following is a reconciliation between the income taxes computed at the Federal statutory rate and the provision for income taxes: 1997 1996 1995 ------- -------- ---------- Income taxes computed at the Federal statutory rate 34.00% 34.00% 34.00% State income taxes, net of Federal benefit 3.60% 11.03% 6.00% Basis difference from sale of subsidiary 5.37% --- --- Other 11.72% 3.91% (4.30)% Change in valuation allowance (33.02%) (38.73%) (250.01%) ------- -------- ---------- 21.67% (10.21%) (214.31%) ------- -------- ---------- ------- -------- ---------- NOTE 10. COMMITMENTS AND CONTINGENCIES Wedgestone is obligated under various cancelable and non cancelable operating leases for manufacturing facilities, machinery and equipment. These leases expire annually through August 31, 2002. Future minimum annual lease commitments are as follows: 1998 $1,362 1999 1,247 2000 1,168 2001 909 2002 415 ------ Total minimum lease payments $5,101 ------ ------ Total net rental expense under the terms of various building and equipment leases was $1,185,000, $904,000 and $980,000 for the years ended December 31, 1997, 1996 and 1995, respectively. There is a purchase option in the St. James manufacturing facility lease in the amount of $500,000, subject to certain offsets, exercisable at any time upon repayment of the mortgages which expire concurrently with the sub-lease on October 31, 1998. NOTE 11. STOCK OPTION AND PROFIT SHARING PLANS During 1996, Wedgestone created the Wedgestone Financial 1996 Stock Option Plan (the "Option Plan"). The Plan carries an effective date of December 31, 1996. Officers, other key employees and significant non-employees who are responsible for or contribute to the management, growth and/or profitability of the business of Wedgestone are eligible to be granted stock options under the Option Plan. The Option Plan replaces and supersedes a former stock option plan established in 1995. The optionees under the Option Plan will be selected from time to time by the Committee (a group of individuals appointed by the Trustees). The stock options granted under the Option Plan may be of two types: (i) Incentive Stock Options and (ii) Non-Qualified Stock Options. The option price per share of stock under a stock option will be determined by the Committee at the time of grant. The option price with respect to an incentive stock option shall not be less than 100% of the fair market value of the Wedgestone stock on the date of the option grant. The option price with respect to a non-qualified stock option shall not be less than 85% of the fair market value of the stock on the date of the option grant. The stock options can 24 be exercised at such times as determined by the Committee. The stock which is acquired through the exercise of the stock option, is required to be held for investment and not for resale or other distribution. Wedgestone has reserved 1,000,000 shares of its stock to be used for the Option Plan. During 1997, 812,800 options were granted and were immediately exercisable. None were exercised. Changes in the number of shares subject to options during the year ended December 31, 1997, are summarized as follows: Wtd Avg Number of Exercise Options Price --------- -------- Outstanding at beginning of year --- Options granted at $ .31 share 812,800 .31 Options exercised --- Options canceled or expired --- ------- ----- Outstanding at end of year 812,800 $ .31 ------- ----- ------- ----- Exercisable at end of year 812,800 $ .31 ------- ----- ------- ----- Weighted Average Remaining Contractual Life 4.00 yr ------- ------- The Company applies APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and related interpretations in accounting for its employee stock option plans. Accordingly, no compensation expense has been recognized for its stock-based compensation plans. Pro forma net income and net income per share had the Company accounted for stock options issued to employees in accordance with SFAS No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, are as follows: (IN THOUSANDS, EXCEPT PER SHARE DATA) 1997 ------ Net income-as reported $2,946 Net income-pro forma $2,922 Net income per share (basic and diluted)-as reported 0.13 Net income per share (basic and diluted)-pro forma 0.13 The pro forma effects of applying SFAS No. 123 may not be representative of the effects on reported net income and net income per share for future years since options may vest over several years and additional awards are made each year. The fair value of the Company's stock options used to compute pro forma net income and pro forma earnings per share disclosures is the estimated value using the Black-Scholes option-pricing model. The weighted average fair value per share of options granted in 1997 is $.05. The following assumptions were used in completing the model: 1997 ------ Dividend yield 0.0% Expected volatility 57.0% Risk-free rate of return, annual 6.5% Expected life 1 year In 1995 two outside directors were each granted 15,000 warrants to acquire shares of beneficial interest in Wedgestone at an exercise price of $.25 per warrant share. The warrants may be exercised at any time from the date of grant until October 31, 1998. The warrants or the warrant shares may not be disposed of or encumbered, except in accordance with certain provisions of the Securities Act of 1933. As of December 31, 1997, none of the warrants were exercised. In January 1995, the Company established the Wedgestone Automotive Corp Retirement Savings Plan (the "Retirement Plan"). The Retirement Plan provides that all eligible employees of the Company who have attained the age of 21, have completed one year of employment and are not subject to a collective bargaining agreement are permitted to contribute 25 up to 15% of their salary to the Retirement Plan. The Company makes contributions on behalf of each participant of a matching amount up to an employee contribution of 2% of such employee's salary. Employees are fully vested at all times with respect to all employee contributions to the Retirement Plan. On February 9, 1998 the Company announced a Tender Offer (the "Offer" or "Tender Offer") to acquire all of the issued and outstanding shares of the Company not owned by certain majority shareholders which include Stockwood LLC, JCS Management Co. Inc., PFG Corporation, RAB Management Corp., and JMS Holdings Co., Inc. whom collectively own 62.1% of the current issued and outstanding shares. The Offer price is $ .67 net per share to sellers in cash. Shares not tendered will be converted into the right to receive $ .67 per share in a merger to be consummated as soon as practical after the tender offer. Under the provisions of the Option Plan, option holders as of the date of the Tender Offer, to the extent they are vested, will be included in the total shares to be purchased. As of February 13, 1998, all such option holders are fully vested and under the Option Plan, are granted the right to exercise their options in conjunction with the Tender Offer in a cashless based exercise transaction whereby they would receive the Tender price per share less the exercise price per share of $.31. The contributions to Wedgestone's Retirement Plan were $21,600 and $20,700 for the years ended December 31, 1997 and 1996, respectively. NOTE 12. LITIGATION BANKRUPTCY CLAIMS An appeal was filed against the Company on May 25, 1995, by a holder of the Company's formerly issued Special Income Shares (the "Income Shares"). The Income Shares were designated to receive a distribution of any excess "profit or appreciation" realized by the Company on certain specific mortgages and notes receivable. The one remaining outstanding loan under which income rights had been granted related to a loan the Company participated in with a bank. This bank subsequently was liquidated and the FDIC assumed control. The FDIC approached the Company to seek approval to foreclose on the note since it was in default. Since the Company was involved in a bankruptcy proceeding, the Company sought bankruptcy court approval to proceed on the foreclosure action. In the motion seeking such approval was a request that (i) the FDIC remit to the Company any excess proceeds from the note, (ii) the Company cancel the Special Income Shares since this note was the sole remaining loan and (iii) the Company pay any funds, net of costs and fees collected from the FDIC to the holders of Income Shares as a liquidating distribution. This motion was approved by the bankruptcy court and the appeal was instituted. The appeal was denied on January 6, 1998. OTHER A complaint was filed against Fey, a wholly owned subsidiary of Wedgestone Automotive Corp ("WAC"), on September 10, 1996, in the Superior Court of Mitchell County in the state of Georgia, by Mitchell Real Estate Partnership, C. Ray Council, Hal A. Council, Max R. Council, Rex A. Council, June Council Hunter and Gay Council Moring (collectively, "Mitchell"). In its complaint, Mitchell asserts breach of contract and fraud claims against the defendants resulting from a Marketing Agreement between Mitchell, Fey and HAP for marketing consulting services relating to Hercules products, alleging, among other things, that Fey has impeded Mitchell's ability to earn commissions under the Marketing Agreement. Mitchell seeks monetary damages in excess of $4 million. Fey and the other defendants have removed the case to the United States District Court for the Middle District of Georgia. Fey and the other defendants have filed a motion to dismiss the case. Fey has agreed to extend the period for filing a responsive pleading pending the resolution of the procedural issues. Additional named defendants are John C. Shaw, chairman and trustee of the Company, Jeffrey S. Goldstein, the former President and a current trustee of the Company, James J. Pinto, the President of PFG Corporation, which holds in excess of 5% of the Company's shares, and David L. Sharp, the Chief Executive Officer of WAC and President of the Company. This litigation is in the initial stages no discovery has taken place. Fey and the other defendants believe Mitchell's claims are without merit and intend to vigorously contest the Mitchell complaint and pursue counter claims and affirmative defenses. Management is unable to evaluate the likelihood of an unfavorable outcome or estimate the amount or range of potential loss, if any. 26 NOTE 13. SEGMENT INFORMATION Wedgestone principally operates in two business segments: Automotive products and real estate and lending. The Automotive Segment manufactures aftermarket automotive accessories which are sold and distributed throughout the United States. The real estate activities include the sale of properties previously acquired by foreclosure. Financial Data By Business Segment: (In Thousands) For the Years Ended December 31, 1997 1996 1995 ------- ------- ------- REVENUE: Automotive Products $52,387 $46,286 $46,112 ------- ------- ------- ------- ------- ------- INCOME: Automotive Products $4,488 $ 2,944 $ 3,259 Real Estate and Lending (265) (174) (529) ------- ------- ------- Total Operating Income 4,223 2,770 2,730 Other Expenses including Taxes (1,277) (1,398) (885) ------- ------- ------- Net Income $2,946 $ 1,372 $ 1,845 ------- ------- ------- ------- ------- ------- IDENTIFIABLE ASSETS: Automotive Products $18,984 $16,221 $17,228 Real Estate and Lending 1,948 1,167 1,375 ------- ------- ------- Total Identifiable Assets 20,932 17,388 18,603 Corporate Assets 1,611 2,962 2,795 ------- ------- ------- Total Consolidated Assets $22,543 $20,350 $21,398 ------- ------- ------- ------- ------- ------- CAPITAL EXPENDITURES: Automotive Products $ 825 $ 933 $ 926 ------- ------- ------- ------- ------- ------- DEPRECIATION: Automotive Products $ 720 $ 771 $ 1,092 ------- ------- ------- ------- ------- ------- NOTE 16. SUPPLEMENTAL CASH FLOW INFORMATION Cash paid during the year for: (In Thousands) 1997 1996 1995 ---- ---- ---- Interest $ 957 $1,126 $1,334 Income Taxes $ 574 $ 278 $ 287 SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES In January, 1995 Wedgestone Automotive Corp, a subsidiary of Wedgestone Financial acquired substantially all of the assets of Hercules Bumpers, Inc. ("Hercules") which manufactures and distributes rear bumpers for both domestic and foreign light duty trucks. The purchase price for the assets acquired was the assumption of certain debt and other liabilities 27 approximating $5.1 million. In addition, certain debt is being guaranteed jointly and severally by Charles W. Brady ("Brady"), the principal shareholder of Hercules, and Chattahoochee Leasing Corporation ("CLC"), a corporation controlled by Brady. In exchange for this guarantee, Brady received a promissory note in the amount of $300,000 and 1,200,000 shares of beneficial interest of Wedgestone. In consideration for an agreement to pay a liability of Hercules, CLC received a promissory note for $100,000 which was secured by 100,000 shares of beneficial interest of Wedgestone. In June 1995, the Company exercised its right under the CLC Agreement and acquired the note by issuing these shares to CLC. See Sale of Subsidiary (Note 3). In connection with the Hercules acquisition, Resource Holdings Associates and PFG received a fee of $220,000 consisting of $160,000 and 200,000 shares of beneficial interest of Wedgestone at a valuation price of $.30 per share. In connection with the January, 1995 acquisition of Hercules, Wedgestone assumed liabilities to acquire assets as follows: Accrued expenses $1,094,201 Revolver and other debt 3,957,024 ---------- Total liabilities assumed $5,051,225 ---------- ---------- Receivables, inventories and other assets $2,990,855 Property, Plant and Equipment 2,060,370 ---------- Total assets acquired $5,051,225 ---------- ---------- In connection with the April, 1996 sale of Hercules, $5,088,000 of assets were sold and liabilities of $4,793,000 were assumed by the buyer. 28 PART III ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 10. TRUSTEES AND EXECUTIVE OFFICERS OF THE REGISTRANT The following table sets forth certain information concerning the trustees, executive officers and other management personnel of Wedgestone and its subsidiaries as of February 19,1998: Name Age Position ---- --- -------- Jeffrey S. Goldstein 51 Trustee - Wedgestone Financial John C. Shaw 43 Chairman of the Board, Trustee - Wedgestone Financial Jeffrey A. Oberg 43 Trustee - Wedgestone Financial John J. Doran 48 Trustee - Wedgestone Financial David L. Sharp 46 President - Wedgestone Financial Eric H. Lee 43 Chief Financial Officer, Treasurer / Secretary - Wedgestone Financial JEFFREY S. GOLDSTEIN served as President of Wedgestone from October 1, 1992 through July 5, 1997, and has continually served as a Trustee since June 16, 1992. Additionally, Mr. Goldstein has served as President of Rockaway 605 Corp. since 1989 and MBC Corp. as of 1996. Mr. Goldstein joined Rockaway 605 Corp. for the purpose of reorganizing Rockaway and he joined MBC for the purpose of assisting in its liquidation of Hercules, formally owned by Wedgestone. Mr. Goldstein also performed consulting services for Air Wisconsin Airlines Corp. From 1985 to 1989, Mr. Goldstein served as Executive Vice President and Treasurer of Kane Industries. From 1979 to 1985, Mr. Goldstein served as Vice President and Treasurer of Arkay Packaging Corp. JOHN C. SHAW has served as Chairman of the Board and as a Trustee since November, 1992. Mr. Shaw has served as a Managing Director of Resource Holdings Ltd., a New York based private merchant banking firm, since 1983. Mr. Shaw is a member of the Board of Directors of National Capital Management Corp., a publicly traded corporation with specialty finance, real estate and industrial operations. JEFFREY A. OBERG has served as a Trustee since October 1994. Mr. Oberg is currently a manager with the investment bank of Furman Selz. Up to 1997, Mr. Oberg had served as a Managing Director of KPMG Peat Marwick since August 1995. Mr. Oberg previously served as Senior Vice President Finance and Corporate Development at United States Banknote Corporation from January 1994 through July 1995, and as Vice President Finance and Corporate Development from February 1991 through December 1993. Prior to February 1991, Mr. Oberg served as Vice President in the Investment Banking Division at The First Boston Corporation. JOHN J. DORAN has served as a Trustee since October 1994. For the past ten years, Mr. Doran served as President of Citizens Medical Corporation and as a consultant to Medco Containment Services, Inc. Mr. Doran is a member of the Board of Directors of Sandwich CoOp. Bank, a publicly traded company. DAVID L. SHARP has served as President of Wedgestone Financial since July 5, 1997 and as Chief Executive Officer of Wedgestone Automotive Corp since the acquisition of the Automotive Segment from Standun on November 18, 1994. Mr. Sharp has been with the Standun companies since 1979, where he has served in various positions with Standun's subsidiaries and divisions. From 1989 until the acquisition, Mr. Sharp served as President of Standun and the Fey Automotive Products Division. ERIC H. LEE has served as Chief Financial Officer, Treasurer and Secretary of Wedgestone Financial as of July 5, 1997 and as Chief Financial Officer, Treasurer and Secretary of Wedgestone Automotive Corp since the acquisition of the Automotive Segment from Standun on November 18, 1994. From January 1994 until the acquisition, Mr. Lee served as Chief Financial Officer of Standun and as Controller of the Fey Automotive Products division from February 23, 1993 until January 1994. Prior to Mr. Lee's employment at Standun, he occupied various management positions within the electronics industry, and from 1991 to 1993 served as President and Chief Operating Officer of Synthane Taylor, a subsidiary of Alco Industries. 29 Mr. Shaw, as Chairman, Mr. Sharp as President and Mr. Lee as Chief Financial Officer, Treasurer and Secretary, serve at the pleasure of the Board of Trustees and each of the Trustees serve until their successors are elected and qualified at the next annual meeting of Wedgestone's shareholders. Wedgestone's Audit Committee is comprised of John J. Doran and Jeffrey A. Oberg. Wedgestone's Compensation Committee is comprised of John J. Doran, Jeffrey A. Oberg and John C. Shaw. Wedgestone's Executive Committee, is comprised of John C. Shaw and Jeffrey S. Goldstein. These individuals will hold their respective positions until the appointment of their respective successors. All trustees are reimbursed for their reasonable out-of-pocket expenses incurred in connection with attendance at Board meetings. Wedgestone compensates its trustees who are not officers of the Company at a rate of $2,000 per quarter and $200 per meeting. There are no family relationships among any of the executive officers or trustees of Wedgestone. COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES EXCHANGE ACT OF 1934 Section 16(a) of the Securities Exchange Act of 1934 requires Wedgestone's officers and directors and persons who own more than ten percent of a registered class of Wedgestone's equities securities, to file reports of ownership on Form 3 and changes in ownership on Forms 4 or 5 with the Securities and Exchange Commission (the "Commission") and the NASDAQ System. Such officers, directors and ten percent shareholders are also required by the Commission's rules to furnish Wedgestone with copies of all Section 16(a) forms they file. Based solely on its review of the copies of such forms received by it, or written representation from certain reporting persons that no Form 5 was required for such persons, Wedgestone believes that during the year ended December 31, 1995, all Section 16(a) filing requirements applicable to its officers, directors and ten percent shareholders were complied with. ITEM 11. EXECUTIVE COMPENSATION The three components of the Company's executive officer compensation program are base salary, annual incentive compensation in the form of a cash bonus and long-term incentive compensation in the form of stock options. Executive officers are also entitled to various benefits including participation in the Company's medical, life insurance and long-term disability plans which are generally available to employees of the Company. The Compensation Committee of the Board of Trustees consisting of two outside trustees and the Company's Chairman, is responsible for the evaluation and approval of the compensation of Wedgestone Financial officers. The following tabulation gives information with respect to remuneration paid to each of the three highest paid executive officers of Wedgestone and its subsidiaries for the years ended December 31, 1997, 1996, and 1995. SUMMARY COMPENSATION Long-Term Annual Compensation Compensation ------------------------------------------- ------------ Year Salary Bonus Benefits Options ---- ------ ----- -------- -------- Jeffrey S. Goldstein, President 1997 $108,500 $ -0- $ -0- 85,000 Wedgestone Financial (through July 5, 1997) 1996 175,000 -0- -0- -0- 1995 160,200 -0- -0- -0- David L. Sharp, President 1997 153,200 80,100 7,200 251,600 Wedgestone Financial 1996 126,200 25,000 6,000 -0- 1995 114,750 34,000 8,712 -0- Eric H. Lee, Chief Financial Officer 1997 112,500 57,100 7,200 160,000 Wedgestone Financial 1996 99,000 25,000 6,000 -0- 1995 95,000 26,000 8,678 -0- The following table shows, for those individuals named in the Summary Compensation table, information concerning stock options granted during the year ended December 31, 1997. 30 OPTION GRANTS IN 1997 Options % of Total Exercise Expiration Potential Realizable Value(2) Granted(1) Granted in 1997 Price Date(1) 5% 10% ---------- --------------- ----- ------- -- --- Jeffrey S. Goldstein 85,000 10.4% .31 9/22/02 25,489 31,437 David L. Sharp 251,600 30.9% .31 9/22/02 75,450 93,055 Eric H. Lee 160,000 19.7% .31 9/22/02 48,000 59,200 - ------------------------------ (1) Options indicated were immediately vested at date of grant and become exercisable over a five year period ending September 22, 2002. (2) Potential Realizable Value at assumed Annual Rates of Stock Price Appreciation for Option terms at rates of 5% and 10% is information mandated by the Securities and Exchange Commission and does not represent the Company's estimate or projection of the future price of its shares of Beneficial Interest. No executive officer exercised options during 1997. The following table sets forth, for each of the executive officers named in the Summary Compensation Table, the year-end value of unexercised options. AGGREGATED OPTION EXERCISES IN 1997 AND YEAR-END OPTION VALUES Number of Value of Unexercised Unexercised Options In-The-Money Options At Year-End At-Year-End ----------- ----------- Exercisable Unexercisable Exercisable Unexercisable ----------- ------------- ----------- ------------- Jeffrey S. Goldstein 85,000 -0- $ 56,950 0 David L. Sharp 251,600 -0- $168,572 0 Eric H. Lee 160,000 -0- $107,200 0 COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION During 1996, the Compensation Committee of the Board of Trustees of the Company was comprised of John J. Doran, Jeffrey A. Oberg and John C. Shaw. None of the members of the Compensation Committee has ever been an employee or officer of the Company or any of its subsidiaries, with the exception of Mr. Shaw who is the Chairman of the Board but does not receive compensation for acting in such capacity. Mr. Shaw, however, is a significant equity holder in PSG Associates and Resource Holdings Associates, each of which respectively provide financial and advisory services to St. James and Fey, subsidiaries of the Company. In 1997 the Company paid PSG Associates $125,000 in connection with such services to St. James and $60,000 and $120,000 to PFG and Resource Holdings Associates, respectively for such services rendered to Fey. The Company will pay PSG Associates $125,000 for financial and advisory services rendered to St. James for the current year and $60,000 and $120,000 to PFG and Resource Holdings Associates, respectively for such services rendered to Fey. Otherwise, none of the members of the Compensation Committee has any relationship requiring disclosure under any paragraph of Item 404 or in Item 402(j)(3) of Regulation S-K promulgated by the Commission. REPORT OF THE COMPENSATION COMMITTEE OF THE BOARD OF TRUSTEES The following is the report of the Compensation Committee of the Company (the "Committee") on executive compensation for fiscal 1997. COMPENSATION PHILOSOPHY. The Committee believes that it is in the best interests of the shareholders for the Company to attract, maintain and motivate top quality management personnel, especially its executive officers, by offering and maintaining a competitive compensation package that exhibits an appropriate relationship between executive pay and the creation of stockholder value. The general philosophy of the committee is to integrate (i) adequate levels of annual base compensation; (ii) annual cash bonuses and equity awards based on achievement of short-term corporate and individual performance goals, such that executive compensation levels will be higher in years in which performance goals are achieved or exceeded; and (iii) equity awards, to ensure that management has a continuing stake in the long term success of the Company and return of value to its stockholders. 31 The elements of the Committee's integrated compensation philosophy and the application of these philosophies during 1996 are summarized as follows: BASE COMPENSATION LEVELS. Although the Committee believes that performance-based pay elements should be a key element in the compensation packages for its executive officers, the Company must maintain base compensation levels commensurate with other comparable companies in its industry with whom the Company competes for management personnel (the "Comparable Companies"). The Comparable Companies selected by the Company are those automotive supply companies that have production and marketing strategies similar to those of the Company, which are similar to the Company and which compete for executives in the same markets as the Company. Although the process of setting base compensation levels often reflects subjective factors, such as leadership, commitment, attitude and motivational effect, the Committee also considers objective factors, such as achievement of performance goals (primarily profitability of the areas over which the executive has management responsibility), level of responsibility and prior experience. The Committee believes that the overall compensation paid to the Company's executive officers for the last year was competitive with overall compensation paid by the Comparable Companies for similar positions. PERFORMANCE-BASED COMPENSATION. The Company provides executive officers with the following performance-based compensation programs: - CASH BONUSES. Cash bonuses may be earned if certain specified performance goals are achieved. - STOCK OPTIONS. Options may be granted pursuant to the Wedgestone Financial 1996 Stock Option Plan (the "Option Plan") at an exercise price equal to or greater than the fair market value of the stock on the date of the grant. The value of the options is related directly to the market price of the stock and, accordingly to the long-term performance of the Company. An aggregate of 812,800 options were granted to the Company's executive officers in 1997 under the Option Plan. The number of options granted was based on the executive's length of service and level of responsibility in the Company. COMPENSATION OF PRESIDENT. Mr. Sharp's base compensation for 1997 was $153,200. As of February 19, 1998 the Committee has not established a base compensation for Mr. Sharp for 1998. The Committee believes that Mr. Sharp's base salary in 1997 was comparable to that of other Presidents in the industry in which the Company competes. Mr. Sharp received an $80,100 bonus in 1997. COMPENSATION OF CHIEF FINANCIAL OFFICER. Mr. Lee's base compensation for 1997 was $112,500. As of February 19, 1998 the Committee has not established a base compensation for Mr. Lee for 1998. The Committee believes that Mr. Lee's base salary in 1997 was comparable to that of other Chief Financial Officers in the industry in which the Company competes. Mr. Lee received a $57,100 bonus in 1997. John J. Doran, Chairman Jeffrey A. Oberg John C. Shaw Members of the Compensation Committee 32 PROFIT SHARING, STOCK OPTION PLANS AND WARRANTS During 1996 Wedgestone created the Wedgestone Financial 1996 Stock Option Plan (the "Option Plan"). The Option Plan carries an effective date of December 31, 1996. The total number of shares of Wedgestone stock reserved and available for distribution under the Option Plan is 1,000,000. Officers, other key employees and significant non-employees who are responsible for or contribute to the management, growth and/or profitability of the business of Wedgestone are eligible to be granted stock options under the Option Plan. The Option Plan replaces and supersedes a former stock option plan established in 1995. The optionees under the Option Plan will be selected from time to time by the Committee (a group of not less than three persons appointed by the Trustees). The stock options granted under the Option Plan may be of two types: (i) Incentive Stock Options and (ii) Non-Qualified Stock Options. The option price per share of stock under a stock option will be determined by the Committee at the time of grant. The option price with respect to an incentive stock option shall not be less than 100% of the fair market value of the Wedgestone stock on the date of the option grant. The option price with respect to a non-qualified stock option shall not be less than 85% of the fair market value of the Wedgestone stock on the date of the option grant. The stock options can be exercised at such times as determined by the Committee. The stock which is acquired through the exercise of the stock option is required to be held for investment and not for resale or other distribution. The options and the stock are non-transferable. As of December 31, 1997, 812,800 options have been granted. In 1995 two outside directors, Mr. John J. Doran and Mr. Jeffrey A. Oberg, were each granted 15,000 warrants to acquire shares of beneficial interest in Wedgestone at an exercise price of $.25 per warrant share. The warrants may be exercised at any time from the date of grant until October 31, 1998. The warrants or the warrant shares may not be disposed of or encumbered, except in accordance with certain provisions of the Securities Act. As of February 9, 1998, none of the warrants have been exercised. All former Profit Sharing, Stock Option and 401(k) Profit Sharing Plans were terminated pursuant to the bankruptcy plan of reorganization in 1992. The 401(k) Profit Sharing Plan was liquidated as of July 21, 1993 and the assets were distributed to the plan participants. In January 1995, the Company established the Wedgestone Automotive Corp Retirement Savings Plan (the "Retirement Plan"). The Retirement Plan provides that all eligible employees of the Company who have attained the age of 21, have completed one year of employment and are not subject to a collective bargaining agreement are permitted to contribute up to 15% of their salary to the Retirement Plan. The Company makes contributions on behalf of each participant of a matching amount up to an employee contribution of 2% of such employee's salary. Employees are fully vested at all times with respect to all employee contributions to the Retirement Plan. On February 9, 1998 the Company announced a Tender Offer (the "Offer" or "Tender Offer") to acquire all of the issued and outstanding shares of the Company not owned by certain majority shareholders which include Stockwood LLC, JCS Management Co. Inc., PFG Corporation, RAB Management Corp., and JMS Holdings Co., Inc. whom collectively own 62.1% of the current issued and outstanding shares. The Offer price is $ .67 net per share to sellers in cash. Shares not tendered will be converted into the right to receive $ .67 per share in a merger to be consummated as soon as practical after the Tender Offer. Under the provisions of the Option Plan, option holders as of the date of the Tender Offer, to the extent they are vested, will be included in the total shares to be purchased. As of February 13, 1998, all such option holders are fully vested and under the Option Plan, are granted the right to exercise their options in conjunction with the Tender Offer in a cash-less based exercise transaction whereby they would receive the Tender price per share less the exercise price per share of $.31. 33 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table shows, as of December 31, 1997, certain information known to Wedgestone regarding security holders of Wedgestone who may be deemed to be the beneficial owners of 5% or more of each class of Wedgestone's shares. BENEFICIAL SHARES ----------------------------------- Amount and Nature of Percent of Name and Address of Beneficial Owners Beneficial Ownership Class - ------------------------------------- -------------------- ---------- Stockwood LLC 6,795,223 30.2% 520 Madison Avenue, 40th Floor New York, NY 10022 JCS Management Co., Inc. 8,492,422(1) 37.8% 520 Madison Avenue, 40th Floor New York, NY 10022 PFG Corporation 1,713,865(2) 7.6% 235 Sunrise Boulevard Palm Beach, FL 33480 RAB Management Corp. 1,697,199(3) 7.5% 520 Madison Avenue, 40th Floor New York, NY 10022 JMS Holdings Co., Inc. 1,697,198(4) 7.5% 520 Madison Avenue, 40th Floor New York, NY 10022 Charles Brady 1,300,000(5) 5.8% 1315 Peachtree Street N.E. Suite 300 Atlanta, GA 30309 - ----------------------------------- (1) Mr. John C. Shaw is the president and sole shareholder of this company. 6,795,223 of these shares are held by Stockwood LLC. Mr. Shaw is the general manager of Stockwood LLC. (2) Mr. James J. Pinto is the president and sole shareholder of this company. PFG owns 25% of Stockwood LLC. (3) Mr Richard A. Bartlett is the president and sole shareholder of this company. (4) Mr. Jerry M. Seslowe is the president and sole shareholder of this company. (5) Includes 100,000 shares held by Chattahoochee Leasing Corporation, an affiliate of Mr. Brady. SECURITY OWNERSHIP OF MANAGEMENT The following table shows, as of December 31, 1997, based upon information supplied by the Trustees and officers of Wedgestone and its Subsidiaries, the amount and nature of ownership of Wedgestone shares of each Trustee of Wedgestone and of all Trustees and officers as a group. Amount and Nature of Percent of Name and Address of Beneficial Owners Beneficial Ownership Class - ------------------------------------- -------------------- ---------- John C. Shaw 8,492,422 (1) 37.8% Jeffrey A. Oberg 15,000 (2) * John J Doran 15,000 (2) * Jeffrey S. Goldstein 85,000 (3) * David L. Sharp 251,600 (3) 1.0% Eric H. Lee 160,000 (3) * - ----------------------------------- * Represents less than 1% (1) See Footnote (1) under Security Ownership of Certain Beneficial Owners. 34 (2) Represents a Warrant that is immediately exercisable to purchase 15,000 shares. (3) Represents options that are immediately exercisable to purchase shares indicated. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The Automotive Segment was purchased from Standun, which is indirectly owned and/or controlled by Resource Holdings Associates and PFG Corp. The managing directors of Resource Holdings Ltd. (the general partner of Resource Holdings Associates) and PFG Corp are former shareholders of St. James. Each of the managing directors owns directly or indirectly in excess of 5% of the outstanding shares of Wedgestone. Stockwood owns 31.0% of Wedgestone. Wedgestone assumed a note associated with the termination of Standun's management agreement with Fifth Avenue Partners, a related party of Wedgestone in the amount of $1,104,086 in conjunction with the acquisition. The note is payable monthly with interest calculated in arrears at 9% per annum over the five years ending December 31, 1999. In 1997 Wedgestone paid $ 275,000 in principal and interest on this loan. St. James has a Consulting Agreement with PSG Associates entered into on January 10, 1992 (prior to its acquisition by Wedgestone). Pursuant to this Agreement, PSG Associates has agreed to provide advisory services to St. James with respect to its operations, expansion and financing activities at a minimum rate of $125,000 per year plus reimbursement of expenses. Mr. Shaw, a trustee of the Company, is a significant equity holder in PSG Associates, through JCS Holdings Corp. ("JCS") as is each of PFG Corp., JMS Holdings Corp., and RAB Management Corp. (the former St. James shareholders). During 1997, 1996 and 1995, St. James paid $125,000 per year to PSG Associates under this contract. For 1998, St. James is required to pay to PSG Associates $125,000 annually, pursuant to this Agreement. Effective January 1, 1996, Fey Automotive Products, Inc. entered into a four-year agreement with PFG and Resource Holdings Associates to provide advisory services to Fey with respect to its operations, expansion and financing activities at an aggregate amount of $180,000. On January 12, 1993, as amended, Wedgestone entered into a secured, one year credit facility due July 1996 with Rockaway pursuant to which Wedgestone was permitted to borrow up to a maximum to $300,000 with additional over advances available at the discretion of the lender to fund Wedgestone's working capital needs and those of its subsidiaries. The contractual rate of interest on this facility was fifteen percent (15%) per annum and there was a commitment fee of $4,500, payable upon initial funding and an extension fee of $5,000 in connection with the amendment in 1994. The Rockaway Loan was secured by a pledge of substantially all of the stock of Wedgestone's subsidiaries, its personal assets and notes receivables. As of December 31, 1995, Wedgestone had borrowed $300,000 pursuant to this facility and Rockaway advanced amounts in excess of the agreement of $429,000. In 1996, the Company paid $ 717,800 in principal and interest on this credit facility. Rockaway is a real estate holding company which is controlled by former St. James shareholders. The former St. James shareholders are entitled to substantially all of the economic benefits of Rockaway. Mr. Goldstein, who was the former president and a trustee of Wedgestone, the president of Rockaway. This credit facility was repaid in 1996. On May 20, 1997 Wedgestone advanced Stockwood, LLC. ("Stockwood") $1,650,000 under a one year secured note with interest at 12 percent. The note is secured by 3,500,000 shares of beneficial interest of Wedgestone Financial with principal and interest due at maturity. Stockwood is a related party through common ownership by certain Wedgestone Financial shareholders. 35 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON FORM 10-K (a) Set forth below are consolidated financial statements, financial statement schedules and exhibits filed as part of this Annual Report on Form 10-K. 1. Consolidated Financial Statements Reference is made to the index of consolidated financial statements and supplementary data on page 13. 2. Financial Statement Schedules Schedule II, Valuation and Qualifying Accounts, Schedule III, Real Estate and Accumulated Depreciation and Schedule IV, Mortgage Loans on Real Estate appear on pages 41 through 43 hereof. All other schedules are not included because they are not applicable. 3. Exhibits The following Exhibits are filed as part of, or incorporated by reference into this report: Exhibit No. ----------- (2) (i) The Merger Agreement with St. James Automotive Corp. into a subsidiary of Wedgestone as contemplated in Wedgestone's Plan of Reorganization dated May 29, 1992 (Filed as Exhibit 2 to Form 8-K filed June 15, 1992 and incorporated herein by reference). (ii) The Asset Sale Agreement between Wedgestone Financial, Wedgestone Automotive Corp., Fey Automotive Products, Inc. and Standun, Inc. dated October 28, 1994 (Filed as Exhibit 1 to Form 8-K filed October 28, 1994 and incorporated herein by reference). (iii) First Amendment to Asset Sale Agreement between Fey Automotive Products, Inc. and Standun, Inc. dated November 17, 1994 (Filed as Exhibit 2 to Form 8-K filed December 1, 1994 and incorporated herein by reference). (iv) Asset Sale Agreement between Hercules Automotive Products, Inc. (a subsidiary of Wedgestone Financial) and Hercules Bumpers, Inc. dated December 23, 1994 (Filed as Exhibit 1 to Form 8-K filed January 23, 1995 and incorporated herein by reference). (v) Letter Amendment to Asset Sale Agreement between Hercules Automotive Products, Inc. and Hercules Bumpers, Inc. dated December 23, 1994 (Filed as Exhibit 2 to Form 8-K filed January 23, 1995 and incorporated herein by reference). (3) (i) Amendment and Restatement of Declaration of Trust and Appointment of Trustees and Acceptance of Appointment of Trustees dated June 15, 1992 (Filed as Exhibit 3 to Form 8-K on June 26, 1992 and incorporated herein by reference). (4) (i) Specimen certificate for shares of beneficial interest, $1.00 par value (Filed as Exhibit 1 to Form S-11 Registration Statement No. 2-66921 and incorporated herein by reference). (ii) Specimen certificate for Special Income Shares (Filed as Exhibit 4(b) to Form S-14 Registration Statement No. 2-98006 and incorporated herein by reference). (10) (i) Letter of Intent between Wedgestone Financial and PSG Holdings Corp., d/b/a St. James Automotive (Filed as Exhibit C to First Amended of Reorganization which was filed as Exhibit 2(ii) to Form 8-K filed February 12, 1992 and incorporated herein by reference). 36 (ii) Term note for $1,000,000 from Genesis Plastics, Inc., to Wedgestone Financial (Filed as an exhibit to Form 8-K Report dated August 24, 1992 and incorporated herein by reference). (iii) Loan and Security Agreement dated August 24, 1992 between Genesis Plastics, Inc., and Wedgestone Financial for loan (Filed as an exhibit to Form 8-K Report dated August 24, 1992 and incorporated herein by reference). (iv) Unconditional Secured Guaranty dated August 24, 1992 between Nicon Holdings, Inc., and Wedgestone Financial for loan (Filed as an exhibit to Form 8-K Report dated August 24, 1992 and incorporated herein by reference). (v) Unconditional Guaranty dated August 24, 1992 between Nicon Holdings, Inc., and Wedgestone Financial for loan (Filed as an exhibit to Form 8-K Report dated August 24, 1992 and incorporated herein by reference). (vi) Stock Exchange Agreement and Plan of Reorganization dated August 24, 1992 between Nicon Plastics, Inc., and Wedgestone Financial (Filed as an exhibit to Form 8-K Report dated August 24, 1992 and incorporated herein by reference). (vii) Loan Participation and Sharing Agreement dated December 17, 1992 between Wedgestone Financial and JCS Holdings Corp., RAB Management Corp., JMS Holdings Corp., and PFG Corp. (Filed as an exhibit to Form 10-K filed March 31, 1993 and incorporated herein by reference). (viii) Loan and Security Agreement dated January 12, 1993 between Wedgestone Financial and Rockaway 605 Corp. (Filed as an exhibit to Form 10-K filed March 31, 1993 and incorporated herein by reference). (ix) Amendment dated January 15, 1994 of Loan Participation and Security Agreement dated January 12, 1993 between Wedgestone Financial and Rockaway 605 Corp. (Filed as an exhibit to Form 10-K filed April 13, 1994 and incorporated herein by reference). (x) Court approved motion by IRP releasing guarantee of indebtedness owed to Charles Sullivan in exchange for the right to purchase Wedgestone's one acre parcel and IRP's assignment of it's 50% interest in Wedgestone's New York property to Wedgestone. (Filed as an exhibit to Form 10-K filed April 13, 1994 and incorporated herein by reference). (xi) Amendment dated November 1, 1994 of Loan and Security Agreement dated January 12, 1993 between Wedgestone Financial and Rockaway 605 Corp. (Filed as an exhibit to Form 10-K filed March 30, 1995 and incorporated herein by reference). (xii) Registration Rights Agreement between Standun, Inc. and Wedgestone Financial dated November 18, 1994 (Filed as Exhibit 3 to Form 8-K filed December 1, 1994 and incorporated herein by reference). (xiii) The Wedgestone Financial 1994 Stock Option Plan effective September 24, 1994. (Filed as an exhibit to Form 10-K filed March 30, 1995 and incorporated herein by reference). (xiv) Promissory Note between Standun, Inc. and 5th Avenue Partners dated November 17, 1994 and Assignment Agreement, assigning the note to Fey Automotive Products, Inc. (Filed as an exhibit to Form 10-K filed March 30, 1995 and incorporated herein by reference). (xv) Revolving Credit Line between Fey Automotive Products, Inc., Sigma Plating Co., Inc. and St. James Automotive Corp. and The CIT Group, Inc. dated November 18, 1994.(Filed as an exhibit to Form 10-K filed March 30, 1995 and incorporated herein by reference). (xvi) Credit Enhancement Agreement of Charles Brady, Chattahoochee Leasing Corporation and Wedgestone Financial dated January 8, 1995 (Filed as Exhibit 3 to Form 8-K filed January 23, 1995 and incorporated herein by reference). 37 (xvii) Promissory Note between Charles W. Brady and Hercules Automotive Products, Inc. dated January 8, 1995 (Filed as Exhibit 4 to Form 8-K filed January 23, 1995 and incorporated herein by reference). (xviii) Promissory Note between Chattahoochee Leasing Corporation and Hercules Automotive Products, Inc. dated January 8, 1995 (Filed as Exhibit 5 to Form 8-K filed January 23, 1995 and incorporated herein by reference). (xix) The Wedgestone Financial 1996 Stock Option Plan effective December 31, 1996 (Filed herewith). (xx) The Management Agreement between Fey Automotive Products, Inc. and PFG Corp. effective January 1, 1996 (Filed herewith). (xxi) The Management Agreement between Fey Automotive Products, Inc. and Resource Holdings Associates effective January 1, 1996 (Filed herewith). (21) Subsidiaries of Registrant: Wedgestone College Point Corp., a New York corporation Bristol Village Inc., a Connecticut corporation MWF Corp., a Delaware corporation LIP Corp., a Massachusetts corporation St. James Automotive, a Delaware corporation Wedgestone Automotive Corp., a Delaware corporation Fey Automotive Products, Inc., a Delaware corporation Sigma Plating Co., Inc., a California corporation Note: Wedgestone Financial has seven consolidated wholly owned subsidiaries operating in the United States. Wedgestone College Point Corp., Bristol Village Inc., MWF Corp., and LIP Corp. own real estate acquired from a borrower. See Schedule III to this report for a description of the real estate so acquired. St. James Automotive Corp., Wedgestone Automotive Corp., and Fey Automotive Products, Inc., manufacture light duty truck aftermarket accessories. Sigma Plating Co., Inc. operates an electroplating facility. (27) (a) Financial Data Schedule (Filed herewith). (b) Reports on Form 8-K (1) Form 8-K: Management Changes, issued on July 6, 1997. SIGNATURES 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. WEDGESTONE FINANCIAL Date: February 19, 1998 By: /s/ Eric H. Lee ----------------------- Chief Financial Officer 38 Pursuant to the requirements of the Securities and Exchange Act of 1934, this report has been signed below the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date: February 19, 1998 By: /s/ John C. Shaw ----------------------- Trustee Date: February 19, 1998 By: /s/ Jeffrey A. Oberg ----------------------- Trustee Date: February 19, 1998 By:/s/ John J. Doran ----------------------- Trustee Date: February 19, 1998 By:/s/ Jeffrey Goldstein ----------------------- Trustee The name "Wedgestone Financial" (formally Wedgestone Realty Investors Trust) is the designation of The Trustees under a Declaration of Trust dated March 12, 1980, as amended, and in accordance with such Declaration of Trust notice is hereby given that all persons dealing with Wedgestone Financial by so acting acknowledge and agree that such persons must look solely to Wedgestone property for the enforcement of any claims against Wedgestone Financial and that neither The Trustees, officers, employees, agents nor shareholders assume any personal liability for claims against Wedgestone or obligations entered into on behalf of Wedgestone Financial, and that the respective properties shall not be subject to claims of any other person in respect of any such liability. 39 SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS: (Amounts in Thousands) ADDITIONS ----------------------- Balance Charged Charged Balance at beginning to costs & to other at end Description Year of the Year expenses accounts Deductions of the year ----------- ---- ----------- ---------- -------- ---------- ----------- Allowance for Doubtful Accounts 1995 202 21 272(4) (239)(1) 256 1996 256 190 (60)(4) (53)(1) 333 1997 333 85 (74)(1) 344 Inventory Reserve 1995 283 (16) 230(4) (22)(2) 368 (107)(3) 1996 368 24 (231)(4) (42)(2) 119 1997 119 38 (25)(2) 132 - ------------------------------ (1) Net Charge-off of bad debts (2) Write off of obsolete inventory (3) Physical inventory adjustment (4) Assumed and subsequently disposed of in connection with the 1995 purchase and 1996 sale of Hercules. 40 SCHEDULE III - REAL ESTATE AND ACCUMULATED DEPRECIATION: (Amounts in Thousands) Gross Amount at End of Period Buildings & Date Description Land Improvements Total Acquired -------------------- ---------- -------------------- ---------- -------- LAND Connecticut $ 128 $0 $ 128 10/88 RESIDENTIAL PROPERTIES Northeastern Massachusetts 494 494 10/89 ----- ---- ----- Total Real Estate $ 622 $0 $ 622 ----- ---- ----- ----- ---- ----- 1997 1996 1995 ------- ------- ------- Balance at beginning of period $1,086 $ 1,091 $ 965 Additions during the period: Improvements/Carrying costs 5 --- 126 ------- ------- ------- 5 --- 126 ------- ------- ------- 1,091 1,091 1,091 Deductions during the period Sales 915 --- --- Write-off of real estate held 5 Depreciation Legal Settlement Transferred to IRP ------- ------- ------- 915 --- --- ------- ------- ------- Balance at end of year $ 176 $ 1,086 $ 1,091 ------- ------- ------- ------- ------- ------- See Note 7 to the Consolidated Financial Statements. 41 SCHEDULE IV -- NOTES RECEIVABLE AND MORTGAGE LOANS ON REAL ESTATE: (Amounts in Thousands) PRINCIPAL AMOUNT OF INTEREST FINAL PERIODIC FACE CARRYING LOANS SUBJECT RATE AT MATURITY PAYMENT AMOUNT OF AMOUNT OF TO DELINQUENT PROPERTY TYPE 12/31/96 DATE TERM MORTGAGES MORTGAGES PRIN/INTEREST - ----------------------- -------- -------- -------- --------- --------- ------------- MORTGAGE LOANS NONE 0 0 $0 --------- --------- ------------- - ------------------------------ CHANGES IN NOTES RECEIVABLE, MORTGAGE LOANS AND LONG TERM NOTES: 1997 1996 1995 ------ ------ ------ Balance at beginning of period $ 81 $ 84 $ 735 Additions during period Increase to existing mortgage loans --- --- --- ------ ------ ------ --- --- --- ------ ------ ------ 81 84 735 ------ ------ ------ Deductions during period Collections of principal 166 3 1 Cost of mortgages transferred to IRP Reserve for loan loss (85) --- 650 ------ ------ ------ 81 3 651 ------ ------ ------ Balance at end of year $ 0 $ 81 $ 84 ------ ------ ------ ------ ------ ------ 42