10-Q 1 b400411_10q.txt QUARTERLY REPORT =============================================================================== SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 -------------- FORM 10-Q (MARK ONE) |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2004 OR |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 333-58675 KEY COMPONENTS, LLC ------------------- (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 04-3425424 -------- ---------- (STATE OR OTHER JURISDICTION OF (IRS EMPLOYER IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 200 WHITE PLAINS ROAD, TARRYTOWN NY 10591 ----------------------------------- ----- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (914) 332-8088 -------------- (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) COMMISSION FILE NUMBER 333-58675-01 KEY COMPONENTS FINANCE CORP. * ------------------------------ (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 14-1805946 -------- ---------- (STATE OR OTHER JURISDICTION OF (IRS EMPLOYER IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 200 WHITE PLAINS ROAD, TARRYTOWN NY 10591 ----------------------------------- ----- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (914) 332-8088 -------------- (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) Indicate by check mark whether registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. |X| Yes |_| No Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). |_| Yes |X| No As of August 12, 2004, all of the membership interests in Key Components, LLC were owned by Key Components, Inc., a privately held New York corporation. All of the shares of common stock of Key Components Finance Corp. were owned by Key Components, LLC. *Key Components Finance Corp. meets the conditions set forth in General Instruction H (1) (a) and (b) of Form 10-Q and is therefore filing this Form with reduced disclosure format. =============================================================================== KEY COMPONENTS, LLC FORM 10-Q INDEX JUNE 30, 2004

PAGE NUMBER ------~~---------------------------------------------------------------------------------------------~~ ~~September~~PART ~~30,~~I ~~December~~Item ~~31,~~1. ~~2003 2002~~ --~~------------------------------------------------------------------------------------------------~~ ~~Assets:~~Consolidated ~~(Unaudited)~~Financial ~~Current~~Statements: ~~Cash~~Balance ~~$5,046~~Sheets............................................................. $ 2~~,879~~ ~~Accounts~~Statements ~~receivable, net~~ of ~~allowance~~Income....................................................... ~~for~~3 ~~doubtful~~Statements ~~accounts~~ of ~~$1,648~~Members' ~~and~~Equity.............................................. ~~$1,459~~4 inStatements ~~2003~~of ~~and~~Cash ~~2002,~~Flows................................................... ~~respectively~~5 ~~25,405~~Statements ~~21,447~~of ~~Inventories~~Comprehensive ~~30,012~~Income ~~29,623~~(Loss).................................. ~~Prepaid~~6 ~~expenses~~Notes ~~and~~to ~~other~~Consolidated ~~current~~Financial ~~assets~~Statements................................. ~~3,059~~7 Item 2~~,800~~. ~~Prepaid income taxes~~ - ~~3,400 Deferred income taxes 5,364 5,295~~ -~~-------------------------------------------------------------------------------------------------~~ ~~Total~~Management's ~~current~~Discussion ~~assets~~and ~~68,886~~Analysis ~~65,444~~of ~~Property,~~Financial ~~plant~~Condition and ~~equipment,~~Results ~~net~~of ~~24,292~~Operations.................................................. ~~23,883~~13 ~~Goodwill,~~Item ~~net 97,539 95,554 Deferred financing costs, net~~ 3~~,645 4,364 Prepaid pension cost 2,707 3,021 Other assets 717 448~~ .--~~------------------------------------------------------------------------------------------------~~ ~~Total~~Quantitative ~~assets $197,786 $192,714 -------------------------------------------------------------------------------------------------- Liabilities~~ and ~~Member's~~Qualitative ~~Equity:~~Disclosures ~~Current~~about ~~Current~~Market ~~portion~~Risk................. of23 ~~long-term~~Item ~~debt $ 11,646 $ 7,225 Accounts payable 10,388 9,940 Accrued compensation~~ 4~~,762 4,098 Accrued expenses 8,642 7,087 Accrued interest 3,297 713~~ .--~~------------------------------------------------------------------------------------------------~~ ~~Total~~Controls ~~current~~and ~~liabilities~~Procedures.................................................... ~~38,735~~24 ~~29,063~~PART ~~Long-term~~II ~~debt~~Item ~~124,990 136,619 Accrued lease costs 421 469 Deferred income taxes 540 579 Other long~~6.-~~term liabilities 816 940~~ -~~-------------------------------------------------------------------------------------------------~~ ~~Total~~Exhibits ~~liabilities 165,502 167,670 Commitments~~ and ~~contingencies~~Reports ~~Member's~~on ~~equity~~Form ~~32,284 25,044~~ 8-~~-------------------------------------------------------------------------------------------------~~K........................................... ~~Total~~24 ~~liabilities~~Signatures ~~and~~........................................................................... ~~member's equity $197,786 $192,714 --------------------------------------------------------------------------------------------------~~25

1 PART I -- FINANCIAL INFORMATION ITEM 1 -- CONSOLIDATED FINANCIAL STATEMENTS KEY COMPONENTS, LLC AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)

~~Nine Months Ended Three Months Ended September 30, September 30,~~ ------------------------- --------------------- ~~2003 2002 2003 2002~~ -----------------------------------------------------------~~-----------------------------------------------------~~ ~~Net~~JUNE ~~sales $147~~30,~~396~~ ~~$144,378~~December ~~$49,312 $47,981 Cost of goods sold 93,827 90,275~~ 31,~~800~~ ~~29,534~~2004 2003 ---------------------------------------------------------------------------------------------------------~~-------~~ ~~Gross~~ASSETS: ~~profit~~(unaudited) 53Current Cash $ 1,~~569~~349 54$ 3,~~103~~872 17Accounts receivable,~~512~~ 18net of allowance for doubtful accounts of $1,~~447~~843 ~~Selling~~and $1,702 ~~general~~in 2004 and ~~administrative~~2003, ~~expenses~~respectively 3027,~~562~~528 2823,~~833~~989 10Inventories 32,~~481~~263 924,~~672~~063 ~~Other~~Prepaid expenses and other current assets 963 1,~~009~~862 ~~803~~Deferred ~~565~~income ~~453~~taxes 5,149 5,308 Assets held for sale 16,349 20,464 -------------------------------------------------------------------------------------------------------~~---------~~ ~~Income~~Total ~~from~~current ~~operations~~assets 2183,~~998~~601 2479,~~467~~558 6Property,~~466~~ 8plant and equipment,~~322~~ ~~Interest~~net ~~expense~~18,442 (918,~~349)~~149 ~~(10~~Goodwill,~~083)~~ (3net 86,~~071)~~483 (80,165 Deferred financing costs, net 2,890 3,~~311)~~370 Prepaid pension cost 2,518 2,684 Other assets 659 779 -------------------------------------------------------------------------------------------------------~~---------~~ ~~Income~~Total ~~before~~assets ~~provision~~$194,593 ~~for~~$184,705 ~~income~~======================================================================================================= ~~taxes~~LIABILITIES ~~and~~AND ~~cumulative~~MEMBER'S ~~effect~~EQUITY: Current Current portion of ~~change~~long-term indebt ~~accounting~~$ ~~principle~~13,301 $ 12,~~649~~196 14Accounts payable 16,~~384~~492 311,~~395~~010 5Accrued compensation 4,~~011~~106 ~~Provision~~4,170 ~~for~~Accrued expenses 8,972 6,541 Accrued income taxes 5,~~309~~972 61,~~341~~458 Accrued interest 1,~~333~~141 21,~~060~~102 Liabilities associated with assets held for sale 1,960 1,922 -------------------------------------------------------------------------------------------------------~~---------~~ ~~Income~~Total ~~before~~current ~~cumulative~~liabilities ~~effect~~51,944 in38,399 ~~change~~Long-term indebt ~~accounting principle 7~~113,~~340~~401 8120,~~043~~561 Deferred income taxes 2,~~062~~329 2,~~951~~626 ~~Cumulative~~Other ~~effect~~long-term inliabilities ~~change of accounting principle~~2,468 ~~net of taxes of $3~~1,~~007~~739 - ~~(8,157)~~ - - ----------------------------------------------------------------------------------------------------~~------------~~ ~~Net~~Total ~~income~~liabilities ~~(loss)~~170,142 ~~$ 7~~163,~~340~~325 $Commitments ~~(114)~~and $2contingencies Member's equity 24,~~062~~451 $221,~~951~~380 -------------------------------------------------------------------------------------------------------~~---------~~ Total liabilities and member's equity $194,593 $184,705 =======================================================================================================

The accompanying notes are an integral part of these financial statements. 2 KEY COMPONENTS, LLC AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED, IN THOUSANDS)

~~For~~SIX ~~the~~MONTHS ~~Nine~~ENDED ~~Months~~THREE ~~For~~MONTHS ~~the~~ENDED ~~Year~~JUNE ~~Ended~~30, ~~September~~JUNE 30, ~~Ended~~------------------------------- ~~December~~---------------------- ~~31,~~2004 2003 ~~2002~~2004 2003 -------------------------------------------------------------------------------------------------------------------------- ~~(Unaudited)~~NET ~~Member's~~SALES ~~Equity~~$ 105,828 ~~beginning~~$ of88,820 ~~period~~ $25 54,~~044~~960 $31 45,~~675~~013 ~~Net~~COST ~~income~~OF ~~(loss)~~GOODS 7SOLD 65,172 54,757 33,753 27,340 (-------------------------------------------------------------------------------------------------------------------------- GROSS PROFIT 40,656 34,063 21,207 17,673 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES 21,398 18,761 10,892 9,527 -------------------------------------------------------------------------------------------------------------------------- INCOME FROM OPERATIONS 19,258 15,302 10,315 8,146 INTEREST EXPENSE 6,~~631)~~004 ~~Member~~6,278 ~~withdrawals~~2,987 ~~(100)~~3,135 -------------------------------------------------------------------------------------------------------------------------- INCOME BEFORE PROVISION FOR INCOME TAXES AND DISCONTINUED 13,254 9,024 7,328 5,011 OPERATIONS PROVISION FOR INCOME TAXES 5,280 3,886 2,920 2,154 -------------------------------------------------------------------------------------------------------------------------- ~~Member's~~INCOME ~~Equity~~FROM CONTINUING OPERATIONS 7,974 ~~end~~5,138 of4,408 ~~period~~2,857 (LOSS) INCOME FROM DISCONTINUED OPERATIONS, NET OF TAX OF $32(3,~~284~~137), $2590,~~044~~ $(2,359) AND $9, RESPECTIVELY (5,090) 140 (3,899) 17 -------------------------------------------------------------------------------------------------------------------------- NET INCOME $ 2,884 $ 5,278 $ 509 $ 2,874 ==========================================================================================================================

The accompanying notes are an integral part of these financial statements. 3 KEY COMPONENTS, LLC AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF MEMBER'S EQUITY (IN THOUSANDS)

FOR THE SIX MONTHS For the ~~Nine~~Year ~~Months~~ENDED JUNE 30, 2004 Ended ~~September~~December 3031, 2003 ~~2002~~ ----------------------------------------------------------------------------------------------------~~----~~ ~~Cash flows from operating activities: Net income~~ (~~loss~~UNAUDITED) $MEMBER'S 7EQUITY,~~340~~ $BEGINNING ~~(114)~~OF ~~Adjustments~~PERIOD ~~to reconcile net income (loss) to net cash provided by operating activities: Cumulative effect of change in accounting principle - 8~~$21,~~157~~380 ~~Depreciation and amortization 3~~$25,~~530~~044 ~~3,754~~NET ~~Amortization~~INCOME ~~of deferred finance costs 719 665 Writedown of deferred finance costs - 145 Provision for bad debts 203 306 Deferred taxes~~ (2LOSS) ~~60 Changes in operating assets and liabilities: Accounts receivable (3,247) 516 Inventories 368 813 Prepaid expenses and other assets 3,527~~ 2,~~324~~884 ~~Accounts payable 183~~ (~~728) Accrued expenses~~ 3,~~991~~430) ~~1,095~~MEMBER ~~--------------------------------------------------------------------------------------------------------~~CONTRIBUTION ~~Net~~187 ~~cash provided by operating activities 16,612 16,993~~ -~~-------------------------------------------------------------------------------------------------------~~ ~~Cash~~MEMBER ~~flows~~WITHDRAWAL ~~from investing activities: Business acquisition (4,548)~~ - ~~Capital expenditures~~ (~~2,589) (2,~~100) ~~Proceeds~~MINIMUM ~~from~~PENSION ~~assets held for sale - 364 -------------------------------------------------------------------------------------------------------- Net cash used in investing activities (7~~LIABILITY,~~137)~~ ~~(1,736)~~NET ~~--------------------------------------------------------------------------------------------------------~~OF ~~Cash~~TAX ~~flows from financing activities: Payments of long~~-~~term~~ ~~debt and capital lease obligations~~ (~~9,208~~134) ~~(15,331) Proceeds from debt issued 2,000~~ - ~~Member withdrawals (100)~~ - --------------------------------------------------------------------------------------------------~~------~~ ~~Net~~MEMBER'S ~~cash used in financing activities (7~~EQUITY,~~308)~~ ~~(15,331)~~END ~~--------------------------------------------------------------------------------------------------------~~OF ~~Net~~PERIOD increase (decrease) in cash and cash equivalents 2,167 (74) Cash and cash equivalents, beginning of period 2,879 5,080 -------------------------------------------------------------------------------------------------------- Cash and cash equivalents, end of period $ 524,~~046~~451 $ 521,~~006~~380 ~~--------------------------------------------------------------------------------------------------------~~====================================================================================================

The accompanying notes are an integral part of these financial statements. 4 KEY COMPONENTS, LLC AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED, IN THOUSANDS)

--------------------------------------------------------------------------------------------- ~~(In~~FOR ~~thousands)~~THE ~~Mechanical~~SIX ~~Electrical~~MONTHS ~~Engineered~~ENDED ~~Components~~JUNE ~~Components~~30, ~~Total~~2004 2003 --------------------------------------------------------------------------------------------- ~~Nine~~CASH ~~months~~FLOWS ~~ended~~FROM ~~September~~OPERATING ~~30, 2003~~ACTIVITIES: Net ~~sales~~income ~~to external customers~~ $ 882,~~507~~884 $ 585,~~889~~278 $Adjustments ~~147,396~~to ~~Intersegment~~reconcile net ~~sales~~income -to 53net 53cash ~~Segment~~provided ~~profit~~by -operating ~~EBITDA~~activities: 16Loss (income) of discontinued operations 5,~~695~~090 11(140) Depreciation and amortization 1,~~559~~807 281,824 Amortization of deferred finance costs 480 478 Deferred taxes 159 (254) ~~Segment~~Provision for bad debts 335 67 Changes in assets ~~105,865~~and ~~84,508~~liabilities: ~~190,373~~Accounts ~~Goodwill~~receivable 59(3,~~192~~404) 38(1,~~347~~917) 97Inventories (7,~~539~~819) ~~Depreciation~~(891) Prepaid expenses and ~~amortization~~other assets 1,~~872~~080 14,~~635~~742 3Accounts payable 5,~~507~~422 (272) Accrued expenses 5,646 473 --------------------------------------------------------------------------------------------- ~~Nine~~NET ~~months~~CASH ~~ended~~PROVIDED ~~September~~BY ~~30,~~CONTINUING ~~2002:~~OPERATIONS ~~Net~~11,680 ~~sales~~9,388 toNET ~~external~~CASH ~~customers~~(USED $IN) ~~93,953~~PROVIDED $BY ~~50,425~~DISCONTINUED $OPERATIONS ~~144~~(878) 1,~~378~~151 ~~Intersegment net sales~~ --------------------------------------------------------------------------------------------- ~~105~~NET ~~105~~CASH ~~Segment~~PROVIDED ~~profit~~BY -OPERATING ~~EBITDA~~ACTIVITIES 1710,~~312~~802 1310,~~455~~539 ~~30,767~~--------------------------------------------------------------------------------------------- ~~Segment~~CASH ~~assets~~FLOWS ~~112,145~~FROM ~~87,695~~INVESTING ~~199,840~~ACTIVITIES: ~~Goodwill~~Business ~~59,192~~acquisition 48(6,~~711~~067) ~~107~~(4,~~903~~548) ~~Depreciation~~Capital ~~and~~expenditures ~~amortization~~ (1,~~924~~293) (1,~~811~~583) ~~3,735~~ --------------------------------------------------------------------------------------------- ~~Three~~NET ~~months~~CASH ~~ended~~USED ~~September~~IN 30CONTINUING OPERATIONS (7,360) ~~2003:~~(6,131) ~~Net~~NET ~~sales~~CASH toUSED ~~external~~IN ~~customers~~DISCONTINUED $OPERATIONS ~~29,874~~(59) $(401) ~~19,438~~--------------------------------------------------------------------------------------------- $NET ~~49,312~~CASH ~~Intersegment~~USED ~~net~~IN ~~sales~~INVESTING ACTIVITIES (7,419) (6,532) --------------------------------------------------------------------------------------------- 19CASH 19FLOWS ~~Segment~~FROM ~~profit~~FINANCING -ACTIVITIES: ~~EBITDA~~Payments ~~5,674~~of ~~3,108~~long-term ~~8,782~~debt ~~Segment~~and ~~assets~~capital ~~105,865~~lease 84obligations (14,~~508~~593) ~~190~~(5,~~373~~334) ~~Goodwill~~Proceeds ~~59,192~~from 38long-term debt borrowings 8,~~347~~500 972,~~539~~000 ~~Depreciation~~Member ~~and~~contributions ~~amortization~~187 ~~622~~- ~~526~~Member ~~1,148~~withdrawal - (100) --------------------------------------------------------------------------------------------- ~~Three~~NET ~~months~~CASH ~~ended~~USED ~~September~~IN ~~30,~~FINANCING ~~2002:~~ACTIVITIES ~~Net sales to external customers $ 30~~(5,~~987~~906) ~~$ 16~~(3,~~994~~434) ~~$ 47,981 Intersegment net sales~~ --------------------------------------------------------------------------------------------- 30NET 30(DECREASE) ~~Segment~~INCREASE ~~profit~~IN -CASH ~~EBITDA~~AND ~~6,079~~CASH ~~4,253~~EQUIVALENTS 10(2,~~332~~523) ~~Segment~~573 ~~assets~~CASH ~~112,145~~AND ~~87,695~~CASH ~~199~~EQUIVALENTS,~~840~~ ~~Goodwill~~BEGINNING ~~59,192~~OF ~~48,711~~PERIOD ~~107~~3,~~903~~872 ~~Depreciation and amortization 634 597 1~~2,~~231~~879 --------------------------------------------------------------------------------------------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,349 $ 3,452 =============================================================================================

5 KEY COMPONENTS, LLC AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (IN THOUSANDS)

~~(In thousands) Nine Months Ended Three Months Ended September 30, September 30,~~ ---------------------------------------------------------------------------------------------~~-------------------------~~ ~~2003~~FOR ~~2002~~THE ~~2003~~YEAR ~~2002~~FOR THE SIX MONTHS ENDED DECEMBER 31, ENDED JUNE 30, 2004 2003 -------------------------------------------------------------------------------------------~~---------------------------~~ ~~Profit or loss: Total profit from reportable segments- EBITDA $28,254 $30,767 $8,782 $10,332 Reconciling items: Corporate expenses~~ (~~2,719~~UNAUDITED) ~~(2,543)~~NET ~~(1,157)~~INCOME (~~774~~LOSS) ~~Depreciation~~$ ~~and~~2,884 ~~amortization~~$ (3,~~537~~430) ~~(3,757)~~MINIMUM ~~(1,159)~~PENSION (1LIABILITY,~~236)~~ ~~Interest~~NET ~~expense~~OF ~~(9,349)~~TAX ~~(10,083)~~- (~~3,071~~134) ~~(3,311)~~ -------------------------------------------------------------------------------------------~~---------------------------~~ ~~Income~~COMPREHENSIVE ~~before~~INCOME ~~provision~~(LOSS) ~~for income taxes and cumulative effect of change in accounting principle~~ $~~12,649~~ ~~$14~~2,~~384~~884 $ (3,~~395~~564) ~~$5,011 ----------------------------------------------------------------------------------------------------------------------~~===========================================================================================

6 KEY COMPONENTS, LLC AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BASIS OF PRESENTATION The consolidated financial statements include the financial statements of Key Components, LLC ("KCLLC"), and its subsidiaries, all of which are wholly owned (collectively, the "Company"). All significant intercompany transactions have been eliminated. The Company is in the business of the manufacture and sale of custom engineered essential componentry in a diverse array of end use markets. Through its two business segments, mechanical engineered components and electrical components, the Company targets its products to original equipment manufacturers. The Company's electrical components business product offerings include power conversion products, specialty electrical components and high-voltage utility switches. The Company's mechanical engineered components business product offerings consist primarily of flexible shaft and remote valve control components and turbocharger components. KCLLC's assets are limited to the Company's corporate office and its investments in its subsidiaries. KCLLC's financial statements include the related expenses of operating the Company's corporate office. KCLLC is wholly-owned by Key Components, Inc. ("KCI"), a New York corporation. KCI holds no other assets other than its investments in KCLLC and has no operations. The accompanying unaudited financial statements of the Company contain all adjustments that are, in the opinion of management, necessary for a fair statement of results for the interim periods presented. While certain information and footnote disclosures normally included in the financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted, the Company believes that the disclosures herein are adequate to make the information not misleading. The results of operations for the interim periods are not necessarily indicative of the results for full years. These financial statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2003 included in the Company's Annual Report on Form 10-K. Certain reclassifications were made to conform the prior periods to the current year presentation. 2. ACQUISITIONS AND DISPOSITIONS ADVANCED DEVICES, INC. On May 7, 2004, the Company acquired the net assets of Advanced Devices, Inc. ("ADI") for a purchase price of approximately $8.0 million and assumed liabilities of approximately $62,000. The Company recorded the estimated excess purchase price over net assets acquired of approximately $6.2 million as goodwill. The value ascribed to the estimated excess purchase price over net assets acquired is preliminary and is subject to change. Other intangibles are not believed to be material. The ADI product line, which manufactures electrical wiring devices, will be integrated into the Company's Napa Valley, CA manufacturing facility. The Company paid approximately $6.1 million in cash at closing and borrowed approximately $4.5 million on its revolving credit facility to partially finance this acquisition. The acquisition calls for approximately 75% of the total purchase price to be paid at closing, 10% to be paid at the earlier of the date when the product line is fully integrated into the Company's Napa, California manufacturing facility or March 7, 2005, and the remainder over the next four years annually. ARENS CONTROLS, LLC On March 3, 2003, the Company acquired the mechanical components business of Arens Controls, LLC for a purchase price of approximately $4.5 million and assumed liabilities of approximately $642,000. The Company recorded the estimated excess purchase price over net assets acquired of approximately $2.0 million as goodwill. Other intangibles acquired in the transaction were not material. The product line, which manufactures mechanical push-pull control solutions, was fully integrated into the Company's Binghamton, New York manufacturing facility in November 2003. The Company borrowed $2.0 million on its revolving credit facility to partially finance this acquisition. 7 HUDSON LOCK, LLC The Company's lock product line's net sales declined significantly during the three years ended December 31, 2003. Net sales of the lock product line were approximately $17.2 million, $21.8 million and $32.6 million for the years ended December 31, 2003, 2002 and 2001, respectively. Management attributes such decline to the downturn in the economy plus the impact of foreign competition, both of which have led to the product line becoming a commodity over that period. As the net sales eroded, the shift in manufacturing to Mexico has negatively impacted customer service and quality. Further, the decline in sales volume made it prohibitive to carry the dual overhead infrastructures of its domestic and Mexico manufacturing facilities. As a result, the Company closed the lock manufacturing facility in Mexico in February 2004. In closing the facility, the Company recorded a charge of approximately $664,000 for severance, closing costs and to adjust inventory and leaseholds to fair value. In addition, the Company recorded a charge of approximately $605,000 to record the balance of the lease of the facility on a present value basis, less any estimate for sublease income. In March 2004, after reviewing the lock product line's 2003 operating performance, which in the past was included as part of the Company's MEC business operating results, as well as its long-term strategic plan, the Board of Directors of KCI and KCLLC concluded to sell Hudson Lock, LLC ("Hudson"). In accordance with Statement of Financial Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," the Company recorded the assets and liabilities of Hudson as held for sale and reported the results as discontinued operations. Based on initial indications of value from prospective buyers, at June 30, 2004, the Company recorded a charge of approximately $4.3 million (net of tax of approximately $2.6 million) to reduce the carrying value of the assets held for sale to its fair value. The following table summarizes the net assets of the lock product line (unaudited):

--------------------------------------------------------------------------------------------------- (In thousands) ~~September~~JUNE 30, ~~December~~DECEMBER 31, 2004 2003 ~~2002~~ --------------------------------------------------------------------------------------------------- ~~Assets:~~Accounts ~~Total~~receivable $ 2,172 $ 2,011 Inventory 4,281 4,628 Other current assets ~~for~~and ~~reportable~~prepaid ~~segments~~expenses ~~$190~~- 524 Plant and equipment,~~373~~ ~~$199~~net - 6,~~840~~018 ~~Corporate~~Deferred tax assets 79,~~413~~896 7,~~754~~283 --------------------------------------------------------------------------------------------------- ~~Total~~ASSETS ~~consolidated~~HELD ~~assets~~FOR ~~$197~~SALE 16,~~786~~349 ~~$207~~20,~~594~~464 --------------------------------------------------------------------------------------------------- Accounts payable 718 845 Accrued wages and related expenses 276 562 Accrued expenses 966 515 --------------------------------------------------------------------------------------------------- LIABILITIES ASSOCIATED WITH ASSETS HELD FOR SALE 1,960 1,922 --------------------------------------------------------------------------------------------------- NET ASSETS OF LOCK PRODUCT LINE $14,389 $18,542 ===================================================================================================

8 The summary of the operations of the lock business for the six and three months ended June 30, 2004 and 2003 are as follows:

--------------------------------------------------------------------------------------------------------------------- (Inin thousands) ~~Nine~~SIX ~~Months~~MONTHS ~~Ended~~ENDED ~~Three~~THREE ~~Months~~MONTHS ~~Ended~~ENDED ~~September~~JUNE 30, ~~September~~JUNE 30, 2004 2003 2004 2003 --------------------------------------------------------------------------------------------------------------------- ~~2003~~Net ~~2002~~sales ~~2003~~$ ~~2002~~7,794 $9,264 $ 4,007 $4,234 --------------------------------------------------------------------------------------------------------------------- ~~Geographical~~(Loss) ~~Sales~~income ~~Information:~~from ~~United~~operations ~~States~~of ~~$128,978~~the ~~$126,476~~lock 42business,~~705~~ ~~$41,665~~net ~~England~~of ~~4,491~~tax ~~3,331~~of ~~1,676 1,261 Canada~~ $(3,~~252 2~~137),~~664 927 952 China 3~~$90,~~357~~ ~~3,759 1,267 1,261 Taiwan~~ $(2,~~026 1~~359),~~146~~ ~~1,102~~and ~~488 Netherlands 1~~$9,~~387~~ ~~1,725~~respectively ~~602 427 Japan 1~~$(5,~~064~~090) ~~790~~$ ~~351~~140 ~~316~~$ ~~Mexico 426 1,273 75 238 Other 2,415~~ (3,~~214~~899) ~~607~~$ ~~1,373~~17 ------------------------------------------------------------------------------------------------------- ~~Total $147,396 $144,378 $49,312 $47,981~~ --------------~~-----------------------------------------------------------------------------------------~~

3. INVENTORIES Inventories consist of the following: --------------------------------------------------------------------------- (In thousands) JUNE 30, DECEMBER 31, 2004 2003 --------------------------------------------------------------------------- (unaudited) Raw materials $ 17,938 $12,805 Work-in-process 5,472 4,856 Finished goods 8,853 6,402 --------------------------------------------------------------------------- Total inventory $ 32,263 $24,063 --------------------------------------------------------------------------- 4. PROVISION FOR INCOME TAXES For the six months ended June 30, 2004 and 2003, the Company's provision for income taxes primarily relates to the federal and state income taxes of its sole member, KCI. Deferred income taxes have been recorded to reflect the tax consequences on future years of temporary differences between the tax bases of assets and liabilities and their financial reporting amounts at year-end. Valuation allowances are recorded when necessary to reduce deferred tax assets to expected realizable amounts. 5. MEMBER CONTRIBUTIONS AND WITHDRAWALS During the six months ended June 30, 2004, KCLLC received a contribution of $187,000 from KCI related to proceeds from stock options exercised to purchase KCI common stock. During the six months ended June 30, 2003, KCLLC distributed approximately $100,000 to its member, KCI, to enable KCI to repurchase common stock from a shareholder. 6. WARRANTY COSTS The Company records a liability for its expected claims under existing product warranty policies. The accrual is based on the Company's historical warranty experience. For the six months ended June 30, 2004 and 2003, the Company's warranty accrual changed as follows: ------------------------------------------------------------------ (In thousands) SIX MONTHS ENDED JUNE 30, 2004 2003 ------------------------------------------------------------------ (unaudited) Balance, beginning of period $1,372 $ 985 Additions 586 65 Charges - - ------------------------------------------------------------------ Balance, end of period $1,958 $1,050 ================================================================== 9 7. OPERATING SEGMENTS The Company conducts its continuing operations through its two businesses, the manufacture and sale of electrical components and mechanical engineered components. The electrical components business ("EC") product offerings include power conversion products, specialty electrical components and high-voltage utility switches. The mechanical engineered components business ("MEC") manufactures flexible shaft products and turbo charger actuators. The Company evaluates its operating segments' performance and allocates resources among them based on profit or loss from continuing operations before interest, taxes, depreciation and amortization ("EBITDA"). EBITDA is not based on accounting principles generally accepted in the United States of America, but is the performance measure used by Company management to analyze and monitor the Company and is commonly used by investors and financial analysts to compare and analyze companies. Corporate overhead expenses are not allocated to the segments. In computation of all the financial maintenance covenants under the Company's credit facility, the Company is allowed to adjust EBITDA for certain charges as defined in the agreement. The Company's non-GAAP financial measures may not necessarily be comparable to other companies.

~~Nine Months ended Three Months Ended September 30, September 30,~~ ------------------------------------------------------------------------------------------------------- ~~2003~~(In ~~2002~~thousands) ~~2003~~MECHANICAL ~~2002~~ELECTRICAL ENGINEERED COMPONENTS COMPONENTS TOTAL ------------------------------------------------------------------------------------------------------- ~~(unaudited)~~SIX ~~(in~~MONTHS ~~thousands)~~ENDED ~~Net~~JUNE ~~income~~30, ~~(loss)~~2004: AsNet ~~reported~~sales to external customers $ 764,~~340~~179 $ ~~(114)~~41,649 $ 2105,~~062~~828 Intersegment net sales - 47 47 Segment profit - EBITDA 12,460 10,928 23,388 Segment assets 118,281 59,472 177,753 Goodwill 65,386 21,097 86,483 Depreciation and amortization 1,214 572 1,786 ======================================================================================================= SIX MONTHS ENDED JUNE 30, 2003: Net sales to external customers $ 258,~~951~~633 ~~Pro~~$ ~~forma~~30,187 $ 88,820 Intersegment net sales - 35 35 Segment profit - EBITDA 11,021 7,~~031~~679 18,700 Segment assets 108,433 51,894 160,327 Goodwill 59,192 20,973 80,165 Depreciation and amortization 1,250 567 1,817 ======================================================================================================= THREE MONTHS ENDED JUNE 30, 2004: Net sales to external customers $ ~~(453)~~32,698 $ 122,~~959~~262 $ 254,~~837~~960 Intersegment net sales - 34 34 Segment profit - EBITDA 6,294 6,173 12,467 Segment assets 118,281 59,472 177,753 Goodwill 65,386 21,097 86,483 Depreciation and amortization 614 290 904 ======================================================================================================= THREE MONTHS ENDED JUNE 30, 2003: Net sales to external customers $ 29,187 $ 15,826 $ 45,013 Intersegment net sales - 21 21 Segment profit -~~----------------------------------------------------------------------------------------~~ EBITDA 5,859 4,127 9,986 Segment assets 108,433 51,894 160,327 Goodwill 59,192 20,973 80,165 Depreciation and amortization 624 314 938 =======================================================================================================

10 RECONCILIATION OF SELECTED SEGMENT INFORMATION TO THE COMPANY'S CONSOLIDATED TOTALS:

~~Nine~~(In ~~months~~thousands) ~~ended~~SIX ~~September~~MONTHS ~~30,~~ENDED ~~Three~~THREE ~~months~~MONTHS ~~ended~~ENDED ~~September~~JUNE 30, ~~-----------------------------------------~~JUNE ~~---------------------------------------~~30, ~~2003 2002 2003 2002~~ ----------------------------------------- --------------------------------------- ~~(In thousands) % of % of % of % of Net Net Net Net Amount Sales Amount Sales Amount Sales Amount Sales~~ ------------------------------------~~-----~~ ~~---------------------------------------~~2004 ~~Net~~2003 ~~Sales~~2004 ~~$147,396~~2003 ~~100.0% $144,378 100.0% $49,312 100.0% $47,981 100.0% Cost of Goods Sold 93,827 63.7 90,275 62.5 31,800 64.5 29,534 61.6~~ --------------------------------------------------------------------------------------------------------------------~~-----~~ ~~Gross~~PROFIT ~~Profit~~OR ~~53,569~~LOSS: ~~36.3~~Total ~~54,103~~profit ~~37.5~~from ~~17,512~~reportable ~~35.5~~segments- 18EBITDA $23,~~447~~388 ~~38.4 Selling~~$18,700 ~~general and administrative expenses 30~~$12,~~562~~467 ~~20.7~~$ 289,~~833~~986 ~~20.0~~Reconciling ~~10,481~~items: ~~21.3~~Corporate ~~9,672~~expenses ~~20.~~(2,322) ~~Other~~ (1,~~009~~562) ~~0.7 803 0.6 565~~ (1~~.1 453 0.9 ------------------------------------------------------------------------------------------------------------------------- Income from operations 21~~,~~998~~237) ~~14.9~~(892) ~~24,467~~Depreciation ~~16.9~~and ~~6,466~~amortization ~~13.~~(1,808) 8(1,~~322~~836) ~~17.3~~(915) (948) Interest expense 9(6,~~349~~004) (6~~.3 10~~,~~083~~278) ~~7.0 3~~(2,~~071~~987) ~~6.2~~ (3,~~311~~135) ~~6.9~~ --------------------------------------------------------------------------------------------------------------------~~-----~~ Income before provision for income taxes and ~~cumulative~~discontinued ~~effect~~operations ~~in change of accounting principle 12~~$13,~~649~~254 ~~8.6~~$ 149,~~384~~024 ~~10.0~~$ 37,~~395~~328 ~~6.9~~$ 5,011 ~~10.4~~==================================================================================================================== ~~Provision~~December ~~for~~JUNE ~~income taxes 5~~30,~~309~~ ~~3.6 6~~31,~~341~~ ~~4.4~~2004 ~~1,333~~2003 ~~2.7 2,060 4.3~~ --------------------------------------------------------------------------------------------------------------------~~-----~~ ~~Income~~ASSETS: ~~before~~Total ~~change~~assets infor ~~accounting~~reportable ~~principle~~segments 7$177,~~340~~753 ~~5.0 8~~$160,~~043~~223 ~~5.6~~Corporate ~~2,062~~assets ~~4.2~~491 24,~~951~~018 ~~6.2~~Discontinued ~~Change~~assets ~~in accounting principle~~16,349 ~~net of taxes of $3~~20,~~007~~464 - - ~~(8,157) (5.7)~~ - - - - --------------------------------------------------------------------------------------------------------------~~-----------~~ ~~Net~~Total ~~income~~consolidated ~~(loss)~~assets $7194,~~340~~593 ~~5.0%~~ $ ~~(114) (0.1)% $ 2~~184,~~062~~705 ~~4.2% $2,951 6.2% -------------------------------------------------------------------------------------------------------------------------~~====================================================================================================================

~~Nine Months Ended September 30, Three Months Ended September 30,~~ -------------------------------------------- -------------------------------------------- ~~2003 2002 2003 2002~~ ------------------------~~--------------------~~ ~~--------------------------------------------~~(In %thousands) ofSIX %MONTHS ofENDED %THREE ofMONTHS %ENDED ofJUNE ~~Net~~30, ~~Net~~JUNE ~~Net~~30, ~~Net Amount Sales Amount Sales Amount Sales Amount Sales~~ ----------------------------------------------------------------------------------------------------------------~~------------~~ ~~(In~~2004 ~~thousands)~~2003 2004 2003 ----------------------------------------------------------------------------------------------------------------~~------------~~ ~~Net~~GEOGRAPHICAL ~~Sales~~SALES INFORMATION: United States $88 94,~~507~~311 ~~100.0%~~ $9377,~~953~~470 ~~100.0%~~ $2949,~~874~~138 ~~100.0%~~ $3039,~~987~~496 ~~100.0%~~England ~~Cost~~2,775 ~~of Sales 54~~2,~~051~~884 ~~61.~~1,349 581,~~520~~600 ~~62.3~~Canada 182,~~404~~397 ~~61.6~~2,280 181,~~778~~170 ~~60.6~~1,196 ~~----------------------------------------------------------------------------------------------------------------------------~~China ~~Gross~~2,389 ~~Profit 34~~2,~~456~~082 ~~38.9 35~~1,~~433~~299 ~~37.7~~922 11Netherlands 1,~~470~~028 ~~38.4~~745 ~~12,209~~647 ~~39.4~~275 ~~Selling,~~Japan ~~general~~527 ~~and~~713 ~~administrative~~263 ~~expenses~~456 ~~19,633~~Other ~~22.~~2,401 202,~~045~~646 ~~21.3 6~~1,~~418~~094 ~~21.5 6~~1,~~764~~068 ~~21.8~~ ----------------------------------------------------------------------------------------------------------------~~------------~~ ~~Income~~Total ~~from operations~~ $14105,~~823~~828 ~~16.7%~~ $1588,~~388~~820 ~~16.4%~~ $554,~~052~~960 ~~16.9%~~ $545,~~445~~013 ~~17.6% ----------------------------------------------------------------------------------------------------------------------------~~================================================================================================================

11 8. STOCK OPTIONS The Company applies the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," ("APB 25") in accounting for stock-based compensation. In accordance with APB No. 25, compensation costs for stock options is recognized in income based on the excess, if any, of the quoted market price over the exercise price of the stock on the date of grant. The exercise price for all stock option grants equals the fair market value on the date of grant, therefore no compensation expense is recorded. In accordance with the disclosure provisions of SFAS 148, "Accounting for Stock-Based Compensation - transition and disclosure," which amended SFAS No. 123, "Accounting for Stock-Based Compensation", the following table illustrates the effect on net income as if the Company had applied the fair value recognition provisions for the three months ended June 30, 2004 and 2003:

~~Nine~~SIX ~~Months~~MONTHS ~~Ended~~ENDED ~~September~~THREE ~~30,~~MONTHS ~~Three~~ENDED ~~Months~~JUNE ~~Ended~~30, ~~September~~JUNE 30, -------------------------------------------- -------------------------------------------- ~~2003 2002 2003 2002~~ ----------~~----------------------------------~~ ~~--------------------------------------------~~2004 %2003 of2004 %2003 ~~of % of % of Net Net Net Net Amount Sales Amount Sales Amount Sales Amount Sales~~ --------------------------------------------------------------------------------------------------~~--------------------------~~ (InUNAUDITED) (in thousands) ~~----------------------------------------------------------------------------------------------------------------------------~~ Net ~~Sales~~income: ~~$58,889~~As ~~100.0%~~reported $502,~~425~~884 ~~100.0%~~ $195,~~438~~278 ~~100.0%~~ $~~16,994~~509 100.0% Cost of Sales 39,776 67.5 31,755 63.0 13,396 68.9 10,756 63.3 ---------------------------------------------------------------------------------------------------------------------------- Gross Profit 19,113 32.5 18,670 37.0 6,042 31.1 6,238 36.7 Selling, general and administrative expenses 8,180 13.9 6,222 12.3 $2,~~895~~874 ~~14.9~~Pro ~~2,129~~forma ~~12.5 Other 1,009 1.7 803 1.6 565 2.9 453 2.7 ---------------------------------------------------------------------------------------------------------------------------- Income from operations~~ $ 92,~~924~~883 ~~16.9%~~ $115,~~645~~072 ~~23.1%~~ $508 $2,~~582~~771 ~~13.3% $ 3,656 21.5%~~ --------------------------------------------------------------------------------------------------~~--------------------------~~

9. PENSION PLANS The components of the net periodic benefit cost for the six and three months ended June 30, 2004 and 2003 related to the Company's pension plans were as follows:

EMPLOYER CONTRIBUTIONS The Company is not required to make any contributions in 2004 and did not make any contributions in 2003. 12 ITEM 2-- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS INTRODUCTION GENERAL KCLLC is the parent holding company of the wholly owned subsidiaries of the Company. KCI, the sole member of KCLLC, holds no other assets other than its investment in KCLLC and has no operations. The Company has two operating business segments, its electrical components ("EC") business and mechanical engineered components ("MEC") business. Through its two businesses, the Company is a leading manufacturer of custom-engineered essential componentry for application in a diverse array of end-use products. The Company targets original equipment manufacturer ("OEM") markets where the Company believes its value-added engineering and manufacturing capabilities, along with its timely delivery, reliability and customer service, enable it to differentiate the Company from its competitors and enhance profitability. Further, as the Company leverages itself in order to acquire additional product lines, management uses free cash flow (a non-GAAP financial measure defined by the Company as cash flow provided by operating activities of its continuing operations less cash flow used in investing activities of its continuing operations) as a key indicator of each product line. The EC business product lines include power conversion products, specialty electrical components and high-voltage utility switches. The product lines of the MEC business consist primarily of flexible shaft and remote valve control components and turbo-charger actuators. The Company has historically acquired complementary or related manufacturing businesses and sought to integrate them into existing operations. Following an acquisition, management seeks to rationalize operations, reduce overhead costs, develop additional cross-selling opportunities and establish new customer relationships. As a result of its integration efforts and internal growth, the Company's consolidated net sales have increased from approximately $9.1 million in fiscal year 1992 to approximately $197.3 million for fiscal year 2003. The Company continues to seek to make selective acquisitions of light industrial manufacturing companies (see Note 10 elsewhere in this Form 10-Q). 13 RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, consolidated statement of operations data for the Company expressed in dollar amounts (in thousands) and as a percentage of net sales. The financial data set forth includes the results of operations of its wholly owned subsidiaries from their respective dates of acquisition. The data set forth below should be read in conjunction with the Company's consolidated financial statements and notes thereto contained elsewhere in this Form 10-Q.

A summary of the Company's segments is as follows: ELECTRICAL COMPONENTS BUSINESS

14 MECHANICAL ENGINEERED COMPONENTS BUSINESS

SIX MONTHS ENDED JUNE 30, 2004 COMPARED TO THE SIX MONTHS ENDED JUNE 30, 2003 Net Sales: Net sales for the six months ended June 30, 2004 ("Six Months 2004") increased by approximately $17.0 million, or 19.1%, from net sales for the six months ended June 30, 2003 ("Six Months 2003"). This increase was the sum of the approximately $11.5 million, or 38.0%, increase in the net sales of the MEC business and the approximately $5.5 million, or 9.5%, increase in net sales of the EC business. The approximately $11.5 million increase in net sales of the MEC business for the Six Months 2004 as compared to the Six Months 2003 was driven by continued growth of both MEC product lines. Net sales of the flexible shaft product line increased by approximately $3.9 million, or 30.3%, for the Six Months 2004 as compared to the Six Months 2003. This increase was driven by new product introductions as well as the acquisition of the mechanical components business of Arens Controls, LLC ("Arens Controls"). The Company completed this acquisition on March 3, 2003 (See Note 2 to the consolidated financials elsewhere in this Form 10-Q), which resulted in having this product line in the Company's results for four months during the Six Months 2003. Net sales of the turbocharger components product line increased by approximately $7.6 million, or 43.6%, for the Six Months 2004 as compared to the Six Months 2003. This increase was driven primarily by continued volume growth of a new product introduced in December 2002. The approximately $5.5 million or 9.5% increase in the EC business for the Six Months 2004 as compared to the Six Months 2003 was driven primarily by the growth in the Company's specialty electrical components product line, which had net sales growth of approximately $3.6 million, or 14.8%. This growth was generated through both its recreational and industrial channels as the increased sales volume experienced in the fourth quarter of 2003 continued into the first Six Months 2004. In addition, the power conversion product line posted net sales growth from the Six Months 2003 to the Six Months 2004 of approximately $1.8 million, or 6.9%. This growth was generated primarily as a result of demand through its direct OEM sales channel. Gross Profit: Gross profit increased by approximately $6.6 million, or 19.4%, for Six Months 2004 as compared to Six Months 2003, resulting from the sum of the approximately $3.7 million, or 33.5%, increase in the gross profit of the MEC business and the approximately $2.9 million, or 12.5%, increase in gross profit of the EC business for the Six Months 2004. 15 The approximately $3.7 million, or 33.5%, increase in gross profit of the MEC business for Six Months 2004 as compared to Six Months 2003 was driven by volume increases of the flexible shaft and turbocharger components product lines. The approximately $2.9 million, or 12.5% increase in gross profit of the EC business for the Six Months 2004 as compared to the Six Months 2003 resulted primarily from the volume increases of the specialty electrical components product line for the Six Months 2004 as compared to the Six Months 2003. In addition, continued productivity and negotiated material cost savings related to the power conversion product line also increased gross profit for the EC business for the Six Months 2004 as compared to the Six Months 2003. The gross profit, as a percentage of net sales ("GP percentage"), for the MEC business declined by approximately 1.2% for the Six Months 2004 as compared to the Six Months 2003 related to price concessions of the Company's turbocharger product line. For the EC business, the GP percentage increased by approximately 1.1% during the Six Months 2004 as compared to the Six Months 2003 as additional volume was serviced without additional fixed cost as well as change in product mix and the productivity gains as described above. Selling, General and Administrative Expenses: Selling, general and administrative ("SG&A") expenses increased approximately $2.6 million, or 14.1%, for the Six Months 2004 as compared to the Six Months 2003. As a percentage of net sales, SG&A declined to 20.2% for the Six Months 2004 from 21.1% for the Six Months 2003. SG&A of the MEC business increased by approximately $470,000, or 11.9%, for the Six Months 2004 as compared to the Six Months 2003 and as a percentage of net sales, decreased approximately 2.5%. SG&A of the EC business increased by approximately $1.4 million, or 10.6%, for the Six Months 2004 as compared to the Six Months 2003 and increased as a percentage of net sales by approximately 0.2%. The increase in SG&A of the MEC business is primarily the result of the Company adding additional cost to the turbocharger product line to service its continuing growth and maintain high quality levels. In addition, higher incentive compensation costs drove the increase in SG&A of the turbocharger product line, as a result of the growth in the operating performance of that product line during the Six Months 2004 as compared to the Six Months 2003. Commission and freight expense related to additional volume drove the increase in SG&A for the EC business for the Six Months 2004 as compared to the Six Months 2003. In addition certain costs were incurred as the Company continues to explore migrating production off-shore as well as investing in new product development. Corporate expenses were higher during the Six Months 2004 as compared to the Six Months 2003, related to professional fees. Income from Operations: The increase in income from operations of approximately $4.0 million, or 25.9%, for the Six Months 2004 as compared to the Six Months 2003, resulted from the increase in gross profit of approximately $6.6 million, offset by the increase in SG&A expenses of approximately $2.6 million. Interest Expense: Interest expense decreased by approximately $274,000, or 4.4%, during the Six Months 2004 as compared to the Six Months 2003. This decrease is primarily due to lower levels of outstanding borrowings during the Six Months 2004 as compared to the Six Months 2003. Provision for Income Taxes: The provision for income taxes increased by approximately $1.4 million, or 35.9%, for the Six Months 2004 as compared to the Six Months 2003. The Company's effective tax rate on income before provision for income taxes and discontinued operations for the Six Months 2004 was approximately 39.8%. The effective rate on income before provision for income taxes and discontinued operations for the Six Months 2003 was approximately 43.1%. The decline in the effective rate from the Six Months 2003 to the Six Months 2004 was primarily driven by the Company's foreign tax credits. Income from Continuing Operations: Income from continuing operations increased by approximately $2.8 million, or 55.2%, during the Six Months 2004 as compared to the Six Months 2003. The increase resulted from the sum of the increase in income from operations of approximately $4.0 million and the decrease in interest expense of approximately $274,000 offset by the increase in provision for income taxes of approximately $1.4 million, due to the factors discussed above. (Loss) Income from Discontinued Operations: In March 2004, after reviewing the lock product line's 2003 operating performance as well as its long-term strategic plan, the Board of Directors of KCI and KCLLC concluded to sell Hudson Lock, LLC ("Hudson"). In accordance with Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," the Company recorded the assets and liabilities of Hudson as held for sale and reported the results of operations, which were formerly included in the results of the Company's MEC business, as discontinued operations. Based on initial indications of value from prospective buyers, at June 30, 2004, the Company recorded a charge of approximately $4.3 million (net of tax of approximately $2.6 million) to reduce the carrying value of the assets held for sale to its fair value. The Lock product line had a net loss from operations for the Six Months 2004 of approximately $820,000 (net of tax benefit of approximately $525,000). This compares to net income of approximately $140,000 (net of taxes of approximately $90,000) for the Six Months 2003. In February 2004, management concluded to close the lock manufacturing facility in Mexico as the continuing decline in net sales volume of this product line made it prohibitive to carry the dual overhead infrastructures of its domestic and Mexico manufacturing facilities. The assets of Mexico were primarily inventory, leasehold improvements and machinery and equipment. In closing down the facility, the Company recorded a charge of approximately $664,000 for severance and closing costs and to write down inventory and leaseholds. In addition, the Company recorded a charge of approximately $605,000 to record the balance of the lease on the facility on a present value basis, less any estimate for sublease income. 16 Net Income: Net income decreased by approximately $2.4 million for the Six Months 2004 as compared to the Six Months 2003. Income from continuing operations increased approximately $2.8 million, as described above. This was offset by the increase in loss from discontinued operations of approximately $5.2 million, discussed above. THREE MONTHS ENDED JUNE 30, 2004 COMPARED TO THE THREE MONTHS ENDED JUNE 30, 2003 Net Sales: Net sales for the three months ended June 30, 2004 ("Quarter 2004") increased by approximately $9.9 million, or 22.1%, from net sales for the three months ended June 30, 2003 ("Quarter 2003"). This increase was the sum of the approximately $6.4 million, or 40.7%, increase in the net sales of the MEC business and the approximately $3.5 million, or 12.0%, increase in net sales of the EC business. The approximately $6.4 million increase in net sales of the MEC business for the Quarter 2004 as compared to the Quarter 2003 was driven by continued growth of both MEC product lines. Net sales of the flexible shaft product line increased by approximately $1.7 million, or 25.2%, for the Quarter 2004 as compared to the Quarter 2003. This increase was driven by new product introductions as well as increased demand for the Arens Controls product line, which was acquired in March of 2003. Net sales of the turbocharger components product line increased by approximately $4.9 million, or 52.1%, for the Quarter 2004 as compared to the Quarter 2003. This increase was driven primarily by continued volume growth of a new product introduced in December 2002. The approximately $3.5 million or 12.0% increase in the EC business for the Quarter 2004 as compared to the Quarter 2003 was driven primarily by the growth in the Company's specialty electrical components product line, which had net sales growth of approximately $1.8 million, or 14.6%. This growth was generated through both its recreational and industrial channels as the increased sales volume experienced in the fourth quarter of 2003 continued into 2004. In addition, the power conversion product line posted net sales growth from the Quarter 2003 to the Quarter 2004 of approximately $1.9 million, or 14.5%. This growth was generated primarily as a result of demand through its direct OEM sales channel. Gross Profit: Gross profit increased by approximately $3.5 million, or 20.0%, for Quarter 2004 as compared to Quarter 2003, resulting from the sum of the approximately $2.2 million, or 37.0%, increase in the gross profit of the MEC business and the approximately $1.3 million, or 11.4%, increase in gross profit of the EC business for the Quarter 2004. The approximately $2.2 million, or 37.0%, increase in gross profit of the MEC business for Quarter 2004 as compared to Quarter 2003 was driven by volume increases of the flexible shaft and turbocharger components product lines. The approximately $1.3 million, or 11.4% increase in gross profit of the EC business for the Quarter 2004 as compared to the Quarter 2003 resulted primarily from the volume increases of the specialty electrical components and power conversion product lines for the Quarter 2004 as compared to the Quarter 2003. The gross profit, as a percentage of net sales ("GP percentage"), for the MEC business declined by approximately 1.0% for the Quarter 2004 as compared to the Quarter 2003 related to price concessions of the Company's turbocharger product line. For the EC business, the GP percentage decreased by approximately 0.2% during the Quarter 2004 as compared to the Quarter 2003 primarily related to product mix as well as the impact of commodity costs during the quarter. It is expected that such commodity cost increases will not have a significant impact on the Company's results for the remainder of the year, as price increases were put in place in the late second quarter. 17 Selling, General and Administrative Expenses: Selling, general and administrative ("SG&A") expenses increased approximately $1.4 million, or 14.3%, for the Quarter 2004 as compared to the Quarter 2003. As a percentage of net sales, SG&A declined to 19.8% for the Quarter 2004 from 21.2% for the Quarter 2003. SG&A of the MEC business increased by approximately $119,000, or 5.7%, for the Quarter 2004 as compared to the Quarter 2003 and as a percentage of net sales, decreased approximately 3.3%. SG&A of the EC business increased by approximately $900,000, or 13.8%, for the Quarter 2004 as compared to the Quarter 2003 and increased as a percentage of net sales by approximately 0.4%. The increase in SG&A of the MEC business is primarily the result of the Company adding additional cost to the turbocharger product line to service its continuing growth and maintain high quality levels. In addition, higher incentive compensation costs drove the increase in SG&A of the turbocharger product line, as a result of the growth in the operating performance of that product line during the Quarter 2004 as compared to the Quarter 2003. These increases were mostly offset as the flexible shaft product line experienced a decline in its SG&A for the Quarter 2004 as compared to the Quarter 2003. This decline was driven by the excessive cost this product line experienced in 2003 related to the interim operating agreement it had in place with the seller of Arens Controls, which was acquired in March 2003. The interim operating agreement added duplicative cost until the manufacturing of that product line was fully integrated into the Company's Binghamton, NY manufacturing facility, which was not completed until November 2003. Commission and freight expense related to additional volume were the main drivers of the increase in SG&A for the EC business for the Quarter 2004 as compared to the Quarter 2003. In addition certain costs were incurred as the Company continues to explore migrating production off-shore as well as development costs related to new products. Income from Operations: The increase in income from operations of approximately $2.2 million, or 26.6%, for the Quarter 2004 as compared to the Quarter 2003, resulted from the increase in gross profit of approximately $3.5 million, offset by the increase in SG&A expenses of approximately $1.4 million. Interest Expense: Interest expense decreased by approximately $148,000, or 4.7%, during the Quarter 2004 as compared to the Quarter 2003. This decrease is primarily due to lower levels of outstanding borrowings during the Quarter 2004 as compared to the Quarter 2003. Provision for Income Taxes: The provision for income taxes increased by approximately $767,000, or 35.6%, for the Quarter 2004 as compared to the Quarter 2003. The Company's effective tax rate on income before provision for income taxes and discontinued operations for the Quarter 2004 was approximately 39.9%. The effective rate on income before provision for income taxes and discontinued operations for the Quarter 2003 was approximately 43.0%. The decline in the effective rate from the Quarter 2003 to the Quarter 2004 was primarily driven by the Company's foreign tax credits. Income from Continuing Operations: Income from continuing operations increased by approximately $1.6 million, or 54.3%, during the Quarter 2004 as compared to the Quarter 2003. The increase resulted from the sum of the increase in income from operations of approximately $2.3 million and the decrease in interest expense of approximately $148,000 offset by the increase in provision for income taxes of approximately $767,000, due to the factors discussed above. (Loss) Income from Discontinued Operations: In March 2004, after reviewing the lock product line's 2003 operating performance as well as its long-term strategic plan, the Board of Directors of KCI and KCLLC concluded to sell Hudson Lock, LLC ("Hudson"). In accordance with Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," the Company recorded the assets and liabilities of Hudson as held for sale and reported the results of operations, which were formerly included in the results of the Company's MEC business, as discontinued operations. Based on initial indications of value from prospective buyers, at June 30, 2004, the Company recorded a charge of approximately $4.3 million (net of tax of approximately $2.6 million) to reduce the carrying value of the assets held for sale to its fair value. The Lock product line had net income from operations for the Quarter 2004 of approximately $371,000 (net of taxes of approximately $254,000). This compares to net income of approximately $17,000 (net of taxes of approximately $26,000) for the Quarter 2003. Net Income: Net income decreased by approximately $2.4 million for the Quarter 2004 as compared to the Quarter 2003. Income from continuing operations increased approximately $1.6 million, as described above. This was offset by the increase in loss from discontinued operations of approximately $3.9 million, discussed above. 18 LIQUIDITY AND CAPITAL RESOURCES The Company has historically generated funds from its continuing operations and its working capital requirements generally have not materially fluctuated from quarter to quarter. The Company's other main sources of liquidity have historically been the Company's $80.0 million of uncollateralized 10.5% senior notes due 2008 and it's outstanding credit facilities. The credit facility provides for a six-year $40.0 million revolving credit facility, which as a result of the amendment discussed below was reduced to $25.0 million through March 30, 2005, and a six-year $100.0 million term loan facility. The obligations under the credit agreement governing the credit facilities are guaranteed by the Company's subsidiaries and KCI, and are collateralized by all of the capital stock of the subsidiaries, receivables, inventories, equipment and certain intangible property. There was $1.7 million outstanding under the revolving credit facility at June 30, 2004. The term loan is payable in quarterly installments through September 2006. Both the term loan and revolving credit facility bear interest at fluctuating interest rates determined by reference to a base rate or the London interbank offered rate ("LIBOR") plus an applicable margin which will vary from 1.0% to 3.75% and require the payment of a commitment fee of ranging from 0.375% to 0.5% on the unused portion of the facility as well as quarterly commitment fees. The credit facility also allows for up to $5.0 million of outstanding letters of credit. At June 30, 2004, the Company had two letters of credit outstanding for approximately $1.5 million. The letters of credit primarily relate to the Company's workman's compensation insurance programs. Currently, the Company believes that the $5.0 million allowance for letters of credit is sufficient for its needs. The credit agreement contains certain covenants and restrictions, which require the maintenance of financial ratios and restrict or limit dividends and other shareholder distributions, transactions with affiliates, capital expenditures, rental obligations and the incurrence of indebtedness. In September 2002, the Company amended its credit agreement (the "Amendment") to provide for revised financial covenant ratios from September 30, 2002 through March 30, 2004 from the original covenant ratios stipulated in the credit agreement. The Company anticipated that certain of the original covenants, which became more stringent over the term of the agreement, would not be met due to the general decline in the economy. In addition, the Amendment revised the Company's applicable margin on borrowings, the maximum allowable capital expenditures through March 29, 2004 and reduced the amount allowed for permitted acquisitions (as defined in the credit agreement) from $15 million to $7.5 million through March 30, 2004. Concurrent with the Amendment, the Company voluntarily reduced the availability under its revolving credit facility by $15 million from $40 million to $25 million until March 30, 2004. As a result of the impact of the domestic economy on the Company's business during 2003 coupled with the performance of the lock product line and cash spent on an unsuccessful acquisition attempt during 2003, the Company would not have been able to achieve the required step down in the financial covenants that was to occur as of September 2003 in accordance with the Amendment. Accordingly, the Company entered into a second amendment to its credit agreement (the "Second Amendment"). The financial covenants as modified by the Second Amendment apply from September 30, 2003 through March 30, 2005, at which time the financial covenants return to the financial covenants in effect before the Amendment. At June 30, 2004, the Company was in compliance with the credit agreement, as amended. The Company's remaining liquidity demands are for capital expenditures, general corporate purposes, and principal and interest payments on its outstanding debt. The Company's senior notes require semiannual interest payments on the outstanding principal. The term loan requires quarterly principal payments. At June 30, 2004, the Company had prepaid its next principal payment. Principal payments required for the next 12 months will be approximately $13.3 million. Under the revolving credit facility and term loan, the Company has the option to lock in a specified interest rate by entering into a contract, for different periods, which cannot exceed 180 days. As the underlying contract comes up for renewal, the interest associated with the contract becomes due. The Company anticipates its capital expenditures for the year ended December 31, 2004 to be approximately $4.0 million. The expenditures are primarily needed to maintain its facilities, expand its production capacity for new product introduction as well as fund the Company's ongoing plan to expand foreign operations in order to take advantage of profitable market opportunities. To the extent cash flow from continuing operations is insufficient to cover the Company's capital expenditures, debt service and other general requirements, the Company would seek to utilize its borrowing availability under its existing revolving credit facility, which it believes to be sufficient for any such purpose. 19 KCI has no operations and is dependent on KCLLC for financial resources in the form of capital distributions to meet its obligations. KCI obligations include the liquidation preferences of $107.0 million for its preferred stock plus any dividends payable in arrears (at June 30, 2004 there were approximately $4.6 million in cumulative dividends in arrears, payable in kind), which are redeemable for cash at the option of the holder after June 2, 2009, the requirement to purchase shares from its common shareholders under certain circumstances and its tax obligations. Repurchases of KCI Common Stock are made at fair market value as defined in KCI's shareholder agreement. At June 30, 2004 approximately 1.3 million KCI common shares plus potentially 183,000 shares covered by stock options were subject to repurchase by KCI. The ability of KCLLC to make such capital distributions will be limited by its available resources and is limited by restrictions of debt and other agreements. KCLLC reflects the tax obligations of KCI in its tax provision. Cash flows provided by operating activities were approximately $10.8 million and $10.5 million for Six Months 2004 and 2003, respectively. The net increase in cash flows of approximately $263,000 for Six Months 2004 was the result of approximately $2.3 million of cash flows provided by continuing operations offset by approximately $2.0 million of cash flows used in discontinued operations. For the Six Months 2004 cash provided by operating activities of continuing operations increased from approximately $9.4 million for the Six Months 2003 to approximately $11.7 million for the Six Months 2004. This was primarily driven by the growth in earnings offset by the investment in working capital related to such growth. For the Six Months 2004, net income plus non-cash charges totaled approximately $10.8 million as compared to the Six Months 2003 of approximately $7.3 million. The Company's primary working capital accounts (accounts receivable, inventory and accounts payable) used net cash in its continuing operations of approximately $5.8 million for the Six Months 2004 as compared to Six Months 2003, when the working capital accounts used net cash of approximately $3.1 million. Accrued expenses increased as the Company accrued income taxes in the Six Months 2004 but has not made any estimated payments for income taxes as it anticipates the sale of its lock product line to generate tax losses which will offset most of the Company's current tax liability. The approximately $2.0 million increase in cash used in operating activities of discontinued operations was driven by the closure of the lock product manufacturing facility in Mexico in February 2004. The decline in net sales volume made it prohibitive to carry the dual overhead infrastructures of the domestic and Mexico lock manufacturing facilities. As a result, management concluded to close the lock manufacturing facility in Mexico. In closing down the facility the Company recorded a charge of approximately $664,000 for severance and closing costs and to write down inventory and leaseholds. In addition the Company recorded a charge of approximately $605,000 to record the balance on the lease of the facility on a present value basis, less any estimate for sublease income. Further, the decline in net sales of approximately 15.9% for the Six Months 2004 as compared to the Six Months 2003 also was a contributing factor in the increase in cash used by the operating activities of this product line for the Six Months 2004 as compared to the Six Months 2003 (see Note 2 to the consolidating financial statements elsewhere in this Form 10-Q). Cash flows used in investing activities were approximately $7.4 million and $6.5 million for Six Months 2004 and the Six Months 2003, respectively. Cash flows used in investing activities of continuing operations were approximately $7.4 million and $6.1 million for Six Months 2004 and the Six Months 2003, respectively. Capital expenditures for continuing operations for the Six Months 2004 and 2003 were approximately $1.3 million and $1.6 million, respectively. The decline in capital expenditures for Six Months 2004 as compared to the Six Months 2003 was timing related. On May 7, 2004, the Company acquired the net assets of Advanced Devices, Inc. ("ADI") for a purchase price of approximately $8.0 million and assumed liabilities of approximately $62,000. The Company recorded the estimated excess purchase price over net assets acquired of approximately $6.2 million as goodwill. The value ascribed to the estimated excess purchase price over net assets acquired is preliminary and is subject to change. Other intangibles are not material. The ADI product line, which manufactures electrical wiring devices, will be integrated into the Company's Napa Valley, CA manufacturing facility. The Company paid approximately $6.1 million in cash at closing and borrowed approximately $4.5 million on its revolving credit facility to partially finance this acquisition. The acquisition calls for approximately 75% of the total purchase price to be paid at closing, 10% to be paid at the earlier of the date when the product line is fully integrated into the Company's Napa, California manufacturing facility or March 7, 2005, and the remainder over the next four years annually. 20 On March 3, 2003, the Company acquired the mechanical components business of Arens Controls for a purchase price of approximately $4.4 million and assumed liabilities of approximately $642,000. The Company recorded the estimated excess purchase price over net assets acquired of approximately $2.0 million as goodwill. Other intangibles acquired in the transaction were not material. The product line, which manufactures mechanical push-pull control solutions, was fully integrated into the Company's Binghamton, New York manufacturing facility in November 2003. The Company borrowed $2.0 million on its revolving credit facility to partially finance this acquisition. Cash flows used in investing activities of discontinued operations were approximately $59,000 and $401,000 for Six Months 2004 and the Six Months 2003, respectively. These amounts relate to capital expenditures of the lock product line for those periods. Cash flows from financing activities used net cash for the Six Months 2004 of approximately $5.9 million and $3.4 million, respectively. The net cash used in financing activities for Six Months 2004 was primarily related to the Company's repayment of debt under its existing credit facilities of approximately $14.6 million. In addition, the Company borrowed approximately $8.5 million against its revolver during the Six Months 2004 to partially finance the ADI acquisition and financing working capital growth due to the Company's revenue growth during the three months June 2004. For the Six Months 2003, the cash used in financing activities primarily related to the repayment of approximately $5.3 million in debt as well as the borrowing of $2.0 million to particially finance the acquisition of Arens Controls. At June 30, 2004, the Company was one payment ahead of schedule under its current term debt facility. Management believes that the Company's cash flow from continuing operations, together with its borrowing availability under its existing credit facilities, will be adequate to meet its anticipated capital requirements for the next twelve months. COMMITMENTS AND CONTINGENCIES The following is a schedule of the Company's contractual obligations outstanding at June 30, 2004:

CRITICAL ACCOUNTING POLICIES The following is a brief discussion of the more significant accounting policies and methods used by the Company. Revenue recognition: The Company recognizes revenue upon shipment of products to customers, when title passes and all risks and rewards of ownership have transferred. The Company considers revenue realized or realizable and earned when the product has been shipped, the sales price is fixed or determinable and collectibility is reasonably assured. The Company reduces revenue for estimated customer returns. 21 Inventory: Inventories are stated at the lower of cost or market, on a first-in, first-out basis. The Company purchases materials for the manufacture of inventory for sale in its various markets. The decision to purchase a set quantity of a particular inventory item is influenced by several factors including current and projected cost to produce certain items, future estimated availability and existing and projected sales of such items. The Company evaluates the net realizable value of its inventories and establishes allowances to reduce the carrying amount of these inventories as deemed necessary. Goodwill and other intangible assets: At June 30, 2004, the Company has recorded approximately $89.4 million in goodwill and other intangible assets related to acquisitions made in 2003 and prior years. The recoverability of these assets is subject to an impairment test based on the estimated fair value of the underlying businesses. These estimated fair values are determined using a valuation methodology that triangulates the discounted cash flows, market multiples and transactional multiples of the reporting units. Factors affecting these future cash flows include: the continued market acceptance of the products and services offered by the businesses; the development of new products and services by the businesses and the underlying cost of development; the future cost structure of the businesses; and future technological changes. Pension Plans: The Company's assets and liabilities recorded in connection with the Company's pension plans use estimates that include but are not limited to expected return on assets and life expectancy of participants. In preparation of the consolidated financial statements the Company reviews these estimates by reviewing current market conditions and internal information at its disposal. MANAGEMENT'S ESTIMATES The Company's discussion and analysis of its financial condition and results of operations are based on the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to product returns, bad debts, inventories, intangible assets, pensions and post-retirement benefits, warranty obligations and contingencies and litigation. The Company bases its estimates on historical experience, the use of external resources and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Significant estimates used by the Company that are subject to change include, but are not limited to the following: (i) The Company's allowance for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments for their open accounts receivable with the Company; if the financial condition of the Company's customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances could be required; (ii) Allowances established against its inventory carrying value to record its inventories at net realizable value; if actual market conditions are less favorable than those projected by management, additional inventory allowances may be required; (iii) The Company's deferred tax assets primarily relate to deductible tax intangibles resulting from the Company's acquisition transactions and temporary differences in the basis of its working capital accounts due to non-deductible reserves. The Company records as necessary, valuation allowances against its deferred tax assets. To date the Company believes that it will realize the benefits from its deferred tax assets as it is expected to generate taxable income in the future. If the Company were to determine that it would not be able to realize its deferred tax assets in the future, valuation allowances could be required; (iv) The Company evaluates the carrying amounts of its long-lived assets for recoverability; if the Company were to determine that the value ascribed to any of its long-lived assets was not recoverable an allowance could be required; 22 (v) The Company records the effects of its existing pension plans in its financial statements using various assumptions and the use of independent actuaries; if any of the underlying assumptions were to change, the carrying value of the pension assets and obligations may require adjustment; and, (vi) The Company's financial covenants, as defined in its credit facilities, were based, in part, by estimates of future results of the Company's continuing operations; if actual results were not to meet those expectations, the Company may not meet its financial covenants and may be required to obtain waivers for those covenants. INFLATION Inflation has not been material to the Company's continuing operations for the periods presented. BACKLOG The Company's backlog of orders as of June 30, 2004 was approximately $31.6 million. The Company includes in its backlog only accepted purchase orders. However, backlog is not necessarily indicative of future sales. In addition, purchase orders can generally be cancelled at any time without penalty. OTHER MATTERS FORWARD-LOOKING STATEMENTS This report contains forward-looking statements based on current expectations that involve a number of risks and uncertainties. Generally, forward-looking statements include words or phrases such as "management anticipates," "the Company believes," "the Company anticipates," and words and phrases of similar impact, and include but are not limited to statements regarding future operations and business environment. The forward-looking statements are made pursuant to safe harbor provisions of the Private Securities Litigation Reform Act of 1995. The factors that could cause actual results to differ materially from the forward-looking statements include the following: (i) industry conditions and competition, (ii) operational risks and insurance, (iii) environmental liabilities which may arise in the future and not covered by insurance or indemnity, (iv) the impact of current and future laws and government regulations, and (v) the risks described from time to time in the Company's reports to the Securities and Exchange Commission. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's primary exposure to market risk is related to the variability in interest rates associated with the $48.0 million outstanding under its term loan and with any amounts outstanding under its $25 million revolving credit facility. Under both the term loan and the revolving credit facility, the Company has the option to lock in a certain interest rate based on either the base rate, which is equivalent to prime, or LIBOR plus an applicable margin specified in the agreement. Principally all of the borrowings under the term loan are locked in at approximately 4.5% until October 2004, when the underlying LIBOR contract is up for renewal. At June 30, 2004, the Company had $1.7 million outstanding under its line of credit, which is locked in at approximately 4.5% until September 2004 and was one payment ahead of schedule on its term debt. A 1% change in the interest rate for the Company's credit facilities in place at December 31, 2003 would have resulted in a change in the Company's annual interest expense of approximately $603,000. The senior notes bear a fixed rate of interest and therefore are not subject to market risk. The Company does not hold derivative financial instruments or believe that material imbedded derivatives exist within its contracts. While the Company uses commodity metals in certain of its products, its exposure to market risk is reduced by the pass-through of increased costs to its customer base. As the Company has operations outside the United States of America, it is subject to foreign currency exchange risk. To date those risks have not had a material impact on the Company's results of operations or financial position. 23 ITEM 4. CONTROLS AND PROCEDURES The management of KCLLC carried out an evaluation, with the participation of its President and Chief Financial Officer, of the effectiveness of its disclosure controls and procedures as of June 30, 2004. Based upon that evaluation, KCLLC's President and Chief Financial Officer concluded that KCLLC's disclosure controls and procedures were effective to ensure that information required to be disclosed by KCLLC in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the Securities and Exchange Commission. There has not been any change in KCLLC's internal control over financial reporting in connection with the evaluation required by Rule 15d-15(d) under the Exchange Act that occurred during the quarter ended June 30, 2004 that has materially affected, or is reasonably likely to materially affect, KCLLC's internal control over financial reporting. The management of Key Components Finance Corp. ("Finance Corp.") carried out an evaluation, with the participation of its President and Chief Financial Officer, of the effectiveness of its disclosure controls and procedures as of June 30, 2004. Based upon that evaluation, Finance Corp.'s President and Chief Financial Officer concluded that Finance Corp.'s disclosure controls and procedures were effective to ensure that information required to be disclosed by Finance Corp. in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the Securities and Exchange Commission. There has not been any change in Finance Corp.'s internal control over financial reporting in connection with the evaluation required by Rule 15d-15(d) under the Exchange Act that occurred during the quarter ended June 30, 2004 that has materially affected, or is reasonably likely to materially affect, Finance Corp.'s internal control over financial reporting. PART II - OTHER INFORMATION ITEM 6 -- EXHIBITS AND REPORTS ON FORM 8-K (A) EXHIBITS 10.43 Employment Agreement between KCI and Robert B. Kay dated as of July 1, 2004 10.44 Employment Agreement between KCI and Albert W. Weggeman dated as of July 1, 2004 10.45 Employment Agreement between KCI and Keith A. McGowan dated as of July 1, 2004 31.1 Rule 13a-14(a)/15d-14(a) Certifications 31.2 Rule 13a-14(a)/15d-14(a) Certifications 32 Section 1350 Certifications (B) REPORTS ON FORM 8-K The Company filed the following report on Form 8-K during the second quarter of the year ending December 31, 2004:

24 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. KEY COMPONENTS, LLC -------------------------------------------- Date: August 13, 2004 By: /s/ Robert. B. Kay -------------------- Robert B. Kay President Date: August 13, 2004 By: /s/Keith A. McGowan -------------------- Keith A. McGowan Chief Financial Officer SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. KEY COMPONENTS FINANCE CORP. -------------------------------------------- Date: August 13, 2004 By: /s/ Robert. B. Kay -------------------- Robert B. Kay President Date: August 13, 2004 By: /s/ Keith A. McGowan --------------------- Keith A. McGowan Chief Financial Officer 25

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