10-K 1 eng10k.txt SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-K Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the year ended October 31, 2005 Commission file number 0-13880 ENGINEERED SUPPORT SYSTEMS, INC. (Exact name of Registrant as specified in its charter) Missouri 43-1313242 (State of Incorporation) (IRS Employer Identification No.) 201 Evans Lane, St. Louis, Missouri 63121 (Address of principal executive offices) (Zip Code) Registrant's telephone number including area code: (314) 553-4000 Securities registered pursuant to Section 12(b) of the Securities Exchange Act of 1934: None Securities registered pursuant to Section 12(g) of the Securities Exchange Act of 1934: Title of each class ------------------- Common stock, $.01 par value Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [ ]. No [X]. Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes [ ]. No [X]. Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirement for the past 90 days. Yes [X]. No [ ]. Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in the definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [X]. No [ ]. Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ]. No [X]. Based on the closing price on April 30, 2005, the aggregate market value of the voting stock held by non-affiliates of the Registrant was approximately $1,420,768,494. The number of shares of the Registrant's common stock, $.01 par value, outstanding at December 20, 2005 was 41,960,035. DOCUMENTS INCORPORATED BY REFERENCE None. 2 PART I ITEM 1. BUSINESS ------- -------- Engineered Support Systems, Inc. (ESSI) is a holding company for 14 wholly-owned operating subsidiaries. These subsidiaries are organized within ESSI's two business segments: Support Systems and Support Services. The Support Systems segment includes the operations of Systems & Electronics Inc. (SEI), Keco Industries, Inc. (Keco), Engineered Air Systems, Inc. (Engineered Air), Engineered Coil Company, d/b/a Marlo Coil (Marlo Coil), Engineered Electric Company, d/b/a Fermont (Fermont), Universal Power Systems, Inc. (UPSI), Engineered Environments, Inc. (EEi), Pivotal Power Inc. (Pivotal Power), Prospective Computer Analysts Incorporated (PCA) and Mobilized Systems, Inc. (Mobilized Systems). The Support Services segment includes the operations of Technical and Management Services Corporation (TAMSCO), Radian, Inc. (Radian), Spacelink International, LLC (Spacelink) and ESSIbuy.com, Inc. (ESSIbuy). Substantially all revenues within these two segments are directly or indirectly derived from contracts with the U.S. Department of Defense (DoD) and certain foreign militaries. Engineered Air was incorporated under the laws of the State of Missouri in December 1981 and acquired the assets of the Defense Systems Division of Allis-Chalmers Corporation in March 1982. ESSI was incorporated under the laws of the State of Missouri in December 1983, and exchanged all of its outstanding common stock for two-thirds of the common stock of Engineered Air held by ESSI's founders. ESSI purchased the remaining one-third of the common stock of Engineered Air in January 1984. ESSI effected its initial public offering in August 1985. In March 1993, ESSI purchased all of the outstanding stock of Associated Products, Inc. (subsequently changed to Engineered Specialty Plastics, Inc. (ESP)). Effective February 1998, Engineered Coil Company acquired substantially all of the net assets of Nuclear Cooling, Inc., d/b/a Marlo Coil. In June 1998, ESSI acquired all of the outstanding common stock of Keco. In February 1999, Engineered Electric Company acquired substantially all of the net assets of the Fermont Division of Dynamics Corporation of America, d/b/a Fermont. In September 1999, ESSI acquired all of the outstanding common stock of SEI. In May 2002, ESSI acquired all the outstanding common stock of Radian. In June 2002, ESSI acquired all the outstanding stock of UPSI. In May 2003, ESSI acquired all of the outstanding stock of TAMSCO. In September 2003, ESSI acquired all of the outstanding stock of EEi. In December 2003, ESSI acquired all of the outstanding stock of Pivotal Power. In January 2005, ESSI acquired all of the outstanding stock of PCA. In February 2005, ESSI acquired all the outstanding membership interests of Spacelink. In May 2005, ESSI acquired all the outstanding equity of Mobilized Systems. On September 21, 2005, ESSI and DRS Technologies, Inc. (DRS) entered into a definitive agreement which provides for the acquisition by DRS of all the outstanding common stock of ESSI for approximately $1.9 billion, or $43.00 per share (subject to possible adjustment), through a combination of cash and DRS common stock. Pending customary regulatory approvals and other closing conditions, including approval by ESSI and DRS shareholders, the transaction is expected to close on or about January 31, 2006. PRODUCTS AND SERVICES As described above, ESSI's operations currently are organized into two business segments: Support Systems and Support Services. The Support Systems segment designs, engineers and manufactures integrated military electronics and other military support equipment primarily for the DoD, as well as related heat transfer and air handling equipment for domestic commercial and industrial users. The Support Services segment provides engineering services, logistics and training services, advanced technology services, asset protection systems and services, telecommunication systems integration and information technology services primarily for the DoD. The Support Services segment also provides certain power generation and distribution equipment and vehicle armor installation to the DoD. For financial information regarding ESSI's business segments, see "Management Discussion and Analysis of Financial Condition and Results of Operations," and Note L to the Consolidated Financial Statements for the year ended October 31, 2005 included elsewhere within this Annual Report on Form 10-K. 3 ENGINEERING AND DESIGN As ESSI has grown both internally and through acquisition, it significantly has increased its engineering capabilities. As of October 31, 2005, ESSI has 1,165 people engaged in engineering activities that encompass advanced development, engineering research and development, product improvement and evolution, new product development, productionization, logistic and life-cycle support, product re-engineering and support services. ESSI believes its depth of engineering capabilities allows it to cover all phases of a project from conception to full-life cycle support. The majority of ESSI's development activities are conducted under, and funded directly or indirectly through, DoD contracts in response to designated performance specifications. ESSI's expenditures on internal research and development (IRAD) were approximately $4.6 million, $4.3 million and $2.9 million for the years ended October 31, 2005, 2004 and 2003, respectively. ESSI's engineering expertise is complementary to the military markets it serves, primarily the environmental control, power, electronics, heavy mechanical and material handling, security, communications, service and logistical support markets. ESSI has engineering capabilities in the areas of system design and analysis, electronic signal processing, power electronics, software, firmware, mechanical design, control, electro-mechanical, electro-optical, electro-chemical, acoustics, thermodynamics, fluid and air flow, fluid pumping, HVAC, liquid fuel combustion, chemical and biological hardened environmental control, filtration and decontamination, power system analysis, environmental control system analysis, stress analysis, water treatment analysis, water purification technology, radar, target acquisition systems, automatic test equipment, communication system analysis and all the logistic support disciplines to include reliability, maintainability, embedded diagnostics and prognostics, training and the development of web-based interactive electronic technical manuals. ESSI's subsidiaries within the Support Services segment have engineering expertise in fields such as re-engineering obsolete mechanical and electronic products, nano-hardened products, security system design, fuel cells and super critical reformation. ESSI's engineering expertise has significant overlap throughout its operating subsidiaries, allowing it to leverage engineering personnel and technologies, and to function as an integrated team. ESSI's design and development of new products is enhanced by a number of computer-aided design and manufacturing (CAD/CAM) systems as well as a number of automated system design and analysis tools. CAD/CAM tools are used by both engineers and draftsmen to design and validate complex products and component parts. ESSI utilizes both two- and three-dimensional CAD/CAM tools, providing both design and production engineers an interactive environment with which to view the final product and all the relevant interfaces. These tools are compatible across all of ESSI's operating subsidiaries, allowing for virtual design and development without regard to geographical location. ESSI's engineering technologies and expertise provide it with the ability to adapt its production processes to new product needs on a timely basis. ESSI also has the capability to provide complete technical data support for the products it manufactures to include integrated logistics support, spare parts provisioning and preparation of technical manuals. ESSI intends to leverage its engineering and design capabilities to continue to develop and evolve differentiated products and services that address both the current and future needs of the DoD for rapid deployment, smaller, lighter and more efficient equipment, and for innovative, value-added service offerings. MARKETING AND BUSINESS DEVELOPMENT ESSI's business development efforts are undertaken at two functional levels. ESSI's corporate operation focuses on long-term strategic planning, policy development, best practice identification and dissemination, and on major programs which require the bundling of products and services across traditional subsidiary lines. In addition, ESSI's corporate Washington D.C. operations interface with service staffs within the Pentagon and liaisons with key 4 Congressional delegations. At the subsidiary level, a sales force is engaged to identify and pursue programs with specific customers in a variety of markets. With increased emphasis on ESSI's vision for the future, efforts have begun to strengthen the long-term strategic planning process. Market-based peer groups enable experts throughout ESSI to share knowledge and collectively recommend direction and strategy. These peer groups also evaluate market intelligence, customer knowledge and core competencies to refine ESSI's growth strategies. ESSI's Business Development Organization meets on a regular basis to identify and disseminate best practices in the areas of proposal development and market presence. The sales force shares customer and market intelligence, identifies key opportunities and assesses campaign strategies. ESSI gathers information from primary sources such as the DoD budget and its supporting documents, and military requirements documents such as Initial Capabilities Documents, along with direct interface with its customers. ESSI analyzes this data and then determines whether or not to bid on specific projects based upon determinations of potential profitability and the likelihood of award. PURCHASED COMPONENTS AND RAW MATERIALS ESSI's products require a wide variety of components and materials. Although ESSI has multiple sources of supply for most of its material requirements, sole-source vendors supply certain components, and ESSI's ability to perform certain contracts depends on their performance. In the past, these required raw materials and various purchased components generally have been available in sufficient quantities. GOVERNMENT CONTRACTING ESSI's government contracts are obtained through the DoD procurement process as governed by the Federal Acquisition Regulations and related regulations and agency supplements, and are typically fixed-price contracts. This means that the price is agreed upon before the contract is awarded and ESSI assumes complete responsibility for any difference between estimated and actual costs. For the fiscal year ended October 31, 2005, approximately 64% of ESSI's revenues were derived from fixed-price contracts. Under the Truth in Negotiations Act of 1962 (Negotiations Act), the U.S. government has the right for three years after final payment on certain negotiated contracts, subcontracts and modifications, to determine whether ESSI furnished the U.S. government with complete, accurate and current cost or pricing data as defined by the Negotiations Act. If ESSI fails to satisfy this requirement, the U.S. government has the right to adjust a contract or subcontract price by the amount of any overstatement as defined by the Negotiations Act. U.S. government contracts permit the U.S. government to unilaterally terminate these contracts at its convenience. In the event of such termination, ESSI is entitled to reimbursement for certain expenditures and overhead as provided for in applicable U.S. government procurement regulations. Generally, this results in the contractor being reasonably compensated for work actually done, but not for anticipated profits. The U.S. government also may terminate contracts for cause if ESSI fails to perform in strict accordance with contract terms. Termination of, or elimination of appropriation for, a significant government contract could have a material adverse effect on ESSI's business, financial condition and results of operations in subsequent periods. Similarly, U.S. government contracts typically permit the U.S. government to change, alter or modify the contract at its discretion. If the U.S. government were to exercise this right, ESSI could be entitled to reimbursement of all allowable and allocable costs incurred in making the change plus a reasonable profit. For manufactured items, the U.S. government typically finances a substantial portion of ESSI's contract costs through progress payments. In each such case, ESSI receives progress payments in accordance with DoD contract terms which provide progress payments at 75% to 90% of costs incurred. 5 INTELLECTUAL PROPERTY ESSI owns various patents and other forms of intellectual property. From time to time, ESSI develops proprietary information and trade secrets regarding the design and manufacture of various products. ESSI considers its proprietary information and intellectual property to be valuable assets. However, ESSI's business is not materially dependent on their protection. COMPETITION The markets for all of ESSI's products and services are highly competitive. In order to obtain U.S. government contracts, ESSI must comply with detailed and complex procurement procedures adopted by the DoD pursuant to regulations promulgated by the U.S. government. ESSI believes the regulations and procurement procedures are adopted to promote competitive bidding. In addition, ESSI competes with a large number of suppliers to commercial and industrial air handling customers. In all phases of its operations, ESSI competes in both performance and price with companies, some of which are considerably larger, more diversified and have greater financial resources than ESSI. BACKLOG ESSI records its backlog as either funded or unfunded backlog. ESSI's funded backlog was $689.8 million and $588.1 million as of October 31, 2005 and 2004, respectively. ESSI's funded backlog is subject to fluctuations and is not necessarily indicative of future revenues. Funded backlog represents products or services that the customer has committed by contract to purchase from ESSI. Unfunded backlog includes products or services that the customer has the option to purchase under contract with ESSI, including, with respect to contracts which include a maximum amount purchasable by the customer thereunder, such maximum amount, and with respect to contracts without a specified maximum amount, ESSI's estimate of the amount it expects the customer to purchase using the Best Estimated Quantity (BEQ) as a guide where a BEQ is specified. There are no commitments by the customer to purchase products or services included in unfunded backlog and there can be no assurance that any or all amounts included therein will generate revenue for ESSI. Moreover, cancellations of purchase orders or reductions of product quantities or levels of service to be provided in existing contracts could substantially reduce ESSI's funded backlog and, consequently, future net revenues. Failure of ESSI to replace canceled or reduced backlog, whether funded or unfunded, could have a material adverse effect on ESSI's business, financial condition and results of operations in subsequent periods. The following table summarizes funded and unfunded defense backlog (in millions) as of the indicated dates: Funded Unfunded Defense Backlog Defense Backlog --------------- --------------- October 31, 2005 $689.8 $1,487.1 October 31, 2004 588.1 849.2 October 31, 2003 533.4 922.8 October 31, 2002 350.1 868.6 October 31, 2001 291.7 681.8 EMPLOYEES As of October 31, 2005, ESSI employed 3,673 persons, of which 1,196 were engaged in manufacturing activities, 1,165 in engineering activities and 1,312 in services activities, office administration and management functions. District No. 9 of the International Association of Machinists and Aerospace Workers (AFL-CIO) represents 287 employees under a collective bargaining agreement, which expires March 21, 2008. 6 ESSI considers its overall employee relations to be satisfactory. GEOGRAPHIC AREAS The following table summarizes (in thousands) ESSI's net revenues attributed to the United States and to foreign countries: Year Ended United Foreign Total October 31 States Countries Revenues ---------- ------ --------- -------- 2005 $993,288 $25,085 $1,018,373 2004 853,286 30,344 883,630 2003 556,809 15,892 572,701 ESSI attributes foreign net revenues based on the domicile of the purchaser of the product or service. Of the $702.2 million of ESSI's total assets as of October 31, 2005, $13.9 million were located in countries other than the United States. FILING OF PERIODIC REPORTS ESSI regularly files periodic reports with the Securities and Exchange Commission (SEC), including annual reports on Form 10-K and quarterly reports on Form 10-Q, as well as, from time to time, current reports on Form 8-K and amendments to those reports. These filings are available free of charge on ESSI's website at www.engineeredsupport.com, as soon as reasonably practicable after their electronic filing with the SEC. ITEM 1A RISK FACTORS ------- ------------ In addition to historical information, this Annual Report on Form 10-K contains or may contain certain forward-looking statements, within the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Generally, the words "will," "may," "should," "continue," "believes," "expects," "intends," "anticipates," "estimates" or similar expressions identify forward-looking statements, These forward-looking statements involve certain risks and uncertainties. Factors that could cause actual results to differ materially from those contemplated by the forward-looking statements include, among others, the risks and uncertainties identified below. THE OBLIGATIONS OF ESSI AND DRS TO COMPLETE THE PROPOSED MERGER ARE SUBJECT TO THE SATISFACTION OR WAIVER OF CERTAIN CONDITIONS. THE FAILURE TO SATISFY THESE CONDITIONS COULD RESULT IN TERMINATION OF THE MERGER AGREEMENT, WHICH WOULD HAVE A MATERIAL ADVERSE EFFECT ON ESSI. A number of conditions must be satisfied before the proposed merger between ESSI and DRS will be completed. These include among others: o the receipt of the approval of the issuance of shares of DRS common stock in the merger by DRS stockholders and the approval of the merger agreement and the transactions contemplated by the merger agreement by ESSI shareholders; o the absence of any legal restraints or prohibitions preventing the completion of the merger, or making such completion illegal; o the receipt of all governmental and regulatory authorizations, consents, waivers, orders, approvals, or declarations required to consummate the merger, except as would not be reasonably expected to result in a material adverse effect on ESSI; 7 o the representations and warranties of each party contained in the merger agreement being true and correct in all material respects; o each party must have performed, in all material respects, all of its obligations under the merger agreement at or prior to the effective time of the merger agreement; and o the absence of events or developments since the date of the merger agreement that would reasonably be expected to have a material adverse effect with respect to either party. ESSI can give no assurance that all of the conditions to the merger will be either satisfied or waived or that the merger will occur. The failure to satisfy these conditions could result in termination of the merger agreement, which would have a material adverse effect on ESSI. The proposed merger between DRS and ESSI is discussed in Note P to the Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K. THE MERGER AGREEMENT MAY BE TERMINATED PRIOR TO COMPLETION OF THE MERGER, WHICH WOULD HAVE A MATERIAL ADVERSE EFFECT ON ESSI. DRS and ESSI mutually may agree in writing, at any time before the effective time of the merger, to terminate the merger agreement. Also, either DRS or ESSI may terminate the merger agreement in a number of circumstances, including if: o the merger is not consummated by June 30, 2006 through no fault of the party seeking to terminate the merger agreement; o there is a final, non-appealable injunction, judgment or other order, or law which prohibits the merger; o the ESSI board of directors authorizes ESSI to enter into an agreement with respect to a superior proposal; o ESSI shareholders fail to approve the merger agreement and the transactions contemplated by the merger agreement at the ESSI special meeting or at an adjournment of that meeting; o DRS stockholders fail to approve the issuance of shares of DRS common stock in the merger at the DRS special meeting or at an adjournment of that meeting; or o the party seeking termination is not in material breach of the merger agreement and the other party has materially breached a representation, warranty, covenant or agreement of that party contained in the merger agreement and such breach has not been cured within 15 days of notice of the breach. ESSI may terminate the merger agreement to accept an acquisition proposal that is more favorable to ESSI and ESSI's shareholders from a financial point of view than the proposed merger with DRS. ESSI must pay DRS a termination fee of $60.0 million, plus up to $10.0 million in costs and expenses of DRS in connection with the transactions contemplated by the merger agreement, if the merger agreement is terminated due to ESSI's board of directors authorizing ESSI to enter into an acquisition agreement with a third party or if DRS terminates the merger agreement due to ESSI's board of directors withdrawing its approval or recommendation of the proposed merger, modifying its recommendation of the merger agreement in a manner adverse to DRS or failing to recommend against any tender or exchange offer that constitutes an alternative proposal. ESSI also must pay these fees and expenses if ESSI or DRS terminates the merger agreement because the merger has not been completed by the outside date or ESSI shareholders fail to approve the merger agreement, an alternative proposal with respect to ESSI shall have been publicly announced prior to such termination and ESSI enters into or completes any merger or extraordinary transaction within twelve months of the termination. DRS may terminate the merger agreement if the financing contemplated by the merger agreement is not available on substantially the terms and conditions identified in DRS's financing commitment letter, or on other 8 terms or pursuant to other financing arrangements reasonably acceptable to DRS, but DRS will not have the right to terminate for this reason if its failure to fulfill its obligations to obtain financing is the cause of the failure of financing to become available. ESSI may terminate the merger agreement if DRS's financing contemplated in the merger agreement is not available and DRS fails to enter into a substitute commitment letter or alternate arrangements with other financing sources within 20 business days of advising ESSI of the unavailability of such financing or substitute financing. Under the merger agreement, DRS must pay ESSI $20.0 million in liquidated damages upon such termination by DRS or ESSI. ESSI can give no assurance that the merger agreement will not be terminated prior to completion of the merger or that the merger will occur. Termination of the merger agreement, other than in respect of a superior transaction that actually closes, would have a material adverse effect on ESSI operations. DRS MAY NOT BE ABLE TO OBTAIN FINANCING TO PAY THE CASH PORTION OF THE MERGER CONSIDERATION. In addition to the issuance of common stock, DRS intends to finance the merger using a portion of available cash on hand, borrowings provided for under the commitment letter issued by Bear, Stearns & Co. Inc. and its affiliates (Bear Stearns) and Wachovia Capital Markets, LLC and its affiliates (Wachovia) for a $706.9 million senior secured credit facility consisting of a $356.9 million seven-year term loan and a $350.0 million six-year revolving credit facility and through the issuance of a combination of senior fixed-rate notes, senior floating-rate notes, senior subordinated notes and/or convertible notes in an aggregate principal amount of $950.0 million. DRS has entered into a commitment with Bear Stearns and Wachovia for the term loan and revolving credit facility. DRS also has entered into a separate commitment letter with each of Bear Stearns and Wachovia for up to a $950.0 million interim credit facility, if the placement of the permanent debt financing cannot be consummated by the effective time of the merger. Each of the commitment letters and the availability of the term loan, revolving credit facility and interim facility, if necessary, is subject to certain conditions precedent, including, among other things, that there be no material adverse effect on ESSI. Therefore, ESSI can give no assurance that the financing pursuant to the commitment letters will be available. DRS's proposed offerings of notes pursuant to the permanent debt financing is subject to market and other customary conditions, including, but not limited to, general global and U.S. economic conditions, the market for similar securities, and delivery of customary documents, officer certifications and representations prior to, or at the time of, the closing of the notes offering. There can be no assurance that DRS will be able to complete the notes offering or enter into the term loan, the revolving credit facility or the interim facility, if necessary, on commercially reasonable terms, or at all. As of September 30, 2005, DRS's cash and cash equivalents were approximately $257.3 million. DRS will not be able to complete the merger if it is unable to obtain financing. DRS may terminate the merger agreement if funding to consummate the merger pursuant to financing arrangements on substantially the terms expected or other terms reasonably acceptable to DRS shall not have become available. However, DRS will not have this termination right if the failure to fulfill its obligations under the merger agreement to obtain such financing is the cause of such financing not becoming available. ESSI may terminate the merger agreement if DRS's financing contemplated in the merger agreement is not available and DRS fails to obtain substitute financing within 20 business days of advising ESSI of the unavailability of such financing or substitute financing. Under certain circumstances pursuant to the merger agreement, DRS must pay ESSI $20.0 million in liquidated damages upon such termination by DRS or ESSI. ESSI CURRENTLY IS SUBJECT TO AN SEC INVESTIGATION THAT COULD REQUIRE SIGNIFICANT MANAGEMENT ATTENTION AND LEGAL RESOURCES AND COULD HAVE A MATERIAL ADVERSE EFFECT ON ESSI OR THE COMBINED COMPANY. In December 2004, ESSI was notified by the Enforcement Division of the SEC of the issuance of a formal order directing a private investigation captioned In the Matter of Engineered Support Systems, Inc. and in September 2005, ESSI received notice that the SEC staff had expanded the scope of its investigation. The investigation is discussed in greater detail under "Item 3--Legal Proceedings" of this Annual Report on Form 10-K. In connection with the investigation, ESSI and certain of its directors and officers have received subpoenas and provided information and testimony to the SEC and one former director and officer who currently is a consultant has received a so-called Wells notice. ESSI continues to furnish information required by the SEC and otherwise to cooperate in connection with the 9 investigation. ESSI is unable to determine at this time the impact, if any, which the investigation could have on ESSI or the combined company following ESSI's proposed merger with DRS as discussed in Note P to the Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K. If ESSI is unable to resolve the SEC investigation before completion of the merger, it could require significant management attention and legal resources and could have a material adverse effect on the combined company. THE VALUE OF THE STOCK COMPONENT OF THE MERGER CONSIDERATION COULD VARY BASED UPON THE PRICE OF DRS COMMON STOCK. The merger consideration to be received by ESSI's shareholders in exchange for each share of ESSI common stock includes $30.10 in cash and a fraction of a share of DRS common stock to be determined based upon the average closing sale price of DRS common stock for the ten consecutive trading day period ending with the second complete trading day before the closing of the merger. The merger agreement provides that such fraction will be fixed at 0.2255 if the average price is $57.20 or greater and 0.2756 if the average price is $46.80 or less. If such average price is less than $57.20 and greater than $46.80, such fraction will be equal to $12.90 divided by the average price. If the average price is between $57.20 and $46.80 per share, the total consideration per share of ESSI common stock as of the date will be valued at $43.00; if the average price is less than $46.80, the value of the per-share consideration will be less than $43.00, and if the average price is greater than $57.20, the value of the consideration per share of ESSI common stock will be greater than $43.00. Accordingly, ESSI shareholders will not know the value of the stock component of the merger consideration until after the closing date. THE REVENUES OF THE COMBINED COMPANY DEPEND ON DRS'S AND ESSI'S ABILITY TO MAINTAIN LEVELS OF GOVERNMENT BUSINESS. THE LOSS OF CONTRACTS WITH DOMESTIC AND NON-U.S. GOVERNMENT AGENCIES COULD ADVERSELY AFFECT THE COMBINED COMPANY'S REVENUES. Both DRS and ESSI derive the substantial majority of their revenues from contracts or subcontracts with domestic and non-U.S. government agencies. A significant reduction in the purchase of products by these agencies would have a material adverse effect on the businesses of DRS and ESSI. For fiscal years ended October 31, 2005, 2004 and 2003, approximately 96%, 94% and 95%, respectively, of ESSI's revenues were derived directly or indirectly from defense industry contracts with the U.S. government and its agencies. In addition, in each of the fiscal years ended October 31, 2005, 2004 and 2003, approximately 3% of ESSI's revenues were derived directly or indirectly from sales to foreign governments. Additionally, for fiscal years ended March 31, 2005, 2004 and 2003, approximately 84%, 85% and 81%, respectively, of DRS's revenues were derived directly or indirectly from defense-industry contracts with the U.S. government and its agencies. In addition, in each of the fiscal years ended March 31, 2005, 2004 and 2003, less than 14% of DRS's revenues were derived directly or indirectly from sales to foreign governments. Therefore, the development of the combined company's business in the future will depend upon the continued willingness of the U.S. government and its prime contractors to commit substantial resources to defense programs and, in particular, upon the continued purchase of ESSI's and DRS's products and other products which incorporate their respective products, by the U.S. government. In particular, the current funding demands on the U.S. government combined with a potential reduction of forces in Iraq, may lead to lower levels of government defense spending. The risk that governmental purchases of products may decline stems from the nature of ESSI's and DRS's business with the U.S. government, in which the U.S. government may: o terminate contracts at its convenience; o terminate, reduce or modify contracts or subcontracts if its requirements or budgetary constraints change; o cancel multi-year contracts and related orders if funds become unavailable; o shift its spending priorities; 10 o adjust contract costs and fees on the basis of audits done by its agencies; and o inquire about and investigate business practices and audit compliance with applicable rules and regulations. In addition, as defense businesses, DRS and ESSI are subject to the following risks in connection with government contracts: o the frequent need to bid on programs prior to completing the necessary design, which may result in unforeseen technological difficulties and/or cost overruns; o the difficulty in forecasting long-term costs and schedules and the potential obsolescence of products related to long-term fixed-price contracts; o the risk of fluctuations or a decline in government expenditures due to any changes in the DoD budget or appropriation of funds; o when DRS or ESSI acts as a subcontractor, the failure or inability of the primary contractor to perform its prime contract may result in an inability to obtain payment of fees and contract costs; o restriction or potential prohibition on the export of products based on licensing requirements; and o government contract wins can be contested by other contractors. THE PRICE OF DRS COMMON STOCK MAY BE AFFECTED BY FACTORS DIFFERENT FROM THOSE AFFECTING THE PRICE OF ESSI COMMON STOCK. Holders of ESSI common stock will be entitled to receive cash and DRS common stock in the merger and thus will become holders of DRS common stock. DRS's business is different in certain ways from that of ESSI, and DRS's results of operations, as well as the price of DRS common stock, may be affected by factors different from those affecting ESSI's results of operations and the price of ESSI common stock. The price of DRS common stock may fluctuate significantly following the merger, including as a result of factors over which DRS has no control. For a discussion of ESSI's businesses and certain factors to consider in connection with such businesses, see "Business" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." Factors affecting DRS's business include: o DRS's revenues are dependent on its ability to maintain its government business; o DRS's revenues will be adversely affected if it fails to receive renewal of follow-on contracts; o DRS's failure to anticipate technical problems, estimate costs accurately or control costs with respect to the performance of fixed-price contracts may reduce its profit or cause a loss; o DRS may experience production delays if its suppliers fail to deliver materials to it; o DRS's backlog is subject to reduction and cancellation; o competition; o military conflict, war or terrorism; o government regulation; 11 o technological change; and o DRS's ability to use and safeguard intellectual property. THE MARKET PRICE OF DRS COMMON STOCK MAY DECREASE AS A RESULT OF THE MERGER. In the merger, ESSI shareholders will receive consideration that includes DRS common stock. A number of factors may cause the market price of such DRS common stock to fluctuate significantly after the merger, including: o the success of the integration of DRS's and ESSI's operations; o DRS's realization of expected business opportunities and growth prospects from the merger; o short-term selling pressure on the market price of DRS common stock resulting from sales of DRS shares received by ESSI's shareholders in the merger; o DRS's operating results and those of defense companies in general; o the public's reaction to DRS's press releases, announcements and filings with the SEC; o changes in earnings estimates or recommendations by research analysts; o DRS's ability to reduce the indebtedness undertaken in connection with the acquisition of ESSI; o changes in general conditions in the U.S. economy, financial markets, global climate or defense industry; o natural disasters, terrorist attacks or acts of war; o other developments affecting DRS or its competitors; and o additional issuances of DRS common stock. INTEGRATION OF DRS'S AND ESSI'S OPERATIONS WILL BE COMPLEX, TIME-CONSUMING AND EXPENSIVE AND MAY ADVERSELY AFFECT THE RESULTS OF OPERATIONS OF DRS AFTER THE MERGER. The anticipated benefits of the merger will depend in part on whether DRS and ESSI can integrate their operations in an efficient, timely and effective manner. Integrating DRS and ESSI will be a complex, time-consuming and expensive process. ESSI will represent DRS's largest and most significant acquisition to date. Successful integration will require, among other things, combining the companies': o business development efforts; o key personnel; o geographically separate facilities; and o business and executive cultures. DRS and ESSI may not accomplish this integration successfully and may not realize the benefits contemplated by combining the operations of both companies. The diversion of management's attention to the integration effort and any difficulty encountered in combining operations could cause the interruption of, or a loss of momentum in, the activities of either or both of the companies' businesses. 12 IF DRS IS UNABLE TO SUCCESSFULLY INTEGRATE ESSI INTO DRS'S OPERATIONS ON A TIMELY BASIS, DRS'S PROFITABILITY COULD BE NEGATIVELY AFFECTED. DRS expects that the acquisition of ESSI will result in certain business opportunities and growth prospects. DRS, however, may never realize these expected business opportunities and growth prospects. DRS may experience increased competition that limits its ability to expand its business, DRS's assumptions underlying estimates of expected cost savings may be inaccurate or general industry and business conditions may deteriorate. The acquisition involves numerous risks, including, but not limited to: o difficulties in assimilating and integrating the operations, technologies and products of ESSI; o the diversion of DRS's management's attention from other business concerns; o DRS's current operating and financial systems and controls may be inadequate to deal with the combined company's operations; o the risk that the combined company will be unable to maintain or renew any of ESSI's government contracts; o the risks of DRS entering markets in which it has limited or no experience; and o the loss of key employees. If these factors limit DRS's ability to integrate the operations of ESSI successfully or on a timely basis, DRS's expectations of future results of operations may not be met. In addition, DRS's growth and operating strategies for ESSI's business may be different from the strategies that ESSI currently is pursuing. If DRS's strategies are not the proper strategies for ESSI, it could have a material adverse effect on the business, financial condition and results of operations of the combined company. Further, there can be no assurance that DRS will be able to maintain or enhance the profitability of ESSI or consolidate the combined company's operations to achieve cost savings. DRS'S LEVEL OF INDEBTEDNESS FOLLOWING THE MERGER COULD LIMIT CASH FLOW AVAILABLE AND COULD ADVERSELY AFFECT ITS OPERATIONS OR ITS ABILITY TO OBTAIN ADDITIONAL FINANCING, IF NECESSARY. DRS MAY INCUR SUBSTANTIAL ADDITIONAL INDEBTEDNESS IN THE FUTURE. DRS's total debt outstanding as of September 30, 2005 was approximately $708.4 million. DRS's pro forma indebtedness as of September 30, 2005, after giving effect to the merger and related financing would have been approximately $1.9 billion. As a result of the increase in debt, demands on the cash resources of DRS will increase after the merger, which could have important effects on an investment in DRS common stock. For example, increased levels of indebtedness could, among other things: o limit the ability of the combined company to obtain additional financing for working capital, capital expenditures, acquisitions and general corporate purposes or make such financing more costly; o require the combined company to dedicate all or a substantial portion of its cash flow to service debt, which will reduce funds available for other business purposes, such as capital expenditures, research and development, dividends or acquisitions; o limit flexibility in planning for or reacting to changes in the markets in which the combined company will compete; o place the combined company at a competitive disadvantage relative to its competitors with less indebtedness; o render the combined company more vulnerable to general adverse economic and industry conditions; and o make it more difficult to satisfy financial obligations, including those relating to the financing of the merger. 13 The terms of DRS's new financing agreements will include covenants restricting the activities of DRS and will require repayment of the debt in certain circumstances. In addition, following the merger, DRS may not be able to incur substantial additional indebtedness in the future. If DRS adds new debt, the related risks that it currently faces could intensify. If DRS is unable to consummate permanent debt financing of at least $950.0 million, DRS may enter into a new interim credit facility of up to $950.0 million that is likely to be on terms substantially more restrictive and is likely to be more costly than the terms of the contemplated permanent financing. If any interim loan under the interim facility is not repaid within one year of the closing of the interim facility, the principal amount of such loan and any interest on the loan automatically will be exchanged for senior exchange notes which will bear a higher rate of interest and may contain other more restrictive terms than the interim credit facility. Additionally, if the interim facility has not been repaid within 90 days of the closing of the interim facility, Bear Stearns, in consultation with Wachovia, may demand that DRS issue and sell senior notes or senior subordinated notes in an amount sufficient to refinance the interim loans. THE MERGER MAY ADVERSELY AFFECT THE COMBINED COMPANY'S ABILITY TO ATTRACT AND RETAIN KEY ESSI EMPLOYEES. ESSI employees may experience uncertainty about their future roles after the merger. In addition, ESSI employees, including key executives and members of ESSI's senior management, may determine that they do not desire to work for DRS for a variety of reasons and may seek early retirement or other employment opportunities. These factors may adversely affect the combined company's ability to attract and retain key management, engineering, sales, marketing and other personnel. There is a continuing demand for qualified technical personnel and DRS's future growth and success will depend in part upon its ability to attract, train and retain such personnel. Competition for personnel in the defense industry is intense. An inability to attract and maintain a sufficient number of technical personnel, including ESSI personnel, could have a material adverse effect on DRS's contract performance and ability to capitalize on market opportunities. A number of senior executive officers of ESSI have agreements requiring payments in the event of a change in control of ESSI. (See "Item 11 --Executive Compensation--Employment Agreements" and "Item 11--Executive Compensation--Consulting Agreements"). Moreover, several of these executives have indicated their desire to retire from ESSI upon completion of the merger. Departing key employees may be difficult to replace, and their loss may have a material adverse effect on the combined company's operations. 14 ITEM 2. PROPERTIES ------- ---------- ESSI conducts its business from 45 manufacturing, warehouse and office facilities.

Location Description Square Footage -------- ----------- -------------- West Plains, Missouri (1) Manufacturing/Office ~~422~~391,000 Florence, Kentucky (1) Manufacturing/Office 265,000 St. Louis County, Missouri (1) Subassembly/Office ~~256~~263,000 High Ridge, Missouri (1) Manufacturing/Office ~~185~~214,000 Bridgeport, Connecticut (1) Manufacturing/Office ~~109~~135,000 ~~Halifax~~Cincinnati, ~~Nova~~Ohio ~~Scotia, Canada~~ (2) Manufacturing/Office 40134,000 Elizabeth City, North Carolina (1) Hangar - under construction 80,000 Bridgeport, Connecticut (2) Warehouse 45,000 Alexandria, Virginia (2) Office 3444,000 Halifax, Nova Scotia, Canada (1) Manufacturing/Office 40,000 Cincinnati, Ohio (1) Manufacturing/Office 3127,000 ~~Bridgeport~~Elizabeth City, ~~Connecticut~~North Carolina (2) ~~Manufacturing~~Office 2621,000 Polson, Montana (2) Manufacturing/Office 2420,000 Troy, Michigan (2) Office 20,000 ~~St.~~Calverton, ~~Louis~~Maryland ~~County~~(2) Office 19,000 ~~Missouri~~Chantilly, Virginia (12) ~~Manufacturing~~Office 16,000 ~~Chantilly~~Melbourne, ~~Virginia~~Florida (2) Manufacturing/Office 16,000 Tinton Falls, New Jersey (2) Manufacturing/Office 15,000 Dulles, Virginia (2) Office 15,000 St. Louis County, Missouri (2) ~~Warehouse~~Manufacturing 14,000 ~~Calverton~~St. Louis County, ~~Maryland~~Missouri (2) ~~Office~~Warehouse 1413,000 Warner Robins, Georgia (2) Office 13,000 Fairborn, Ohio (2) Office 13,000 West Plains, Missouri (2) Warehouse 13,000 Willoughby, Ohio (2) Office 12,000 Bridgeton, Missouri (2) Manufacturing/Office 11,000 Warner Robins, Georgia (1) Office 11,000 Warner Robins, Georgia (2) Manufacturing/Office 11,000 ~~West Long~~Polson, ~~New~~Montana ~~Jersey~~ (2) Manufacturing/Office 910,000 ~~Huntsville~~West Long, ~~Alabama~~New Jersey (2) Office 89,000 ~~Melbourne~~Huntsville, ~~Florida~~Alabama (2) ~~Manufacturing/~~Office 8,000 ~~Newington~~Lorton, Virginia (2) Office 6,000 ~~West Plains~~Cincinnati, ~~Missouri~~Ohio (2) Warehouse 5,000 ~~Cincinnati~~Petersburg, ~~Ohio~~Virginia (2) ~~Manufacturing~~Office 54,000 ~~Arlington~~Augusta, ~~Virginia~~Georgia (2) Manufacturing/Office 43,000 ~~Petersburg~~Arlington, Virginia (2) Office 43,000 Garden City, New York (2) Office 3,000 ~~East Lake~~Abington, ~~Ohio~~Maryland (2) Office 32,000 ~~Fredericksburg~~Coronado, ~~Virginia~~California (2) Office 21,000 ~~Elizabeth City~~Layton, ~~North~~Utah ~~Carolina~~ (2) Office 21,000 ~~Abington~~San Diego, ~~Maryland~~California (2) Office 21,000 ~~Coronado~~Shrewsbury, ~~California~~New Jersey (2) Office 1,000 ~~Layton~~Anchorage, ~~Utah~~Alaska (2) Office 1,000 ~~San~~Oklahoma ~~Diego~~City, ~~California~~Oklahoma (2) Office 1,000 ~~Shrewsbury~~Fredericksburg, ~~New~~Virginia ~~Jersey~~ (2) Office 1,000 (1) - Owned (2) - Leased

ESSI also leases certain other small product support and service facilities located throughout the United States and abroad. ESSI believes that its current facilities are sufficient for the conduct of its current level of operations. At October 31, 2005, ESSI also owned a 171,000 square foot facility in St. Louis County, Missouri which it vacated during the year ended October 31, 2003. On November 22, 2005, ESSI completed the sale of this facility for a sale price of approximately $3.0 million. 15 ITEM 3. LEGAL PROCEEDINGS ------- ----------------- In December 2004, ESSI was notified by the Enforcement Division of the SEC of the issuance of a formal order directing a private investigation captioned In the Matter of Engineered Support Systems, Inc. and that the SEC had issued subpoenas to various individuals associated with ESSI to produce certain documents. The SEC staff also requested that ESSI voluntarily produce certain documents in connection with the investigation. The subpoenas related to trading in ESSI stock around its earnings releases in 2003 and the adequacy of certain disclosures made by ESSI regarding related-party transactions in 2002 and 2003 involving insurance policies placed by ESSI through an insurance brokerage firm in which a director of ESSI was a principal at the time of the transactions. On or about September 23, 2005, the SEC staff contacted ESSI's counsel and advised that it had issued a subpoena directed to ESSI and expanded its investigation to include ESSI's disclosure of a November 2004 stop-work order relating to ESSI's Deployable Power Generation and Distribution Systems program for the U.S. Air Force, and trading in ESSI's stock by certain individuals associated with ESSI. In connection with the foregoing SEC investigation, ESSI and certain of its directors and officers have provided information and testimony to the SEC. ESSI continues to furnish information requested by the SEC. On November 14, 2005, ESSI was informed by the Enforcement Division that one of ESSI's former directors and officers who is currently a consultant to ESSI has been issued a so-called Wells notice informing him that the staff of the SEC was considering recommending that the SEC bring a civil injunctive action against the former officer and director in connection with the SEC's investigation into trading in ESSI common stock in 2003. A Wells notice provides prospective defendants with an opportunity to respond to the SEC staff members before the staff makes a formal recommendation on whether the SEC should pursue disciplinary action against them. ESSI has not received a Wells notice and continues to cooperate with the investigation. ESSI is unable to determine at this time either the timing of the investigation or the impact, if any, which the investigation could have on ESSI or the combined company following ESSI's proposed merger with DRS as discussed in Note P to the Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K. In addition, ESSI is from time to time party to various legal proceedings, including environmental claims, arising out of its business. ESSI's management believes that there are no such proceedings pending or threatened against them which, if determined adversely, would have a material adverse effect on the consolidated financial position, results of operations or cash flows of ESSI. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS ------- ----------------------------------------------- There were no matters submitted to a vote of shareholders during the fourth quarter of the year ended October 31, 2005. 16 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER ------- ---------------------------------------------------------------- MATTERS ------- ESSI's common stock trades on the Nasdaq Stock Market under the symbol EASI. The number of holders of common stock as of December 20, 2005 was approximately 24,350, including 340 shareholders of record and an estimated 24,010 persons or entities holding common stock in nominee name. The following table sets forth the high and low stock prices for each quarter as provided by the Nasdaq Stock Market, as adjusted to reflect a three-for-two stock split effected by ESSI on April 15, 2005. 2005 2004 -------------- --------------- High Low High Low ---- --- ---- --- QUARTER ENDED: January 31 $40.26 $31.87 $41.29 $30.01 April 30 42.63 33.83 36.99 30.33 July 31 39.10 31.60 40.01 29.57 October 31 41.47 32.25 38.26 24.22 ESSI has paid a dividend of $.018 per share on a semi-annual basis during the last two fiscal years. ESSI's pending merger agreement with DRS provides that ESSI may not declare, set aside or pay any dividend or make any similar payment with respect its capital stock prior to the effective date of the merger. Effective February 1, 2005, ESSI acquired all of the membership interests of Spacelink. A portion of the purchase price paid by ESSI at closing consisted of the issuance by the ESSI of 342,438 shares of its restricted common stock valued at approximately $13.2 million. ESSI issued these shares of common stock to the sellers of Spacelink's membership interests, Spacelink International LTD., a Delaware corporation, and SatComSolutions LLC, a Delaware limited liability company. The common stock was issued as a private placement of securities under Section 4(2) of the Securities Act of 1933. The following table provides information as of October 31, 2005 with respect to shares of the common stock that may be issued under ESSI's existing equity compensation plans:

~~2004~~Number ~~2003~~of shares remaining available for Number future issuance of shares under equity to be compensation issued upon Weighted- plans exercise average (excluding of exercise price of securities outstanding outstanding reflected in Plan category options Options column (a)) (a)(1) (b) (c) --------------------- ----------------------- ~~High Low High Low~~ ------------------ --------- --------------------- ----------------------- ~~QUARTER~~Equity ~~ENDED:~~compensation ~~January~~plans 31approved ~~$61.93~~by shareholders 4,422,058 $45 24.0118 616,447 Equity compensation plan not approved by shareholders (2) 288,562 $26 13.6042 0 --------- ------- Total 4,710,620 $21 23.0052 616,447 ========= ======= -------- (1) All shares and per share amounts have been restated to reflect a three-for-two stock split effected by ESSI on April 3015, 552005.49 ~~45.50~~(2) ~~27.25~~The ~~20.90~~equity ~~July~~compensation 31plan ~~60.02~~not ~~44.35~~approved ~~31.20~~by ~~22.47~~shareholders ~~October~~represents 31the ~~57.39~~Engineered ~~36.33~~Support 46Systems, Inc.13 262002 Non-Executive Stock Option Plan under which ESSI has issued 1,012,500 stock options to non-executive employees.80

17 Item 6. SELECTED FINANCIAL DATA ------- ----------------------- Selected financial data for each of ESSI's last five fiscal years is as follows:

Year Ended October 31 (in thousands, except per share amounts) 2005 2004 2003 2002 2001 ~~2000~~ --------------------------------------------------------------------------------------------------------~~---------~~ RESULTS OF OPERATIONS Net revenues $1,018,373 $ 883,630 $ 572,701 $ 407,945 $365,198 ~~$335,342~~ ==========================================================~~=========~~ Operating income from continuing operations $ 141,422 $ 123,296 $ 72,616 $ 48,599 $ 35,853 ~~$ 30,165~~ ==========================================================~~=========~~ Net income from continuing operations $ 87,249 $ 75,909 $ 43,283 $ 27,666 $ 18,269 ~~$ 12,711~~ Discontinued operations (2,073) 125 (4,133) 307 ~~329~~ ----------------------------------------------------------~~---------~~ Net income $ 85,176 $ 75,909 $ 43,408 $ 23,533 $ 18,576 ~~$ 13,040~~ ==========================================================~~=========~~ Diluted shares outstanding 2743,~~866~~232 2541,~~838~~799 2438,~~314~~757 2236,~~824~~471 2034,~~433~~236 ==========================================================~~=========~~ Diluted earnings per share: Continuing operations $ 2.7202 $ 1.6882 $ 1.1412 $ 0.8076 $ 0.6253 ==========================================================~~=========~~ Total $ 21.7297 $ 1.6882 $ 01.9712 $ 0.8165 $ 0.6454 ==========================================================~~=========~~ Cash dividends declared per share $ 0.0403 $ 0.02 $ 0.02 $ 0.01 $ 0.01 ==========================================================~~=========~~ FINANCIAL POSITION AT YEAR END Total assets $ 702,157 $ 511,134 $ ~~419~~421,~~301~~446 $ 290,147 $240,435 ~~$238,352~~ Total debt 47,139 1,121 73,190 55,000 63,738 ~~96,797~~ Shareholders' equity 473,309 336,956 197,167 134,857 109,392 ~~78,500~~ ----------------------------------------------------------~~---------~~ Funded backlog $ 689,796 $ 588,061 $ 533,439 $ 350,063 $291,745 ~~$307,274~~ Total backlog 2,176,923 1,437,218 1,456,174 1,218,706 973,552 ~~905,421~~

In order to analyze the comparability of the information reflected in the above selected financial data, see Notes B, D and E of the Notes to Consolidated Financial Statements included elsewhere within this Annual Report on Form 10-K. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION ------- ----------------------------------------------------------- AND RESULTS OF OPERATIONS ------------------------- CRITICAL ACCOUNTING POLICIES Revenue Recognition ESSI's revenues on long-term contracts, substantially all of which are directly or indirectly with the U.S. Government, are recognized under the percentage of completion method and include a proportion of the earnings that are expected to be realized on the contract in the ratio that production measures, primarily labor, incurred bear to the total estimated production measures for the contract. Earnings expectations are based upon estimates of contract values and costs at completion. Contracts in process are reviewed on a periodic basis. Adjustments to revenues and earnings are made in the current accounting period based upon revisions in contract values and estimated costs at completion. Amounts representing contract change orders, claims and other items are included in revenues, as recognized under the percentage of completion method, only when these amounts can be reliably estimated and 18 realization is probable. Provisions for estimated losses on contracts are recorded when identified. Substantially all other revenues are recognized when title passes to the customer. Actual results could differ from ESSI's estimates and assumptions. Retirement Obligations The determination of ESSI's obligation and expense for pension and other postretirement benefits is dependent on certain assumptions developed by ESSI and used by actuaries in calculating such amounts. Assumptions include, among others, the discount rate and the expected long-term rate of return on plan assets. Actual results that differ from assumptions made are accumulated and amortized over future periods and, therefore, generally affect ESSI's recognized expense and recorded obligation in such future periods. Significant differences in actual experience or significant changes in assumptions may materially affect pension and other postretirement obligations. Goodwill and Other Long-Lived Assets ESSI's management annually reviews goodwill and other long-lived assets with indefinite useful lives for impairment or whenever events or changes in circumstances indicate the carrying amount may not be recoverable. If ESSI determines that the carrying value of the long-lived asset may not be recoverable, a permanent impairment charge is recorded for the amount by which the carrying value of the long-lived asset exceeds its fair value. Fair value is measured based on a discounted cash flow method using a discount rate determined by management to be commensurate with the risk inherent in ESSI's current business model. The estimates of cash flows and discount rate are subject to change due to the economic environment, including such factors as interest rates, expected market returns and volatility of markets served. ESSI's management believes that the estimates of future cash flows and fair value are reasonable; however, changes in estimates could result in an impairment charge. Intangible assets with estimated useful lives are amortized over these lives and reviewed for impairment on a periodic basis. The following analysis should be read in this context. RECENT ACQUISITIONS Over the past three years, ESSI's net revenues and net income have increased substantially as a result of both internal growth and several significant acquisitions. During 2005, ESSI acquired three companies operating in the defense industry. Effective May 1, 2005, ESSI acquired all of the outstanding stock of Mobilized Systems, which designs, manufacturers and tests highly specialized trailers, shelters and environmental control systems, primarily for the defense industry. The purchase price was $17.5 million, net of cash acquired. Of the purchase price, $16.7 million has been paid as of October 31, 2005. The remaining $0.8 million of consideration is in the form of long-term promissory notes payable to the sellers. The purchase price was financed with short-term borrowings under ESSI's revolving credit facility. The fair value of assets acquired, including goodwill of $12.7 million and customer-related intangibles of $3.2 million, was $19.1 million and liabilities assumed totaled $1.6 million. Mobilized Systems in included within ESSI's Support Systems business segment. Effective February 1, 2005, ESSI acquired all of the outstanding stock of Spacelink, which designs, integrates, operates and maintains deployed satellite and wireless networks for the DoD, the U.S. intelligence community and other forward deployed federal agencies and multinational organizations worldwide. The purchase price, including transaction costs, was $154.6 million, which included common stock of ESSI with a value of $13.2 million. The cash consideration was financed with short-term borrowings under ESSI's revolving credit facility. The purchase price was net of $2.2 million of cash acquired. The purchase price is also subject to a working capital adjustment of approximately $2.9 million, tax adjustments pursuant to Section 338(h)(10) of the Internal Revenue Code of approximately $2.3 million and certain contingent cash consideration based upon Spacelink's earnings before 19 interest, taxes, depreciation and amortization, as defined, for each of the twelve month periods ending January 31, 2006 and 2007. The fair value of assets acquired, including goodwill of $128.0 million and acquired customer-related intangibles of $13.8 million, was $165.7 million and liabilities assumed totaled $11.1 million. Spacelink is included within ESSI's Support Services business segment. On January 7, 2005, ESSI acquired all of the outstanding stock of PCA, which develops and manufactures electronic test and measurement equipment provided for electronic warfare and avionics systems primarily to military customers. The purchase price was $37.6 million and is subject to a working capital adjustment. The purchase price was financed with ESSI's existing cash balances. The fair value of assets acquired, including goodwill of $24.1 million and acquired customer-related intangibles of $6.4 million, was $38.1 million and liabilities assumed totaled $0.5 million. PCA is included within ESSI's Support Systems business segment. During 2004, ESSI acquired one company operating in the defense industry. Effective December 5, 2003, ESSI acquired all of the outstanding stock of Pivotal Power, a supplier of high performance static power conversion equipment primarily to military customers, for approximately $10.1 million, net of cash acquired. The fair value of assets acquired, including goodwill of $4.8 million and acquired customer-related intangibles of $1.2 million, was $11.6 million and liabilities assumed totaled $1.5 million. The purchase price was financed with short-term borrowings under ESSI's revolving credit facility. Pivotal Power is included within ESSI's Support Systems business segment. During 2003, ESSI acquired two companies operating in the defense industry. Effective May 1, 2003, ESSI acquired all the capital stock of TAMSCO, a provider of information technology logistics and digitization services, and a designer and integrator of telecommunications systems primarily for the DoD, for approximately $71.1 million in cash plus the payoff of $14.9 million of TAMSCO indebtedness. The fair value of assets acquired, including goodwill of $35.9 million and acquired customer-related intangibles of $29.9 million, was $103.9 million and liabilities assumed totaled $32.8 million. The purchase price was financed with short-term borrowings under ESSI's revolving credit facility. TAMSCO is included in ESSI's Support Services business segment. Effective September 24, 2003, ESSI acquired all of the capital stock of Engineered Environments, Inc. (EEi), a designer and manufacturer of specialized environmental control units and heat transfer systems for defense and industrial markets. The purchase of EEi, net of cash acquired, totaled $16.7 million, which represents the $15.6 million purchase price plus assumed indebtedness of $1.1 million. The fair value of assets acquired, including goodwill of $11.6 million and acquired customer-related intangibles of $2.9 million, was $19.9 million and liabilities assumed totaled $4.3 million. The purchase price was financed with short-term borrowings under ESSI's revolving credit facility. EEi is included in ESSI's Support Systems business segment. RESULTS OF CONTINUING OPERATIONS The following discussion is with regard to ESSI's results of continuing operations. The discontinued operations of ESSI's ESP subsidiary are discussed later. The following table provides a comparative margin analysis for continuing operations for the years ended October 31, 2005, 2004 and 2003. Year Ended October 31 2005 2004 2003 ---- ---- ---- Net revenues 100.0% 100.0% 100.0% Cost of revenues 75.9 74.8 75.9 ----- ----- ----- Gross profit 24.1 25.2 24.1 Selling, general and administrative expense 10.2 11.1 11.1 Restructuring expense 0.3 Loss on sale of assets 0.1 ----- ----- ----- Income from operations 13.9 14.0 12.7 Interest expense, net 0.2 0.1 0.3 ----- ----- ----- Income before income taxes 13.7 13.9 12.4 Income tax provision 5.1 5.3 4.8 ----- ----- ----- Net income 8.6% 8.6% 7.6% ===== ===== ===== 20 BUSINESS SEGMENTS ESSI operates in two business segments: Support Systems and Support Services. The Support Systems segment engineers and manufactures integrated military electronics and other military support equipment primarily for the DoD, as well as related air handling and heat transfer equipment for commercial and industrial users. Segment products include environmental control systems, power generation, distribution and conditioning systems, chemical and biological protection systems, petroleum and water distribution systems, load management and transport systems, airborne radar systems, reconnaissance, surveillance and target acquisition systems, avionics test equipment and other multipurpose military support equipment. The Support Services segment provides engineering, logistics and training services, advanced technology services, asset protection systems and services, telecommunication systems integration and information technology services primarily for the DoD. The Support Services segment also provides certain power generation and distribution equipment and vehicle armor installation to the DoD. The following table sets forth net revenues and income from operations, in millions, for the years ended October 31, 2005, 2004 and 2003 for each of ESSI's business segments:

~~Name~~Year ~~Age~~Ended ~~Position~~October 31 2005 2004 2003 ----------------- ----------------- ------------------ ~~Michael~~Net F.Revenues ~~Shanahan,~~Support ~~Sr.~~Systems 65$ ~~Chairman Gerald A~~501.0 ~~Potthoff 64 Vice Chairman, Chief Executive Officer and President Gary C~~49.2% ~~Gerhardt~~$ ~~59 Vice Chairman and Chief Financial Officer Ronald W~~514.7 ~~Davis~~ 58.3% ~~President~~$ -389.3 ~~Business Development Nicholas R~~68.0% ~~Innerbichler 62 Group President -~~ Support Services ~~Daniel~~592.7 A58.2 ~~Rodrigues~~442.8 4950.1 ~~Group~~210.7 ~~President~~36.8 -Intersegment ~~Support~~Revenues ~~Systems~~(75.3) ~~Larry~~(7.4) K(73.9) ~~Brewer~~(8.4) ~~62 President - Washington D~~(27.C.3) ~~Operations Karen A~~(4.8) ~~Bedell~~-------- 45----- ~~Senior~~-------- ~~Vice~~----- ~~President~~-------- ----- ~~Marketing~~Total ~~and~~$1,018.4 ~~Strategic~~100.0% ~~Planning~~$ ~~Dan~~883.6 D100.0% ~~Jura~~$ ~~52 Senior Vice President - Sales Ronald W~~572.7 ~~Hauser 58 Vice President - Strategy, Plans and Market Research Allan K~~100.0% ~~Kaste~~======== 58===== ~~Vice~~======== ~~President~~===== -======== ~~Human~~===== ~~Resources~~Income ~~Robert~~from L.Operations ~~Klautzer~~Support ~~60 Vice President - Management Information~~ Systems ~~Daniel~~$ E87.5 ~~Kreher~~61.9% 40$ ~~Vice~~93.0 ~~President~~75.4% -$ ~~Acquisitions~~54.2 ~~and Investor Relations Steven J~~74.7% ~~Landmann~~Support 45Services ~~Vice President - Finance & Controller David D~~53.9 ~~Mattern 46 Secretary and General Counsel John R~~38.1 ~~Wootton 57 Vice President - Advanced Development and Technology David D~~30.3 ~~Burton 62 President (TAMSCO) Thomas G~~24.6 ~~Cornwell 49 President (Engineered Air) Joseph H~~18.4 ~~Creaghead 61 President (Keco) Richard P~~25.3 ~~Dacey~~======== 63===== ~~President~~======== ~~(Radian)~~===== ~~Frederic~~======== D.===== ~~Knight~~Total 48$ ~~President (UPSI) James T~~141.4 ~~Myrick 59 President (SEI) Gerald A~~100.0% ~~Nicholson~~$ ~~58 President (Marlo Coil) Thomas C~~123.3 ~~Santoro 51 President (Fermont) Timothy J~~100.0% ~~Schneider~~$ ~~55 President (EEi) Carlo M~~72.6 ~~Shimoon 43 President (Pivotal Power) Frank A~~100.0% ~~Tricomi~~======== 59===== ~~President~~======== ~~(ESSIbuy)~~===== ~~Edward~~======== ~~H. Wenger 62 President (PCA)~~=====

2005 COMPARED TO 2004 Consolidated net revenues increased $134.8 million, or 15.2%, in 2005 to $1,018.4 million from $883.6 million in 2004. $85.1 million of this increase was generated by ESSI's most recently acquired subsidiaries (PCA, Spacelink and Mobilized Systems) since their respective acquisition dates in 2005. The remaining $49.7 million increase from existing operations included additional revenues from refurbishment of M1000 Heavy Equipment Transporters ($29.7 million increase), the manufacture and installation of vehicle add-on armor kits ($47.6 million increase), and additional telecommunications support programs ($75.4 million increase). These revenue increases were partially offset by reduced work on the 60-K Tunner Aircraft Cargo Loader (Tunner), as the production phase of this long-term program ended in the second quarter of 2005 ($36.5 million decrease), reduced deliveries of Manportable Surveillance and Target Acquisition Radars (MSTAR) for which a large military base perimeter security subcontract with Northrop Grumman was completed in the fourth quarter of 2004 ($57.3 million decrease) and the impact of temporary production delays on the Deployable Power Generation and Distribution System (DPGDS), which had been encountering performance issues on the primary power unit component of the program during 2005 ($41.0 million decrease). After the successful completion of intensive reliability testing on the primary power unit component of the DPGDS program, the DPGDS program was returned to full rate production status in the fourth quarter of 2005. Gross profit for 2005 increased $22.3 million, or 10.0%, to $245.0 million (24.1% of consolidated net revenues) from $222.7 million (25.2% of consolidated net revenues) in 2004. Revenue growth was primarily responsible for the increase in consolidated gross profit in 2005. However, slightly reduced gross margins 21 for 2005 reflect a shift in overall business mix towards a greater amount of Support Services segment revenues, as well as the impact of temporary production delays and increased estimated costs resulting from performance issues with the primary power unit component of the DPGDS program. Selling, general and administrative expense increased $5.6 million, or 5.7%, in 2005 to $103.6 million (10.2% of consolidated net revenues) from $98.0 million (11.1% of consolidated net revenues) in 2004. Incremental selling, general and administrative expense for PCA, Spacelink and Mobilized Systems accounted for $9.0 million of the increase. It should be noted that selling, general and administrative expense in 2004 included a $5.0 million severance charge ($4.2 million of which represented a non-cash charge) in connection with the resignation of a former executive officer. Selling, general and administrative expense also included amortization expense related to acquired customer-related intangibles of $9.8 million and $6.7 million in 2005 and 2004, respectively. During 2004, ESSI completed the sales of its Sanford, Florida and Blue Ash, Ohio facilities, which had been vacated in conjunction with facility rationalization initiatives. Primarily as a result of these disposals, ESSI incurred a $1.3 million loss on sale of assets in 2004. As a result of the above, operating income from continuing operations increased by $18.1 million, or 14.7%, in 2005 to $141.4 million from $123.3 million in 2004. Net revenues in 2005 for the Support Systems segment totaled $501.0 million compared to $514.7 million (prior to the elimination of intersegment revenues in each year) in 2004, a 2.7% decrease. The results for 2005 reflect the inclusion of a combined $23.8 million in net revenues of PCA and Mobilized Systems since their respective acquisition dates in 2005. During 2005, the segment experienced a $36.5 million revenue reduction on the Tunner program and a $57.3 million revenue reduction on the MSTAR program. These decreases were offset by a $29.7 million increase from refurbishment of M1000 Heavy Equipment Transporters and by a $20.3 million increase in intersegment work performed for the Support Services segment, primarily related to the production of vehicle add-on armor kits. Gross profit for the segment decreased by $9.1 million, or 5.9%, in 2005 to $145.9 million (29.1% of segment revenues) from $155.0 million (30.1% of segment revenues) in 2004, including a combined $6.9 million gross profit contribution from the acquisitions of PCA and Mobilized Systems. Segment operating income for 2005 decreased to $87.5 million (17.5% of segment revenues) compared to $93.0 million (18.1% of segment revenues) in 2004 primarily as a result of reduction in gross profit. Net revenues in 2005 for the Support Services segment increased to $592.7 million, an increase of $149.9 million, or 33.8%, compared to $442.8 million (prior to the elimination of intersegment revenues in each year) in 2004. The most significant year-over-year increases occurred in the telecommunications support area ($75.4 million increase) and vehicle add-on armor kit programs ($47.6 million increase). In addition, Spacelink added $61.3 million of incremental revenues since its acquisition date in 2005. Partially offsetting these increases were decreased revenues from the DPGDS program of $41.0 million as previously discussed. Gross profit for the segment increased by $31.4 million, or 46.4%, in 2005 to $99.1 million (16.7% of segment revenues) from $67.7 million (15.3% of segment revenues) in 2004 primarily as a result of increased revenues in 2005 including a $10.8 million gross profit contribution from the acquisition of Spacelink. Segment operating income for 2005 totaled $53.9 million (9.1% of segment revenues) compared to $30.3 million (6.8% of segment revenues) in 2004. The increase in segment revenues in 2005 provided significant gross profit contributions which allowed for improved absorption of fixed overhead costs, leading to the overall improved operating results for the Support Services segment. However, segment profitability in 2005 was constrained by a decrease in DPGDS-related revenues in comparison to 2004 as noted above. Net interest expense totaled $1.8 million and $0.9 million in 2005 and 2004, respectively. This increase was a result of higher borrowing levels in 2005 resulting, in large part, from a combined $190.5 million of cash consideration paid in conjunction with the 2005 acquisitions. The effective income tax rate was 37.5% for 2005 compared to 38.0% in 2004. This reduction was primarily due to ESSI's state income tax reduction initiatives. As a result of the foregoing, net income from continuing operations increased by 14.9% to $87.2 million (8.6% of consolidated net revenues) in 2005 compared to $75.9 million (8.6% of consolidated net revenues) in 2004. In the second quarter of 2003, ESSI completed the sale of ESP, a wholly-owned subsidiary, to a private equity group (Buyer). The Buyer subsequently alleged that ESSI breached certain representations made under the related Stock Purchase Agreement (the ESP Agreement) and sought a claim for associated damages under the binding arbitration provisions of the ESP Agreement. During the second quarter of 2005, ESSI and the Buyer reached a 22 settlement on this claim, which included modification of ESSI's $3.2 million note receivable from the Buyer to provide for suspension of interest charges and payments through July 31, 2006, extension of the note's repayment term to a balloon payment due in April 2009, and the release of the underlying real estate collateral securing the note. Because of this settlement, ESSI recorded a charge for the impairment of the note during the second quarter of 2005 equal to $1.7 million, or $1.1 million net of income tax. In the fourth quarter of 2005, ESSI was informed that the Buyer was insolvent. As a result, ESSI recorded an additional non-cash charge totaling $1.6 million, or $1.0 million net of income tax, for the impairment of the remainder of the note in the fourth quarter of 2005. These charges are included within the discontinued operations section of ESSI's Consolidated Statements of Income for 2005. 2004 COMPARED TO 2003 Consolidated net revenues increased $310.9 million, or 54.3%, in 2004 to $883.6 million from $572.7 million in 2003. $181.3 million of this increase represents an increase in net revenues contributed by TAMSCO, EEi and Pivotal Power, since their respective acquisition dates in 2003 and 2004. Of the $129.6 million of net revenue growth from all other operating subsidiaries, ESSI's programs for MSTAR, Field Deployable Environmental Control Units (FDECU), DPGDS and vehicle add-on armor kits provided the most significant revenue gains. Gross profit for 2004 increased $84.6 million, or 61.3%, to $222.7 million (25.2% of consolidated net revenues) from $138.1 million (24.1% of consolidated net revenues) in 2003. $23.1 million of this increase represents an increase in gross profit contributed by TAMSCO, EEi and Pivotal Power, which had gross profit for either a portion or none of 2003. Of the $61.5 million of gross profit growth from all other operating subsidiaries, ESSI's programs for MSTAR, FDECU, DPGDS and vehicle add-on armor kits provided the most significant increases. In addition, MSTAR, FDECU and DPGDS have significantly higher margins than most of ESSI's programs, which contributed to a more favorable product mix and a higher overall gross margin in 2004. Selling, general and administrative expense increased $34.2 million, or 53.6%, in 2004 to $98.0 million (or 11.1% of consolidated net revenues) from $63.8 million (11.1% of consolidated net revenues) in 2003. $21.2 million of this increase was due to an increase in selling, general and administrative expenses from TAMSCO, EEi and Pivotal Power. In addition, ESSI incurred a $5.0 million severance charge ($4.2 million of which represented a non-cash charge) in connection with the resignation of a former executive officer of ESSI. Selling, general and administrative expense also included amortization expense related to acquired customer-related intangibles of $6.7 million and $2.8 million in 2004 and 2003, respectively. Under its facility rationalization plan, ESSI incurred restructuring expense of $0.1 million and $1.8 million, respectively, in 2004 and 2003 related to the write-down of fixed assets at the affected facilities and to accrue for expected employee benefits costs. During 2004, ESSI completed the sales of its Sanford, Florida and Blue Ash, Ohio facilities, which had been vacated in conjunction with facility rationalization initiatives. Primarily as a result of these disposals, ESSI incurred a $1.3 million loss on sale of assets in 2004 compared to a $0.1 million gain on sale of assets in 2003. As a result of the above, operating income from continuing operations increased by $50.7 million, or 69.8%, in 2004 to $123.3 million from $72.6 million in 2003. Net revenues for the Support Systems segment increased by $125.4 million, or 32.2%, to $514.7 million in 2004 from $389.3 million (prior to the elimination of intersegment revenues in each year) in 2003. The current year increase was partially attributable to the incremental net revenues of EEi and Pivotal Power of $11.5 million and $7.9 million, respectively, during 2004. Programs with the largest revenue gains during 2004 included the MSTAR, FDECU as well as intersegment work on the DPGDS and vehicle add-on armor kits being performed for the Support Services segment. Segment net revenues were partially offset by reduced work on the Tunner program as production work on that contract ended in mid-2005. Gross profit for the segment increased by $53.5 million, or 52.7%, to $155.0 million in 2004 (30.1% of segment revenues) from $101.5 million (26.1% of segment revenues) in 2003. The increase in gross profit was attributable to incremental gross profit from EEi and Pivotal Power of a combined $7.2 million coupled with higher profits on MSTAR, FDECU as well as intersegment work on the DPGDS and vehicle add-on armor kits due to increased revenues and production levels as noted above. In addition, MSTAR and FDECU have significantly higher margins than most of the segment's programs, which contributed to a more favorable product mix and higher gross margins in 2004. Income from operations for the segment increased by $38.8 million, 23 or 72.0%, in 2004 to $93.0 million from $54.2 million in 2003. The increase was the result of higher gross profit partially offset by additional selling, general and administrative expense in 2004. Net revenues for the Support Services segment increased by $232.1 million, or 110.1%, in 2004 to $442.8 million from $210.7 million (prior to the elimination of intersegment revenues) in 2003. The significant growth in net revenues was primarily attributable to the inclusion of TAMSCO for a full year in 2004 versus just six months of post-acquisition results in 2003. TAMSCO reported revenues of $232.0 million in 2004 and $70.1 million in 2003. Significant revenue increases also were generated by the DPGDS program and from vehicle add-on armor kits. Gross profit for the segment increased by $31.1 million, or 85.1%, in 2004 to $67.7 million (15.3% of segment revenues) from $36.6 million (17.4% of segment revenues) in 2003. The increase in gross profit was attributable to the higher level of net revenues in 2004 as discussed above. The decrease in gross margin for the segment was primarily the result of a significant increase in revenues from pass-through contract vehicles, such as the Rapid Response and FAST programs, which generally provide lower than average profit margins. This decrease was partially offset by revenues from the DPGDS and vehicle add-on armor programs which provide comparatively higher margins. Income from operations for the segment increased by $11.9 million in 2004 to $30.3 million from $18.4 million in 2003 as a result of the significant increases in net revenues and gross profit as compared to the prior year. Net interest expense decreased by $0.8 million to $0.9 million in 2004 compared to $1.7 million in 2003 primarily as a result of lower outstanding borrowings throughout 2004. As of October 31, 2004, ESSI had completely paid off borrowings against its revolving credit facility and had cash and cash equivalents of $33.2 million. ESSI's effective income tax rate was 38.0% and 39.0% for 2004 and 2003, respectively. The reduction in the effective income tax rate was primarily the result of ESSI's state income tax reduction initiatives. As a result of the foregoing, net income from continuing operations increased 75.4% to $75.9 million (8.6% of consolidated net revenues) in 2004 compared to $43.3 million (7.6% of consolidated net revenues) in 2003. During 2002, ESSI formally adopted a plan to dispose of ESP. ESP was sold to a private equity group in 2003. As a result, ESP's financial results were reclassified as a discontinued operation in the Consolidated Financial Statements. Income from discontinued operations totaled $0.3 million, net of income tax, in 2003 and ESSI recorded after-tax losses of $0.2 million in 2003 to reduce the carrying value of ESP's assets to their estimated net realizable values less estimated selling costs. See Note E to the Consolidated Financial Statements. OUTLOOK FOR 2006 AND FUTURE On September 21, 2005, ESSI and DRS entered into a definitive agreement which provides for the acquisition by DRS of all the outstanding common stock of ESSI for approximately $1.9 billion, or $43.00 per share (subject to possible adjustment), through a combination of cash and DRS common stock. Pending customary regulatory approvals and other closing conditions, including approval by ESSI and DRS shareholders, the transaction is expected to close before March 31, 2006. ESSI continues to believe that significant growth opportunities exist within the military support equipment, electronics and logistics support segments of the defense industry in response to (1) the current fragmentation within the industry; (2) the DoD's emphasis on awarding contracts on the basis of "best value;" (3) the DoD's increasing outsourcing of engineering, design and logistics services to contractors; (4) heightened military operations around the globe; and, (5) overall increases in defense spending by the DoD. In addition to supporting future merger integration activities with DRS, ESSI's focus for 2006 includes the continued rationalization of its existing defense operations in order to leverage its infrastructure and achieve additional operational synergies. LIQUIDITY AND CAPITAL RESOURCES On January 27, 2005, ESSI and its banks entered into an Amended and Restated Credit Agreement (Amended Credit Agreement). The Amended Credit Agreement replaced ESSI's previous credit agreement dated April 23, 2003. 24 The Amended Credit Agreement, which expires January 27, 2010, provides for a $200 million unsecured revolving credit facility. ESSI may request, subject to certain conditions, an increase of up to $100 million in the amount of the aggregate commitment under the Amended Credit Agreement. Borrowings under the Amended Credit Agreement bear interest, at ESSI's option, at either the Eurodollar rate plus an applicable margin, or at the higher of the prime rate or the federal funds rate plus one-half of one percent. The margin applicable to the Eurodollar rate varies from 0.625% to 1.375% depending upon ESSI's ratio of total indebtedness to earnings before interest, taxes, depreciation and amortization (leverage ratio). The Amended Credit Agreement contains certain covenants, including maintaining net worth of at least $265 million, plus 50% of the sum, to extent positive, of ESSI's consolidated net income and other comprehensive income (loss) reported after October 31, 2004, plus the net proceeds of all subsequent equity offerings. ESSI also must comply with certain financial covenants, including maintenance of a leverage ratio of no greater than 2.75 to 1. ESSI is also subject to various other financial and operating covenants and maintenance criteria, including restrictions on ESSI's ability to incur additional indebtedness, make investments, pay dividends over a specified amount, create liens, dispose of material assets and enter into merger transactions and acquisitions. As of October 31, 2005, ESSI had $45 million in borrowings against the Amended Credit Facility, and was in compliance with all applicable covenants. ESSI's working capital needs are generally funded through cash flow from operations and the revolving credit facility. At October 31, 2005, ESSI's working capital and ratio of current assets to current liabilities were $71.9 million and 1.40 to 1, respectively, compared with $112.0 million and 1.85 to 1 at October 31, 2004. During 2005, ESSI expended cash totaling $190.5 million in conjunction with the acquisitions of PCA, Spacelink and Mobilized Systems. ESSI financed these transactions with available cash resources and short-term borrowings under its revolving credit facility. The significant changes in working capital and the ratio of current assets to current liabilities from October 31, 2004 were due to these acquisitions and the related increase in short-term borrowings against ESSI's revolving credit facility. Net cash provided by operations totaled $101.9 million in 2005 compared to net cash provided by operations of $66.6 million in 2004. This $35.3 million increase was a result of the significantly improved operating results, as discussed above, as well as a $20.6 million reduction in working capital growth in 2005 from the prior year. ESSI's investment in property, plant and equipment totaled $12.1 million and $8.0 million in 2005 and 2004, respectively. This $4.1 million increase was primarily due to the construction of the Company's 80,000 square foot hanger to be used for aircraft repair and maintenance. In 2004, ESSI realized $5.7 million in proceeds primarily related to the sales of its Sanford, Florida and Blue Ash, Ohio facilities. ESSI anticipates that capital expenditures in 2006 should not exceed $15.0 million. During 2005 and 2004, ESSI received proceeds, including related income tax benefits, of $31.8 million and $56.5 million, respectively, related to the exercise of stock options, which are classified as financing cash flows within the Consolidated Statements of Cash Flow. ESSI management believes that cash flow generated from operations, together with its revolving credit facility, will provide the necessary resources to meet ESSI's needs for the foreseeable future. COMMITTED AMOUNTS Total contractual and contingent obligations, in thousands, as of October 31, 2005 are as follows:

~~SIGNATURE~~Payments ~~TITLE~~/ ~~DATE~~Expiration ~~---------~~Year ~~-----~~Ended ~~----~~October ~~/s/~~31 ~~Gerald~~2006 A.2007 ~~Potthoff~~2008 ~~Vice~~2009 ~~Chairman,~~2010 ~~January~~Total ~~14, 2005~~ ---- ---- ---- ---- ---- ----- Contractual Obligations: Long-term ~~Chief~~debt ~~Executive~~$ ~~Officer~~187 ~~----------------~~$ ~~GERALD~~198 A.$ ~~POTTHOFF~~391 ~~and~~$ ~~President~~533 ~~(Principal~~$ ~~Executive~~$ ~~Officer)~~1,309 ~~/s/~~Operating ~~Gary~~leases C.5,347 ~~Gerhardt~~4,087 ~~Vice~~2,384 ~~Chairman~~1,495 573 13,886 Unconditional purchase obligations 202,834 8,912 211,746 Contributions to pension and ~~January~~other 14postretirement benefit plans 7,471 ~~2005~~7,471 7,371 7,371 3,871 33,555 -------- ------- ------- ---- ~~Chief Financial Officer~~ -- ------ -------- ~~GARY~~215,839 C.20,668 ~~GERHARDT~~10,146 ~~(Principal~~9,399 ~~Financial~~4,444 ~~Officer)~~260,496 ~~/s/~~Contingent ~~Steven~~Obligations: J.Letters ~~Landmann~~of ~~Vice~~credit ~~President~~1,840 ~~- Finance January 14~~1,840 ~~2005~~ -------- ------- ------- ---- ~~and Controller (Principal~~ -- ------ -------- ~~STEVEN~~Total J.Obligations ~~LANDMANN~~$217,679 ~~Accounting~~$20,668 ~~Officer)~~$10,146 $9,399 $4,444 $262,336 ======== ======= ======= ====== ====== ========

25 While contingent obligations are included in the table above, ESSI does not expect to fund the full amounts indicated for letters of credit. Lease expense totaled $5.9 million, $5.0 million and $4.2 million for the years ended October 31, 2005, 2004 and 2003, respectively. INFLATION Since a significant portion of ESSI's contracts with the DoD are at fixed prices, inflation can affect the ultimate profit to be realized on them. Some contracts have price adjustment provisions that limit the impact of inflation on profits. In addition, ESSI's volume purchasing and forward purchasing policies serve to limit the effects of inflation. ESSI considers potential inflation in preparation of contract proposals and bids. In addition, ESSI's commercial and industrial products are predominantly custom-made. Therefore, the impact of inflation on operating results typically is not significant. ESSI attempts to alleviate inflationary pressures on commercial and industrial products by increasing selling prices to help offset rising costs (subject to competitive conditions), increasing productivity and improving manufacturing techniques. Because of these factors, management does not believe that inflation has had, or that anticipated inflation will have, a significant effect on ESSI's operations. BUSINESS AND MARKET CONSIDERATIONS Approximately 96% of ESSI's consolidated net revenues for 2005 were directly or indirectly derived from defense orders by the U.S. government or its agencies. As of October 31, 2005, ESSI's funded backlog of orders totaled $689.8 million, with related customer options of an additional $1,487.1 million. These amounts compare to funded backlog of $588.1 million and related customer options of an additional $849.2 million as of October 31, 2004. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In October 2004, the U.S. Congress passed the American Jobs Creation Act of 2004 (the Jobs Creation Act). The Jobs Creation Act includes numerous provisions that may materially affect business practices and accounting for income taxes. For companies that pay U.S. income taxes on manufacturing activities in the U.S., the Jobs Creation Act provides a phased-in deduction from taxable income equal to a stipulated percentage of qualified income from domestic production activities. In December 2004, the Financial Accounting Standards Board (FASB) issued two FASB Staff Positions (FSP) regarding the accounting implications of the Jobs Creation Act related to (1) the deduction for qualified domestic production activities (FSP 109-1) and (2) the one-time tax benefit for the repatriation of foreign earnings (FSP 109-2). This guidance applies to financial statements for periods ending after the date the Jobs Creation Act was enacted. The Jobs Creation Act also provides for a change in the period of application of for foreign tax credits, elimination of the 90-percent limitation of foreign tax credits against Alternative Minimum Tax, expanded disallowance of interest on convertible debt, and tax shelter disclosure penalties. ESSI adopted FSP 109-1 and FSP 109-2 in the first quarter of 2005. The one-time tax benefit for the repatriation of foreign earnings does not apply to the Company. ESSI anticipates that the Jobs Creation Act and related FASB pronouncements will have a material impact its consolidated financial statements in future periods. However, this impact was not material for the year ended October 31, 2005. In November 2004, the FASB issued Statement of Financial Accounting Standards (SFAS) No. 151, "Inventory Costs - an amendment of ARB No. 43, Chapter 4." SFAS 151 seeks to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material (spoilage) in the determination of inventory carrying costs. The statement requires such costs to be treated as current period expense. This statement is effective November 1, 2005 for ESSI. ESSI does not believe that the adoption of SFAS 151 will have a significant impact on the consolidated financial statements. 26 In December 2004, the FASB issued SFAS 123 (revised 2004), "Share-Based Payment", (SFAS 123R). SFAS 123R requires companies to expense the value of employee stock options and similar awards. SFAS 123R is effective November 1, 2005 for ESSI. ESSI is currently evaluating its compensation policies and practices, along with the impact of SFAS 123R on its consolidated results of operations. In May 2005, the FASB issued SFAS 154, "Accounting Changes and Error Corrections - a Replacement of APB Opinion No. 20 and FASB Statement No. 3" (SFAS 154). SFAS 154 requires retrospective application to prior period financial statements of changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. SFAS 154 also redefines "restatement" as the revising of previously issued financial statements to reflect the correction of an error. This statement is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005 (or fiscal 2007 for ESSI). ESSI does not believe that the adoption of SFAS 154 will have a significant impact on the consolidated financial statements. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK -------- ---------------------------------------------------------- Market risks relating to ESSI's operations result primarily from changes in interest rates. Given ESSI's existing debt levels, significant cash flows and anticipated expenditures, ESSI's management has not utilized interest rate swaps or other derivative contracts to hedge this risk since November 2002. ESSI's management does not believe its exposure to interest rate fluctuations has had, or will have, a significant impact on ESSI's operations. A 10% increase in ESSI's effective interest rate would have resulted in additional interest expense of $0.2 million for the year ended October 31, 2005. 27 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ------- ------------------------------------------- ENGINEERED SUPPORT SYSTEMS, INC. CONSOLIDATED BALANCE SHEETS In thousands, except per share amounts

~~DIRECTORS~~October 31 2005 2004 --------------------------------------------------------------------------------------------------------------------------- ~~/s/~~ASSETS ~~Michael~~CURRENT F.ASSETS ~~Shanahan~~Cash and cash equivalents $ 13,064 ~~Sr.~~$ ~~January~~33,153 14Accounts receivable, ~~2005~~net ~~/s/~~151,210 ~~Thomas~~139,191 J.Contracts ~~Guilfoil~~in ~~January~~process 14and inventories, ~~2005~~net 77,193 61,009 Income taxes receivable 1,046 Deferred income taxes 6,284 6,921 Prepaid expenses and other assets 3,568 2,846 ---------------------------------------- ---------------- ------------------------------------- ------------------------------ ~~MICHAEL~~Total F.Current ~~SHANAHAN~~Assets 252,365 ~~SR.~~243,120 ~~THOMAS~~PROPERTY, J.PLANT ~~GUILFOIL~~AND ~~/s/~~EQUIPMENT ~~Gerald~~Land A.4,390 ~~Potthoff~~4,387 ~~January~~Buildings 14and improvements 46,385 ~~2005~~39,704 ~~/s/~~Machinery S.and ~~Lee~~equipment ~~Kling~~32,753 ~~January~~26,567 14Furniture and fixtures 7,303 ~~2005~~5,465 ---------------------------------------- ---------------- ------------------------------------- ------------------------------ ~~GERALD~~90,831 A.76,123 ~~POTTHOFF~~Accumulated S.depreciation ~~LEE~~(36,281) ~~KLING /s/ Gary C. Gerhardt January 14~~(29,177) ~~2005~~ ---------------------------------------- ---------------- ------------------------------------- ------------------------------ ~~GARY~~54,550 C.46,946 ~~GERHARDT~~Goodwill ~~KENNETH~~332,109 E.167,358 ~~LEWI~~Acquired ~~/s/~~customer-related ~~Ronald~~intangibles W.51,868 ~~Davis~~38,314 ~~January~~Deferred 14income taxes 1,876 ~~2005~~Other assets 11,265 13,520 ---------------------------------------- ---------------- ------------------------------------------------------------------- TOTAL ASSETS $702,157 $511,134 --------------------------------------------------------------------------------------------------------------------------- ~~RONALD~~LIABILITIES W.AND ~~DAVIS~~SHAREHOLDERS' ~~CHARLES~~EQUITY T.CURRENT ~~ROBERTON~~LIABILITIES Notes payable $ 45,000 ~~JR.~~$ ~~/s/~~Current ~~William~~maturities ~~H.T.~~of ~~Bush~~long-term ~~January~~debt 14187 340 Accounts payable 79,705 ~~2005~~71,796 ~~/s/~~Income ~~Crosbie~~taxes E.payable ~~Saint~~10,067 ~~January~~Accrued 14employee compensation 33,534 ~~2005~~27,806 Other liabilities 22,007 21,063 ---------------------------------------- ---------------- ------------------------------------- ------------------------------ ~~WILLIAM~~Total ~~H.T.~~Current ~~BUSH~~Liabilities ~~CROSBIE~~180,433 E.131,072 ~~SAINT~~Long-term ~~/s/~~debt ~~Michael~~1,952 F.781 ~~Shanahan~~Deferred income taxes 1,873 ~~Jr.~~Minimum ~~January~~pension liability 31,141 28,237 Other liabilities 13,449 14,088 ~~2005~~Commitments and contingencies (Note M) SHAREHOLDERS' EQUITY Common stock, par value $.01 per share; 85,000 shares authorized; 41,912 and 26,642 shares issued 419 266 Additional paid-in capital 205,998 151,805 Retained earnings 286,559 202,730 Accumulated other comprehensive loss (19,667) (17,845) --------------------------------------- ---------------- ------------------------------------- ------------------------------- ~~MICHAEL~~Total ~~P.C.~~Shareholders' ~~CARNS~~Equity ~~MICHAEL~~473,309 ~~F. SHANAHAN~~336,956 ~~JR.~~--------------------------------------------------------------------------------------------------------------------------- ~~/s/~~TOTAL ~~George~~LIABILITIES E.AND ~~Friel~~SHAREHOLDERS' ~~January~~EQUITY 14$702,157 ~~2005 /s/ Earl W. Wims January 14~~$511,134 ~~2005~~ ---------------------------------------- ---------------- ------------------------------------- ------------------------------ ~~GEORGE~~See E.Notes ~~FRIEL~~to ~~EARL~~Consolidated W.Financial ~~WIMS~~Statements.

28 ENGINEERED SUPPORT SYSTEMS, INC. CONSOLIDATED STATEMENTS OF INCOME In thousands, except per share amounts

29 ENGINEERED SUPPORT SYSTEMS, INC. CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

30 ENGINEERED SUPPORT SYSTEMS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS

31 ENGINEERED SUPPORT SYSTEMS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (in thousands, except per share amounts) NOTE A -- SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation and Principles of Consolidation: The Consolidated Financial Statements include the accounts of Engineered Support Systems, Inc. (Company) and its wholly-owned subsidiaries. These subsidiaries are organized within the Company's two business segments: Support Systems and Support Services. The Support Systems segment includes the operations of Systems & Electronics Inc. (SEI), Keco Industries, Inc. (Keco), Engineered Air Systems, Inc. (Engineered Air), Engineered Coil Company, d/b/a Marlo Coil (Marlo Coil), Engineered Electric Company, d/b/a Fermont (Fermont), Universal Power Systems, Inc. (UPSI), Engineered Environments, Inc. (EEI), Pivotal Power Inc. (Pivotal Power), Prospective Computer Analysts, Inc. (PCA) and Mobilized Systems, Inc. (Mobilized Systems). The Support Services segment includes the operations of Technical and Management Services Corporation (TAMSCO), Radian, Inc. (Radian), Spacelink International, LLC (Spacelink) and ESSIbuy.com, Inc. (ESSIbuy). All material intercompany accounts and transactions have been eliminated in consolidation. Industry Information: The Company's Support Systems segment designs, engineers and manufactures integrated military electronics and other military support equipment primarily for the U.S. Department of Defense (DoD), as well as related heat transfer and air handling equipment for domestic commercial and industrial users. Segment products include environmental control systems, load management and transport systems, power generation, distribution and conditioning systems, airborne radar systems, reconnaissance, surveillance and target acquisition systems, chemical and biological protection systems, petroleum and water distribution systems and other multipurpose military support equipment. The Company's Support Services segment provides engineering services, logistics and training services, advanced technology services, asset protection systems and services, telecommunication systems integration and information technology services primarily for the DoD. The Support Services segment also provides certain power generation and distribution equipment and vehicle armor installation to the DoD. Substantially all revenues are directly or indirectly derived from contracts with the U.S. Government. Use of Estimates: In preparing these financial statements, management makes estimates and uses assumptions that affect some of the reported amounts and disclosures. Actual results could differ from these estimates and assumptions. Cash and Cash Equivalents: Cash equivalents include temporary investments with original maturities of three months or less. Revenue Recognition: Revenues on long-term contracts, substantially all of which are with the U.S. government, are recognized under the percentage of completion method and include a proportion of the earnings that are expected to be realized on the contract in the ratio that production measures, primarily labor, incurred bear to the total estimated production measures for the contract. Earnings expectations are based upon estimates of contract values and costs at completion. Contracts in process are reviewed on a periodic basis. Adjustments to revenues and earnings are made in the current accounting period based upon revisions in contract values and estimated costs at completion. Amounts representing contract change orders, claims and other items are included in revenues, as recognized under the percentage of completion method, only when these amounts can be reliably estimated and realization is probable. Provisions for estimated losses on contracts are recorded when identified. Substantially all other revenues are recognized when title passes to the customer. Stock-Based Compensation: The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for all stock option plans. (See Note J for a further description of these plans.) Accordingly, no compensation expense has been recognized for stock option awards. The following table illustrates the effect on net income and earnings per share had the Company applied the fair value recognition provisions of Statement of Financial Accounting Standards (SFAS) 123, "Accounting for Stock-Based Compensation," to stock option awards. 32

The fair value of options at the grant date was estimated using the Black-Scholes model with the following weighted average assumptions for 2005, 2004 and 2003, respectively: an expected life of 2.5, 1.5 and 1.5 years; volatility of 35%, 26%, and 36%; a dividend yield of 0.08%, 0.11% and 0.18%; and a risk-free interest rate of 3.59%, 3.52%, and 3.25%. The weighted average fair value of options granted in 2005, 2004 and 2003 was $9.03, $5.37 and $5.03, respectively. Fair Value of Financial Instruments: For purposes of financial reporting, the Company has determined that the fair value of the Company's financial instruments, including cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities and long-term debt, approximates book value at October 31, 2005 and 2004, based on either their short-term nature or on terms currently available to the Company in financial markets. Credit Risk: Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents, and accounts receivable. At October 31, 2005 and 2004, the Company's cash and cash equivalents were primarily invested in money market accounts at a financial institution. Management believes the credit risk is limited due to the short-term nature of these funds. Management believes the credit risk related to accounts receivable is limited due to the fact that 76% and 79% of accounts receivable at October 31, 2005 and 2004, respectively, are due from the U.S. government and its agencies. Allowances for anticipated doubtful accounts are provided based on historical experience and evaluation of specific accounts. The allowance for doubtful accounts was $1,060 and $90 at October 31, 2005 and 2004, respectively. Interest Rate Risk: Interest rate risk is managed through a portfolio of variable- and fixed-rate debt that management deems appropriate. Furthermore, the Company will periodically convert its variable-rate debt to fixed rates via interest rate swaps. Given the Company's outstanding debt position and anticipated cash flows, management does not believe its exposure to interest rate fluctuations has had, or will have, a significant impact on the Company's operations. The Company, therefore, had no interest rate swaps as of October 31, 2005. Contracts in Process and Inventories: Contracts in process and inventories represent accumulated contract costs, estimated earnings thereon based upon the percentage of completion method and contract inventories reduced by the contract value of delivered items. Accumulated contract costs and inventories are stated at actual costs incurred and consist of direct engineering, production, tooling, applicable overhead and other costs (excluding selling, general and administrative costs which are charged against income as incurred). Title to or a security interest in certain items included in contracts in process and inventories is vested in the U.S. government by reason of the progress payment provisions of related contracts. In accordance with industry standards, contracts in process and inventories related to long-term contracts are classified as current assets although a portion may not be realized within one year. Substantially all inventories related to contracts not accounted for under the percentage of completion method are valued at the lower of cost or market using the first-in, first-out method. Property, Plant and Equipment: Property, plant and equipment are stated at cost and are depreciated using the straight-line method over their estimated useful lives of 15 to 40 years for buildings and improvements, 5 to 15 years for machinery and equipment, and 3 to 10 years for furniture and fixtures. Depreciation expense totaled $7,752 in 2005, $5,627 in 2004 and $5,387 in 2003. 33 Income Taxes: The income tax provision is based on earnings reported in the financial statements. Deferred income taxes are provided for the tax effects of temporary differences between financial and income tax reporting using current statutory tax rates. Impairment of Long-lived Assets: Long-lived assets, including goodwill, are reviewed for impairment annually or whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. If the sum of the expected future undiscounted cash flows is less than the carrying amount of the asset, a loss is recognized for the difference between the fair value and the carrying value of the asset. Earnings Per Share: Basic earnings per share is based on average basic common shares outstanding, after the effect to the stock split described in Note O, of 41,329 in 2005, 38,987 in 2004 and 36,305 in 2003. Diluted earnings per share is based on average diluted common shares outstanding, after giving effect to the stock split described in Note O, of 43,232 in 2005, 41,799 in 2004 and 38,757 in 2003. Average diluted common shares outstanding include common stock equivalents, which represent common stock options as computed using the treasury stock method. Treasury Stock: Shares of treasury stock are valued at cost using the first-in, first-out method. Recently Issued Accounting Pronouncements: In October 2004, the U.S. Congress passed the American Jobs Creation Act of 2004 (the Jobs Creation Act). The Jobs Creation Act includes numerous provisions that may materially affect business practices and accounting for income taxes. For companies that pay U.S. income taxes on manufacturing activities in the U.S., the Jobs Creation Act provides a phased-in deduction from taxable income equal to a stipulated percentage of qualified income from domestic production activities. In December 2004, the Financial Accounting Standards Board (FASB) issued two FASB Staff Positions (FSP) regarding the accounting implications of the Act related to (1) the deduction for qualified domestic production activities (FSP 109-1) and (2) the one-time tax benefit for the repatriation of foreign earnings (FSP 109-2). This guidance applies to financial statements for periods ending after the date the Act was enacted. The Jobs Creation Act also provides for a change in the period of application for foreign tax credits, elimination of the 90-percent limitation of foreign tax credits against Alternative Minimum Tax, expanded disallowance of interest on convertible debt, and tax shelter disclosure penalties. The Company adopted FSP 109-1 and FSP 109-2 in the first quarter of 2005. The one-time tax benefit for the repatriation of foreign earnings does not apply to the Company. The Company anticipates that the Jobs Creation Act and related FASB pronouncements will have a material impact on the Company's consolidated financial statements in future periods. However, this impact was not material for the year ended October 31, 2005. In November 2004, the FASB issued Statement of Financial Accounting Standards (SFAS) 151, "Inventory Costs - an amendment of ARB No. 43, Chapter 4." SFAS 151 seeks to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material (spoilage) in the determination of inventory carrying costs. The statement requires such costs to be treated as a current period expense. This statement is effective November 1, 2005 for the Company. The Company does not believe that the adoption of SFAS 151 will have a significant impact on its consolidated financial statements. In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based Payment," (SFAS 123R). SFAS 123R requires companies to expense the value of employee stock options and similar awards. SFAS 123R is effective November 1, 2005 for the Company. The Company is currently evaluating its compensation policies and practices, along with the impact of SFAS 123R on its consolidated results of operations. In May 2005, the FASB issued SFAS 154, "Accounting Changes and Error Corrections - a Replacement of APB Opinion No. 20 and FASB Statement No. 3." SFAS 154 requires retrospective application to prior period financial statements of changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. SFAS 154 also redefines "restatement" as the revising of previously issued financial statements to reflect the correction of an error. This statement is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005 (or fiscal 2007 for the Company). The Company does not believe that the adoption of SFAS 154 will have a significant impact on its consolidated financial statements. 34 NOTE B -- ACQUISITIONS On January 7, 2005, the Company acquired all of the outstanding stock of PCA, which develops and manufactures electronic test and measurement equipment provided for electronic warfare and avionics systems primarily to military customers. The purchase price was $37.6 million and is subject to a working capital adjustment. The purchase price was financed with the Company's existing cash balances. The fair value of assets acquired, including goodwill of $24.1 million and acquired customer-related intangibles of $6.4 million, was $38.1 million and liabilities assumed totaled $0.5 million. Effective February 1, 2005, the Company acquired all of the outstanding stock of Spacelink, which designs, integrates, operates and maintains deployed satellite and wireless networks for the DoD, the U.S. intelligence community and other forward deployed federal agencies and multinational organizations worldwide. The purchase price, including transaction costs, was $154.6 million, which included common stock of the Company with a value of $13.2 million. The cash consideration was financed with short-term borrowings under the Company's revolving credit facility. The purchase price was net of $2.2 million of cash acquired. The purchase price is also subject to a working capital adjustment of approximately $2.9 million, tax adjustments pursuant to Section 338(h)(10) of the Internal Revenue Code of approximately $2.3 million and to certain contingent cash consideration based upon Spacelink's earnings before interest, taxes, depreciation and amortization, as defined, for each of the twelve month periods ending January 31, 2006 and 2007. The fair value of assets acquired, including goodwill of $128.0 million and acquired customer-related intangibles of $13.8 million, was $165.7 million and liabilities assumed totaled $11.1 million. The following unaudited pro forma summary presents the combined results for the years ended October 31, 2005 and 2004, respectively, as adjusted to reflect the Spacelink purchase transaction assuming the acquisition had occurred at November 1, 2003. These pro forma results are not necessarily indicative of the combined results that would have occurred had the acquisition actually taken place on November 1, 2003, nor are they necessarily indicative of the combined results that may occur in the future.

35 Pro forma net income from operations for the year ended October 31, 2005 includes $1,249, or $0.03 per basic and diluted earnings per share from continuing operations, related to the combined after-tax impact of one-time bonus expenses and transaction costs incurred by Spacelink. Certain information with respect to the assets and liabilities of Spacelink as of the acquisition date is summarized below: February 1, 2005 ---------------- Accounts receivable $ 19,930 Other current assets 910 Property, plant and equipment 3,021 Goodwill 127,955 Acquired customer-related intangibles 13,810 -------- Total assets $165,626 ======== Accounts payable $ 398 Accrued liabilities 10,675 -------- Total liabilities $ 11,073 ======== Effective May 1, 2005, the Company acquired all of the outstanding stock of Mobilized Systems, which designs, manufacturers and tests highly specialized trailers, shelters and environmental control systems, primarily for the defense industry. The purchase price was $17.5 million, net of cash acquired, of which $16.7 million has been paid as of October 31, 2005 as reflected in the Consolidated Statement of Cash Flows. The remaining $0.8 million of consideration is in the form of long-term promissory notes payable to the sellers. The cash portion of the purchase price was financed with short-term borrowings under the Company's revolving credit facility. The fair value of assets acquired, including goodwill of $12.7 million and customer-related intangibles of $3.2 million, was $19.1 million and liabilities assumed totaled $1.6 million. On December 5, 2003, the Company acquired all of the outstanding stock of Pivotal Power, a supplier of high-performance static power conversion equipment primarily to military customers. The purchase price was approximately $10.1 million, net of cash acquired. The fair value of assets acquired, including goodwill of $4.8 million and acquired customer-related intangibles of $1.2 million, was $11.6 million and liabilities assumed totaled $1.5 million. The purchase price was financed with short-term borrowings under the Company's revolving credit facility. On September 24, 2003, the Company acquired all of the outstanding common stock of EEI, a designer and manufacturer of specialized environmental control units and heat transfer systems for defense and industrial markets. The purchase price was approximately $15.6 million. The purchase of EEI, net of cash acquired, totaled $16.7 million in the Consolidated Statements of Cash Flows, which represents the $15.6 million purchase price plus assumed indebtedness of $1.1 million. The initial purchase price allocation for EEI was based on preliminary information, which was subject to adjustment upon obtaining complete valuation information. During the fourth quarter of 2004, the Company completed its valuation and reclassified $2.9 million from goodwill, as recorded in the preliminary allocation, to acquired customer-related intangibles and recorded a $0.5 million non-cash charge in the quarter ended October 31, 2004 to reflect the related amortization expense from acquisition date. The fair value of assets acquired, including goodwill of $11.6 million and acquired customer- 36 related intangibles of $2.9 million, was $19.9 million and liabilities assumed totaled $4.3 million. The purchase price was financed with short-term borrowings under the Company's revolving credit facility. On May 1, 2003, the Company acquired all of the outstanding common stock of TAMSCO, a provider of information technology logistics and digitization services and a designer and integrator of telecommunication systems primarily for the DoD. The purchase price was approximately $71.1 million, which is net of $0.1 million of cash acquired. Approximately $1.1 million of the purchase price has not been paid subject to final collection of accounts receivable. In connection with this transaction, the Company also assumed and paid $14.9 million of TAMSCO indebtedness. The purchase of TAMSCO, net of cash acquired, totals $84.9 million in the Consolidated Statements of Cash Flows, which represents the $71.1 million purchase price plus assumed indebtedness of $14.9 million less $1.1 million of purchase price not yet paid. The initial purchase price allocation for TAMSCO was based on preliminary information, which was subject to adjustment upon obtaining complete valuation information. During the second quarter of 2004, the Company completed its valuation of the assets acquired and liabilities assumed. As a result, the Company reclassified $29.9 million from goodwill, as recorded in the preliminary allocation, to acquired customer-related intangibles and recorded a $2.2 million non-cash charge in the quarter ended April 30, 2004 to reflect the related amortization expense from acquisition date. The fair value of assets acquired, including goodwill of $35.9 million and acquired customer-related intangibles of $29.9 million, was $103.9 million and liabilities assumed totaled $32.8 million. The purchase price was financed with short-term borrowings under the Company's revolving credit facility. The following unaudited pro forma summary presents the combined historical results of operations, after giving effect to the stock split described in Note O, for the year ended October 31, 2003 as adjusted to reflect the TAMSCO purchase transaction assuming the acquisition had occurred at November 1, 2002. These pro forma results are not necessarily indicative of the combined results that would have occurred had the acquisition actually taken place on November 1, 2002, nor are they necessarily indicative of the combined results that may occur in the future. Year Ended October 31 2003 ---------- Net revenues $ 652,655 ========== Net income $ 46,269 ========== Basic earnings per share $ 1.27 ========== Diluted earnings per share $ 1.19 ========== 37 Spacelink and TAMSCO are included in the Support Services segment. PCA, Mobilized Systems, Pivotal Power and EEI are included in the Support Systems segment. The operating results of each are included in consolidated operations since their respective dates of acquisition. NOTE C -- GOODWILL AND INTANGIBLE ASSETS The following table presents changes in the Company's goodwill for the Support Systems segment and for the Support Services segment for the three years ended October 31, 2005: Support Support Systems Services Total ------- -------- ----- October 31, 2002 $ 76,833 $ 26,611 $103,444 Acquisitions 18,886 69,002 87,888 -------- -------- -------- October 31, 2003 95,719 95,613 191,332 Acquisitions 6,935 1,821 8,756 Reclassification to acquired customer-related intangibles (2,880) (29,850) (32,730) -------- -------- -------- October 31, 2004 99,774 67,584 167,358 Acquisitions 36,796 127,955 164,751 -------- -------- -------- October 31, 2005 $136,570 $195,539 $332,109 ======== ======== ======== As of October 31, 2005, the Company had $271.3 million of remaining tax deductible goodwill. The following disclosure presents certain information on the Company's acquired identifiable intangible assets as of October 31, 2005, 2004 and 2003. All acquired identifiable intangible assets are being amortized over their estimated useful lives, as indicated below, with no estimated residual values. 38

The amortization expense related to acquired intangible assets was $9,843, $6,698 and $2,831, respectively, for the years ended October 31, 2005, 2004 and 2003. (Amoritization expense related to acquired intangible assets for the year ended October 31, 2004 includes $2,151 related to finalization of the TAMSCO intangible asset valuation. Total related TAMSCO amoritization expense was $1,981 and $3,142, respectively, for the years ended October 31, 2005 and 2004.) Related estimated amortization expense is $10,953 for the year ending October 31, 2006, $10,204 for the year ending October 31, 2007, $7,001 for the year ending October 31, 2008, $4,879 for the year ending October 31, 2009 and $3,222 for the year ending October 31, 2010. NOTE D -- OPERATIONAL RESTRUCTURING During the quarter ended April 30, 2003, the Company announced a restructuring plan under which electronics assembly work performed at the Sanford, Florida facility of the Company's SEI subsidiary would be relocated to alternate SEI facilities. Statement of Financial Accounting Standards No. 146 (SFAS 146), "Accounting for Costs Associated with Exit or Disposal Activities," applies to all disposal activities initiated after December 31, 2002. SFAS 146 requires that a liability for employee termination costs associated with an exit or disposal activity be recognized when the liability is incurred. In accordance with SFAS 146, the Company recorded restructuring expense of $2.1 million in the year ended October 31, 2003 and $0.1 million in the year ended October 31, 2004, consisting of $1.3 million for severance and related benefits and $0.9 million for non-cash costs associated with the write-down of the Sanford, Florida facility to its fair market value. The Company anticipates that it will record no additional restructuring expense related to this plan. The plan involved the termination of 107 employees, all of which had been terminated as of October 31, 2004. All related severance costs had been paid as of October 31, 2004. NOTE E -- DISCONTINUED OPERATIONS The Company completed the sale of Engineered Specialty Plastics, Inc. (ESP), a wholly-owned subsidiary, in the quarter ended April 30, 2003 to a private equity group (the Buyers). The Buyers subsequently alleged that the Company breached certain representations made under the related Stock Purchase Agreement (the Agreement) and sought a claim for associated damages under the binding arbitration provisions of the Agreement. During the quarter ended April 30, 2005, the Company and the Buyers reached a settlement on this claim, which included modification of the Company's $3.2 million note receivable from the Buyers to provide for suspension of interest charges and payments through July 31, 2006, extension of the note's repayment term to a balloon payment due in April 2009, and the release of the underlying real estate collateral securing the note. Because of this settlement, the Company recorded a charge for the impairment of the note during the quarter ended April 30, 2005 equal to $1.7 million, or $1.1 million net of income tax. During the quarter ended October 31, 2005, the Company was informed that the Buyers had liquidated all ESP assets, and the Company reserved an additional $1.6 million, or $1.0 million net of income tax, for the impairment of the remainder of the note. These amounts are reflected in discontinued operations on the Consolidated Statements of Income for the year ended October 31, 2005. Certain information with respect to the discontinued operations of ESP is as follows: Year Ended October 31 2005 2003 -------------------------------------------------------------------------- Net revenues $ $9,136 -------------------------------------------------------------------------- Income from discontinued operations, net of income tax of $188 in 2003 $ $ 294 Loss on disposal, net of income tax of $(1,244) in 2005 and $(108) in 2003 (2,073) (169) -------------------------------------------------------------------------- Income (loss) on discontinued operations $(2,073) $ 125 ======= ====== 39 NOTE F -- ACCOUNTS RECEIVABLE Accounts receivable includes amounts due from the U.S. government and its agencies of $115,561 and $109,991 at October 31, 2005 and 2004, respectively. NOTE G -- CONTRACTS IN PROCESS AND INVENTORIES Contracts in process and inventories are comprised of the following: October 31 2005 2004 ---------------------------------------------------------------------------- Raw materials $ 1,638 $ 1,874 Work-in-process 5,345 5,246 Finished goods 454 493 Inventories substantially applicable to government contracts in process, reduced by progress payments of $54,039 and $54,629 69,756 53,396 ---------------------------------------------------------------------------- $77,193 $61,009 ============================================================================ Contracts in process and inventories at October 31, 2005 and 2004 include estimated revenue of $95,610 and $82,763, respectively, representing accumulated contract costs and related estimated earnings on uncompleted government contracts. NOTE H -- NOTES PAYABLE On January 27, 2005, the Company entered into an Amended and Restated Credit Agreement (Amended Credit Agreement) with its banks. The Amended Credit Agreement replaced the Company's previous credit agreement dated April 23, 2003. The Amended Credit Agreement, which expires January 27, 2010, provides for a $200 million unsecured revolving credit facility. The Company may request, subject to certain conditions, an increase of up to $100 million in the amount of the aggregate commitment under the Amended Credit Agreement. Borrowings under the Amended Credit Agreement bear interest, at the Company's option, at either the Eurodollar rate plus an applicable margin, or at the higher of the prime rate or the federal funds rate plus one-half of one percent. The margin applicable to the Eurodollar rate varies from 0.625% to 1.375% depending upon the Company's ratio of total indebtedness to earnings before interest, taxes, depreciation and amortization (leverage ratio). The Amended Credit Agreement contains certain covenants, including maintaining net worth of at least $265 million, plus 50% of the sum, to the extent positive, of the Company's consolidated net income and other comprehensive income (loss) reported after October 31, 2004, plus the net proceeds of all subsequent equity offerings. The Company must also comply with certain financial covenants, including maintenance of a leverage ratio of no greater than 2.75 to 1. The Company is also subject to various other financial and operating covenants and maintenance criteria, including restrictions on the Company's ability to incur additional indebtedness, make investments, create liens, dispose of material assets and enter into merger transactions and acquisitions. As of October 31, 2005, the Company was in compliance with all applicable covenants of the Amended Credit Agreement. No compensating balance is required or maintained related to the Amended Credit Agreement. As of October 31, 2005, the Company had $45.0 million in borrowings under the Amended Credit Agreement. Borrowings under the Amended Credit Facility and the Company's previous revolving credit facility averaged $26.5 million for the year ended October 31, 2005. Borrowings under the Amended Credit Agreement are unsecured and are guaranteed by the Company. Interest paid was $2,460 in 2005, $1,370 in 2004 and $2,215 in 2003. 40 NOTE I -- INCOME TAXES The income tax provision is comprised of the following:

The deferred income tax provision (benefit) results from the following temporary differences:

Deferred income tax liabilities (assets) are comprised of the following: Year Ended October 31 2005 2004 ---------------------------------------------------------------------------- Depreciation $ 2,441 $ 2,398 Uncompleted contracts (571) (1,360) Employee benefits (5,527) (6,291) Goodwill and intangibles 16,139 13,087 Asset reserves (1,211) (1,160) Capital loss carryforward (3,994) (2,814) Other comprehensive loss (12,270) (11,299) Other, net (3,742) (4,475) ---------------------------------------------------------------------------- (8,735) (11,914) Valuation allowance 4,324 3,117 ---------------------------------------------------------------------------- $ (4,411) $ (8,797) ============================================================================ 41 Deferred income tax liabilities (assets) are presented on the Consolidated Balance Sheets as follows: Year Ended October 31 2005 2004 -------------------------------------------------------------------------- Current assets $(6,284) $(6,921) Non-current assets (1,876) Non-current liabilities 1,873 -------------------------------------------------------------------------- $(4,411) $(8,797) ========================================================================== A reconciliation between the income tax provision and the annual amount computed by applying the statutory federal income tax rate to income before income taxes is as follows:

As of October 31, 2005, the Company had U.S. capital loss carryovers of $10,652, which expire in 2009. As of October 31, 2005, the Company had foreign investment tax credit carryovers of $1,405 which will begin to expire in 2006. The Company provided a valuation allowance of $4,324 in 2005 and $3,117 in 2004 on the capital loss and foreign investment tax credit carryovers, the recovery of which is uncertain. Income taxes paid were $40,059 in 2005, $12,479 in 2004 and $13,923 in 2003. NOTE J -- STOCK OPTIONS The Company has established plans whereby options may be granted to employees and directors of the Company to purchase shares of the Company's common stock. Options granted are at an option price equal to the market value on the date the option is granted and vest immediately. Subject to continuation of employment, all options must be exercised within five years from the date of grant and are exercisable at any time during this period. As of October 31, 2005, 4,711 shares of unissued common stock were authorized and reserved for outstanding options, which had a weighted average remaining contractual life of 2.9 years at that date. Transactions involving the stock option plans are as follows: Shares Price per share ------------------------------------------------------------------------------ Outstanding at October 31, 2002 6,753 $ 2.48 to $13.42 Options granted 1,148 $15.91 to $29.46 Options exercised (1,251) $ 2.48 to $16.61 ------------------------------------------------------------------------------ Options forfeited (2) $13.42 ------------------------------------------------------------------------------ Outstanding at October 31, 2003 6,648 $ 2.56 to $29.46 Options granted 879 $29.63 to $37.07 Options exercised (2,697) $ 2.56 to $29.46 Options forfeited (2) $13.42 to $36.83 ------------------------------------------------------------------------------ Outstanding at October 31, 2004 4,828 $ 2.56 to $37.07 Options granted 1,288 $34.93 to $41.11 Options exercised (1,345) $ 2.56 to $36.83 Options forfeited (60) $29.46 to $36.83 ------------------------------------------------------------------------------ Outstanding at October 31, 2005 4,711 $ 5.19 to $41.11 ============================================================================== 42 The following table summarizes information for stock options outstanding at October 31, 2005: Weighted Weighted Average Average Options Remaining Exercise Range of Exercise Prices Outstanding Life Price ----------------------------------------------------------------------------- $ 5.19 to $ 8.86 377 0.4 years $ 5.38 $12.63 to $16.61 1,885 1.9 years $12.91 $29.46 to $37.07 1,212 3.4 years $33.20 $34.93 to $41.11 1,237 4.6 years $35.75 During the quarter ended October 31, 2004, the Company recorded a charge of $5.0 million ($3.1 million on an after-tax basis) for severance and related benefit costs incurred in connection with the resignation of the Company's former Chief Executive Officer. Of this amount, $4.2 million ($2.6 million on an after-tax basis) represents a non-cash charge associated with the extension of the exercise period of vested non-qualified stock options in accordance with FASB Interpretation No. 44 (FIN44), "Accounting for Certain Transactions Involving Stock Compensation." NOTE K -- PENSION AND OTHER POSTRETIREMENT BENEFITS Effective September 30, 1999, the Company acquired SEI and assumed the pension and other postretirement benefit plans related to SEI's employees and non-employee participants. Substantially all employees of SEI are covered by defined benefit or defined contribution pension plans. In addition, certain retirees of SEI are eligible for postretirement health and life insurance benefits. To qualify for postretirement health and life insurance benefits, an SEI employee must retire at age 55 or later and the employee's age plus service must equal or exceed 75. Retiree contributions are defined as a percentage of medical premiums. Consequently, retiree contributions increase with increases in the medical premiums. The life insurance plans are noncontributory and provide coverage of a flat dollar amount for qualifying retired SEI employees. All former full-time employees of Engineered Air who were covered by a collective bargaining agreement are also covered by a defined benefit pension plan. These SEI and Engineered Air benefits are provided under defined benefit pay-related and flat-dollar plans, which are primarily non-contributory. Annual Company 43 contributions to retirement plans equal or exceed the minimum funding requirements of the Employee Retirement Income Security Act or other applicable regulations. The components of pension and other postretirement benefit costs are presented below for 2005, 2004 and 2003: 2005 2004 2003 ------------------------------------------------------------------------ PENSION BENEFITS Service cost $ 3,191 $ 2,896 $ 2,859 Interest cost 7,383 7,035 7,018 Expected return on plan assets (7,505) (7,201) (6,994) Amortization of prior service cost 536 536 556 Recognized actuarial loss 3,764 3,344 1,526 Other 36 ------------------------------------------------------------------------ Net pension costs $ 7,369 $ 6,610 $ 5,001 ======================================================================== OTHER POSTRETIREMENT BENEFITS Service cost $216 $ 236 $ 273 Interest cost 620 593 713 Actuarial loss 455 339 343 ------------------------------------------------------------------------ Net other benefit costs $ 1,291 $ 1,168 $ 1,329 ======================================================================== A reconciliation of the changes in the plans' benefit obligations and fair values of assets over the two-year period ending October 31, 2005 and a statement of the funded status at October 31, 2005 and 2004 follows. 2005 2004 ------------------------------------------------------------------------------- PENSION BENEFITS RECONCILIATION OF BENEFIT OBLIGATION: Benefit obligation at beginning of year $126,804 $115,842 Service cost 3,191 2,896 Interest cost 7,383 7,035 Actuarial loss 5,758 5,255 Benefit payments (4,291) (4,124) Other (100) (100) ------------------------------------------------------------------------------- Benefit obligation at October 31 $138,745 $126,804 =============================================================================== RECONCILIATION OF FAIR VALUE OF PLAN ASSETS: Fair value of plan assets at beginning of year $ 77,829 $ 69,272 Actual return on plan assets 6,521 6,276 Employer contributions 6,326 6,405 Benefit payments (4,291) (4,124) Other (129) ------------------------------------------------------------------------------- Fair value of plan assets at October 31 $ 86,256 $ 77,829 =============================================================================== 44 FUNDED STATUS: Funded status at October 31 $(52,489) $(48,975) Unrecognized prior service cost 2,214 2,750 Unrecognized actuarial loss 47,661 44,652 ------------------------------------------------------------------------------- Accrued benefit cost $ (2,614) $ (1,573) =============================================================================== OTHER POSTRETIREMENT BENEFITS RECONCILIATION OF BENEFIT OBLIGATION: Benefit obligation at beginning of year $ 9,746 $ 11,384 Service cost 216 236 Interest cost 620 593 Plan amendments (4,670) Actuarial loss (gain) 1,724 (1,069) Benefit payments (1,596) (1,398) ------------------------------------------------------------------------------- Benefit obligation at October 31 $ 6,040 $ 9,746 =============================================================================== RECONCILIATION OF FAIR VALUE OF PLAN ASSETS: Fair value of plan assets at beginning of year $ $ Employer contributions 1,596 1,398 Benefit payments (1,596) (1,398) ------------------------------------------------------------------------------- Fair value of plan assets at October 31 $ $ =============================================================================== FUNDED STATUS: Funded status at October 31 $ (6,040) $ (9,746) Unrecognized prior service cost (4,670) Unrecognized actuarial loss 4,531 3,270 ------------------------------------------------------------------------------- Accrued benefit cost $ (6,179) $ (6,476) =============================================================================== The amounts recognized in the Company's Consolidated Balance Sheets as of October 31 are as follows: 2005 2004 ------------------------------------------------------------------------------- PENSION BENEFITS Accrued benefit cost $ (6,407) $ (5,627) Intangible asset 2,214 2,557 Additional minimum liability (31,141) (28,237) Other comprehensive loss 32,720 29,734 ------------------------------------------------------------------------------- Net amount recognized $ (2,614) $ (1,573) =============================================================================== OTHER POSTRETIREMENT BENEFITS Accrued benefit cost $ (6,179) $ (6,476) ------------------------------------------------------------------------------- Net amount recognized $ (6,179) $ (6,476) =============================================================================== The postretirement plan amendment is that prescription drug coverage will no longer be offered to participants after the age of 65. This change is being made concurrently with the new Medicare Part D coverage for prescription drugs effective in 2006. Under the new arrangement, retiree contributions provide for 100% of the cost for post-65 coverage. 45 Assumptions used in accounting for the defined benefit plans in 2005, 2004 and 2003 were a discount rate of 5.50%, 5.75% and 6.00%, respectively, a rate of compensation increase of 3.75% in each year, and an expected long-term rate of return on assets of 8.75% in each year. A 1% increase in the discount rate would decrease net pension costs for 2005 and the accrued benefit cost at October 31, 2005 by $1.8 million and a 1% decrease in the discount rate would increase net pension benefit costs for 2005 and the accrued benefit cost at October 31, 2005 by $1.9 million. A 1% increase in the expected long-term rate of return on assets would decrease net pension costs for 2005 and the accrued benefit cost at October 31, 2005 by $0.8 million and a 1% decrease in the expected long-term rate of return on assets would increase net pension benefit costs for 2005 and the accrued benefit cost at October 31, 2005 by $0.8 million. Assumptions used in accounting for other postretirement benefits in 2005, 2004 and 2003 were a discount rate 5.50% 5.75% and 6.00%, respectively, and a health care cost trend of 9.5%, 9.5% and 10.0%, respectively, decreasing 0.5% annually to an ultimate rate of 5.5%. A 1% increase in the discount rate would decrease net other benefit costs for 2005 by $0.1 million and a 1% decrease in the discount rate would increase net other benefit costs for 2005 by $0.1 million. A 1% increase in the health care cost trend rate for each year would increase the October 31, 2005 net benefit obligation by approximately $12, while a 1% decrease in the health care cost trend rate for each year would decrease the October 31, 2005 net benefit obligation by approximately $14. The accumulated benefit obligation for defined benefit pension plans was $123.8 million and $111.7 million at October 31, 2005 and 2004, respectively. The weighted average asset allocation and the target allocation for the Company's pension benefit plans, by asset category, is as follows: Asset Target Allocation Allocation at October 31 at October 31 -------------------- ------------- 2005 2004 2005 ------ ------ ------ Equity securities 63.7% 66.2% 62.5% Debt securities 32.0% 30.1% 33.0% Real estate 2.9% 2.7% 2.5% Cash 1.4% 1.0% 2.0% ----- ----- ----- Total 100.0% 100.0% 100.0% ===== ===== ===== The Company expects to contribute $6,771 to its pension benefit plans and contribute $700 in expected benefit payments attributable to its other postretirement benefit plans during the year ending October 31, 2006. The following benefit payments, which reflect expected future service, as appropriate, are expected to be paid: Year Other Post Ending Pension Retirement October 31 Benefits Benefits ---------- -------- ---------- 2006 $ 5,379 $ 558 2007 5,892 552 2008 6,258 548 2009 6,709 530 2010 7,115 504 2011 - 2015 43,391 2,721 46 The Company's pension plan assets are managed by outside investment managers and assets are rebalanced when the target ranges are exceeded. Pension plan assets consist of marketable securities including common stocks, bonds, real estate and interest-bearing deposits. The Company's investment strategy with respect to pension assets is to achieve a total rate of return (income and capital appreciation) that is sufficient to provide retirement benefits to all eligible and future retirees of the pension plans. The Company regularly monitors performance and compliance with investment guidelines. The Company sponsors the Engineered Support Systems, Inc. 401(k) and Employee Stock Ownership Plan (ESOP), which covers all employees of Engineered Air, Marlo Coil, Keco, Fermont, ESSIbuy, UPSI, Radian, TAMSCO, EEI, PCA, Spacelink and Mobilized Systems and all employees of SEI with an employment starting date after December 31, 2004. The ESOP provides for a matching contribution by the Company of no less than 25% of each employee's contributions up to a maximum of 6% of the employee's earnings. The Company also makes discretionary annual contributions. All employee and employer contributions to the ESOP are 100% vested. In addition, the Company previously sponsored the TAMSCO Tax Deferred Retirement Plan, the Engineered Environments, Inc. 401(k) Plan, the Prospective Computer Analysts, Inc. Employee Savings and Retirement Plan, the Spacelink International, LLC 401(k) Plan, and Mobilized Systems, Inc. 401(k) Incentive Savings Plan. The Company has recorded expense based on contributions to the ESOP, the TAMSCO plan, the EEI plan, the PCA plan, the Spacelink plan, and the MSI plan for the years ended October 31, 2005, 2004 and 2003 of $7,173, $4,600 and $1,989, respectively. The Company also has a qualified Employee Stock Purchase Plan (ESPP), the terms of which allow for qualified employees, as defined, to purchase the Company's common stock at a price equal to 95% of the closing price at the beginning of each semi-annual stock purchase period. Prior to July 1, 2005, the plan allowed plan participants to purchase shares of the Company's common stock at a price equal to 85% of the lower of the closing price at the beginning or end of each semi-annual stock purchase period, but was amended to comply with recently enacted income tax law changes concerning employer-sponsored stock purchase plans. The Company issued 128, 129 and 81 shares of common stock during the years ended October 31, 2005, 2004 and 2003 pursuant to the ESPP at an average price per share of $31.69, $22.79 and $20.27, respectively. NOTE L -- BUSINESS SEGMENT INFORMATION Based on its organizational structure, the Company operates in two business segments: Support Systems and Support Services. The Support Systems segment designs, engineers and manufactures integrated military electronics and other military support equipment primarily for the DoD, as well as related heat transfer and air handling equipment for domestic commercial and industrial users. Segment products include environmental control systems, load management and transport systems, power generation, distribution and conditioning systems, airborne radar systems, reconnaissance, surveillance and target acquisition systems, chemical and biological protection systems, petroleum and water distribution systems and other multipurpose military support equipment. The Support Services segment provides engineering services, logistics and training services, advanced technology services, asset protection systems and services, telecommunication systems integration and information technology services primarily for the DoD. The Support Services segment also provides certain power generation and distribution equipment and vehicle armor installation to the DoD. Management utilizes more than one measurement and multiple views of data to measure business segment performance and to allocate resources to the segments. However, the dominant measurements are consistent with the Company's Consolidated Financial Statements and, accordingly, are reported on the same basis herein. Management evaluates the performance of its business segments and allocates resources to them primarily based on income from operations, along with cash flows and overall economic returns. The Company's export net revenues are not significant. All corporate expenses and assets have been allocated to the segments. In 2005, 2004 and 2003, approximately, 96%, 94% and 95% of consolidated net revenues were derived directly or indirectly from the U.S. government. 47 The following table summarizes the Company's net revenues attributed to the United States and to foreign countries: United Foreign Total October 31 States Countries Revenues ---------- -------- --------- -------- 2005 $993,288 $25,085 $1,018,373 2004 853,286 30,344 883,630 2003 556,809 15,892 572,701 The Company attributes foreign net revenues based on the domicile of the purchaser of the product or service. Of the $702.2 million in total Company assets as of October 31, 2005, $13.9 million were located in countries other than the U.S. Information by segment is summarized as follows:

NOTE M -- COMMITMENTS AND CONTINGENCIES As a government contractor, the Company is continually subject to audit by various agencies of the U.S. government to determine compliance with various procurement laws and regulations. As a result of such audits and as part of normal business operations of the Company, various claims and charges are asserted against the Company. It is not possible at this time to predict the outcome of all such actions. However, management is of the opinion that it has good defenses against such actions and believes that none of these matters will have a material effect on the consolidated financial position or the results of operations of the Company. Total contractual and contingent obligations as of October 31, 2005 are as follows:

While contingent obligations are included in the table above, the Company does not expect to fund the full amounts indicated for letters of credit. Lease expense totaled $5.9 million, $5.0 million and $4.2 million for the years ended October 31, 2005, 2004 and 2003, respectively. NOTE N -- SEC INVESTIGATION In December 2004, the Company was notified by the Enforcement Division of the SEC of the issuance of a formal order directing a private investigation captioned In the Matter of Engineered 49 Support Systems, Inc. and that the SEC had issued subpoenas to various individuals associated with the Company to produce certain documents. The SEC staff also requested that the Company voluntarily produce certain documents in connection with the investigation. The subpoenas related to trading in the Company's stock around the Company's earnings releases in 2003 and the adequacy of certain disclosures made by the Company regarding related-party transactions in 2002 and 2003 involving insurance policies placed by the Company through an insurance brokerage firm in which a director of the Company was a principal at the time of the transactions. On or about September 23, 2005, the SEC staff contacted the Company's counsel and advised that it had issued a subpoena directed to the Company and expanded its investigation to include the Company's disclosure of a November 2004 stop-work order relating to the Company's Deployable Power Generation and Distribution System program for the U.S. Air Force, and trading in the Company's stock by certain individuals associated with the Company. In connection with the foregoing SEC investigation, the Company and certain of its directors and officers have provided information and testimony to the SEC. The Company continues to furnish information requested by the SEC. The Company is unable to determine at this time either the timing of the investigation or the impact, if any, which the investigation could have on the Company or the combined company following the Company's proposed merger with DRS as explained in Note P. NOTE O -- STOCK SPLIT On April 15, 2005, the Company effected a three-for-two stock split in the form of a 50% stock dividend. All per share amounts, as well as all share amounts related to the Company's stock option and stock purchase plans, have been restated to reflect this stock split. NOTE P -- MERGER AGREEMENT WITH DRS TECHNOLOGIES, INC. On September 21, 2005, the Company and DRS Technologies, Inc. (DRS) entered into a definitive agreement which provides for the acquisition by DRS of all of the outstanding common stock of the Company for approximately $1.9 billion, or $43.00 per share (subject to possible adjustment), through a combination of cash and DRS common stock. Pending customary regulatory approvals and other closing conditions, including approval by DRS and Company shareholders, the transaction is anticipated to close before March 31, 2006. 50 SUPPLEMENTAL INFORMATION The table below presents unaudited quarterly financial information for the years ended October 31, 2005 and 2004 (in thousands, except for per share amounts):

Earnings per share calculations are based on the average basic and diluted common shares outstanding for each quarter and, therefore, the sum of the quarters may not necessarily be equal to the full year basic and diluted earnings per share amounts. The results for the quarter ended October 31, 2004 include $1.7 million of net income resulting from revisions, adjustments and changes in estimates for certain long-term contracts, primarily at the Company's Keco subsidiary. 51 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Shareholders of Engineered Support Systems, Inc.: We have completed an integrated audit of Engineered Support Systems, Inc.'s 2005 consolidated financial statements and of its internal control over financial reporting as of October 31, 2005 and audits of its 2004 and 2003 consolidated financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below. Consolidated financial statements and financial statement schedule ------------------------------------------------------------------ In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects, the financial position of Engineered Support Systems, Inc. and its subsidiaries at October 31, 2005 and 2004, and the results of their operations and their cash flows for each of the three years in the period ended October 31, 2005 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the accompanying index presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). 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 of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. Internal control over financial reporting ----------------------------------------- Also, in our opinion, management's assessment, included in the Report of Management on Internal Control over Financial Reporting appearing under Item 9A, that the Company maintained effective internal control over financial reporting as of October 31, 2005 based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated, in all material respects, based on those criteria. Furthermore, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of October 31, 2005, based on criteria established in Internal Control - Integrated Framework issued by the COSO. The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express opinions on management's assessment and on the effectiveness of the Company's internal control over financial reporting based on our audit. We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding 52 of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions. A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. As described in the Report of Management on Internal Control over Financial Reporting appearing under Item 9A, management has excluded certain elements of the internal control over financial reporting of Spacelink, LLC, Prospective Computer Analysts Incorporated, and Mobilized Systems, Inc. from its assessment of the Company's internal control over financial reporting as of October 31, 2005 because each was acquired by the Company in a purchase business combination during 2005. Subsequent to the acquisition, certain elements of the acquired businesses' internal control over financial reporting and related processes were integrated into the Company's existing systems and internal control over financial reporting. Those controls that were not integrated have been excluded from management's assessment of the effectiveness of internal control of financial reporting as of October 31, 2005. We have also excluded those elements from our audit of internal control over financial reporting. The combined excluded elements of Spacelink, LLC, Prospective Computer Analysts Incorporated, and Mobilized Systems, Inc. represent controls over accounts of approximately 4% of total assets and 8% of total revenues of the related consolidated financial statement amounts as of and for the year ended October 31, 2005. /s/ PricewaterhouseCoopers LLP PricewaterhouseCoopers LLP St. Louis, Missouri January 9, 2006 53 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND ------- --------------------------------------------------------------- FINANCIAL DISCLOSURES --------------------- None. ITEM 9A. CONTROLS AND PROCEDURES -------- ----------------------- ESSI carried out an evaluation, under the supervision and with the participation of its management, including ESSI's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of ESSI's disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act") as of October 31, 2005. Based upon that evaluation, ESSI's Chief Executive Officer and Chief Financial Officer concluded that ESSI's disclosure controls and procedures are effective. Disclosure controls and procedures are controls and procedures that are designed to ensure that information required to be disclosed in ESSI's reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. There have been no changes in ESSI's internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the fiscal quarter ended October 31, 2005 that have materially affected, or are reasonably likely to materially affect, ESSI's internal control over financial reporting. REPORT OF MANAGEMENT ON INTERNAL CONTROL OVER FINANCIAL REPORTING The management of ESSI is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of ESSI's financial reporting for external purposes in accordance with accounting principles generally accepted in the United States of America. Internal control over financial reporting includes maintaining records that in reasonable detail accurately and fairly reflect ESSI's transactions and dispositions of assets of the Company; providing reasonable assurance that transactions are recorded as necessary for preparation of our financial statements in accordance with generally accepted accounting principles; providing reasonable assurance that receipts and expenditures of company assets are made in accordance with management authorization; and providing reasonable assurance that unauthorized acquisition, use or disposition of company assets that could have a material effect on our financial statements would be prevented or detected on a timely basis. Management conducted an evaluation of the effectiveness of ESSI's internal control over financial reporting based on the framework and criteria established in Internal Control -- Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission. This evaluation included review of the documentation of controls, evaluation of the design effectiveness of controls, testing of the operating effectiveness of controls and a conclusion on this evaluation. Based on this evaluation, management concluded that ESSI's internal control over financial reporting was effective as of October 31, 2005. Management's assessment of the effectiveness of ESSI's internal control over financial reporting as of October 31, 2005 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report which is included in Item 8 of this Annual Report on Form 10-K. Management has excluded certain elements of the internal control over financial reporting of Spacelink, LLC, Prospective Computer Analysts Incorporated, and Mobilized Systems, Inc. from its assessment of the Company's internal control over financial reporting as of October 31, 2005 because each was acquired by the Company in a purchase business combination during 2005. Subsequent to the acquisition, certain elements of the acquired businesses' internal control over financial reporting and related processes were integrated into the Company's existing systems and internal control over financial reporting. Those controls that were not integrated have been excluded from management's assessment of the effectiveness of internal control of financial reporting as of October 31, 2005. The combined excluded elements of Spacelink, LLC, Prospective Computer Analysts Incorporated, and Mobilized Systems, Inc. represent controls over accounts of approximately 4% of total assets and 8% of total revenues of the related consolidated financial statement amounts as of and for the year ended October 31, 2005. 54 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT -------- -------------------------------------------------- DIRECTORS The following table sets forth, for each director of ESSI, his principal occupation, the year in which his current term ends, the year in which he was first elected as a director and his age.

55 Michael F. Shanahan, Sr. became ESSI's Non-executive Chairman of the Board in 2005. Prior thereto, he served as Chairman of the Board since 1987. He also served as Chief Executive Officer of ESSI from 1985 to 2003. Gerald A. Potthoff has been Vice Chairman and Chief Executive Officer of ESSI since 2004 and was President and Chief Operating Officer of ESSI from 1999 to 2004. Prior thereto, Mr. Potthoff served as President of Systems & Electronics Inc. from 1991 to 2000. Gary C. Gerhardt has been Vice Chairman of ESSI since 1999 and prior thereto served as Executive Vice President since 1994. He has been Chief Financial Officer of ESSI since 1993. Gregory P. Boyer served as principal of Century Administrative Services for 15 years prior to his retirement in 2004. Century Administrative Services is a St. Louis-based firm specializing in human resources, labor relations, workers' compensation and safety/loss prevention services. From 1984 to 1989, Mr. Boyer served in various managerial capacities with ESSI and has provided professional consulting services to ESSI periodically since his employment. William H.T. Bush has been Chairman of the investment firm Bush-O'Donnell & Co., Inc. since 1986. Previously, he was President and Chief Executive Officer of Boatmen's National Bank of St. Louis. Mr. Bush is also on the Board of Directors of DT Industries, Inc., WellPoint Healthcare Networks, Inc. and the Lord Abbett Family of Mutual Funds. General Michael P.C. Carns (U.S. Air Force, Retired) served in the United States Air Force for 35 years until his retirement in 1994. From May 1991 until his retirement, General Carns served as Vice Chief of Staff, Headquarters U.S. Air Force. From September 1989 to May 1999, he served as director of the Joint Staff. He also serves on the Board of Directors of Rockwell Collins, Inc. and Entegris, Inc. MG George E. Friel (U.S. Army, Retired) served in the United States Army for 38 years until his retirement in 1998. In the six years preceding his retirement, Major General Friel headed the U.S. Army Chemical and Biological Defense Command. He also serves on the Board of Directors of Quick-Med Technologies, Inc. Thomas J. Guilfoil is the Senior and Founding Partner of the St. Louis law firm, Guilfoil, Petzall & Shoemake. Mr. Guilfoil's distinguished legal career of over 50 years began in St. Louis in 1941. S. Lee Kling has been Chairman of the Kling Company, a merchant banking company, since 2002 and from 1991 to 2002 was Chairman of Kling Rechter & Company, a merchant banking company. Previously, he was Chairman of Landmark Bancshares Corp., a bank holding company. Mr. Kling also serves on the Board of Directors of Bernard Chaus, Inc., Electro Rent Corporation, Kupper Parker Communications, Inc. and National Beverage Corporation. LTG Kenneth E. Lewi (U.S. Army, Retired) served in the United States Army for 34 years until his retirement in 1989. His career in the U.S. Army centered primarily on providing logistical support to U.S. armed forces. General Charles T. Robertson, Jr. (U.S. Air Force, Retired) has served as Vice President, Air Force Support Programs, Aerospace Support, The Boeing Company since December 2004. From April 2002 until December 2004, he served as Vice President of Business Development and then as Vice President, Mods and Upgrades. For 33 years until his retirement in 2001, he served in the United States Air Force. General Robertson served as Commander in Chief, U.S. Transportation Command, and Commander, Air Mobility Command, Scott Air Force Base, from 1998. General Crosbie E. Saint (U.S. Army, Retired) served in the United States Army for 34 years until his retirement in 1992. In the four years preceding his retirement, General Saint served as Commander in Chief, United States Army, Europe and Seventh Army; Commander, Central Army Group (NATO). 56 James A. Schaefer has been a Certified Public Accountant since 1965 and was an Audit Partner for 30 years. Most recently, he served as Audit Partner for the accounting firm of Baird, Kurtz & Dobson LLP from 1988 until his retirement in 2004. Michael F. Shanahan, Jr. has served as President and Chief Executive Officer of Huntleigh McGehee, an insurance concern, since July 2004. Mr. Shanahan served as Executive Vice President of Lockton Companies, an insurance concern, from November 2000 to September 2003. From October 1994 to September 2003, he was a Producer for Lockton Companies. Earl W. Wims, Ph.D. co-founded and served as Chairman of Marketing Horizons, Inc., a marketing research and consulting firm, from 1986 until he retired in December 2005. EXECUTIVE OFFICERS Executive officers and key employees of ESSI are as follows:

57 The officers serve at the discretion of the Board of Directors, subject to the terms and conditions of their employment or consulting agreements. Background information regarding Gerald A. Potthoff and Gary C. Gerhardt is included above in this section under "Directors." Daniel A. Rodrigues was named President and Chief Operating Officer of ESSI in 2005 and was ESSI's Group President - Support Systems from 2002 to 2005. Prior thereto, he served as President of SEI since 2000, as Senior Vice President and General Manager of SEI since 1999 and as its Vice President of Program Administration since 1995. James T. Myrick was named ESSI's Group President - Support Services in 2005. Prior thereto he served as President of SEI since 2002, as SEI's Executive Vice President since 2001 and as its Vice President - Finance since 1997. Mitchell B. Rambler joined ESSI as its Group President - Support Services in 2006. Prior thereto, he served as Senior Vice President and General Manger, Military Operations for BAE Systems since 2003 and as International Sales and Marketing Director for Perot Systems from 2001 to 2003. Mr. Rambler served as President and Chief Executive Officer of Cyntergy Corporation, a professional services firm, from 1998 to 2001. Larry K. Brewer has been ESSI's President - Washington D.C. Operations since 2003. Previously, he was Senior Vice President-Business Development of ESSI since 2000. Prior thereto, he served SEI as Vice President-Business Development since 1998, Vice President-Corporate Marketing & Washington DC Operations since 1997 and Vice President-Government Relations since 1995. Dan D. Jura was named ESSI's President, Business Development in 2005. Prior thereto, he served as Senior Vice President-Sales of ESSI since 2002, Vice President-Sales for ESSI since 1999 and for Engineered Air since 1993. Karen A. Bedell has been Senior Vice President - Marketing and Strategic Planning of ESSI since 2003. Prior thereto, she served as Vice President of Community and Education Relations and President of the Boeing-McDonnell Foundation for the Integrated Defense Group of the Boeing Company since 2001 and before that as its Director - Naval Missile Systems International Programs since 2000. She was F/A-18 Program Manager for Australia from 1996 to 1999. 58 Ronald W. Hauser has been Interim President of Spacelink since July 2005. He continues to hold the position of Vice President - Strategy, Plans and Market Research of ESSI since 2003. Prior thereto, he served as Director - Market Research of ESSI since 2001, as Director - Business Development of ESSI since 2000 and as Program Director of the Battlefield & Integration Group for SEI from 1999. He served as Director - Domestic Marketing for SEI from 1995 to 1999. Allan K. Kaste was named Senior Vice President-Human Resources of ESSI in 2005. Prior thereto, he served as Vice President - Human Resources of ESSI since 2000 and as Vice President-Human Resources for SEI from 1994 to 2003. Robert L. Klautzer was named Chief Information Officer of ESSI in 2005. Prior thereto, he served as Vice President-Management Information Systems of ESSI since 2000 and as Vice President-Management Information Systems and Quality Assurance for SEI from 1997 to 2003. Daniel E. Kreher was named Senior Vice President - Acquisitions and Investor Relations of ESSI in 2005. Prior thereto, he served as ESSI's Vice President - Acquisitions and Investor Relations since 2003 and as Director - Acquisitions and Investor Relations since 1999. Prior thereto, he was Vice President - Finance and Administration of D&K Healthcare Resources, Inc. since 1996. Steven J. Landmann was named Vice President--Controller and Chief Accounting Officer of ESSI in 2005. Prior thereto, he served as Vice President -- Finance & Controller of ESSI since 1999, as Controller for ESSI since 1998 and for Engineered Air since 1994. David D. Mattern has been Secretary and General Counsel of ESSI since 1999. Prior thereto, he served as ESSI's Secretary since 1992 and as outside legal counsel to ESSI. Mr. Mattern is the son-in-law of Michael F. Shanahan, Sr. John R. Wootton was named Senior Vice President - Advanced Development and Technology of ESSI in 2005. Prior thereto, he served as Vice President-Advanced Development and Technology of ESSI since 2000, as Vice President-Technology for SEI since 1997 and as SEI's Director-Technology since 1994. David D. Burton was named President of TAMSCO in 2005. Prior thereto, he served TAMSCO as Vice President of Operations since 2003 and as Vice President of Strategic Planning from 2001. Prior to TAMSCO, he served as Director of Contracting for Warner Robins Air Force Base as a member of the Senior Executive Service. Thomas G. Cornwell was named President of SEI in 2005. Prior thereto, he served as President of Engineered Air since 2000 and as Director-Program Management for SEI since 1992. Joseph H. Creaghead has been President of Keco since 2002. Prior thereto, he was General Manager - Managing Director of Husco International Ltd since 1997. Frederic D. Knight has been President of UPSI since 2002. Previously, he served as its Chief Technology Officer since 2000, and, prior thereto, as its President and Chief Executive Officer since 1989. Lisa A. Lairson has been President of Mobilized Systems since 2001. Prior thereto, she served as its Operations Manager since 1993. Gerald A. Nicholson has been President of Marlo Coil since 2001. Prior thereto, he was Executive Vice President for the Tweco/Arcair and Coyne Cylinder divisions of Thermadyne Industries from 1995 to 1998. Thomas C. Santoro has been President of Fermont since 1995. 59 Timothy J. Schneider has been President of EEi since 2004. Prior thereto, he served as Executive Vice President of EEi from 1997. Carlo M. Shimoon has been President of Pivotal Power since 2000. Prior thereto, he was President and Chief Executive Officer of Senstar Stellar since 1999 and President and Chief Executive Officer of Newhaven Media from 1995 to 1998. E. Allen Springer, Jr. was named President of Engineered Air in 2005. Prior thereto, he served as its Vice President of Engineering since 1992. Frank A. Tricomi has been President of ESSIbuy since 2004. Prior thereto, he served as Director of ESSIbuy since 2000, and was Director of Program Management for EASI from 1996 to 2000. Lloyd T. Waterman was named President of Radian in 2005. Prior thereto, he served as its Executive Vice President since 2004 after a distinguished career with the U.S. Army retiring with the rank of Brigadier General. CODE OF ETHICS ESSI has a code of ethics which applies to the directors, officers, all other employees and contract workers of ESSI and each of its subsidiaries. The Engineered Support Systems, Inc. Code of Business Ethics and Conduct is available free of charge upon written request to Engineered Support Systems, Inc., Attention: Investor Relations, 201 Evans Lane, St. Louis, Missouri 63121, and is available on ESSI's website at www.engineeredsupport.com. AUDIT COMMITTEE The Audit Committee for fiscal 2005 consisted of William H.T. Bush, General Michael P.C. Carns, MG George E. Friel, S. Lee Kling and James A. Schaefer, all of whom are considered independent under the listing standards of Nasdaq. Mr. Kling serves as the Audit Committee's financial expert. The function of the Audit Committee is to: review, from time to time, the financial statements of ESSI; meet, together and separately, with management of ESSI and its independent accountants to discuss the financial statements and general accounting policies of ESSI; and review the management letter issued by the independent registered public accounting firm and ESSI's responses thereto. SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934, as amended, requires that ESSI executive officers and directors, and persons who own more than ten percent of ESSI's outstanding stock, file reports of ownership and changes in ownership with the Securities and Exchange Commission. To the knowledge of ESSI, all Section 16(a) filing requirements applicable to its executive officers, directors and greater than ten percent beneficial owners were complied with during the fiscal year ended October 31, 2005, except that each of Mssrs. Boyer and Jura filed a late Form 3, "Initial Statement of Beneficial Ownership of Securities." ITEM 11. EXECUTIVE COMPENSATION -------- ---------------------- EMPLOYMENT AGREEMENTS ESSI has employment agreements with certain executive officers. The terms and conditions of those agreements with, the Vice Chairman and Chief Executive Officer, the Vice Chairman and Chief Financial Officer, the President and Chief Operating Officer, the President, Business Development and the Senior Vice President, Controller and Chief Accounting Officer are summarized below. VICE CHAIRMAN AND CHIEF EXECUTIVE OFFICER. Under Mr. Potthoff's employment agreement, he serves as 60 Vice Chairman and Chief Executive Officer until October 31, 2007. Thereafter, the agreement automatically renews for successive one-year periods unless he or ESSI gives notice to terminate the agreement at least 30 days prior to the expiration of the term. The agreement may be terminated at any time by Mr. Potthoff upon not less than 90 days' written notice, or by ESSI at any time with or without cause. Under the terms of Mr. Potthoff's employment agreement, Mr. Potthoff is paid a base annual salary of $720,000 and receives an annual incentive bonus payment. In addition, Mr. Potthoff is entitled to: (a) reimbursement of reasonable and necessary expenses incurred in the interest of the business of ESSI; (b) a car allowance as determined by ESSI's board; (c) payment of Mr. Potthoff's country club membership and other membership privileges as approved by ESSI's board; and (d) participate in ESSI's medical, life insurance, accidental death, disability income, profit sharing trust and other employee benefits along with his spouse for the duration of his life and the life of his spouse. The employment agreement also provides that, for ESSI's 2005 fiscal year, Mr. Potthoff shall receive a stock option award based on 22,500 shares of ESSI common stock. Mr. Potthoff elected to forgo this stock option award for fiscal 2005. If the agreement is terminated by ESSI other than for cause, Mr. Potthoff is entitled to termination pay equal to his base salary upon the date of termination payable over 12 months. Additionally, during the 12-month period, Mr. Potthoff (and his eligible family members) are entitled to continue to participate in and receive certain standard employee benefits. The agreement prohibits Mr. Potthoff from competing with ESSI for a period of two years after termination of employment. In the event of a change in control of ESSI, Mr. Potthoff is entitled to receive a lump sum cash payment in an amount equal to 2.99 times his average compensation for the prior five fiscal years of employment with ESSI. Upon consummation of the merger with DRS, Mr. Potthoff will receive a payment totaling $2,145,325. VICE CHAIRMAN AND CHIEF FINANCIAL OFFICER. Under Mr. Gerhardt's employment agreement, he serves as Vice Chairman and Chief Financial Officer until October 31, 2007. Thereafter, the agreement automatically renews for successive one-year periods unless he or ESSI gives notice to terminate the agreement at least 30 days prior to the expiration of the term. The agreement may be terminated at any time by Mr. Gerhardt upon not less than 90 days' written notice, or by ESSI at any time with or without cause. Under the terms of Mr. Gerhardt's employment agreement, Mr. Gerhardt is paid a base annual salary of $600,000 and receives an annual incentive bonus payment. In addition, Mr. Gerhardt is entitled to: (a) reimbursement of reasonable and necessary expenses incurred in the interest of the business of ESSI; (b) a car allowance as determined by ESSI's board; (c) payment of Mr. Gerhardt's country club membership and other membership privileges as approved by ESSI's board; and (d) participate in ESSI's medical, life insurance, accidental death, disability income, profit sharing trust and other employee benefits along with his spouse for the duration of his life and the life of his spouse. The employment agreement also provides that, for ESSI's 2005 fiscal year, Mr. Gerhardt shall receive a stock option award based on 22,500 shares of ESSI common stock. Mr. Gerhardt elected to forgo this stock option award for fiscal 2005. If the agreement is terminated by ESSI other than for cause, Mr. Gerhardt is entitled to termination pay equal to his base salary upon the date of termination payable over 12 months. Additionally, during the 12-month period, Mr. Gerhardt (and his eligible family members) are entitled to continue to participate in and receive certain standard employee benefits. The agreement prohibits Mr. Gerhardt from competing with ESSI for a period of two years after termination of employment. In the event of a change in control of ESSI, Mr. Gerhardt is entitled to receive a lump sum cash payment in an amount equal to 2.99 times his average compensation for the prior five fiscal years of employment with ESSI. Upon consummation of the merger with DRS, Mr. Gerhardt will receive a payment totaling approximately $1,970,410. PRESIDENT AND CHIEF OPERATING OFFICER. Under Mr. Rodrigues' employment agreement, he serves as President and Chief Operating Officer until April 10, 2008. Thereafter, the agreement automatically renews for successive one-year periods unless he or ESSI gives notice to terminate the agreement at least 30 days prior to the expiration of the term. The agreement may be terminated at any time by Mr. Rodrigues upon not less than 90 days' written notice, or by ESSI at any time with or without cause. Under the terms of the employment agreement, Mr. Rodrigues is paid a base annual salary of $400,000 and 61 receives an annual incentive bonus payment. In addition, Mr. Rodrigues is entitled to: (a) reimbursement of reasonable and necessary expenses incurred in the interest of the business of ESSI; (b) a car allowance as determined by ESSI's board; (c) payment of Mr. Rodrigues' country club membership and other membership privileges as approved by ESSI's board; and (d) participate in ESSI's medical, life insurance, accidental death, disability income, profit sharing trust and other employee benefits on the same basis as other employees as ESSI. The employment agreement also provides that, for ESSI's 2005 fiscal year, Mr. Rodrigues shall receive a stock option award based on 142,500 shares of ESSI common stock. If the agreement is terminated by ESSI other than for cause, Mr. Rodrigues is entitled to termination pay equal to his base salary upon the date of termination payable over 12 months. Additionally, during the 12-month period, Mr. Rodrigues (and his eligible family members) are entitled to continue to participate in and receive certain standard employee benefits. The agreement prohibits Mr. Rodrigues from competing with ESSI for a period of two years after termination of employment. In the event of a change in control of ESSI, Mr. Rodrigues is entitled to receive a lump sum cash payment in an amount equal to 2.99 times his average compensation for the prior five fiscal years of employment with ESSI. Upon consummation of the merger with DRS, Mr. Rodrigues will receive a payment totaling $933,977. PRESIDENT, BUSINESS DEVELOPMENT. Under Mr. Jura's employment agreement, he serves as President, Business Development until October 31, 2007. The initial term of the agreement can be extended upon mutual written agreement between Mr. Jura and ESSI. The agreement may be terminated at any time by ESSI if it gives notice to terminate the agreement at least 30 days prior to the expiration of the term. The agreement may be terminated at any time by Mr. Jura upon not less than 90 days' written notice, or by ESSI at any time with or without cause. Under the terms of the employment agreement, Mr. Jura is paid a base annual salary of $229,500 and receives an annual incentive bonus payment. In addition, Mr. Jura is entitled to: (a) reimbursement of reasonable and necessary expenses incurred in the interest of the business of ESSI; (b) a car allowance as determined by ESSI's board; (c) payment of Mr. Jura's country club membership; and (d) participate in ESSI's medical, life insurance, accidental death, disability income, profit sharing trust and other employee benefits on the same basis as other employees as ESSI. The employment agreement also provides that, for ESSI's 2005 fiscal year, Mr. Jura shall receive a stock option award based on 60,000 shares of ESSI common stock. If the agreement is terminated by ESSI other than for cause, Mr. Jura is entitled to termination pay equal to his base salary upon the date of termination payable over 12 months. Additionally, during the 12-month period, Mr. Jura (and his eligible family members) are entitled to continue to participate in and receive certain standard employee benefits. The agreement prohibits Mr. Jura from competing with ESSI for a period of two years after termination of employment. The agreement provides that if Mr. Jura's employment is terminated under certain circumstances following a change in control of ESSI, Mr. Jura is entitled to receive cash severance payments equal to his base salary payable over 12 months. SENIOR VICE PRESIDENT, CONTROLLER AND CHIEF ACCOUNTING OFFICER. Under Mr. Landmann's employment agreement, he serves as Senior Vice President, Controller and Chief Accounting Officer until October 31, 2007. The agreement may be terminated at any time by ESSI if it gives notice to terminate the agreement at least 30 days prior to the expiration of the term. The agreement may be terminated at any time by Mr. Landmann upon not less than 90 days' written notice, or by ESSI at any time with or without cause. Under the terms of the employment agreement, Mr. Landmann is paid a base annual salary of $220,000 and receives an annual incentive bonus payment. In addition, Mr. Landmann is entitled to: (a) reimbursement of reasonable and necessary expenses incurred in the interest of the business of ESSI; (b) a car allowance as determined by ESSI's board; (c) payment of Mr. Landmann's country club membership; and (d) participate in ESSI's medical, life insurance, accidental death, disability income, profit sharing trust and other employee benefits on the same basis as other employees as ESSI. The employment agreement also provides that, for ESSI's 2005 fiscal year, Mr. Landmann shall receive a stock option award based on 60,000 shares of ESSI common stock. If the agreement is terminated by ESSI other than for cause, Mr. Landmann is entitled to termination pay equal to his base salary upon the date of termination payable over 12 months. Additionally, during the 12-month period, Mr. Landmann (and his eligible family members) are entitled to continue to participate in and receive certain standard employee benefits. 62 The agreement prohibits Mr. Landmann from competing with ESSI for a period of two years after termination of employment. The agreement provides that if Mr. Landmann's employment is terminated under certain circumstances following a change in control of ESSI, Mr. Landmann is entitled to receive cash severance payments equal to his base salary payable over 12 months. CONSULTING AGREEMENTS ESSI has consulting agreements with certain former executive officers. The terms and conditions of those agreements with the Non-Executive Chairman of the Board and its former President, Business Development are summarized below. NON-EXECUTIVE CHAIRMAN OF THE BOARD. Mr. Shanahan retired as ESSI's executive Chairman on April 30, 2005 at which time the employment agreement executed on November 1, 2004 was terminated. Mr. Shanahan entered a consulting agreement, dated May 1, 2005, under which he provides consulting and advisory services pertaining to the business and operations of ESSI and serves as the Non-Executive Chairman of the Board. The initial term of the agreement continues through April 30, 2006 and the agreement automatically renews for an additional one-year period through April 30, 2007, unless terminated by Mr. Shanahan upon written notice at least 30 days prior to the expiration of the initial term. Thereafter, the agreement automatically renews for successive one-year periods unless terminated by either party upon written notice of at least 30 days prior to the expiration of the then-current term. The agreement may be terminated at any time by Mr. Shanahan upon not less than 30 days' written notice, or by ESSI at any time with or without cause. If the consulting agreement is terminated by ESSI without cause, Mr. Shanahan is entitled to receive all compensation and benefits through the latter of the expiration of the second term extending until April 30, 2007, or the renewal term in effect at the time of termination, and other such considerations as is expressly provided for in the agreement. Mr. Shanahan's consulting fee under the agreement is $62,500 per month. The agreement also provides for payments in the amount of $52,500 per month for 24 consecutive months to Mr. Shanahan's designated beneficiary if Mr. Shanahan's death occurs during the period that the agreement is in effect, as well as payments in the amount of $52,500 per month for a period not to exceed 60 consecutive months if Mr. Shanahan becomes disabled during the period that the agreement is in effect. Additionally, the agreement provides that, upon a termination of the agreement by Mr. Shanahan by written notice, or upon a termination by ESSI without cause, or in the event that either party determines not to renew the agreement for any reason, ESSI will pay Mr. Shanahan $52,500 per month for 24 months following termination of the agreement. In addition to the consulting fee, Mr. Shanahan is entitled to: (a) reimbursement of reasonable and necessary expenses incurred in the interest of the business of ESSI,; (b) a car allowance of not less than $1,800 per month: (c) participate in ESSI's medical and dental insurance programs along with his spouse for the duration of his life and the life of his spouse; and (d) participate in ESSI's life insurance, accidental death and disability income benefit programs on the same basis as other executives of ESSI. The agreement also contains non-compete and non-diversion covenants that extend for so long as the agreement is in effect and during such period after any termination that Mr. Shanahan is receiving compensation from ESSI under the agreement. In the event that ESSI was sold or merged with another firm, Mr. Shanahan's previously existing employment agreement provided for a change in control benefit consisting of a lump sum cash payment in the amount of 2.99 times Mr. Shanahan's average annual compensation for his prior five fiscal years of employment with ESSI. In connection with the approval of the merger agreement with DRS, ESSI's board of directors approved the recommendation of the board's compensation committee for ESSI to pay a success fee of $5.0 million to Mr. Shanahan upon consummation of the merger. The payment will be made pursuant to a memorandum of understanding, dated April 30, 2005, between ESSI and Mr. Shanahan. The memorandum of understanding required ESSI to negotiate in good faith with Mr. Shanahan the amount of a reasonable success fee as compensation for Mr. Shanahan's consulting services, pursuant to his consulting agreement, in connection with a possible sale of ESSI. 63 BUSINESS DEVELOPMENT CONSULTANT. ESSI's former President, Business Development, Ronald W. Davis, retired from this position in June 2005. Mr. Davis entered into a consulting agreement dated June 1, 2005 under which Mr. Davis provides consulting and advisory services pertaining to transitioning his prior position to a successor and other duties reasonably requested from ESSI's board from time to time. The initial term of the agreement continues through May 31, 2006. The agreement automatically renews for successive one-year periods unless terminated by either party upon written notice at least 30 days prior to the expiration of the current term. The agreement may be terminated at any time by Mr. Davis upon not less than 30 days' written notice, or by ESSI at any time with or without cause. Mr. Davis's consulting fee under the agreement is $210 per hour, or $1,680 per day if he performs services for eight or more hours on a given day. If the consulting agreement with Mr. Davis is terminated by ESSI without cause, Mr. Davis would be entitled to receive all compensation and benefits through the effective date of termination, along with $14,333 per month for 12 months following termination of the agreement. In addition to the consulting fee, Mr. Davis is entitled to: (a) reimbursement of reasonable and necessary expenses incurred in the interest of the business of ESSI; (b) a car allowance of not less than $1,000 per month; and (c) participate in ESSI's medical and dental insurance programs for the duration of his life and the life of his spouse. The agreement also contains non-compete and non-diversion covenants that extend for so long as the agreement is in effect and for two years after termination of the agreement. EXECUTIVE COMPENSATION The following table sets forth the compensation for the past three fiscal years for the five most highly compensated executive officers for the fiscal year ended October 31, 2005: SUMMARY COMPENSATION TABLE

65 OPTION GRANTS IN LAST FISCAL YEAR The following table sets forth information concerning stock option grants made during the fiscal year ended October 31, 2005 to the individuals named in the Summary Compensation Table.

AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR END OPTION VALUES The following table sets forth information concerning the number of exercisable and unexercisable stock options at October 31, 2005 held by the individuals named in the Summary Compensation Table.

66 RETIREMENT PLANS ESSI maintains a defined benefit pension plan providing retirement benefits for certain employees, including officers. Contributions are made on an actuarial group basis, and no specific amount of contributions is set aside for any individual participant. The following table sets forth the approximate annual pension benefit based on years of service and compensation and reflects dollar limitations under the Internal Revenue Code, as amended, which limits the annual benefits which may be paid from a tax-qualified retirement plan.

Of the named executive officers, only Messrs Potthoff and Rodrigues participate in this plan. Estimated credited years of service are as follows: Mr. Potthoff, 31; Mr. Rodrigues, 29. The maximum benefit under the plan is $210,000. For purposes of the retirement plan, an employee's compensation is his Annual Compensation as set forth in the Summary Compensation Table. ESSI also maintains a Supplemental Executive Retirement Plan under which amounts in excess of the qualified plan limitations will be paid from the general funds of ESSI, pursuant to the terms of this plan.

Of the named executive officers, only Mr. Potthoff is eligible to receive amounts pursuant to the Supplemental Executive Retirement Plan. Mr. Potthoff has 31 estimated credited years of service under the plan. 67 DIRECTORS FEES Directors who are not full-time employees of ESSI are paid $1,000 for each meeting of the Board and $500 for each meeting of the committee(s) on which they serve. Committee chairmen receive an additional $500 per meeting. Directors are also paid $2,800 per month during their term. Non-employee directors are reimbursed for expenses incurred in attending meetings. Non-employee directors also receive annual stock option awards in accordance with the Engineered Support Systems, Inc. 2002 Stock Option Plan for Non-Employee Directors. On March 1, 2005, Mssrs. Bush, Carns, Friel, Guilfoil, Kling, Lewi, Robertson, Saint, Shanahan, Jr. and Wims each received an option to acquire 8,438 shares of the Company's common stock at an exercise price of $37.17 per share. Mr. Schaefer received an option on that date to acquire 12,657 shares of the Company's common stock at the same price. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT -------- -------------------------------------------------------------- BENEFICIAL OWNERSHIP OF COMMON STOCK OF THE COMPANY The table below sets forth the number of shares of common stock (the only class of outstanding securities of ESSI) held by each person known to beneficially own 5% or more of ESSI's outstanding common stock as of January 3, 2006.

68 The following table sets forth the number of shares of common stock beneficially owned by (a) each director, (b) each executive officer named in the Summary Compensation Table, and (c) all directors and executive officers as a group as of January 3, 2006:

EQUITY COMPENSATION PLAN INFORMATION Information regarding ESSI's equity compensation plans is included under Part II, Item 5 of this Annual Report on Form 10-K. CHANGE IN CONTROL On September 21, 2005, ESSI and DRS entered into a definitive agreement which provides for the acquisition by DRS of all the outstanding common stock of ESSI for approximately $1.9 billion, or $43.00 per share (subject to possible adjustment), through a combination of cash and DRS common stock. Pending customary regulatory approvals and other closing conditions, including approval by ESSI and DRS shareholders, the transaction is expected to close before March 31, 2006. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS -------- ---------------------------------------------- Huntleigh McGehee served as broker on substantially all of ESSI's insurance policies in fiscal 2005. Total commissions earned by Huntleigh McGehee on insurance premiums paid by ESSI in fiscal 2005 were $1,519,000. Michael F. Shanahan, Jr. owns a majority of Huntleigh McGehee's outstanding stock and has served as the President and Chief Executive Officer of Huntleigh McGehee since July 2004. As a result of contractual arrangements between Mr. Shanahan and the other stockholders of Huntleigh McGehee, Mr. Shanahan has not received any compensation, either as shareholder or officer of Huntleigh McGehee, as a result of insurance brokerage services paid by ESSI to Huntleigh McGehee in fiscal 2005. Mr. Shanahan is a director of ESSI, the son of Michael F. Shanahan, Sr., non-executive Chairman of the Board of ESSI, and the son-in-law of director Earl W. Wims. ESSI paid David D. Mattern $462,300 in fees during fiscal 2005 for his services as Secretary and General Counsel of ESSI. Mr. Mattern is the son-in-law of Michael F. Shanahan, Sr., non-executive Chairman of the Board of ESSI. The Audit Committee of the Board of Directors has formally approved all related party transactions. 70 ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES -------- -------------------------------------- PricewaterhouseCoopers LLP, an independent registered public accounting firm, has been the auditors of the accounts of ESSI since 1991, including the fiscal year ended October 31, 2005. PricewaterhouseCoopers LLP has informed ESSI that it does not have any direct financial interest in ESSI and that it has not had any direct connection with ESSI as either a promoter, an underwriter, a director, an officer or an employee. The following table sets forth the aggregate fees for professional audit services for the audit of the financial statements for the fiscal years ended October 31, 2005 and 2004 and fees billed for other services during those fiscal years by PricewaterhouseCoopers LLP. All fees include in the table below have been pre-approved by the Audit Committee. 2005 2004 ---- ---- Audit fees (1) ................ $1,190,000 $488,200 Audit-related fees (2)......... 291,500 153,225 Tax fees (3)................... 221,870 234,550 All other fees ................ - - ---------- -------- Total ......................... $1,703,370 $875,975 ========== ======== -------- (1) Audit fees consisted of audit work performed in the preparation of financial statements, including $580,000 and $0, respectively, for Sarbanes-Oxley Section 404 internal control procedures in fiscal 2005 and 2004, as well as work generally only the independent auditors can reasonably be expected to provide, such as statutory audits. (2) Audit related fees consisted of the following: $68,000 and $82,400 in fiscal 2005 and 2004, respectively, for employee benefit plan audits; $2,500 and $2,500 in fiscal 2005 and 2004, respectively, for Form S-8 consents; $0 and $62,125, respectively, in fiscal 2005 and 2004 for readiness efforts related to Sarbanes-Oxley Section 404 internal control procedures; $11,000 and $0 in fiscal 2005 and 2004, respectively, related to Spacelink Form 8-K procedures; $200,000 in fiscal 2005 for services performed in connection with ESSI's pending merger transaction with DRS; and, $10,000 and $10,450 in fiscal 2005 and 2004, respectively, for out-of-pocket expenses. (3) Tax fees consisted of assistance with matters related to tax compliance and consulting. POLICY REGARDING THE APPROVAL OF INDEPENDENT AUDITOR PROVISION OF AUDIT AND NON-AUDIT SERVICES Consistent with Securities and Exchange Commission requirements regarding auditor independence, the Audit Committee has adopted a policy to pre-approve all audit and permissible non-audit services provided by the independent auditor. Under the policy, the Committee must pre-approve services prior to commencement of the specified service. The requests for pre-approval are submitted to the Audit Committee by the Vice Chairman and Chief Financial Officer or his designee with a statement as to whether in their view the request is consistent with the Securities and Exchange Commission's rules on auditor independence. PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENTS AND SCHEDULES -------- -------------------------------------------- (a)(1) Financial Statements. See Item 8 above. (2) The following financial statement schedule is included as Exhibit 99.1. 71 Schedule II -Valuation and Qualifying Accounts - years ended October 31, 2005, 2004 and 2003 All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted. (3) Exhibits. Lists of Exhibits (listed by numbers corresponding to exhibit table of Item 601 in regulation S-K) 2.1 Agreement and Plan of Merger dated as of September 21, 2005, among Engineered Support Systems, Inc., DRS Technologies, Inc. and Maxco, Inc. (21) 3.1 Articles of Incorporation of Engineered Support Systems, Inc. (1) 3.2 Amendment of Articles of Incorporation (5) 3.3 Amendment of Articles of Incorporation 3.4 Amended and Restated By-Laws of Engineered Support Systems, Inc. (5) 4.1 Amended and Restated Credit Agreement dated as of January 27, 2005 among Engineered Support Systems, Inc., as the Borrower, Bank of America, N.A. and the Other Lenders Party Hereto (3) 4.2 Engineered Air Systems, Inc. Employee Stock Ownership Plan, subsequently renamed the Engineered Support Systems, Inc. Employee Stock Ownership Plan (4) 4.3 Engineered Support Systems, Inc. 2000 Stock Option Plan (6) 4.4 Engineered Support Systems, Inc. 2000 Stock Option Plan for Nonemployee Directors (7) 4.5 Engineered Support Systems, Inc. Employee Stock Purchase Plan (8) 4.6 Engineered Support Systems, Inc. Stock Purchase Plan for Nonemployee Directors (9) 4.7 Engineered Support Systems, Inc. 2002 Stock Option Plan (10) 4.8 Engineered Support Systems, Inc. 2002 Stock Option Plan for Non-Employee Directors (11) 4.9 Engineered Support Systems, Inc. 2002 Non-Executive Stock Option Plan (12) 4.10 Engineered Support Systems, Inc. 2003 Stock Option Plan (13) 4.11 Engineered Support Systems, Inc. 2003 Non-Executive Stock Option Plan (14) 4.12 Engineered Support Systems, Inc. 2004 Stock Option Plan (16) 4.13 Engineered Support Systems, Inc. 2004 Non-Executive Stock Option Plan (17) 4.14 Engineered Support Systems, Inc. 2005 Non-Executive Stock Option Plan (18) 10.1 Employment Agreement with Gerald A. Potthoff (15) 10.2 Employment Agreement with Gary C. Gerhardt (15) 10.3 Employment Agreement with Daniel A. Rodrigues (19) 10.4 Consulting Agreement with Michael F. Shanahan, Sr. (19) 72 10.5 Consulting Agreement with Ronald W. Davis (20) 10.6 Employment Agreement with Dan D. Jura 10.7 Employment Agreement with Steven J. Landmann 10.8 Form of Indemnification Agreement with Directors (2) 10.9 Engineered Support Systems, Inc. Executive Incentive Performance Plan (15) 10.10 Memorandum of Understanding, dated as of April 30, 2005, issued by Engineered Support Systems, Inc. to Michael F. Shanahan, Sr. (21) 10.11 Form of Purchase Agreement by and between Engineered Support Systems, Inc. and Spacelink International LLC, Spacelink International LTD and SatComSolutions LLC dated December 9, 2004 (15) 10.12 Form of Stock Purchase Agreement by and between Prospective Computer Analysts Incorporated, Edward Wenger, The Lauren Wenger 2004 GRAT, The Eric Wenger 2004 GRAT, the Mitchell Wenger 2004 GRAT and Engineered Support Systems, Inc. (15) 11 Statement Re: Computation of Earnings Per Share 21 Subsidiaries of Registrant 23 Consent of PricewaterhouseCoopers LLP, Independent Registered Public Accounting Firm 31.1 Certification of Chief Executive Officer 31.2 Certification of Chief Financial Officer 32.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2 Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99.1 Valuation and Qualifying Accounts (Schedule II) (1) This information is incorporated by reference from Form S-1 Registration Statement filed on July 10, 1985, registration number 2-98909 as amended on August 13, 1985 and August 21, 1985. (2) This information is incorporated by reference from Form 10-K Annual Report filed on January 30, 1989. (3) This information is incorporated by reference from Form 8-K filed on February 2, 2005. (4) This information is incorporated by reference from Form S-8 registration statement, effective June 11, 1987, registration number 33-14504. (5) This information is incorporated by reference from Form 10-K Annual Report filed on January 30, 2004. (6) This information is incorporated by reference from Form S-8 registration statement, effective September 1, 2000, registration number 333-45022. (7) This information is incorporated by reference from Form S-8 registration statement, effective September 1, 2000, registration number 333-45020. (8) This information is incorporated by reference from Form S-8 registration statement, effective June 29, 2001, registration number 333-64126. (9) This information is incorporated by reference from Form S-8 registration statement, effective July 20, 2001, registration number 333-65490. 73 (10) This information is incorporated by reference from Form S-8 registration statement, effective August 9, 2002, registration number 333-97859. (11) This information is incorporated by reference from Form S-8 registration statement, effective August 9, 2002, registration number 333-97861. (12) This information is incorporated by reference from Form S-8 registration statement, effective November 12, 2002, registration number 333-101161. (13) This information is incorporated by reference from Form S-8 registration statement, effective October 31, 2003, registration number 333-110166. (14) This information is incorporated by reference from Form S-8 registration statement, effective October 31, 2003, registration number 333-110165. (15) This information is incorporated by reference from Form 10-K Annual Report filed on January 14, 2005. (16) This information is incorporated by reference from Form S-8 registration statement, effective June 22, 2004, registration number 333-116743. (17) This information is incorporated by reference from Form S-8 registration statement, effective June 22, 2004, registration number 333-116744. (18) This information is incorporated by reference from Form S-8 registration statement, effective July 7, 2005, registration number 333-126442. (19) This information is incorporated by reference from Form 8-K/A filed on May 6, 2005. (20) This information is incorporated by reference from Form 8-K filed on June 22, 2005. (21) This information incorporated by reference from Form 8-K filed on September 27, 2005. (b) Exhibits See list of Exhibits in this Part IV, Item 15(a)(3) above. (c) Financial Statement Schedules See Part IV, Item 15(a)(2) above. 74 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this annual report to be signed on its behalf by the undersigned thereunto duly authorized. ENGINEERED SUPPORT SYSTEMS, INC. Dated: January 9, 2006 By: /s/ Gary C. Gerhardt ----------------- -------------------------------------- GARY C. GERHARDT Vice Chairman and Chief Financial Officer Pursuant to the requirements of the Securities and Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

77 ENGINEERED SUPPORT SYSTEMS, INC. EXHIBIT INDEX Lists of Exhibits (listed by numbers corresponding to exhibit table of Item 601 in regulation S-K) 2.1 Agreement and Plan of Merger dated as of September 21, 2005, among Engineered Support Systems, Inc., DRS Technologies, Inc. and Maxco, Inc. (21) 3.1 Articles of Incorporation of Engineered Support Systems, Inc. (1) 3.2 Amendment of Articles of Incorporation (5) 3.3 Amendment of Articles of Incorporation 3.4 Amended and Restated By-Laws of Engineered Support Systems, Inc. (5) 4.1 Amended and Restated Credit Agreement dated as of January 27, 2005 among Engineered Support Systems, Inc., as the Borrower, Bank of America, N.A. and the Other Lenders Party Hereto (3) 4.2 Engineered Air Systems, Inc. Employee Stock Ownership Plan, subsequently renamed the Engineered Support Systems, Inc. Employee Stock Ownership Plan (4) 4.3 Engineered Support Systems, Inc. 2000 Stock Option Plan (6) 4.4 Engineered Support Systems, Inc. 2000 Stock Option Plan for Non-Employee Directors (7) 4.5 Engineered Support Systems, Inc. Employee Stock Purchase Plan (8) 4.6 Engineered Support Systems, Inc. Stock Purchase Plan for Non-Employee Directors (9) 4.7 Engineered Support Systems, Inc. 2002 Stock Option Plan (10) 4.8 Engineered Support Systems, Inc. 2002 Stock Option Plan for Non-Employee Directors (11) 4.9 Engineered Support Systems, Inc. 2002 Non-Executive Stock Option Plan (12) 4.10 Engineered Support Systems, Inc. 2003 Stock Option Plan (13) 4.11 Engineered Support Systems, Inc. 2003 Non-Executive Stock Option Plan (14) 4.12 Engineered Support Systems, Inc. 2004 Stock Option Plan (16) 4.13 Engineered Support Systems, Inc. 2004 Non-Executive Stock Option Plan (17) 4.14 Engineered Support Systems, Inc. 2005 Non-Executive Stock Option Plan (18) 10.1 Employment Agreement with Gerald A. Potthoff (15) 10.2 Employment Agreement with Gary C. Gerhardt (15) 10.3 Employment Agreement with Daniel A. Rodrigues (19) 10.4 Consulting Agreement with Michael F. Shanahan, Sr. (19) 10.5 Consulting Agreement with Ronald W. Davis (20) 10.6 Employment Agreement with Dan D. Jura 78 10.7 Employment Agreement with Steven J. Landmann 10.8 Form of Indemnification Agreement with Directors (2) 10.9 Engineered Support Systems, Inc. Executive Incentive Performance Plan (15) 10.10 Memorandum of Understanding, dated as of April 30, 2005, issued by Engineered Support Systems, Inc. to Michael F. Shanahan, Sr. (21) 10.11 Form of Purchase Agreement by and between Engineered Support Systems, Inc. and Spacelink International LLC, Spacelink International LTD and SatComSolutions LLC dated December 9, 2004 (15) 10.12 Form of Stock Purchase Agreement by and between Prospective Computer Analysts Incorporated, Edward Wenger, The Lauren Wenger 2004 GRAT, The Eric Wenger 2004 GRAT, the Mitchell Wenger 2004 GRAT and Engineered Support Systems, Inc. (15) 11 Statement Re: Computation of Earnings Per Share 21 Subsidiaries of Registrant 23 Consent of PricewaterhouseCoopers LLP, Independent Registered Public Accounting Firm 31.3 Certification of Chief Executive Officer 31.4 Certification of Chief Financial Officer 32.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2 Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99.1 Valuation and Qualifying Accounts (Schedule II) (1) This information is incorporated by reference from Form S-1 Registration Statement filed on July 10, 1985, registration number 2-98909 as amended on August 13, 1985 and August 21, 1985. (2) This information is incorporated by reference from Form 10-K Annual Report filed on January 30, 1989. (3) This information is incorporated by reference from Form 8-K filed February 2, 2005. (4) This information is incorporated by reference from Form S-8 registration statement, effective June 11, 1987, registration number 33-14504. (5) This information is incorporated by reference from Form 10-K Annual Report filed on January 30, 2004. (6) This information is incorporated by reference from Form S-8 registration statement, effective September 1, 2000, registration number 333-45022. (7) This information is incorporated by reference from Form S-8 registration statement, effective September 1, 2000, registration number 333-45020. (8) This information is incorporated by reference from Form S-8 registration statement, effective June 29, 2001, registration number 333-64126. (9) This information is incorporated by reference from Form S-8 registration statement, effective July 20, 2001, registration number 333-65490. (10) This information is incorporated by reference from Form S-8 registration statement, effective August 9, 2002, registration number 333-97859. (11) This information is incorporated by reference from Form S-8 registration statement, effective August 9, 2002, registration number 333-97861. 79 (12) This information is incorporated by reference from Form S-8 registration statement, effective November 12, 2002, registration number 333-101161. (13) This information is incorporated by reference from Form S-8 registration statement, effective October 31, 2003, registration number 333-110166. (14) This information is incorporated by reference from Form S-8 registration statement, effective October 31, 2003, registration number 333-110165. (15) This information is incorporated by reference from Form 10-K Annual Report filed on January 14, 2005. (16) This information is incorporated by reference from Form S-8 registration statement, effective June 22, 2004, registration number 333-116743. (17) This information is incorporated by reference from Form S-8 registration statement, effective June 22, 2004, registration number 333-116744. (18) This information is incorporated by reference from Form S-8 registration statement, effective July 7, 2005, registration number 333-126442. (19) This information is incorporated by reference from Form 8-K/A filed on May 6, 2005. (20) This information is incorporated by reference from Form 8-K filed on June 22, 2005. (21) This information incorporated by reference from Form 8-K filed on September 27, 2005. 80

Filing Compare · ENGINEERED SUPPORT SYSTEMS INC