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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2013

Commission File Number: 1-11376

 

 

The Allied Defense Group, Inc.

(Exact name of Registrant as specified in its charter)

 

 

 

Delaware		04-2281015
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Number)

120 E. Baltimore Street, Suite 2100

Baltimore, MD 21202

(Address of principal executive offices, including zip code)

(410) 385-8155

(Registrant’s telephone number, including area code)

 

 

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 requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer		¨		Accelerated filer		¨
Non-accelerated filer		¨  (Do not check if a smaller reporting company)		Smaller reporting company		x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  x    No  ¨

The number of shares of registrant’s Common Stock outstanding as of July 31, 2013 was 8,235,195.

 

 

 

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THE ALLIED DEFENSE GROUP, INC.

INDEX

 

		PAGE
		NUMBER
PART I. FINANCIAL INFORMATION — UNAUDITED
Item 1. Financial Statements (Unaudited)
Consolidated Statements of Net Assets as of June 30, 2013 and December  31, 2012 (Liquidation Basis)			2
Consolidated Statements of Changes in Net Assets for the three and six months ended June  30, 2013 (Liquidation Basis)			3
Notes to Unaudited Condensed Consolidated Financial Statements (Liquidation Basis)			4
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			8
Item 3. Quantitative and Qualitative Disclosures About Market Risk			13
Item 4. Controls and Procedures			13
PART II. OTHER INFORMATION
Item 1. Legal Proceedings			13
Item 1A. Risk Factors			14
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			14
Item 3. Defaults Upon Senior Securities			14
Item 4. Mine Safety Disclosures			14
Item 5. Other Information			14
Item 6. Exhibits			14
Signatures			15

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The Allied Defense Group, Inc.

CONSOLIDATED STATEMENTS OF NET ASSETS (Liquidation Basis)

(Thousands of Dollars, except per share and share data)

 

		June 30, 2013
		Unaudited				December 31, 2012
ASSETS
Cash and cash equivalents		$	8,232			$	1,079
Short-term investments			20,734				28,604
Accrued interest receivable			333				330
Funds held in escrow			15,016				15,013
TOTAL ASSETS			44,315				45,026
LIABILITIES
Estimated net costs to be incurred during liquidation			908				1,577
Accounts payable			37				95
Other liabilities			101				98
TOTAL LIABILITIES			1,046				1,770
NET ASSETS IN LIQUIDATION		$	43,269			$	43,256
NUMBER OF SHARES OUTSTANDING			8,235,195				8,235,195
NET ASSETS IN LIQUIDATION PER SHARE		$	5.25			$	5.25

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

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The Allied Defense Group, Inc.

CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS (Liquidation Basis)

(Unaudited)

(Thousands of Dollars)

 

		Three Months Ended				Six Months Ended
		June 30, 2013				June 30, 2013
Net assets in liquidation at beginning of period		$	43,027			$	43,256
Changes in fair value of net assets in liquidation
Adjust net assets to fair value			(11	)			2
Decrease in estimated net costs to be incurred during liquidation			256				14
Adjust estimated income to be earned during liquidation			(3	)			(3	)
Net assets in liquidation at end of period		$	43,269			$	43,269

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

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The Allied Defense Group, Inc.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Liquidation Basis)

June 30, 2013

(Thousands of Dollars)

NOTE 1 — DESCRIPTION OF BUSINESS

Business Operations

The Allied Defense Group Inc. (“Allied” or the “Company”), a Delaware corporation, previously conducted a multinational defense business focused on the manufacture and sale of ammunition and ammunition related products for use by the U.S. and foreign governments. Allied’s business was conducted by its two wholly-owned subsidiaries: MECAR sprl, formerly Mecar S.A. (“Mecar”), and ADG Sub USA, Inc., formerly Mecar USA, Inc. (“Mecar USA”).

Plan of Dissolution and Liquidation

On June 24, 2010, the Company signed a definitive purchase and sale agreement (the “Agreement”) with Chemring Group PLC (“Chemring”) pursuant to which Chemring agreed to acquire substantially all of the assets of the Company for $59,560 in cash and the assumption of certain liabilities. On September 1, 2010, the Company completed the asset sale to Chemring contemplated by the Agreement. Pursuant to the Agreement, Chemring acquired all of the capital stock of Mecar for approximately $45,810 in cash, and separately Chemring acquired substantially all of the assets of Mecar USA for $13,750 in cash and the assumption by Chemring of certain specified liabilities of Mecar USA. A portion of the purchase price was paid through the repayment of certain intercompany indebtedness owed to the Company that would otherwise have been cancelled at closing. $15,000 of the proceeds of the sale was deposited into escrow to secure the Company’s indemnification obligations under the Agreement.

In conjunction with the Agreement, the Board of Directors of the Company unanimously approved the dissolution of the Company pursuant to a Plan of Complete Liquidation and Dissolution (“Plan of Dissolution”). The Company’s stockholders approved the Plan of Dissolution on September 30, 2010. In response to concerns of certain of the Company’s stockholders, the Company agreed to delay the filing of a certificate of dissolution with the Delaware Secretary of State. The Company filed a certificate of dissolution with the Delaware Secretary of State on August 31, 2011. In connection with this filing, our stock transfer agent has ceased recording transfers of our stock and our stock is no longer publicly traded.

NOTE 2 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

Liquidation Basis of Accounting

With the authorization of the Plan of Dissolution, the Company adopted the liquidation basis of accounting effective as of the close of business on September 30, 2010. The liquidation basis of accounting will continue to be used by the Company until such time that the plan is terminated and all net assets have been distributed to shareholders.

Under the liquidation basis of accounting, the carrying amounts of assets as of the close of business on September 30, 2010, the date of the authorization of the Plan of Dissolution by the Company, were adjusted to their estimated net realizable values and liabilities, including the estimated costs associated with implementing the Plan of Dissolution, were stated at their estimated settlement amounts. Such value estimates were updated by the Company as of June 30, 2013 and December 31, 2012.

Consolidated Statements of Net Assets (Liquidation Basis) and Changes in Net Assets (Liquidation Basis) are the financial statements presented under the liquidation basis of accounting. The valuations of assets at their net realizable values and liabilities at their anticipated settlement amounts represent estimates, based on present facts and circumstances associated with carrying out the Plan of Dissolution based on the assumptions set forth below. The actual values and costs associated with carrying out the Plan of Dissolution are expected to differ from the amounts shown herein because of the inherent uncertainty of the estimates. Such differences may be material. In particular, the estimates of the Company’s liquidation costs will vary with the length of time it operates under the Plan of Dissolution. Accordingly, it is not possible to predict the aggregate amount or timing of future distributions to stockholders, as long as the Plan of Dissolution is in effect and no assurance can be given that the amount of liquidating distributions to be received will equal or exceed the estimate of net assets in liquidation presented in the accompanying Consolidated Statements of Net Assets (Liquidation Basis).

 

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The Allied Defense Group, Inc.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Liquidation Basis)

June 30, 2013

(Thousands of Dollars)

 

The estimated net costs to be incurred during liquidation as of June 30, 2013 are as follows:

 

Compensation for employees and directors		$	131
Compliance costs			94
Insurance fees			210
Professional fees			650
Income taxes			(132	)
Subtotal			953
Less: interest income on cash and investment balances			(45	)
Net costs to be incurred during liquidation		$	908

These estimates are based on assumptions regarding the Company’s ability to settle outstanding obligations to creditors and the ultimate timing of distributions to its stockholders, but does not include any settlement amounts, fines or penalties, if any, that the Company might incur as a result of any legal proceedings. These estimates are reviewed quarterly and adjusted as projections and assumptions change.

Principles of Consolidation

As of June 30, 2013, the consolidated financial statements of the Company include the accounts of Allied and its wholly-owned subsidiaries, which are as follows:

 

•

ARC Europe, a Belgian company,

 

•

Allied Research BV (“BV”), a Dutch company,

 

•

Allied Research Cooperative (“Coop”) and,

 

•

ADG Sub USA, Inc. (“Mecar USA”)

Fair Value of Financial Instruments

The Company values its assets and liabilities using the methods of fair-value as described in ASC 820, Fair Value Measurements and Disclosures. In accordance with ASC 820, the Company determines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.

ASC 820 establishes a fair value hierarchy that prioritizes the inputs used to measure fair value. The hierarchy gives the highest priority to active markets for identical assets and liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3 measurement). We classify fair value balances based on the observability of those inputs. The three levels of the fair value hierarchy are as follows:

 

•

Level 1 – Observable inputs such as quoted prices in active markets for identical assets or liabilities.

 

•

Level 2 – Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active and amounts derived from valuation models where all significant inputs are observable in active markets.

 

•

Level 3 – Unobservable inputs that reflect management’s assumptions.

 

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The Allied Defense Group, Inc.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Liquidation Basis)

June 30, 2013

(Thousands of Dollars)

 

NOTE 3 — SHORT-TERM INVESTMENTS

Cash in excess of funds required for immediate use by the Company has been invested with the primary goal to preserve capital. As such, the funds are invested in short-term, high-quality, fixed-income securities and are accounted for at fair value. As of June 30, 2013 and December 31, 2012, the fair value of these investments was $20,734 and $28,604, respectively, and was included in short-term investments on the Consolidated Statements of Net Assets (Liquidation Basis).

In addition to short-term investments, the Company invests in money market funds which are classified as cash equivalents. Amounts are transferred between short-term investments and money market funds based on investment availability and yield.

NOTE 4 — FAIR VALUE MEASUREMENTS

The following table sets forth the assets measured at fair value on a recurring basis, by input level, in the Consolidated Statement of Net Assets (Liquidation Basis) at June 30, 2013:

 

		Level 1				Level 2				Level 3				Total
Municipal Bonds		$	18,278			$	—			$	—			$	18,278
Certificates of Deposit			2,456				—				—				2,456
Total assets at fair value		$	20,734			$	—			$	—			$	20,734

The following table sets forth the assets and liabilities measured at fair value on a recurring basis, by input level, in the Consolidated Statement of Net Assets (Liquidation Basis) at December 31, 2012:

 

		Level 1				Level 2				Level 3				Total
Municipal Bonds		$	23,697			$	—			$	—			$	23,697
Certificates of Deposit			4,907				—				—				4,907
Total assets at fair value		$	28,604			$	—			$	—			$	28,604

NOTE 5 — INDUSTRY SEGMENTS

Prior to September 2010, the Company operated within two operating segments: Mecar and Mecar USA. In September 2010, the Company completed the divesture of Mecar and Mecar USA. As a result, Allied no longer has operating segments.

NOTE 6 — PROVISION FOR TAXES

The Company recognizes deferred tax liabilities and assets for the expected future tax consequences of events that have been included in the consolidated financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined based on the difference between the consolidated financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the years in which the differences are expected to reverse.

As of December 31, 2010, the Company provided for U.S. tax on foreign earnings of approximately $25,475 that are expected to be repatriated. As of June 30, 2013, approximately $13,757 had been successfully repatriated and the remaining amount will be repatriated upon the release of the escrow.

As of June 30, 2013 and December 31, 2012, the Company had no unrecognized tax benefits. No additional income tax is expected to be payable in repatriating the remaining amount. As of June 30, 2013, the fair value of net deferred tax assets is zero due to full valuation allowance. In early August 2013, the Company received a refund of $132 based on its 2012 US Income Tax Return. For the quarter ended June 30, 2013, there were no interest or penalties recorded.

 

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The Allied Defense Group, Inc.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Liquidation Basis)

June 30, 2013

(Thousands of Dollars)

 

In Belgium, the Company is still open to examination by the Belgian tax authorities from 2009 forward. Currently, the tax years 2009 and 2010 are under examination. The Company does not expect the results of that audit to have a material effect on the Company’s financial statements. In the United States, the Company is still open to examination from 2009 forward, although carryforward tax attributes that were generated prior to 2009 may still be adjusted upon examination by the U.S. tax authorities if they either have been or will be utilized.

NOTE 7 — COMMITMENTS AND CONTINGENCIES

Legal Proceedings

DOJ Subpoena

On January 19, 2010, the Company received a subpoena and communications from the U.S. Department of Justice (“DOJ”) requesting the Company produce documents relating to its dealings with foreign governments. The subpoena stated that it was issued in connection with an ongoing criminal investigation. See Part II – Item 1 for additional information regarding the DOJ proceedings.

Employee Severance Payments

The Company entered into employment agreements with certain management personnel at the Company’s subsidiaries and with certain domestic management personnel. These agreements provided for severance payments in the event of termination under certain conditions. In September 2010, the Company paid $1,650 in satisfaction of its severance obligations to the Company’s management personnel. Employment agreements with employees at Mecar and Mecar USA were assigned as part of the sale transactions. The Company is obligated to pay up to $75 of additional severance payments at the time it makes distributions to stockholders. These expenses are included in the estimated net costs to be incurred during liquidation.

Indemnification provisions

The Company has sold its SeaSpace, Titan, the VSK Group, GMS and NSM subsidiaries in separate transactions starting with the first transaction closing in 2007. In each transaction, the Company agreed to indemnify the purchaser for periods subsequent to closing for losses arising from breaches of representations, warranties and covenants. Indemnification periods varied based on the particular representation, warranty or covenant covered, the vast majority of which have all expired. As of June 30, 2013, the only remaining indemnification obligations relate to representations and warranties concerning taxes, environmental matters, breaches of title, breaches of authorization and fraud. For SeaSpace, Titan, the VSK Group, GMS and NSM, these indemnification provisions have been capped at $1,000, $950, $6,504 (€5,000), $5,200 and $863, respectively. At June 30, 2013, no amount has been accrued related to these indemnifications as a liability is not deemed probable.

On June 24, 2010, the Company signed a definitive purchase and sale agreement with Chemring Group PLC pursuant to which Chemring agreed to acquire substantially all of the assets of the Company for $59,560 in cash and the assumption of certain liabilities. The purchase and sale agreement contains certain indemnification provisions pursuant to which the Company may be required to indemnify the buyer for a period subsequent to the completion of the sale for any and all losses directly or indirectly based upon, related to, arising out of or in connection with Mecar’s completed contracts, Mecar USA liabilities retained by the Company and any failure by the Company to satisfy all transaction related expenses. The Company’s indemnification liability is limited to, and capped at, the escrowed amount of $15,000 plus the accumulated interest. The Company’s indemnification obligations expire upon the earlier of (i) June 30, 2015 and (ii) the Company’s entry into either a court or administrative order or a Chemring-approved settlement agreement, in either case, finally resolving the matters relating to the DOJ’s subpoena. In the absence of such final resolution, in certain circumstances, up to 50% of the escrowed funds may be released. At present, the Company is not entitled to such a partial release of the escrowed funds. At June 30, 2013, no amount has been accrued related to this indemnification as a liability is not deemed probable.

 

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ITEM 2. MANGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

The Allied Defense Group, Inc. (“Allied” or the “Company”) previously conducted a multinational defense business focused on the manufacture and sale of ammunition and ammunition related products for use by the U.S. and foreign governments. Allied’s business was conducted by two wholly-owned subsidiaries: MECAR sprl, formerly MECAR S.A. (“Mecar”), and ADG Sub USA, Inc., formerly MECAR USA, Inc. (“Mecar USA”).

On June 24, 2010, the Company signed a definitive purchase and sale agreement (the “Agreement”) with Chemring Group PLC (“Chemring”) pursuant to which Chemring agreed to acquire substantially all of the assets of the Company for $59.6 million in cash and the assumption of certain liabilities. On September 1, 2010, the Company completed the asset sale to Chemring contemplated by the Agreement. Chemring acquired all of the capital stock of Mecar for $45.8 million in cash, and separately Chemring acquired substantially all of the assets of Mecar USA for $13.8 million in cash and the assumption by Chemring of certain specified liabilities of Mecar USA. A portion of the purchase price was paid through the repayment of certain intercompany indebtedness owed to the Company that would otherwise have been cancelled at closing. $15 million of the proceeds from the sale was deposited into escrow to secure the Company’s indemnification obligations under the Agreement.

In conjunction with the Agreement, the Board of Directors of the Company unanimously approved the dissolution of the Company pursuant to a Plan of Complete Liquidation and Dissolution (“Plan of Dissolution”). The Company’s stockholders approved the Plan of Dissolution on September 30, 2010. In response to concerns of certain of the Company’s stockholders, the Company agreed to delay the filing of a Certificate of Dissolution. The Company filed a Certificate of Dissolution with the Delaware Secretary of State on August 31, 2011. In connection with this filing, our stock transfer agent has ceased recording transfers of our stock and our stock is no longer publicly traded.

In connection with the adoption of the Plan of Dissolution and the anticipated liquidation of the Company, we adopted the liquidation basis of accounting effective the close of business on September 30, 2010, whereby assets are valued at their estimated net realizable cash values and liabilities are stated at their estimated settlement amounts. Uncertainties as to the ultimate amount of our liabilities make it impractical to predict the aggregate net value that may ultimately be distributable to stockholders. Under the liquidation basis of accounting, we accrue for the remaining costs to be incurred during liquidation, including compensation for remaining directors, consultants, insurance costs, fees for professional service providers, income taxes, and miscellaneous other costs, partially offset by estimated future interest earnings. Such net costs were estimated to be $0.908 million as of June 30, 2013. Our estimates are based on assumptions regarding our ability to settle outstanding obligations and the ultimate timing of distributions to our stockholders, but do not include any settlement amounts, fines or penalties, if any, that we might incur as a result of any legal proceedings. Our estimate of net costs only includes costs through December 31, 2013 based on the assumption that the Company will make distributions to stockholders by the end of 2013.

The Company received a subpoena from the DOJ on January 19, 2010 requesting that the Company produce documents relating to its dealings with foreign governments. This subpoena was issued at the same time as the DOJ announced that it had indicted several individuals in connection with a Foreign Corrupt Practices Act (“FCPA”) sting operation, including an employee of MECAR USA. This individual’s employment was promptly terminated. The DOJ initially limited its request of documents to those relating to the former employee of Mecar USA. The DOJ subsequently advised the Company that it was conducting an industry-wide review, and therefore the DOJ’s investigation of the Company was expanded. The Company had also received inquiries from the Securities and Exchange Commission (“SEC”) as to this matter.

In late 2012, the SEC advised that it will not pursue an enforcement action against the Company and in early August 2013, the DOJ advised that it has decided to close its inquiry into this matter.

No distributions to stockholders are expected prior to completion of the Delaware dissolution process which includes notice to creditors and publication of the dissolution, followed by a petition to the Delaware courts. The Company is finalizing the creditor notice process and believes it will be in a position to make an initial distribution to stockholders by the end of 2013.

Furthermore, under the Agreement, the Company has agreed to indemnify Chemring and certain of its related parties from any losses, fines or penalties arising out of, among other things, the completed contracts of Mecar and Mecar USA. We have escrowed $15 million of the cash consideration paid to the Company in the sale to secure our indemnification obligations under the Agreement. These escrowed funds will not be available to the Company for distribution to our stockholders, or otherwise, until released to the Company pursuant to the terms of the Agreement.

 

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Net Assets in Liquidation at June 30, 2013

Net assets in liquidation at June 30, 2013 are $43.269 million compared to $43.256 million at December 31, 2012. The net assets in liquidation per share as of June 30, 2013 and December 31, 2012 are $5.25. The net assets per share as of June 30, 2013 increased to $5.25 as compared to $5.22 as of March 31, 2013.

We expect to use all of our net assets to complete our Plan of Dissolution, which includes settling existing claims against the Company, including current liabilities and accrued expenses, and making cash liquidating distributions to our shareholders. Net assets available for liquidating distributions to shareholders may vary if we incur greater than estimated operating expenses associated with executing the Plan of Dissolution or if there are existing, but unknown claims made against us in the future.

Our estimate of net costs to be incurred during liquidation includes costs through December 31, 2013. We have assumed that we will be in a position to make an initial distribution to stockholders by the end of 2013. To meet this goal we must complete the Delaware law requirements for liquidation, which include creditor notices, newspaper publications and a petition to the Delaware courts. We have initiated the Delaware law proceedings and anticipate completing them in 2013. If we are unable to timely complete the Delaware law proceedings, we will incur additional costs in 2014 and continuing until we complete these matters. Such a delay will further reduce the amount available for distribution to the stockholders.

As of June 30, 2013, cash and cash equivalents increased by approximately $7.2 million and short-term investments decreased by $7.9 from December 31, 2012. The shift between these asset categories is the result of temporarily investing in institutional money market funds (classified as cash equivalents) which at that time provided a higher yield than municipal bonds and certificates of deposit.

Changes in Net Assets in Liquidation During the Three Months Ended June 30, 2013

The table below summarizes the changes in net assets during the three months ended June 30, 2013:

 

		Three Months Ended
		June 30, 2013
Net assets in liquidation at beginning of period		$	43,027
Changes in fair value of net assets in liquidation
Adjust net assets to fair value			(11	)
Decrease in estimated net costs to be incurred during liquidation			256
Adjust estimated income to be earned during liquidation			(3	)
Net assets in liquidation at end of period		$	43,269

 

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The change in net assets in liquidation during the three months ended June 30, 2013 is the net effect of valuation changes to the net assets, changes in the estimated net costs to be incurred during liquidation and changes in the estimated income to be earned during liquidation. Adjusting net assets to fair market value decreased the net assets in liquidation by $0.011 million. The decrease in the estimated net costs to be incurred during liquidation increased the net assets by $0.256 million. Reducing estimated income to be earned during liquidation decreased the net assets in liquidation by $0.003 million. The net effect was an increase of $0.242 million in net assets in liquidation for the three months ended June 30, 2013.

The Company invests only in money market funds and short-term investments with maturities of less than twelve months. At the date of purchase, the amount paid for a short-term investment exceeds the maturity value of the investment. Over the remaining term of the investment the Company receives income at the coupon rate which represents a return of the excess purchase price plus income at the market rate. The current market rate for our investments is between 0.25% and 0.30% per year. Our investment income is the net of the unrealized fair value adjustment and the income received. During the second quarter of 2013, the net investment income was approximately $0.020 million. These amounts were previously accrued as a reduction to the estimated net costs and therefore do not impact the change in the estimated net costs to liquidate.

The table below reconciles the changes during the quarter ended June 30, 2013, in the estimated net costs to be incurred during liquidation:

 

		(in thousands)
		March 31,				Changes in				(Costs Incurred)				June 30,
Estimated Net Costs to be Incurred During Liquidation		2013				Estimates				Income Received				2013
Estimated net costs to be incurred during liquidation:
Compensation for employees and directors		$	164			$	(4	)		$	(29	)		$	131
Compliance costs			141				(3	)			(44	)			94
Insurance fees			210				(1	)			1				210
Professional fees			791				34				(175	)			650
Income taxes			150				(282	)			—				(132	)
Subtotal			1,456				(256	)			(247	)			953
Less: interest income on cash and investment balances			(68	)			3				20				(45	)
Net costs to be incurred during liquidation		$	1,388			$	(253	)		$	(227	)		$	908

The estimate of costs to be incurred in liquidation was decreased by $0.256 million in the second quarter of 2013, primarily as a result of a change in estimated taxes due. Prior to June 2013, the expected tax liability associated with the liquidation accounting was $0.350 million. Of this amount, $0.200 million was paid in 2011. The tax expense was recorded in 2010 and the remaining balance of $0.150 million was a component of estimated net costs to be incurred during liquidation. Due to the significant additional losses incurred in 2012, the Company is expecting a tax refund of $0.132 million with its 2012 US Income Tax Return, and reversed the accrual of $0.150 million, as the Company does not expect to have a future tax liability.

Changes in Net Assets in Liquidation During the Six Months Ended June 30, 2013

The table below summarizes the changes in net assets during the six months ended June 30, 2013:

 

		Six Months Ended
		June 30, 2013
Net assets in liquidation at beginning of period		$	43,256
Changes in fair value of net assets in liquidation
Adjust net assets to fair value			2
Decrease in estimated net costs to be incurred during liquidation			14
Adjust estimated income to be earned during liquidation			(3	)
Net assets in liquidation at end of period		$	43,269

The change in net assets in liquidation during the six months ended June 30, 2013 is the net effect of valuation changes to the net assets, changes in the estimated net costs to be incurred during liquidation and changes in the estimated income to be earned during liquidation. Adjusting net assets to fair market value increased the net assets in liquidation by $0.002 million. The decrease in the estimated net costs to be incurred during liquidation increased the net assets by $0.014 million. Reducing estimated income to be earned during liquidation decreased the net assets in liquidation by $0.003 million. The net effect was an increase of $0.013 million in net assets in liquidation for the six months ended June 30, 2013.

 

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The table below reconciles the changes during the six months ended June 30, 2013, in the estimated net costs to be incurred during liquidation:

 

		(in thousands)
		December 31,				Changes in				(Costs Incurred)				June 30,
Estimated Net Costs to be Incurred During Liquidation		2012				Estimates				Income Received				2013
Estimated net costs to be incurred during liquidation
Compensation for employees and directors		$	193			$	(4	)		$	(58	)		$	131
Compliance and other office costs			236				(19	)			(123	)			94
Insurance fees			210				(1	)			1				210
Professional fees			878				292				(520	)			650
Income taxes			150				(282	)			—				(132	)
Subtotal			1,667				(14	)			(700	)			953
Less: interest income on cash and investment balances			(90	)			3				42				(45	)
Net costs to be incurred during liquidation		$	1,577			$	(11	)		$	(658	)		$	908

There was no significant change in the estimated net costs to be incurred during liquidation during the six months ended June 30, 2013 as a reduction in income taxes offset increased professional fees related to the DOJ inquiry.

Critical Accounting Policies

The Company’s discussion and analysis of its financial condition, results of operations and cash flows are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, sales, and expenses, and related disclosure of contingent assets and liabilities. The Company re-evaluates its estimates on an on-going basis. The Company’s estimates and judgments are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates or judgments under different assumptions or conditions.

The Company believes the following are its critical accounting policies which affect its more significant judgments and estimates used in the preparation of its unaudited condensed consolidated financial statements:

 

•

Estimates of the potential liability associated with litigation and government investigations.

 

•

Estimates of expenses incurred and interest income received during liquidation. Under the liquidation basis of accounting, the Company accrues for the remaining costs to be incurred during liquidation, including compensation for remaining directors, consultants, insurance costs, fees for professional service providers and miscellaneous other costs, partially offset by estimated future interest earnings. These estimates are undiscounted for present value and are based on the assumption that liquidation will occur no later than December 31, 2013.

 

•

Fair Value of financial instruments. The fair values for substantially all of our financial assets and financial liabilities are based on observable prices and inputs and are classified in Level 1 of the hierarchy.

A complete discussion of these policies is contained in our Form 10-K filed on March 29, 2013 with the Securities and Exchange Commission for the year ended December 31, 2012. There were no significant changes to the critical accounting policies discussed in the Company’s Form 10-K filed for December 31, 2012.

Forward-Looking Statements

This Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that are based on current expectations, estimates and projections about the Company. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecast in such forward-looking statements. The Company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

 

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Commitments and Contingencies

DOJ Subpoena

On January 19, 2010, the Company received a subpoena and communications from the DOJ requesting the Company produce documents relating to its dealings with foreign governments. The subpoena stated that it was issued in connection with an ongoing criminal investigation. See Part II – Item 1 for additional information regarding the DOJ matter.

Employee Severance Payments

The Company entered into employment agreements with certain management personnel at the Company’s subsidiaries and with certain domestic management personnel. In September 2010, the Company paid $1.650 million in satisfaction of its severance obligations to the Company management personnel. Employment agreements with employees at Mecar and Mecar USA were assigned as part of the sale transactions. The Company is obligated to pay up to $0.075 million of additional severance payments at the time it makes distributions to stockholders. These expenses are included in the estimated net costs to be incurred during liquidation.

Indemnification provisions

The Company has sold its SeaSpace, Titan, the VSK Group, GMS and NSM subsidiaries in separate transactions starting with the first transaction closing in 2007. In each transaction, the Company agreed to indemnify the purchaser for periods subsequent to closing for losses arising from breaches of representations, warranties and covenants. Indemnification periods varied based on the particular representation, warranty or covenant covered, the vast majority of which have all expired. As of September 30, 2011, the only remaining indemnification obligations relate to representations and warranties concerning taxes, environmental matters, breaches of title, breaches of authorization and fraud. For SeaSpace, Titan, the VSK Group, GMS and NSM, these indemnification provisions have been capped at $1.0 million, $0.950 million, $6.504 million (€5.0 million), $5.2 million and $0.863 million, respectively. At June 30, 2013, no amount has been accrued related to these indemnifications as a liability is not deemed probable.

On June 24, 2010, the Company signed a definitive purchase and sale agreement with Chemring Group PLC pursuant to which Chemring agreed to acquire substantially all of the assets of the Company for $59.560 million in cash and the assumption of certain liabilities. The purchase and sale agreement contains certain indemnification provisions pursuant to which the Company may be required to indemnify the buyer for a period subsequent to the completion of the sale for any and all losses directly or indirectly based upon, related to, arising out of or in connection with Mecar’s completed contracts, Mecar USA liabilities retained by the Company and any failure by the Company to satisfy all transaction related expenses. The Company’s indemnification liability is limited to, and capped at, the escrowed amount of $15 million plus the accumulated interest. The Company’s indemnification obligations expire upon the earlier of (i) June 30, 2015 and (ii) the Company’s entry into either a court or administrative order or a Chemring-approved settlement agreement, in either case, finally resolving the matters relating to the DOJ’s subpoena. In the absence of such final resolution, in certain circumstances, up to 50% of the escrowed funds may be released. At present, the Company is not entitled to such a partial release of the escrowed funds. At June 30, 2013, no amount has been accrued related to this indemnification as a liability is not deemed probable.

Future Reporting

The Company filed a Certificate of Dissolution with the State of Delaware on August 31, 2011 and the Company has closed its stock transfer books and instructed its stock transfer agent that no further stock transfers be recognized. Accordingly, the Company’s stock has ceased trading on the OTCQB Marketplace. The Company is required under Delaware law to maintain a quasi-corporate existence for a period of three years for the limited purpose of winding up its affairs and discharging or making provision for the discharge of its liabilities.

Promptly after the filing of the Certificate of Dissolution, the Company requested a no-action letter from the Securities and Exchange Commission to allow the Company to cease filing Forms 10-K and 10-Q. The Securities and Exchange Commission has rejected this request; accordingly, the Company will continue to file all required Forms 10-K and 10-Q.

 

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not required for a smaller reporting company.

ITEM 4. CONTROLS AND PROCEDURES

Overview

As a result of the sale of Mecar and Mecar USA and the adoption by the stockholders of the Plan of Dissolution, the Company terminated all employees. The Company’s Officers/Board of Directors continue to oversee and review the Company’s system of financial reporting.

Disclosure Controls and Procedures

Subject to the provisions set forth in the Overview section above, the Company carried out an evaluation of the effectiveness of the design and operation of its disclosure controls and procedures pursuant to Exchange Act Rule 13a-15 as of the end of the period covered by the report. Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that these disclosure controls and procedures are effective as of June 30, 2013.

Changes in Internal Control Over Financial Reporting

Subject to the provisions set forth in the Overview section above, there were no changes in the Company’s internal control over financial reporting during the period covered by this quarterly report that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

DOJ Subpoena

On January 19, 2010, the Company received a subpoena and communications from the U.S. Department of Justice (“DOJ”) requesting the Company produce documents relating to its dealings with foreign governments. The subpoena stated that it was issued in connection with an ongoing criminal investigation. On the same day, the Company also became aware through a press release issued by the DOJ that an employee of Mecar USA had been indicted by the DOJ for allegedly engaging in schemes to bribe foreign government officials to obtain and retain business. The unsealed indictment of this employee and the DOJ’s press release indicate that the alleged criminal conduct was on behalf of a Decatur, Georgia company which is unrelated to the Company or Mecar USA. Mecar USA’s employment agreement with the employee provided that the employee not actively engage in any other employment, occupation or consulting activity that conflicts with the interests of the Company. In light of the employee’s breach of his employment agreement, Mecar USA terminated his employment on January 20, 2010.

The former employee was arrested on January 19, 2010, along with twenty-one other individuals, after a large-scale undercover operation that targeted foreign bribery in the military and law enforcement products industry. The indictments of the twenty-one individuals allege that the defendants conspired to violate the Foreign Corrupt Practices Act (“FCPA”), conspired to engage in money laundering and engaged in substantive violations of the FCPA.

Subsequently, the Company received notice from the DOJ that indicated that it would request additional documents and expand its review beyond matters relating to the indicted former employee of Mecar USA. The Company understands that the DOJ’s expanded review was in connection with an industry-wide review. The Company also received inquiries from the SEC regarding this matter.

In late 2012, the SEC advised that it will not pursue an enforcement action against the Company and in early August 2013, the DOJ advised that it has decided to close its inquiry into this matter.

No distributions to stockholders are expected prior to completion of the Delaware dissolution process which includes notice to creditors and publication of the dissolution, followed by a petition to the Delaware courts. The Company is finalizing the creditor notice process and believes it will be in a position to make an initial distribution to stockholders by the end of 2013.

 

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Item 1A. Risk Factors

Not required for a smaller reporting company.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3. Defaults Upon Senior Securities

None.

Item 4. Mine Safety Disclosures

Not Applicable.

Item 5. Other Information

In early August, 2013, the DOJ advised that it has decided to close its investigation with respect to the Company.

Item 6. Exhibits

 

Exhibit No.		Description of Exhibits
31.1		Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2		Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32		Certification Pursuant to 18 U.S.C Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101		The following financial information from our Quarterly Report on Form 10-Q for the second quarter of 2013 filed with the SEC formatted in Extensible Business Reporting Language (XBRL):
		(i)     Consolidated Statements of Net Assets as of June 30, 2013 and December, 31, 2012 (Liquidation Basis)   (ii)    Consolidated Statements of Changes in Net Assets for the three and six months ended June 30, 2013 (Liquidation Basis).

 

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

		THE ALLIED DEFENSE GROUP, INC.
		/s/ Charles S. Ream
Date: August 14, 2013		Charles S. Ream
		Director and Chief Financial Officer

 

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