ALDILA INC - 10-K Annual Report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

ý	Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the fiscal year ended December 31, 2004

OR

o	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Commission File Number 0-21872

ALDILA, INC.

(Exact name of registrant as specified in its charter)

Delaware		13-3645590
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)

13450 STOWE DRIVE, POWAY, CALIFORNIA 92064

(Address of principal executive offices)

(858) 513-1801

(Registrant’s Telephone No.)
www.aldila.com

Securities Registered Pursuant to Section 12(b) of the Act:

Title of each class		Names of each exchange on which registered
None		None

Securities registered pursuant to section 12(g) of the Act:

Common Stock, par value $0.01 per share

(Title of Class)

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 ý No o

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 Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this form 10-K. o

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes o No ý

The aggregate market value of the Company’s voting stock held by non-affiliates of the Company as of June 30, 2004 was approximately $44.4 million.

As of March 23, 2005, there were 5,188,560 shares of the Registrant’s common stock, par value $0.01 per share, outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the following documents are incorporated into this report by reference:

Part III, Items 10, 11, 12, 13 and 14. The Registrant’s definitive Proxy Statement for the 2005 Annual Meeting of Stockholders to be filed with the Commission within 120 days after the close of the fiscal year.

Unlike steel shafts, the design of graphite shafts is easier to alter with respect to weight, flex, flex location and torque to produce greater distance, increased accuracy and reduced club vibration resulting in improved “feel” to the golfer. The improvements in the design and manufacture of graphite shafts and the growing recognition of their superior performance characteristics for many golfers compared to steel have resulted in increased demand for graphite shafts by golfers of all skill levels. The initial acceptance of graphite shafts was primarily for use in woods. Graphite continues to dominate the professional and consumer wood club market, with over 97% of new woods purchased in 2004 including graphite shafts. The acceptance of graphite shafts in irons has not achieved the same success as woods, and acceptance in irons has declined somewhat in recent years. In 2004, approximately 26% of new irons purchased were graphite shafted. Since many golfers consider professionals to be “opinion leaders,” increased acceptance and use of graphite shafts in irons by professionals would help broaden the overall graphite market.

Products

Aldila offers a broad range of innovative and high-quality graphite golf shafts designed to maximize the performance of golfers of every skill level. The Company manufactures hundreds of unique graphite shafts featuring various combinations of performance characteristics such as weight, flex, flex point and torque. All of the Company’s shafts are composite structures consisting principally of carbon fiber and epoxy resins. The Company’s shafts may also include boron (added to increase shaft strength) or fiberglass. The Company regularly evaluates new composite materials for inclusion in the Company’s shafts and new refinements on designs using current materials.

The Company’s shafts, which constituted approximately 86% of net sales in the year ended December 31, 2004, are designed in partnership with its customers (principally golf club manufacturers) to accommodate specific golf club designs. The Company’s branded models are typically sold to golf club manufacturers, distributors and golf pro and repair shops and are used either to assemble a new custom club from selected components or as an after market re-shaft of existing clubs. The Company also helps develop cosmetic designs to give the customer’s golf clubs a distinctive look, even when the customer does not require a shaft with customized performance characteristics. The prices of Aldila shafts typically range from $4 to $199.

The Company introduced an innovative proprietary design, the Aldila “One” shaft during 2002. The Company believes that this is the first shaft design to feature multiple segments, each with separate design characteristics, which allows for more precise performance optimization than the traditional graphite shaft design, which embodies only one set of design characteristics over its entire length. The “One” shaft is offered through distribution to the custom club market and directly to consumers. It can also be included as a custom option by certain of its golf club manufacturer customers. The Company introduced the NVPrototype at the 2003 PGA Merchandise Show in January 2003 and subsequently changed it to the NV^TM. The NV^TMfeatures the Company’s exclusive Micro Laminate Technology ^TM (“MLT”). The Company followed up the NV^TMwith the introduction of the NVS, NV ProtoPype, NV Xtreme, NV Hybrid, NVS Hybrid family of shafts and the Gamer shaft in 2004. The NVS shaft is geared toward the player who requires a shaft that promotes a higher initial launch angle, and one that makes it easier to turn the ball right to left. The NV ProtoPype promotes a lower, more controlled launch angle, with reduced spin, along with very low torque to provide extremely tight dispersion. The NV Xtreme features a combination of the Company’s MLT with ribbons of a hypoeutectic steel alloy precisely wound around the exterior of the shaft structure, which provides additional cross-sectional stability and minimizes energy loss during the loading and unloading of the shaft in the golf swing. The Hybrid family of shafts (NV Hybrid, NVS Hybrid and Gamer) service the rapidly growing Hybrid segment of golf industry. Hybrid clubs (also known as utility clubs and driving irons) are designed to replace long irons by providing a club that is easier to hit and much more forgiving for average as well as very skilled players.

Since 1994, the Company has manufactured prepreg material for its production of golf shafts. In 1998, the Company began selling prepreg manufactured in its Poway, California manufacturing facility to third parties. Revenues from the sale of prepreg were approximately 8% of net sales in 2004. Beginning in 1999, the Company offered for sale large bundle carbon fiber and chopped fiber from its manufacturing facility in Evanston, Wyoming. Sales of large bundle carbon fiber by the Company continued in 1999 through October 29, 1999, the date that the Company sold a 50% interest in the carbon fiber manufacturing operation. All subsequent outside carbon fiber revenues, if any, are attributed to the joint venture. The Company does not anticipate outside sales of carbon fiber to be significant in 2005.

The Company began the manufacture of composite hockey sticks in 2000, following several months of developmental work. The manufacture of composite hockey sticks is similar to that of graphite golf shafts and uses similar raw materials. Revenues from the sale of hockey sticks were approximately 5% of net sales in 2004 and are not expected to be significant to the Company for several years.

Carbon fiber composite materials are suited for a diverse range of applications based on their distinctive combination of physical and chemical properties. See “Manufacturing – Carbon Fiber Manufacturing Process.” Carbon fibers are used as reinforcements in composite materials that combine fibers with epoxy resins or other matrix materials to form a substance with high strength, low weight, stiffness, resistance to corrosion, resistance to fatigue and capacity to dissipate heat and electrical conductivity. Carbon fiber materials produced by the Company or CFT are used in a variety of applications such as molding compounds for the manufacture of electronic components, masts and spars for the marine industry, hockey sticks, fishing rods, industrial products, as well as golf shafts.

Product Design and Development

Aldila is committed to maintaining its reputation as a leader in innovative shaft design and composite materials technology. The Company believes that the enhancement and expansion of its existing product lines and the development of new products are necessary for the Company’s growth and success. However, while the Company believes that it has generally achieved success in the introduction of its graphite golf shafts, no assurance can be given that the Company will be able to continue to design and manufacture products that meet with market acceptance.

Graphite shaft designs and modifications are frequently the direct result of the combined efforts and expertise of the Company and its customers to develop an exclusive shaft for each customer’s clubs. New golf shaft designs are developed and tested using a CAD/CAE golf shaft analysis program, which evaluates a new shaft design with respect to weight, torque, flex point, tip and butt flexibility, swing weight and other critical shaft design criteria. In addition, the Company researches new and innovative shaft designs on an independent basis, which has enabled the Company to produce a variety of new branded shafts as well as generate design ideas for customized shafts. To improve and advance product designs as they relate to composite technology and shaft process manufacturing, the Company’s engineers have experience with existing materials, such as boron, kevlar, fiberglass, ceramic, thermoplastic and carbon fiber. The Company’s engineers also look to newer, more advanced materials such as Single Walled Carbon Nanotubes (“SWNT”). Nanotechnology is a fast growing field of research that has good potential for structures such as composite golf shafts. The Company believes it is the first major shaft company to employ SWNT in shaft design, and is at the forefront of utilizing this emerging technology in golf shaft development. The Company’s design research also focuses on improvements in graphite shaft aesthetics since cosmetic appearance has become increasingly important to customers. The Company’s research and development efforts have resulted in the Aldila “One” shaft, Aldila NV^TM, NVS, NV ProtoPype, NV Xtreme, NV Hybrid, NVS Hybrid and the Gamer shafts. All of the NV family of shafts feature the Company’s exclusive MLT. Although the Company emphasizes these research and development activities, there can be no assurance that Aldila will continue to develop competitive products or that the Company will be able to utilize new composite material technology on a timely or competitive basis, or otherwise respond to emerging market trends.

The Company has been one of the leaders in developing the market for lower cost large bundle carbon fiber by successfully converting to this fiber type in some of its products from a more expensive carbon fiber material for the manufacture of certain of its graphite golf shafts. The Company has had limited success in providing large bundle carbon fiber to other manufacturing applications outside of golf shafts.

The Company has applied its composite materials expertise on a limited basis to other products in recent years, producing hockey sticks as well as graphite tubing and other molded parts on a special order basis.

Customers and Customer Relations

The Company believes that its close customer relationships and responsive service have been significant elements of its success to date, establishing it as a premier graphite shaft company. Aldila’s golf club manufacturer customers often work together with the Company’s engineers when developing a new golf club in order to design a club that maximizes the performance features of the principal component parts: the grip, the clubhead and the Aldila shaft. The Company’s partnership relationship with its customers continues after the development of clubs containing Aldila’s shafts. Following the design process, the Company continues to provide high levels of customer support and service in areas such as quality control and assurance, timely and responsive manufacturing, delivery schedules and education. The Company believes the physical proximity of its headquarter facilities to many of its customers has facilitated a high degree of customer interaction and responsiveness to customer needs. While the Company has had long-established relationships with most of its customers, it is not the exclusive supplier of graphite shafts to most of them and generally does not have long-term supply agreements with its customers.

For fiscal year 2004, the Company had approximately 670 golf shaft customers, which included approximately 120 golf club manufacturers and more than 80 distributors, with the balance principally consisting of custom club assemblers, pro shops and repair shops. However, the majority of the Company’s sales has been and may continue to be concentrated among a relatively small number of customers. Sales to the Company’s top five customers represented approximately 57%, 70% and 76% of net sales in 2004, 2003 and 2002, respectively.

Historically, Aldila’s principal customers have varied as a result of general market trends in the golf industry, in particular the prevailing popularity of the various clubs that contain Aldila’s shafts. As a result, there typically are changes in the composition of the list of the Company’s ten most significant customers from year to year. Due to the substantial marketplace success of their clubs in recent periods, for the last several years the Company’s largest customers have been Acushnet Company, Callaway Golf, Ping and TaylorMade-addidas Golf. While the Company believes its relationship with each of these major customers is good, the Company is not the exclusive supplier to any of them. The Company’s sales to its principal customers have varied substantially from year to year.

Customer (1)	2004		2003		2002
Acushnet Company	22	%	27	%	22	%
Callaway Golf	17	%	21	%	22	%
Ping	9	%	10	%	9	%
TaylorMade-addidas Golf	2	%	6	%	13	%

(1) Certain prior year numbers have changed to conform to current year presentation.

Because of the historic volatility of consumer demand for specific clubs, as well as continued competition from alternative shaft suppliers, sales to a given customer in a prior period may not necessarily be indicative of future sales and it is often difficult to project the Company’s sales to a given customer in advance.

Although the Company believes that its relationships with its customers are good, the loss of a significant customer or a substantial decrease in sales to a significant customer (whether as a result of diminished sales by that customer or a shaft sourced from other suppliers) could have a material adverse effect on the Company’s business or operating results.

Marketing and Promotion

The Company’s marketing strategy is designed to encourage golf club manufacturers to select and promote Aldila shafts and to increase overall market acceptance and use of graphite golf shafts. The Company utilizes a variety of marketing and promotional channels to increase sales of Aldila brand name shafts through its network of distributors and to support Aldila’s brand name recognition and reputation among consumers for offering consistently high quality products designed for a wide range of golfers. Although the Company has very limited sales directly to the end users of its products, the Company believes that its brand name recognition contributes to the marketability of its customers’ products. In addition, Nick Price, Gary McCord and Rich Beem serve on the Company’s advisory staff and assist in its marketing efforts. Aldila’s marketing and promotion expenditures were approximately $2.2 million, $1.9 million and $1.3 million in 2004, 2003 and 2002, respectively. The Company does not currently incur significant marketing expenses for its products other than golf shafts.

Sales and Distribution

Within the golf club industry, most companies do not manufacture the three principal components of the golf club — the grip, the shaft and the clubhead — but, rather, source these components from independent suppliers that design and manufacture components to the club manufacturers’ specifications. As a result, Aldila sells its graphite shafts primarily to golf club manufacturers and, to a lesser extent, distributors, custom club shops, pro shops and repair shops. Distributors typically resell the Company’s products to custom club assemblers, pro and custom club shops, and individuals. The Company uses its internal sales force in the marketing and sale of its shafts to golf club manufacturers. Sales to golf club manufacturers accounted for approximately 75% of net sales for the year ended December 31, 2004.

Prepreg sales and carbon fiber sales are made primarily to manufacturers of composite products. The Company predominantly has utilized its internal sales force in the marketing and sale of these products to its customers in the past and will continue to utilize its internal sales force for the sales of prepreg in the future.

International sales represented 18%, 15%, and 14% of net sales for the years ended December 31, 2004, 2003 and 2002, respectively. See Note 13 in the Notes to Consolidated Financial Statements for further breakdown of our international sales and long-lived assets.

Manufacturing

The Company believes that its manufacturing expertise and production capacity differentiate it from many of its competitors and enable Aldila to respond quickly to its customers’ orders and provide sufficient quantities on a timely basis. The Company today operates three golf shaft manufacturing facilities, one prepreg manufacturing facility (in conjunction with one of its shaft manufacturing facilities) and through its 50% ownership interest in CFT, one carbon fiber manufacturing facility. During its 33 years of operation, the Company has improved its manufacturing processes and believes it has established a reputation as the industry’s leading volume manufacturer of high-performance graphite shafts.

Shaft Manufacturing Process. The process of manufacturing a graphite shaft has several distinct phases. Different designs of Aldila shafts require variations in both the manufacturing process and the materials used. In traditional shaft designs, treated graphite known as “prepreg” is rolled onto metal rods known as mandrels. The graphite is then baked at high temperatures to harden the material into a golf shaft. At the end of the manufacturing process, the shafts are painted and stylized using a variety of colors, patterns and designs, including logos and other custom identification. Through each phase of this process, the Company performs quality control reviews to ensure continuing high standards of quality and uniformity and to meet exacting customer specifications. The Company’s shaft manufacturing facilities are located in Poway, California, Tijuana, Mexico, and Zhuhai, China, with an increasing percentage of its shafts being manufactured in China, in recent years.

Raw Materials. The primary material currently used in all of the Company’s graphite shafts is carbon fiber, which is combined with epoxy resin to produce sheets of graphite prepreg. The degree of the heating and stretching the graphite fibers determines the tensile strength and modulus (stiffness) of the fiber. The Company manufacturers graphite prepreg at its Poway, California facility.

Prepreg Manufacturing Process. In October 1994, the Company initiated the internal production of prepreg in its Poway, California facility. The Company believes that by producing a major portion of its prepreg requirements internally, it may better control the supply of raw material for shafts and may reduce the impact of potential future price increases. The Company now produces substantially all of its prepreg requirements internally and is dependent on its own prepreg production operation to support its shaft manufacturing requirements and for its outside sales of prepreg material. The Company is, however, somewhat dependent upon certain domestic prepreg suppliers for types of prepreg that it does not produce and, therefore, the Company expects to occasionally purchase some prepreg products from outside suppliers in the future. Although the Company believes that there will continue to be alternative third party suppliers of prepreg, there can be no assurance that unforeseen difficulties which could lead to an interruption in the Company’s internal prepreg production will not occur, which would result in production delays.

The Company’s prepreg operation is dependent on certain suppliers for carbon fibers, which along with epoxy resins and release paper constitute the primary components used to manufacture prepreg. Through 1997, the Company purchased all of its carbon fibers from outside vendors. Beginning in 1998, the Company manufactured carbon fiber at its 50% owned Evanston, Wyoming facility, CFT, for consumption by its golf shaft production operation. Because several different forms of carbon fiber are required for golf shaft products, including some not manufactured at the CFT facility, the Company will continue to depend on outside suppliers for a portion of its ongoing carbon fiber needs. In 2004, the Company obtained a large portion of its carbon fiber from CFT but also purchased carbon fiber from other carbon fiber manufacturers. The prices paid by the Company for carbon fiber not produced at CFT began to increase at the end of 2003 and throughout 2004, due to capacity constraints in the carbon fiber industry. If the Company is unable to purchase carbon fiber, other than that produced at CFT, from suppliers, it could result in production delays of composite pregreg and golf shafts.

Carbon Fiber Manufacturing Process. Carbon fiber is produced by processing acrylic fiber through a series of stretching, stabilizing and carbonizing sequences converting it into essentially a pure carbon chain fiber exhibiting stiffness and strength characteristics when made into a composite part similar to steel at significantly less weight. These carbon fibers combined with various resins are then converted to composite structures, which have replaced metals in a number of weight critical aerospace, sporting and industrial applications.

Typically, the composite structure will weigh 25 to 50 percent less than the metal structure it has replaced. Carbon fiber composite structures also provide toughness, resistance to corrosion, resistance to fatigue, capacity to dissipate heat and electrical conductivity. The carbon fiber industry has grown from its inception in the late 1950’s into one, which produced

approximately 45 million pounds of carbon fiber in 2004.

Carbon fiber usage has grown primarily for consumption by the aerospace industry and for sporting goods and industrial applications. Aerospace grade carbon fibers continue to be utilized for production of commercial and military aerostructures. The higher-cost, aerospace grade carbon fibers were first used in sporting goods and industrial applications until a lower-cost, large bundle carbon fiber was developed as an alternative for use in many sporting goods and industrial applications. Aldila was a leader in utilizing large bundle carbon fibers initially purchased from outside vendors, for the manufacture of graphite golf shafts. As such, the Company completed construction of a 50,000 square foot carbon fiber manufacturing facility in Evanston, Wyoming, which subsequently became CFT. CFT produces large bundle carbon fiber material from acrylic fiber through a series of stretching, stabilizing and carbonizing sequences in this facility. Carbon fiber that has more than 24,000 (24K) filaments is considered to be large tow carbon fiber. During 2004, CFT began producing a smaller tow (24K), which yields better properties and can be used in more applications. CFT now produces two different tow sizes of carbon fibers. These materials are now significant raw materials used in the Company’s prepreg manufacturing operation to support the manufacture of graphite golf shafts, although the Company still procures certain types of fibers from outside vendors for the manufacture of golf shafts. The Company believes it can purchase the type of fibers produced by CFT from at least two outside sources.

CFT purchased substantially all of its raw acrylic fibers for the carbon fiber operation from Toho Carbon Fibers, Inc. for the years 2000 through 2004. Previous to 2000, Courtaulds Fibres, Ltd. was also used as a supplier of its raw acrylic fibers. The Company believes these two vendors will be able to provide a reliable source of supply for raw materials at the anticipated operating level of CFT. However, CFT will continue to pursue alternate sources of supply for this material.

Environmental Matters

The Company is subject to various federal, state, local and foreign environmental laws and regulations, including those governing the use, discharge and disposal of hazardous materials as the Company uses hazardous substances and generates hazardous waste in the ordinary course of its manufacturing of graphite golf shafts, other composites, graphite prepreg and carbon fiber. The Company believes it is in substantial compliance with applicable laws and regulations and has not to date incurred any material liabilities under environmental laws and regulations; however, there can be no assurance that environmental liabilities will not arise in the future which may affect the Company’s business.

Competition

Aldila operates in a highly competitive environment in both the United States and international markets for the sale of its graphite golf club shafts. The Company believes that it competes on the basis of its ability to provide a broad range of high quality, performance graphite shafts; its ability to deliver customized products in large quantities and on a timely basis to its customers; the acceptance of graphite in general, and Aldila shafts in particular, by professional and other golfers, whose preferences are to some extent subjective; and, finally, price. Presently, there exists substantial excess graphite shaft manufacturing capacity both in the United States and in other countries. This has had the effect of decreasing the selling prices of the Company’s shafts in past years. Management anticipates that this trend has ended. Until recently, the United States market for graphite shafts was dominated by a relatively small number of United States based shaft manufacturers which competed predominantly for the business of larger OEMs. However, the Company now competes against United States and foreign-based shaft manufacturers for the OEM shaft market. This competition has made it more difficult to retain existing customers, attract new customers and has placed increasing pressure on prices for OEM shafts. The Company believes that it is the largest supplier of graphite shafts to the United States club market, which results from its ability to establish a premium brand image and reputation among golf club companies as a value-added supplier with competitive prices. Aldila competes against other shaft manufacturers, both graphite and steel, and in the past also against golf club companies that produced their own shafts internally, some of which may have or had greater resources than Aldila. The Company also faces potential competition from those golf club manufacturers that currently purchase golf shaft components from outside suppliers but that may have, develop or acquire the ability to manufacture all or a portion of its graphite shafts internally. Should any of the Company’s significant customers decide to meet any of its shaft needs internally, it could have an adverse effect on the Company. The Company also competes against companies who manufacture one or more of three principal components of the golf club, the grip, the shaft and the club head, and assemble completed golf clubs for delivery to club companies. Should any of the Company’s significant customers decide to source their golf clubs in this manner where an Aldila shaft is not included, it could have an adverse effect on the Company.

The Company also competes for sales of prepreg from its prepreg facility and carbon fiber through its 50% interest in CFT with other producers of prepreg and carbon fibers, many of which have substantially greater research and development, managerial and financial resources than the Company. Some producers have been producing prepreg and

carbon fiber for substantially longer periods of time than the Company has, and represent significant competition to the Company. The Company’s ability to compete in the sale of prepreg and carbon fiber is dependent to some extent on the Company’s ability to cause manufacturers and consumers of carbon fiber-based products to utilize the types of carbon fiber manufactured by CFT and a significant portion of the carbon fiber used in Aldila’s graphite prepreg. In addition, the ability to purchase fiber from an outside source when required in today’s fiber market, limits the Company’s ability to compete in prepreg sales.

Intellectual Property

Aldila utilizes a number of trademarks and logos in connection with the sale and advertising of its products. The Company takes all reasonable measures to ensure that any product bearing an Aldila trademark reflects the consistency and quality associated with the Company’s products and intends to continue to protect them to the fullest extent practicable. As of December 31, 2004 the Company had approximately 60 United States and foreign registered trademarks.

Employees

As of December 31, 2004, Aldila employed 1,237 persons on a full-time basis, including nine in sales and marketing, 24 in research, development and engineering and 1,042 in production. The balance is administrative and support staff. The number of full-time employees includes 489 persons who are employed in the Company’s Mexico facility and 609 who are employed in the Company’s China facility. Because of seasonal demands, the Company hires a significant number of temporary employees. As of December 31, 2004, the Company also employed an additional 18 temporary employees. Aldila considers its employee relations to be good.

Seasonality

Because the Company’s customers have historically built inventory in anticipation of purchases by golfers in the spring and summer, the principal selling season for golf equipment, the Company’s operating results have been affected by seasonal demand for golf clubs, which has generally resulted in highest sales occurring in the first and second quarter. The timing of customers’ new product introductions has frequently mitigated the impact of seasonality in recent years.

Backlog

As of December 31, 2004, the Company had a sales backlog of approximately $9.9 million compared to approximately $11.0 million as of December 31, 2003. The lower backlog as of December 31, 2004 reflects changing order patterns by our large OEM customers with reliance on shorter lead times. Incoming orders through February 28, 2005 were $13.3 million as compared to $7.8 million during the same period of 2004. The Company believes that the dollar volume of its current backlog will be shipped over the next three months. Orders can typically be cancelled without penalty up to 30 days prior to shipment. Historically, the Company’s backlog generally has been highest in the first and second quarters, due in large part to seasonal factors. Due to the timing and receipt of customer orders, backlog is not necessarily indicative of future operating results.

Business Risks

Customer Concentration. The Company’s sales have been, and very likely will continue to be, concentrated among a small number of customers. In 2004, sales to the Company’s top five customers represented approximately 57% of net sales. Aldila’s principal customers have historically varied depending largely on the prevailing popularity of the various clubs that contain Aldila shafts. In 2004, Acushnet Company accounted for 22% of net sales, Callaway Golf accounted for 17% of net sales and Ping accounted for 9% of net sales. The Company cannot predict the impact that general market trends in the golf industry, including the fluctuation in popularity of specific clubs manufactured by customers, will have on its future business or operating results.

While the Company has had long-established relationships with most of its customers, it is not the exclusive supplier of graphite shafts to most of them, and consistent with the industry practice, generally does not have long-term contracts with its customers. In this regard, Acushnet Company, Callaway Golf and Ping, who collectively represent in excess of 49% of the Company’s net sales in 2004, each purchased from at least two other graphite shaft suppliers. In the event Callaway Golf,
Acushnet Company, Ping or any other significant customer increases purchases from its other suppliers or adds additional suppliers, the Company could be adversely affected. Although the Company believes that its relationships with its customers are good, the loss of a significant customer or a substantial decrease in sales to a significant customer could have a material adverse effect on the Company’s business and operating results. In addition, sales by the Company’s major customers are

likely to vary dramatically from time to time due to fluctuating public demand for golf equipment generally and for their specific products.

Competition. Aldila operates in a highly competitive environment for golf equipment sales. The Company believes that it competes principally on the basis of its ability to provide a broad range of high-quality, performance graphite shafts; its ability to deliver customized products in large quantities and on a timely basis; the acceptance of graphite shafts in general, and Aldila shafts in particular, by professionals and other golfers, whose preferences are to some extent subjective; and finally, price.

Aldila competes against both domestic and foreign shaft manufacturers. Some of the Company’s current and potential competitors may have greater resources than Aldila. The Company also faces potential competition from those golf club manufacturers that currently purchase golf shaft components from outside suppliers but that may have, develop or acquire, the ability to manufacture shafts internally.

As the Company further enters into the manufacture and sale of prepreg products, it competes with other producers of prepregs, many of which have substantially greater research and development, managerial and financial resources than the Company and represent significant competition for the Company.

New Product Introduction. The Company believes that the introduction of new, innovative golf shafts using graphite or other composite materials will be critical to its future success. While the Company emphasizes research and development activities in connection with carbon fiber and other composite material technology, there can be no assurance that the Company will continue to develop competitive products or that the Company will be able to develop or utilize new composite material technology on a timely or competitive basis or otherwise respond to emerging market trends.

Although the Company believes that it has generally achieved success in the introduction of its customized graphite golf shafts, specifically, the Aldila NV^TM line of golf shafts, no assurance can be given that the Company will be able to continue to design and manufacture products that meet with market acceptance, either on the part of club manufacturers or golfers. The design of new graphite golf shafts is also influenced by rules and interpretations of the United States Golf Association (“USGA”). There can be no assurance that any new products will receive USGA approval or that existing USGA standards will not be altered in ways that adversely affect the sales of the Company’s products.

Reliance on Offshore Manufacturing Facilities. The Company operates manufacturing facilities in Tijuana, Mexico and Zhuhai, People’s Republic of China. The Company pays certain expenses of these facilities in Mexican pesos and Chinese renminbis, respectively, which are subject to fluctuations in currency value and exchange rates. The Company operates a shaft manufacturing facility in Tijuana, Mexico pursuant to the “maquiladora” duty-free program established by the Mexican and United States governments. Such program enables the Company to take advantage of generally lower costs in Mexico, without paying duty on inventory shipped into or out of Mexico. The Company also operates in the People’s Republic of China in a special economic zone, which affords special advantages to companies with regards to income taxes, import and export duties and value added taxes. There can be no assurance that the governments of Mexico or the People’s Republic of China will continue the programs currently in place or that the Company will continue to be able to benefit from these programs. The loss of these benefits could have an adverse effect on the Company’s business. The Company is also subject to other customary risks of doing business outside the United States, including political instability, other import/export regulations and cultural differences.

Raw Material Cost/Availability. The Company’s gross profit margins, in part, are dependent on the price paid for carbon fiber purchased from outside vendors, and more substantially starting in the latter part of 1998, the cost of production of carbon fiber at the Evanston, Wyoming facility, including the price paid for the acrylic fiber used for the manufacture of carbon fiber and the other costs associated with the operation of the carbon fiber plant.

The Company experienced an increase in carbon fiber prices in 1996 and 1997 due to the growth experienced in the use of carbon fiber coupled with relatively little excess capacity. The prices paid by the Company for carbon fiber leveled in 1998 and decreased during 1999 through 2002, due to excess-capacity in the carbon fiber manufacturing industry. However, that trend reversed itself in the later part of 2003. The Company experienced carbon fiber price increases in certain grades of carbon fiber prices during the later part of 2003 and through 2004. Management is not able to predict the timing or extent of any future price changes for carbon fiber; however, the Company could be negatively impacted if carbon fiber prices continue to increase and the Company is not able to pass along these increases to its customers due to competition.

The Company also has relationships with other outside vendors for its additional carbon fiber needs through 2004 and beyond. Depending on market conditions prevailing at the time and extent to which production at CFT meets expectations, the Company may face difficulties in obtaining adequate supplies of carbon fiber from external sources to provide for any carbon fiber needs not met internally. If it appears that CFT is not likely to satisfy a significant portion of the Company’s needs or if it appears that there will not be adequate availability in the market, the Company may not have made arrangements in advance for the purchase of material amounts of carbon fiber from alternative sources.

In addition, the Company is dependent on its internal production of graphite prepreg to support its shaft manufacturing operations and has not secured adequate additional sources of supply should its production of prepreg be interrupted for any reason. The exposure to the Company resulting from its increasing reliance on its own internal production of the raw materials for its golf shaft business is enhanced because the Company currently operates only one prepreg facility and has an interest in only one carbon fiber manufacturing facility. Until recently, there has been excess-capacity in these industries. In the past, significant market shortages of both carbon fiber and graphite prepreg have occurred and if they re-occur, it could have a negative impact on the Company’s financial statements.

Joint Venture Operating Carbon Fiber Facility. The Company started producing carbon fiber at its Evanston, Wyoming facility in 1998. Since October 1999, this facility has been operated by a joint venture, 50% owned by each of the Company and SGL. As a result of the operation of this facility through the joint venture, the Company is subject to business and financial risks, such as the risks that SGL will be unable to meet its obligations to the joint venture, that there will be operational difficulties resulting from the split ownership, raw material supply problems, changes in demand for carbon fiber based products, or that there will be differences of opinion between the joint venture partners as to future operations leading to an inability to make decisions when required or to the making of decisions not in the best interests of both joint venture partners.

Reliance on Carbon Fiber Manufacturing Facility. Until recently, during the period in which the Company or the joint venture has operated the Evanston, Wyoming facility, the market for carbon fiber products has been soft, which has limited the Company’s ability to take full advantage of the opportunity offered by the vertical integration of its carbon fiber raw material usage in graphite golf shafts. If the facility does not produce high quality fiber at the anticipated volumes, either because of production shortfalls or limited demand for the facility’s carbon fiber, the per pound cost of the fiber produced will likely be higher due to the substantial fixed costs involved in operating a carbon fiber production facility. In addition, if the facility is not capable of producing carbon fiber at sufficient volumes to satisfy the demands of both venture partners, the Company would be required to purchase additional fiber from third party suppliers, which may not be available in sufficient quantities to satisfy its demands and could result in higher marginal costs to the Company than fiber acquired from the joint venture.

Potential Cash Flow Shortages. The Company has cash, cash equivalents and marketable securities totaling $16.5 million as of December 31, 2004. Management anticipates that these sources of funds when combined with cash flow generated from operations will be sufficient to finance its business operations at least through 2005. If the Company is not able to generate the expected cash flows from operations, the Company could be adversely affected.

Shaft Manufacturing by Club Companies and One-Stop Shops. Another factor that could have a negative impact in the future on the Company’s sales to golf club manufacturers would be a decision by one of its customers to manufacture all or a portion of their graphite shaft requirements, or to have an increased amount of their requirements filled from one-stop shops (where main components, shaft or head, of the golf club could be purchased and assembled). While the Company has not to date experienced any material decline in its sales for these reasons, should any of the Company’s major customers decide to meet any significant portion of their shaft needs either internally or through one-stop shops, it could have a material adverse impact on the Company and its financial results.

Utilization of Certain Hazardous Materials. In the ordinary course of its manufacturing processes, the Company uses hazardous substances and generates hazardous waste. The Company has not to date incurred any material liabilities under environmental laws and regulations and believes that it is in substantial compliance with applicable laws and regulations. Nevertheless, no assurance can be given that the Company will not encounter environmental problems or incur environmental liabilities in the future, which could adversely affect its business.

Dependence on Discretionary Consumer Spending. Sales of golf equipment have historically been dependent on discretionary spending by consumers, which may be adversely affected by general economic conditions. The Company believes that golf equipment sales have remained flat in recent periods and may continue to be so in the future. A decrease in consumer spending on golf equipment or, in particular, a decrease in demand for golf clubs with graphite shafts could have an adverse effect on the Company’s business and operating results.

Reliance on Key Personnel. The success of the Company is dependent upon its senior management team, as well as its ability to attract and retain qualified personnel. There is competition for qualified personnel in the golf shaft industry as well as the carbon fiber business. There is no assurance that the Company will be able to retain its existing senior management personnel or to attract additional qualified personnel.

PART II

Item 5. Market for Registrant’s Common Equity and Related Stockholder Matters

COMMON STOCK PERFORMANCE

	2004						2003
	Dividends
	Declared		High		Low		High		Low
First Quarter			$	5.92	$	3.57	$	1.76	$	1.29

Second Quarter	$	0.05	$	17.78	$	5.75	$	1.95	$	1.55

Third Quarter	$	0.05	$	13.60	$	9.30	$	2.78	$	1.70

Fourth Quarter	$	0.05	$	15.49	$	10.99	$	3.73	$	2.60

All the prices above reflect the Company’s one-for-three reverse stock split, for shareholders of record at the close of business on June 3, 2002. On March 23, 2005, the closing common stock price was $17.33, and there were approximately 312 common stockholders of record. The company believes a significant number of beneficial owners also own Aldila stock in “street name.”

Aldila, Inc. common stock is traded on the NASDAQ national market, symbol: ALDA.

The Company intends to retain earnings for use in operations and payments of cash dividends on its common stock. Cash dividends are discussed by the Company’s board of directors and management at each quarterly board meeting, and if approved, cash dividends are announced. Aldila, Inc. is a holding company whose ability to pay dividends depends on the receipt of dividends or other payments from its two principal subsidiaries, Aldila Golf and Aldila Materials Technology Corp.

EQUITY COMPENSATION PLAN INFORMATION

The following table provides information regarding securities authorized for issuance under the Company’s equity compensation plans as of December 31, 2004 (all numbers of securities reflect the Company’s one-for-three reverse stock split on June 3, 2002):

Plan Category	Number of securities to be issued upon exercise of outstanding options	Weighted-average exercise price of outstanding options		Number of securities remaining available for future issuance under equity compensation plans

Equity compensation plans approved by security holders – 1994 Stock Incentive Plan	485,338	$	5.86	566,747

Equity compensation plans not approved by security holders – 1992 Stock Option Plan (1)	—			20,167
Stock Option Grant (2)	50,000	$	4.89	—
Total	535,338			586,914

(1) In 1992, the Company adopted the 1992 Stock Option Plan to provide equity incentives for the management and directors of the Company. The Company has reserved 175,431 shares for issuance under this Plan. The Company does not expect to issue additional options under the 1992 Plan.

(2) On March 20, 2000, the Company and Nick Price Group entered into a stock option agreement. The option agreement allows Nick Price to purchase 50,000 shares of Common Stock at a purchase price of $4.89. The shares are registered under a Form S-3, which was filed with the Securities and Exchange Commission on August 2, 2004. In return for the shares, the Company received promotional and advisory services of Nick Price for a guaranteed minimum value of $4.50 per share, or a minimum aggregate consideration of $225,000. Nick Price Group exercised their 50,000 options on March 11, 2005.

Item 6. Selected Financial Data

ALDILA, INC.

SELECTED FINANCIAL DATA

(In thousands, except per share amounts)

	2004			2003			2002			2001			2000
Operating Results (Year ended December 31):

Net sales	$	52,762		$	37,807		$	37,462		$	39,561		$	55,859
Cost of sales	34,786			30,586			32,828			33,304			42,257
Gross profit	17,976			7,221			4,634			6,257			13,602

Selling, general and administrative	8,237			6,989			7,334			6,851			7,483
Impairment of goodwill	—			—			—			41,932			—
Impairment of trademarks & patents	—			—			—			12,963			—
Amortization of goodwill	—			—			—			1,410			1,428
Plant consolidation	—			—			300			593			(566		)
Operating income (loss)	9,739			232			(3,000		)	(57,492		)	5,257

Interest expense	—			23			94			375			900
Other expense (income), net	(60		)	48			62			65			(570		)
Impairment of investment in joint venture	—			2,220			—			—			—
Equity in earnings of joint venture	(246		)	(150		)	(269		)	(231		)	(220		)

Income (loss) before income taxes	10,045			(1,909		)	(2,887		)	(57,701		)	5,147
Provision (benefit) for income taxes	725			(183		)	(43		)	(6,282		)	1,930

Net income (loss)	$	9,320		$	(1,726	)	$	(2,844	)	$	(51,419	)	$	3,217

Net income (loss) per common share-basic:	$	1.85		$	(0.35	)	$	(0.57	)	$	(10.10	)	$	0.62

Net income (loss) per common share, assuming dilution:	$	1.77		$	(0.35	)	$	(0.57	)	$	(10.10	)	$	0.62

Selected Operating Results
As a Percentage of Net Sales:

Gross profit	34.1		%	19.1		%	12.4		%	15.8		%	24.4		%
Selling, general and administrative	15.6		%	18.5		%	19.6		%	17.3		%	13.4		%
Operating income (loss)	18.5		%	0.6		%	(8.0		)%	(145.3		)%	9.4		%
Net income (loss)	17.7		%	(4.6		)%	(7.6		)%	(130.0		)%	5.8		%

Financial Position (at December 31):

Working capital	$	25,977		$	15,181		$	13,162		$	13,851		$	13,387
Total assets	42,075			29,013			31,159			34,886			105,018
Long-term debt, including current portion	—			—			—			—			8,000
Total stockholders’ equity	35,061			24,446			26,353			29,197			81,366

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Significant Accounting Estimates

We prepare the consolidated financial statements of the Company in conformity with accounting principles generally accepted in the United States of America. As such, we are required to make certain estimates, judgments and assumptions that we believe are reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. The significant accounting policies which we believe are the most critical to aid in fully understanding and evaluating our reported financial results include the following:

Revenue Recognition

The Company recognizes revenue from product sales at the time of shipment and passage of title. We also offer certain of our customers the right to return shafts for breakage within a limited time after delivery. We track such shaft returns, and we record a provision for the estimated amount of such future returns, based on historical experience and any notification we receive of pending returns at the time sales are made. The Company believes that shafts returned for breakage will be returned within three years of the initial sale of the shaft. The Company estimates that 50% will be returned in the fi rst year after sale, 30% in the second year after sale and the remaining 20% in the third year after sale, assuming a mid-year convention. The Company’s breakage return rate has been between .23% and 1.54% (breakage returns divided by sales dollars) for the past ten years. The Company has historically utilized a four-year moving average of the breakage return rate to record its estimated liability. The four-year average utilized in the accrual estimate as of December 31, 2004 is .39%. The Company’s breakage return rate has declined over the past years. The highest four-year average over the past four years has been 1.16%. If the Company were to use 1.16% in estimating its liability as of December 31, 2004, it would have the effect of increasing the liability by approximately $714,000, which would be recorded in cost of goods sold. While such returns have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same return rates that we have in the past. Any significant increase in product failure rates and the resulting returns could have a material adverse impact on our operating results for the period or periods in which such returns materialize.

Accounts Receivable

We perform ongoing credit evaluations of our customers and adjust credit limits based upon payment history and the customer’s current credit worthiness, as determined by our review of their curren t credit information. We continuously monitor collections and payments from our customers and maintain a provision for estimated credit losses based upon our historical experience and any specific customer collection issues that we have identified. While such credit losses have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. Since our accounts receivable are concentrated in a relatively few number of customers, a significant change in the liquidity or financial position of any one of these customers could have a material adverse impact on the collectability of our accounts receivables and our future operating results. The Company estimates its allowance for doubtful accounts on a monthly basis, by reviewing all amounts owed to the Company and focusing on those amounts that are greater than 60 days past due. The Company reviews the customers that have amounts greater than 60 days past due and where appropriate reserves for the receivable amount. As of December 31, 2004, the Company estimated this amount to be approximately $25,000. If the Company were to reserve for the total amount greater than 60 days past due, it would increase the allowance by approximately $29,000, which would be recorded in administrative expense.

Inventories

We value our inventory at the lower of the actual cost to purchase and/or manufacture the inve ntory or the current estimated market value of the inventory. We regularly review inventory quantities on hand and record a provision for excess and obsolete inventory based primarily on our estimated forecast of product demand and production requirements for the next twelve months. A significant increase in the demand for our products could result in a short-term increase in the cost of inventory purchases while a significant decrease in demand could result in an increase in the amount of excess inventory quantities on hand. Management of the Company, including but not limited to, representatives from manufacturing, sales, accounting and officers review the inventory reserve methodology quarterly and when appropriate, establish additional reserves or reduce existing reserves.

The Company’s reserve methodology consists of the following; reviewing on hand inventories of our top customers and comparing inventories to their anticipated sales forecast. A 100% reserve is established for all shafts that are deemed to be obsolete. Raw materials are reviewed based upon estimated future production and when appropriate, reserves are established. Shafts that are designated for rework (parts that need additional work) are reviewed and when appropriate reserves are established. The final analysis is to review inactive inventory, and apply reserves to parts that were not included in the other analyses and have been inactive in the system for a period of twelve months. The Co mpany’s average reserve percentage compared to gross inventory has been approximately 20% for the past five years. In the past five years, the highest reserve percentage was approximately 30% and the lowest reserve percentage was approximately 10%. The Company’s reserve percentage as of December 31, 2004 is 10%. See the estimated impact below to cost of goods sold, utilizing the different reserve rates above:

(Amounts below in thousands)

	Highest			Average			Lowest
Gross inventory as of 12/31/04	$	9,253		$	9,253		$	9,253
Reserve rate	30		%(a)	20		%	10		%
Estimated reserve	2,776			1,851			925
Recorded Reserve as of 12/31/2004	961			961			961
Impact to costs of goods sold	$	1,815		$	889		$	(36	)

(a) This was the Company’s highest rate; the second highest rate in the past five years was 22%.

In the future, if our inventory were determined to be overvalued, we would be required to recognize such costs in our cost of goods sold at the time of such determination. Likewise, if our inventory is determined to be undervalued, we may have over-reported our costs of goods sold in previous periods and would be required to recognize such additional operating income at the time of sale. Therefore, although we make every effort to ensure that our forecasts of future product demands are reasonable, any significant unanticipated changes in demand could have a significant impact on the value of our inventory and our reported operating results. The Company has reduced its gross inventories by 37% from December 31, 2001 through December 31, 2004. In addition, the Company has disposed of a significant amount of fully reserved inventories over the past two years. This has had the effect of reducing the Company’s reserve percentage against gross inventories. As such, the Company’s related inventory reserves have decreased over that same period. As the Company continues to try and reduce its carrying levels of its work-in-process and finished goods inventory, it should have the effect of further reducing the amount of its inventory reserves.

Overview - Business Conditions

The Company is principally engaged in the business of designing, manufacturing and marketing graphite (carbon fiber based composite) golf club shafts, with approximately 75% of its net sales resulting from sales to golf club manufacturers for inclusion in their clubs. As a result, the Company’s operating results are substantially dependent not only on demand by its customers for the Company’s shafts, but also on demand by consumers for clubs including graphite shafts such as the Company’s.

The graphite shaft market consists of OEM production shafts, both premium and value, and branded shafts. The Company sells customized OEM production shafts directly to its customers and sells Aldila branded shafts through the OEM custom fit programs and distributors. The Company has re-emerged over the past couple of years as an innovator in the branded segment of the business, in which shafts tend to sell at higher prices and gross margins than the standard shafts sold to club manufacturers. The Company introduced its new and innovative “One” shaft early in 2002, which has been successful in the branded segment and the Company introduced the Aldila NV^TM, in 2003, featuring the Company’s exclusive Micro Laminate Technology. The NV^TM has had numerous tour victories, including the 2003 British Open and is currently the number one new shaft model on tour. In addition to the “One” and the NV^TM shafts, the Company continues to develop other premium branded custom shafts and has introduced NV line extensions in 2004, including the NVS, NV ProtoPype, NV Extreme and the NV Hybrid shafts. In addition, the Company introduced the Gamer shaft in the first part of 2005, which will also service the Hybrid club segment at a different price point. The Company believes that it will continue to be successful in the branded segment and has focused its marketing and advertising effort in support of this business. The Company competes aggressively with both United States and foreign-based shaft manufacturers for OEM production shafts. The Company continues to maintain a broad customer base in both the OEM production shaft and branded shaft market segments.

During the 1990’s, the graphite golf shaft industry became increasingly competitive, placing extraordinary pressure on the selling prices of the Company’s golf shafts and adversely affecting its gross profit margins and level of profitability.

The Company’s selling prices decreased through the 1990s and through December 31, 2002. The pressure was mainly attributed to the increased competition for OEM production shafts, and a shift of our customers away from branded shafts to customized OEM production shafts.The Company’s average selling price decreased by 64% from December 31, 1990 through December 31, 2002. The Company’s average selling price has increased by approximately 36% from 2002 through 2004. The increase in average selling prices is primarily attributed to the success the Company has achieved in the branded segment of the business. The Company believes that its average selling price will increase if it continues to be successful in the branded segment of the golf shaft market. In addition, increases in carbon fiber prices passed on to its customers will also have the effect of increasing average selling prices in the future.

The Company’s response to the pricing pressure it has faced and continues to face has been to reduce its cost structure, vertically integrate and to focus on penetration of the branded shaft segment. The Company has reduced its cost structure by shifting more and more of its shaft production offshore, and by manufacturing the majority of its prepreg requirements internally. In a further effort to reduce costs, the Company consolidated its executive offices with its manufacturing facilities in Poway, California in 2002. The Company continues to look for opportunities to cut costs. The cost saving benefits of its efforts to vertically integrate its operations, particularly through carbon fiber manufacturing, has not benefited the Company in the last several years. Until recently market prices for golf shaft raw materials, which are primarily based on carbon fiber costs, have been historically low with carbon fiber readily available at attractive prices when compared to the Company’s cost to purchase it from CFT. In the second half of 2003 the availability of carbon fiber began to decline and prices began to increase, which trend the Company believes will continue at least for the foreseeable future. Although the Company’s gross margins and profitability have continued to be adversely affected through this period despite its efforts, management believes that vertical integration through its prepreg operation has been successful to date and is allowing the Company to maintain, or in some cases enhance, its competitive position with respect to the major United States golf club companies that are its principal customers. In 2002, the Company refocused its efforts on the branded shaft segment. In 2002, the Company introduced the Aldila “One” shaft; in 2003 the Company introduced the NV^TM shaft. In 2004, the Company introduced line extensions of the NV. The Company has increased its marketing and advertising spending in support of its branded products. The Company’s sales have tended to be concentrated among a limited number of major club companies, thus making the Company’s results of operations dependent on those customers, their continued willingness to purchase a significant portion of their shafts from the Company, and their success in selling clubs containing the Company’s shafts to their customers. In 2004, net sales to Acushnet Company, Callaway Golf and Ping represented 22%, 17% and 9% of the Company’s net sales, respectively, and the Company anticipates that these companies will continue, collectively, to represent the largest portion of its sales in 2005. Although it is generally difficult to predict in advance the success of any particular club or of any particular manufacturer, the Company believes that it is protected to some extent from normal periodic fluctuations in sales among the various golf club companies by virtue of the broad range of its club manufacturer customers. Golf club companies regularly introduce new clubs, frequently containing innovations in design. Sometimes these new clubs achieve dramatic success in the marketplace, thus increasing the overall volatility of club sales among the major companies. While the Company seeks to have its shafts represented on as many major product introductions as possible, it can provide no assurance that its shafts will be included in any particular “hot” club or that sales of a “hot” club that does not include the Company’s shafts will not have a negative impact on the sales of those clubs that do. The Company’s sales could also suffer a significant drop-off from period to period to the extent that they may be dependent in any period on sales of one or more “hot” clubs, which then tail off in subsequent periods when no other club offers a high level of new sales to replace the lost sales.

In 1994, the Company started manufacturing prepreg, the principal raw material in the manufacture of graphite golf shafts, at its facility in Poway, California. Most of its production of prepreg is used internally by the Company, with the remainder sold to other composite materials manufacturers. The Company continues to look for opportunities to sell its prepreg to other composite materials manufacturers and to manufacture other non-golf composite materials products, such as hockey sticks. Sales of prepreg as a percentage of net revenues increased to 8% in 2004 as compared to 5% in 2003 and sales of hockey sticks decreased to 5% of net revenues from 6% in 2003. Although the Company has achieved some success in these areas, management continues to believe that the growth opportunities in these areas will be limited, especially as it pertains to other composite products, such as hockey sticks. Management believes that it can continue to improve on its sales of composite prepreg, although it does not anticipate it will be material to its results of operations for at least several years.

In 1998, the Company established a manufacturing facility in Evanston, Wyoming for the production of carbon fiber. During 1998 and through the first ten months of 1999, the Company used the material from this facility to satisfy a significant portion of its internal demand for carbon fiber in the manufacturing of golf club shafts. During 1999, the Company also produced and sold carbon fiber from this facility to other unrelated entities for the manufacture of other carbon-based products. On October 29, 1999, SGL purchased a 50% interest in the Company’s carbon fiber manufacturing operation.

The Company and SGL entered into an agreement to operate the facility as a limited liability company with equal ownership interests between the venture members. The Company and SGL also entered into supply agreements with the new entity, CFT, for the purchase of carbon fiber at cost plus an agreed-upon mark-up. The Company and SGL are each responsible to bear 50% of the fixed costs to operate the facility as a term of this supply agreement. Profits and losses of CFT are shared equally by the partners. The carbon fiber from this facility is primarily consumed by the joint venture partners.

If the carbon fiber facility is not operated at high production levels, either because of production difficulties or because there is not enough demand by the joint venture partners to justify that level of production, the cost per unit of carbon fiber consumed by the Company (and thus the cost of producing the Company’s golf shafts and other products) is increased due to spreading the fixed costs of production over smaller volumes. If demand is lower than production capacity, CFT also runs the risk of building up excess inventory. Given the relatively low costs historically in the market for carbon fiber and the highly competitive market for graphite golf shafts, the failure to operate at high levels could adversely affect the Company’s gross margins or its ability to maintain competitive prices for its products. Although selling prices of carbon fiber have been depressed for the past several years based on a surplus of supply in the market for carbon fiber, the Company has recently seen increases in carbon fiber prices and a constriction of supply of some types of carbon fiber, which are not manufactured at CFT. If the prices continue to increase or if the company cannot obtain an adequate supply at a reasonable price, it could have an adverse affect on the Company’s business. The Company does not expect third party sales at CFT to have a significant effect on either its sales or profitability for several years.

Results of Operations

The following table sets forth the operating results for the years indicated:

	For the years ended December 31,									Period Change
										2004 vs.		2003 vs.
	2004			2003			2002			2003		2002
Results of Operations
Net Sales	$	52,762		$	37,807		$	37,462		40	%	1	%
Cost Of Sales	34,786			30,586			32,828			14	%	-7	%
Gross Profit	17,976			7,221			4,634			149	%	56	%
Gross Margin	34		%	19		%	12		%

Selling, General And Administrative	8,237			6,989			7,334			18	%	-5	%
Impairment Of Goodwill	—			—			—			—		—	%
Impairment Of Trademarks & Patents	—			—			—			—		—	%
Amortization Of Goodwill	—			—			—			—		—	%
Plant Consolidation	—			—			300			—		-100	%
Operating Income (Loss)	9,739			232			(3,000		)	4098	%	-108	%

Other Expense (Income):
Interest Expense	—			23			94			-100	%	-76	%
Other, Net	(60		)	48			62			225	%	-23	%
Impairment Of Investment In Joint Venture	—			2,220			—			-100	%	—	%
Equity In Earnings Of Joint Venture	(246		)	(150		)	(269		)	64	%	-44	%
Income (Loss) Before Income Taxes	10,045			(1,909		)	(2,887		)	626	%	-34	%
Provision (Benefit) For Income Taxes	725			(183		)	(43		)	496	%	326	%
Net Income (Loss)	$	9,320		$	(1,726	)	$	(2,844	)	640	%	-39	%
Net Income (Loss) Per Common Share-Basic	$	1.85		$	(0.35	)	$	(0.57	)	629	%	-39	%

Cash Flow Data
Cash provided by operating activities	$	9,573		$	3,997		$	2,473		117	%	62	%
Cash (used for) provided by investing activities	(5,339		)	(183		)	547			-2,817	%	-67	%
Cash provided by (used for) financing activities	378			(181		)	—			815	%	100	%

2004 Compared to 2003

Net Sales. Net sales increased by $15.0 million for 2004 from 2003. The majority of the increase in sales was attributed to an increase in sales of branded golf shafts and to a lesser extent the increase in sales of prepreg material. Branded golf shaft sales increased 271% in 2004 as compared to 2003, which was mainly attributed to the success of the Company’s NV family of shafts. The Company believes its success in the branded shaft segment will continue for the foreseeable future, however, it does not anticipate it will achieve the same year over year growth rate. Total golf shaft sales increased by approximately 35% for 2004 from 2003. The average selling price of shafts sold increased by approximately 22% for 2004 from 2003, which was attributed to the increased branded shaft sales. Prepreg material sales increased by approximately 141% in 2004 from 2003 and represented 8% of the Company’s net sales for 2004. The Company has added a fifth prepreg line to support it golf and prepreg business. Hockey sticks sales increased by 13% in 2004 from 2003 and represent 5% of the Company’s net sales for 2004. The Company does not anticipate a significant increase in the sales of hockey sticks in 2005 and could be adversely affected by the NHL players strike, mainly as it relates to the NHL pro service business.

Gross Profit. Gross profit increased by approximately $10.8 million for 2004 from 2003. The Company’s gross profit margin increased to 34% in 2004 from 19% in 2003. The increase in gross profit was mainly attributed to an increase in sales of the Company’s branded product, which typically has higher gross margins than that of the Company’s other products. In addition, the Company’s gross profit was negatively affected by additional inventory related reserves of approximately $97,000 in 2004, versus an increase of $669,000 in 2003. The increase in reserves in 2004 and 2003 were offset by the sales of product that was fully reserved for of $284,000 in 2004 and $745,000 in 2003. The net effect to gross profit was an increase in gross profit of $186,000 in 2004 and $76,000 in 2003.

Operating Income (Loss). Operating income increased by approximately $9.5 million for 2004 from 2003. The increase was primarily attributed to the increase in gross profit. The Company’s selling, general and administrative (“SG&A”) expenses increased by approximately $1.2 million in 2004 as compared to 2003. The increase in SG&A was primarily attributed to increased incentive expenses and increases in advertising and marketing spending. Incentive related expense and advertising/marketing expense represented approximately 42% of SG&A in 2004. Other SG&A decreased by 5% in 2004 as compared to 2003. The Company anticipates that it will spend approximately the same amount on advertising and promotion in support of its branded product in 2005 that it spent in 2004. SG&A decreased as a percentage of net sales to 16% in 2004, from 18% in 2003.

Other Expense (Income). The Company recorded an impairment charge of approximately $2.2 million in 2003 related to its investment in its joint venture (CFT). See - “Notes to Consolidated Financial Statements,” Note 5. Interest expense decreased to $0 in 2004 from $23,000 in 2003.

Income Taxes. The Company recorded a provision for income taxes in the amount of $725,000 in 2004. The Company’s effective tax rate was 7% in 2004. At December 31, 2004, the Company had a net deferred tax asset of approximately $2.2 million. This deferred tax asset represented net operating loss carryforwards, tax credit carryforwards and other basis differences, which give rise to future tax deductions in excess of book deductions. Realization of these tax benefits is dependent upon the generation of future taxable income. During the fourth quarter of 2002, management determined that based on its then current outlook and existing circumstances that it was not likely that the tax benefits associated with its deferred tax assets would be realized. Accordingly, the Company placed a full valuation allowance against its net deferred tax asset as of December 31, 2002.

Based upon the Company’s results in the current year, the Company addressed the appropriateness of its valuation allowance and the circumstances that led to the establishment of its valuation allowance. The Company believes there has been a change in circumstances, and that its deferred tax assets will be realized in future years and accordingly has reduced its valuation allowance against the related deferred tax assets to zero as of December 31, 2004.

2003 Compared to 2002

Net Sales. Net sales increased by $345,000 for 2003 from 2002. Although, sales were relatively flat year on year, the composition of the Company’s sales changed. Sales of golf shafts decreased by approximately 5%, which was more than offset by increased sales of composite prepreg and other revenues, primarily related to hockey sticks. The decrease in golf shaft sales was attributed to decreases in value and OEM premium sales, which were partially offset by increased sales of the Company’s premium branded shafts. Sales of value shafts and OEM premium shafts decreased by 22% and 5%, respectively with sales of the Company’s branded product increasing by 78% as compared to 2002. Shaft unit sales decreased 15% in

2003 compared to 2002 and the average selling price of shafts sold increased by 11% in 2003, which was primarily attributed to an increase in premium branded sales in 2003.

Gross Profit. Gross profit increased by approximately $2.6 million. The Company’s gross profit margin increased to 19% in 2003 from 12% in 2002. The increase in gross profit was attributed to two factors, first, an increase in sales of the Company’s premium branded product, which typically has higher gross margins than that of the Company’s other products and secondly, a decrease in variable costs of production attributed to fewer units shipped in 2003 when compared to 2002. In addition, the Company’s gross profit was negatively affected by additional inventory related reserves of approximately $669,000 in 2003, which was offset by the sales of product that were reserved for in the amount of approximately $745,000. The net impact in gross profit related to inventory reserves was an increase in gross profit of $76,000 in 2003. The Company’s impact on gross profit in 2002 was a negative impact of $456,000.

Operating Income (Loss). Operating income increased by approximately $3.2 million. The increase was primarily attributed to the increase in gross profit. In addition to the increase in gross profit, the Company reduced its selling, general and administrative (“SG&A”) expense by approximately $345,000 in 2003 as compared to 2002. The decrease in SG&A was primarily attributed to decreased administrative expenses, attributed to the consolidation of it corporate offices and the reduction in professional services expenses. The decrease in SG&A was partially offset by an increase in spending on advertising and promotion of approximately $553,000. SG&A decreased as a percentage of net sales to 18% in 2003, from 20% in 2002.

Other Expense (Income). The Company recorded an impairment charge of approximately $2.2 million related to its investment in its joint venture (CFT). See - “Notes to Consolidated Financial Statements,” Note 5. The Company believes that the recorded amount of its investment in CFT approximates fair market value. Interest expense decreased to $23,000 in 2003 from $94,000 in 2002. The decrease is attributed to the repayment of the Company’s long-term debt in 2001 and the termination of its Line of Credit in 2003. As the Company terminated its Line of Credit it 2003, it will no longer be subject to an unused line fee.

Income Taxes. The Company recorded a benefit for income taxes in the amount of $183,000 in 2003. The Company’s effective tax rate was 10% in 2003. At December 31, 2003, the Company had a net deferred tax asset of approximately $2.5 million. This deferred tax asset represented net operating loss carryforwards, tax credit carryforwards and other basis differences, which give rise to future tax deductions in excess of book deductions. Realization of these tax benefits is dependent upon the generation of future taxable income. During the fourth quarter of 2002, management determined that it was no longer more likely than not that the tax benefits associated with these deferred tax assets would be realized. Accordingly, the Company placed a full valuation allowance against its net deferred tax asset.

Liquidity and Capital Resources

Cash, cash equivalents and marketable securities (“Cash”) increased $9.6 million from 2003. The majority of the increase was attributed to increased net income, proceeds from the exercise of stock options and increased distributions from CFT, which were partially offset by increased capital spending and payments of dividends to shareholders. Cash provided by operating activities in 2004 was approximately $9.6 million, compared to approximately $4.0 million in 2003. The Company used $1.9 million for capital expenditures during 2004, with the majority of it applicable to the tenant improvements placed in service at its manufacturing location and added prepreg manufacturing capacity. Management anticipates capital expenditures to approximate between $1.5 million and $2.8 million for 2005. The Company received distributions from CFT totaling $1.5 million in 2004 compared to $500,000 in 2003. Future distributions from CFT must be agreed upon by both joint venture partners prior to any distribution being made. The Company repurchased 54,989 shares of its stock during 2004, costing approximately $295,000.

The Company plans to continue to repurchase its stock in accordance with its stock buyback plan through 2005. The Company believes that it will have adequate cash resources, including anticipated cash flow and borrowing availability, to meet its obligations at least through 2005.

The Company had in place a $12.0 million revolving credit facility from a financial institution, which was secured by substantially all the assets of Aldila Golf and guaranteed by the Company until 2003. The Company terminated the line of credit during 2003 and does not anticipate establishing a new line of credit to support operations.

Off Balance Sheet Arrangements

As of December 31, 2004 and 2003, the Company did not have any Off Balance Sheet Arrangements.

Contractual Obligations

	Payments Due by Period (thousands)
	Less Than 1 Year		1-3 Years		3-5 Years		More Than 5 Years		Total
Operating leases (a)	$	1,024	$	1,504	$	654	$	1,045	$	4,227
CFT Fixed Costs (b)	1,400		2,800		2,800		—		7,000
Total	$	2,424	$	4,304	$	3,454	$	1,045	$	11,227

(a) We enter into operating leases in the normal course of business. All lease agreements have fixed payment terms based on the passage of time. Some lease agreements provide us with the option to renew the lease. Our future operating lease obligations would change if we exercised these renewal options and if we entered into additional operating lease agreements.

(b) The Company is responsible for 50% of the fixed costs of CFT. The amounts estimated above are based upon the amount of fixed costs for CFT in 2004. As the Company is responsible for the fixed costs until CFT is dissolved, the Company has estimated the amount through year 5. If CFT were to still be in existence past year 5, the Company is still responsible for 50% of their fixed costs. The Company does not currently have a fixed or minimum quantity of carbon fiber that it is required to purchase from CFT.

The Company may from time to time consider the acquisition of businesses complementary to the Company’s business. The Company could require additional debt financing if it were to engage in a material acquisition in the future.

Seasonality

Because the Company’s customers have historically built inventory in anticipation of purchases by golfers in the spring and summer, the principal selling season for golf equipment, the Company’s operating results have been affected by seasonal demand for golf clubs, which has generally resulted in highest sales occurring in the second quarter. The timing of customers’ new product introductions has frequently mitigated the impact of seasonality in recent years.

Item 7a. Quantitative and Qualitative Disclosures about Market Risk

The Company believes that its exposure to market risk relating to interest rate risk is not material. The Company is exposed to foreign exchange risk to the extent of adverse fluctuations in the Mexican peso and the Chinese renminbi. Based on historical movements of these currencies, the Company does not believe that reasonably possible near-term changes in these currencies will have a material adverse effect on the Company’s financial position or results of operations. In addition, the Company does not engage in hedging activities to protect from this potential risk. The Company believes that its business operations are not exposed to market risk relating to commodity price risk or equity price risk.

“Safe Harbor” Statement Under the Private Securities Litigation Reform Act of 1995

This Annual Report on Form 10-K and certain information incorporated herein by reference contain forward-looking statements within the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. All statements included or incorporated by reference in this Annual Report on Form 10-K, other than statements that are purely historical, are forward-looking statements.

Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” and similar expressions also identify forward-looking statements. Forward-looking statements are not guarantees of future performance and are subject to risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements. These forward-looking statements are based on management’s expectations as of the date hereof, that necessarily contain certain assumptions and are subject to certain risks and uncertainties. The Company does not undertake any responsibility to update these statements in the future. The Company’s actual future performance and results could differ from that contained in or suggested by these forward looking statements as a result of the factors set forth in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, the Business Risks described in Item 1 of this Report on Form 10-K and elsewhere in the Company’s filings with the Securities and Exchange Commission.

ALDILA, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

	December 31, 2004			December 31, 2003
ASSETS

CURRENT ASSETS:
Cash and cash equivalents	$	11,531		$	6,919
Marketable securities	4,971			—
Accounts receivable	5,214			4,613
Income taxes receivable	1,013			—
Inventories	8,292			7,778
Deferred tax assets	1,570			—
Prepaid expenses and other current assets	380			399
Total current assets	32,971			19,709

PROPERTY, PLANT AND EQUIPMENT	5,245			4,776

INVESTMENT IN JOINT VENTURE	3,072			4,287

DEFERRED TAX ASSETS	634			—

OTHER ASSETS	153			241

TOTAL ASSETS	$	42,075		$	29,013

LIABILITIES AND STOCKHOLDERS’ EQUITY

CURRENT LIABILITIES:
Accounts payable	$	4,213		$	3,067
Accrued expenses	2,781			1,461
Total current liabilities	6,994			4,528

LONG-TERM LIABILITIES:
Deferred rent	20			39
Total liabilities	7,014			4,567

COMMITMENTS AND CONTINGENCIES (Note 12)

STOCKHOLDERS’ EQUITY:
Preferred stock, $.01 par value; authorized 5,000,000 shares; no shares issued
Common stock, $.01 par value; authorized 30,000,000 shares; issued and outstanding 5,127,310 shares in 2004 and 4,885,149 shares in 2003, respectively	51			48
Additional paid-in capital	43,864			41,803
Accumulated deficit	(8,854		)	(17,405		)
Total stockholders’ equity	35,061			24,446

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY	$	42,075		$	29,013

See notes to consolidated financial statements.

ALDILA, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

	Years ended December 31,
	2004			2003			2002

NET SALES	$	52,762		$	37,807		$	37,462
COST OF SALES	34,786			30,586			32,828
Gross profit	17,976			7,221			4,634

SELLING, GENERAL AND ADMINISTRATIVE	8,237			6,989			7,334
PLANT CONSOLIDATION	—			—			300
Operating income (loss)	9,739			232			(3,000		)

OTHER EXPENSE (INCOME):
Interest expense	—			23			94
Other, net	(60		)	48			62
Impairment of investment in joint venture	—			2,220			—
Equity in earnings of joint venture	(246		)	(150		)	(269		)

INCOME (LOSS) BEFORE INCOME TAXES	10,045			(1,909		)	(2,887		)
PROVISION (BENEFIT) FOR INCOME TAXES	725			(183		)	(43		)

NET INCOME (LOSS)	$	9,320		$	(1,726	)	$	(2,844	)

NET INCOME (LOSS) PER COMMON SHARE-BASIC	$	1.85		$	(0.35	)	$	(0.57	)

NET INCOME (LOSS) PER COMMON SHARE, ASSUMING DILUTION	$	1.77		$	(0.35	)	$	(0.57	)

WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING	5,027			4,934			4,948

WEIGHTED AVERAGE NUMBER OF COMMON AND COMMON EQUIVALENT SHARES	5,255			4,934			4,948

See notes to consolidated financial statements.

ALDILA, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(In thousands)

						Additional
	Common Stock					Paid-in
	Shares		Amount			Capital			(Accumulated Deficit)			Total
Balance at January 1, 2002	4,948		$	49		$	41,983		$	(12,835	)	$	29,197

Net loss									(2,844		)	(2,844		)

Balance at Deccember 31, 2002	4,948		49			41,983			(15,679		)	26,353

Repurchases of common stock	(63	)	(1		)	(180		)				$	(181	)

Net loss									(1,726		)	(1,726		)

Balance at December 31, 2003	4,885		48			41,803			(17,405		)	24,446

Repurchases of common stock	(55	)	—			(295		)				$	(295	)

Common stock issued upon stock option exercises, including income tax benefits of $917	297		3			2,356						$	2,359

Dividend payment									(769		)	$	(769	)

Net income									9,320			9,320

Balance at December 31, 2004	5,127		$	51		$	43,864		$	(8,854	)	$	35,061

See notes to consolidated financial statements.

ALDILA, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

	Years ended December 31,
	2004			2003			2002
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)	$	9,320		$	(1,726	)	$	(2,844	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization	1,422			1,798			1,921
Loss (gain) on disposal of fixed assets	32			26			(11		)
Impairment of investment in joint venture	—			2,220			—
Undistributed income of joint venture, net	(285		)	(182		)	(249		)
Tax benefit from exercise of stock options	917			—			—
Changes in assets and liabilities:
Accounts receivable	(601		)	(220		)	(416		)
Inventories	(514		)	760			2,934
Deferred tax assets	(2,204		)	—			2,366
Prepaid expenses and other assets	52			70			117
Accounts payable	1,146			155			(9		)
Accrued expenses	1,320			(102		)	(802		)
Income taxes receivable/payable	(1,013		)	1,185			(462		)
Deferred tax liabilities	—			—			(67		)
Deferred rent and other long-term liabilities	(19		)	13			(5		)
Net cash provided by operating activities	9,573			3,997			2,473

CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment	(1,871		)	(699		)	(362		)
Proceeds from sales of property, plant and equipment	3			16			19
Investment in marketable securities	(4,971		)	—			—
Distributions from joint venture	1,500			500			890
Net cash (used for) provided by investing activities	(5,339		)	(183		)	547

CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings under line of credit	—			—			887
Payments under line of credit	—			—			(887		)
Repurchases of common stock	(295		)	(181		)	—
Proceeds from issuance of common stock	1,442			—			—
Dividend payments	(769		)	—			—
Net cash provided by (used for) financing activities	378			(181		)	—

NET INCREASE IN CASH AND CASH EQUIVALENTS	4,612			3,633			3,020
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR	6,919			3,286			266
CASH AND CASH EQUIVALENTS, END OF YEAR	$	11,531		$	6,919		$	3,286

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for:
Interest	$	—		$	23		$	48
Income taxes	$	3,095		$	183		$	251

See notes to consolidated financial statements.

ALDILA, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The Company – Aldila, Inc. (a Delaware Corporation) (the “Company”) designs, manufacturers and markets graphite golf club shafts for sale principally in the United States. In addition, the Company sells a limited amount of composite prepregs and hockey sticks.

Principles of Consolidation – The consolidated financial statements of the Company include the accounts of the Company and its wholly owned subsidiaries, Aldila Materials Technology Corporation (“AMTC”), Aldila Golf, and Aldila Golf’s subsidiaries, Aldila de Mexico, Aldila Graphite Products (Zhuhai) Company Ltd. and Aldila Foreign Sales Corporation. All intercompany transactions and balances have been eliminated in consolidation. The Company accounts for its joint venture investment in Carbon Fiber Technology (“CFT”) under the equity method of accounting.

Use of Estimates – The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, as well as the disclosure of contingencies affected by such estimates and assumptions. Actual results could differ from these estimates.

Revenue Recognition – The Company recognizes revenues from product sales upon transfer of title to the customer at the time of shipment. The Company also offers discounts to certain customers based on early payment. Sales to these customers are recognized on a gross basis, and sales discounts are recorded at the time the discount is taken by the customer. Recording revenue net of discounts would not have a significant effect on net sales or on the net realizable value of accounts receivable. Sales discounts for the years ended December 31, 2004, 2003 and 2002 were $327,887, $245,328 and $180,877, respectively, representing less than 1% of gross revenues. The Company monitors the significance of these amounts.

Cash Equivalents – The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. The Company has not historically experienced losses on such investments.

Marketable Securities – Management determines the appropriate classification of marketable debt and equity securities at the time of purchase and reevaluates such designation as of each balance sheet date.

Fair Value of Financial Instruments - The fair value of short-term marketable securities, trade accounts receivable and payable and certain accrued expenses approximate their carrying amounts in the financial statements due to the short maturity of such instruments. The fair value of investments is determined using quoted market prices for those securities.

Accounts Receivable – The Company sells graphite golf club shafts primarily to golf club manufacturers and distributors on credit terms. The Company also sells hockey sticks to one customer and composite prepregs to manufacturers of other composite based products on credit terms. Historically, credit losses have been minimal in relation to the credit extended.

Inventories – Inventories are stated at the lower of first-in, first-out (FIFO) cost or market value.

Property, Plant and Equipment – Property and equipment are stated at cost. Repairs and maintenance are charged to expense as incurred. The Company depreciates its property and equipment using the straight-line method over the estimated useful lives of the assets, as follows:

		Years

Machinery and equipment		5-10

Office furniture and equipment		3-10

Leasehold improvements are amortized over the shorter of the asset life or the remaining term of the related lease.

Joint Venture – The Company’s 50% investment in CFT is accounted for under the equity method. (See Note 5).

Evaluation of Long-lived Assets – The Company’s policy is to assess potential impairments to its long-lived assets when there is evidence that events or changes in circumstances have made recovery of the assets carrying value unlikely and the carrying amount of the asset exceeds the estimated undiscounted future cash flows. If such evaluation were to indicate a material impairment of these long-lived assets, such impairment would be recognized by a write down of the applicable asset to its estimated fair value under Statement of Financial Accounting Standards (“SFAS”) No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets”. See Note 5.

Warranty Reserve – The Company provides a warranty to its customers for shaft breakage in the normal course of business. The Company accrues for the estimated warranty based on historical experience at time of sale. The estimated warranty is calculated based upon a rolling four-year ratio of breakage returns to sales applied to current year sales. (See Note 6).

Research & Development – The Company performs internal research and development efforts. Research and development expense represented less than approximately 1% of net revenues for 2004, 2003 and 2002 and is considered immaterial.

Foreign Currency Translation – The Company’s foreign subsidiaries are a direct and integral component or extension of the parent company’s operation. The daily operations of foreign subsidiaries are dependent on the economic environment of the parent’s currency. In addition, the changes in the foreign subsidiary’s individual assets and liabilities directly affect the cash flow of the parent company. The functional currency of foreign subsidiaries is the US dollar. During the years ended December 31, 2004, 2003 and 2002, net foreign currency transaction gains and losses included in the Company’s Statements of Operations were insignificant.

Common Stock and Earnings Per Share (EPS) – Earnings per share - basic is calculated based upon the weighted average number of shares outstanding during the year, while diluted also gives effect to all potential dilutive common shares outstanding during each year such as options, warrants and contingently issuable shares. Options to purchase 712,497 and 737,961 shares of common stock as of December 31, 2003 and December 31, 2002, respectively, at prices ranging from $1.61 to $18.66 per share were not included in the computation of diluted EPS because the effect of such options would be anti-dilutive. Such options expire at various dates through December of 2013.

On May 15, 2002, the Company’s Board of Directors and stockholders approved a 1-for-3 reverse stock split of the Company’s Class A Common Stock, which became effective on June 3, 2002 for stockholders of record at that date. Stockholders’ equity has been retroactively restated to reflect the reverse stock split for all periods presented by reclassifying the additional paid-in capital, which resulted from the reduction in shares due to the reverse split from common stock to additional paid-in capital. All share data in the accompanying consolidated financial statements and notes to the consolidated financial statements have been retroactively restated to reflect the stock split for all periods presented.

Income Taxes - Income taxes are provided utilizing the asset and liability method. The asset and liability method requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the carrying amounts and tax bases of assets and liabilities. Valuation allowances are established when necessary to reduce deferred income tax assets to amounts more likely than not to be realized.

Accounting for Stock Based Compensation – At December 31, 2004, the Company has two stock-based compensation plans, which are described more fully in Note 10. SFAS No. 123, “Accounting for Stock-Based Compensation,” encourages but does not require companies to record compensation cost for stock-based employee compensation plans at fair value (See SFAS 123R below under Recently Issued Accounting Pronouncements). The Company has chosen to continue to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations. Accordingly, compensation cost for stock options is measured as the excess, if any, of the quoted market price of the Company’s stock at the date of the grant over the amount an employee must pay to acquire the stock. Had compensation cost for the Company’s stock option awards been determined based upon the fair value at the grant date for awards from 2001 through 2004 and recognized on a straight-line basis over the related vesting period, in accordance with the provisions of SFAS No. 123, the Company’s net income and earnings per share for 2004 would have been decreased and the net loss and loss per share for 2003 and 2002 would have been increased to the pro forma amounts indicated below:

	2004			2003			2002
Net income (loss) as reported	$	9,320		$	(1,726	)	$	(2,844	)

Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects	(202		)	(208		)	(380		)
Pro forma net income (loss)	$	9,118		$	(1,934	)	$	(3,224	)

Earnings (loss) per share:
Basic – as reported	$	1.85		$	(0.35	)	$	(0.57	)
Basic – pro forma	$	1.81		$	(0.39	)	$	(0.65	)

Diluted – as reported	$	1.77		$	(0.35	)	$	(0.57	)
Diluted – pro forma	$	1.74		$	(0.39	)	$	(0.65	)

Recently Issued Accounting Pronouncements – In December 2004, the Financial Accounting Standards Board issued SFAS No. 123(R), “Share-Based Payment.” SFAS No. 123(R) replaces SFAS No. 123, “Accounting for Stock-Based Compensation,” and supersedes APB Opinion No. 25, “Accounting for Stock Issued to Employees.” SFAS No. 123(R) requires compensation costs related to share-based payment transactions to be recognized in the financial statements over the period that an employee provides service in exchange for the award. SFAS No. 123(R) is effective for periods beginning after June 15, 2005. The Company plans to adopt SFAS No. 123(R) on July 1, 2005, the beginning of its third fiscal quarter. SFAS123R eliminates the alternative to use the intrinsic value method of accounting that was provided in SFAS123 as originally issued. In accordance with SFAS No. 148, the Company has been disclosing the impact on net income and earnings per share had the fair value based method been adopted. If the fair value method had been adopted, net income for 2004 would have decreased by $202,000 and net loss for 2003 and 2002 would have increased by $208,000, and $380,000, respectively, than reported and earnings (loss) per share would have been reduced approximately $0.03, $0.04, and $0.08 in 2004, 2003, and 2002, respectively.

In November 2004, the Financial Accounting Standards Board issued SFAS No. 151, “Inventory Costs.” SFAS No. 151 amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material. This Statement requires that those items be recognized as current-period charges regardless of whether they meet the criterion of “so abnormal.” In addition, this Statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 is effective for fiscal years beginning after June 15, 2005. The Company intends to adopt SFAS No. 151 on January 1, 2006, the beginning of its 2006 fiscal year. The adoption of SFAS No. 151 is not expected to have a material impact on the Company’s financial statements.

In December 2003, the Financial Accounting Standards Board issued Interpretation 46R (“FIN 46R”), a revision to Interpretation 46 (“FIN 46”), “Consolidation of Variable Interest Entities.” FIN 46R clarifies some of the provisions of FIN 46 and exempts certain entities from its requirements. FIN 46R was effective at the end of the first interim period ending after March 15, 2004. The Company adopted FIN 46R on April 1, 2004 and it did not have an impact on the Company’s financial statements

2. ACCOUNTS RECEIVABLE

Accounts receivable at December 31 consist of the following (in thousands):

	2004			2003

Trade accounts receivable	$	5,239		$	4,647
Less: allowance for doubtful accounts	(25		)	(34		)
Accounts receivable	$	5,214		$	4,613

3. INVENTORIES

Inventories at December 31 consist of the following (in thousands):

	2004		2003

Raw materials	$	4,632	$	5,420
Work-in-process	742		774
Finished goods	2,918		1,584
Inventories	$	8,292	$	7,778

4. PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment at December 31 consists of the following (in thousands):

	2004			2003

Machinery and equipment	$	15,639		$	14,738
Office furniture and equipment	1,615			1,603
Leasehold improvements	8,635			8,017
Property and equipment not yet in service	253			31
	26,142			24,389
Less: accumulated depreciation and amortization	(20,897		)	(19,613		)
Property, plant and equipment	$	5,245		$	4,776

Depreciation and amortization expense were $1.4 million, $1.8 million and $1.7 million in 2004, 2003 and 2002, respectively.

5. INVESTMENT IN JOINT VENTURE

The Company and SGL each own 50% of CFT in a joint venture to produce carbon fiber. CFT, which was previously a wholly owned subsidiary of AMTC, was formed on October 29, 1999. AMTC contributed net assets with a book value of approximately $13.3 million. SGL purchased a 50% interest in AMTC’s carbon fiber manufacturing operations for approximately $7.0 million in cash, which resulted in a gain of approximately $334,000. The Amended and Restated Limited Liability Company Agreement provides that CFT is to continue until December 31, 2099 unless it is dissolved earlier, its affairs are wound up and final liquidating distributions are made pursuant to the Amended and Restated Limited Liability Company Agreement.

The Company’s 50% investment in CFT is accounted for under the equity method. Based on the member’s respective ownership interest in the joint venture, profits and losses are allocated equally to each member. Each partner is responsible for 50% of the fixed costs of the facility regardless on the amount of fiber that is purchased from the joint venture. In 2004, CFT’s sales to the Company and its partner was $4.7 million and $7.0 million, respectively. The amount of consolidated retained earnings of the Company represented by undistributed earnings of CFT was an accumulated deficit of approximately $4.2 million as of December 31, 2004. The Company’s equity in earnings from the joint venture for the years ended December 31, 2004, 2003 and 2002 were approximately $246,000, $150,000 and $269,000, respectively. The Company’s investment includes the unamortized excess of the Company’s investment over its equity in the joint venture net assets. The excess was approximately $64,000 and $84,000 at December 31, 2004 and 2003, respectively, and is being amortized on a straight-line basis over an initial estimated economic useful life of approximately 101 months.

The Company and its joint venture partner entered into a non-binding letter of interest on September 17, 2003 to sell selected assets, substantially all of the manufacturing equipment, building, land and raw materials (substantially all the total operating assets), of CFT to an independent third party. On February 11, 2004, the Company and its joint venture partner entered into a non-binding letter of intent with that same party based on the prevailing circumstances preceding such letter and consequent assessments made during that relevant period. The letter of intent included an implied fair value of the proposed transaction and the Company was willing, at that time, to sell its 50% of CFT based on the implied fair value within the letter of intent. In consideration of the valuation determined during negotiations, the Company believed that impairment had occurred. Consequently it was appropriately assessed that the previous carrying amount of its investment in CFT as of December 31, 2003 was not recoverable. As such the Company judged that in accordance with SFAS 144 “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS 144”) it was appropriate to record an impairment charge against

the recorded value of its investment in CFT as of December 31, 2003 and such impairment charge was recorded in the fourth quarter of 2003. The three parties continued to negotiate the terms of the proposed transaction for an extended period thereafter and were subsequently unable to reach an agreement on the transaction, which along with prevailing market conditions at the time, continued to support the Company’s view as to the valuation of the asset in question and the appropriateness of the impairment charge recorded.

The Company disclosed in its June 30, 2004 Form 10-Q that the negotiations regarding the sale of the selected assets failed. The Company now believes that the fair value of CFT as of December 31, 2004 is currently greater than its carrying value. The increase in fair value is attributed to the change of market conditions of the carbon fiber industry during 2004. Carbon fiber prices increased throughout 2004 and supply has continued to tighten. The Company currently believes that this trend will continue into the foreseeable future. The Company will continue to assess the fair value of its investment in CFT going forward in accordance with SFAS 144.

6. ACCRUED EXPENSES

Accrued expenses at December 31 consist of the following (in thousands):

	2004		2003

Payroll and employee benefits	$	2,280	$	904
Warranty reserve (1)	176		184
Plant consolidation	—		—
Marketing and promotional expense	225		225
Legal and professional fees	25		28
Interest payable	—		—
Other	75		120
Accrued expenses	$	2,781	$	1,461

(1) Warranty Reserve	2004			2003
Beginning Balance	$	184		$	345
Settlement of Warranty	(77		)	(110		)
Adjustments to Warranty	69			(51		)
Ending Balance	$	176		$	184

7. STOCKHOLDERS’ EQUITY

The Company announced on January 17, 2001 that its Board of Directors authorized the repurchase of up to 333,333 shares of the Company’s common stock (or up to 6.5% of the 5,154,068 shares then issued and outstanding). The Company repurchased 206,267 shares on the open market, at an approximate cost of $3.63 per share during 2001. The Company announced on January 22, 2002 an increase in the number of shares authorized for purchase in its current share buyback program from 333,333 to 666,667 shares of the Company’s common stock. On June 27, 2003, the Company announced a stock buyback program under which shares of the Company’s common stock could be repurchased up to a total of $1.5 million. The Company repurchased 62,499 shares on the open market during 2003, costing an approximate $181,000. The Company repurchased 54,989 shares on the open market during 2004, costing an approximate $295,000.

8. PLANT CONSOLIDATION

During the fourth quarter of 2002, management developed a plan to consolidate its executive offices with its U.S. manufacturing operations in an effort to reduce costs. The Company successfully negotiated a sub-lease of its executive offices, with the term of the sub-lease identical to the term of the Company’s remaining lease obligation through October 31, 2005. Accordingly, the Company recorded a plant consolidation charge in the amount of approximately $300,000. The majority of the charge is related to the Company’s leasehold improvements at its executive offices. The reserve was settled during 2003 and as of December 31, 2003 there was $0 remaining in the reserve for future obligations.

9. INCOME TAXES

The components of the provision (benefit) for income taxes are as follows (in thousands):

	2004			2003			2002
Current:
Federal	$	2,256		$	(211	)	$	(2,317	)
State	455			(58		)	(17		)
Foreign	217			86			(8		)
Total	2,928			(183		)	(2,342		)
Deferred:
Federal	2,352			(57		)	1,698
State	(149		)	57			601
Total	2,203			—			2,299
Provision (benefit) for income taxes	$	725		$	(183	)	$	(43	)

Net deferred income taxes included in current assets in the balance sheet at December 31, consist of the tax effects of temporary differences related to the following (in thousands):

	2004			2003
Inventories	$	914		$	1,458
Accrued expenses	760			306
Allowance for doubtful accounts	10			13
Deferred expenses (capital losses)	4			18
Prepaid expenses	(86		)	—
State income taxes	(32		)	(201		)
Deferred tax assets – current	$	1,570		$	1,594

Net deferred income taxes included in long-term liabilities in the balance sheet at December 31 consist of the tax effects of temporary differences related to the following (in thousands):

	2004			2003
Property and equipment	$	312		$	493
Basis in joint venture (CFT)	(586		)	(634		)
CFT Impairment Charge	882			882
Other	26			208
Deferred tax assets (liabilities) – long term	$	634		$	949

Total reconciliation of the deferred tax assets and liabilities are below.

	2004		2003
Deferred tax assets – current	$	1,570	$	1,594
Deferred tax assets (liabilities) – long term	634		949
Total net deferred tax asset before valuation allowance	2,204		2,543
Valuation allowance			(2,543		)
Total deferred tax asset	$	2,204	$	—

During the fourth quarter of 2002, management determined that based on its then current outlook and existing circumstances that it was not likely that the tax benefits associated with its deferred tax assets would be realized. Accordingly, the Company placed a full valuation allowance against its net deferred tax asset as of December 31, 2002 in accordance with SFAS 109.

Based upon the Company’s results in the current year, the Company addressed the appropriateness of its valuation allowance and the circumstances that led to the establishment of its valuation allowance in accordance with SFAS 109. The Company believes there has been a change in circumstances, and that its deferred tax assets will be realized in future years and accordingly has reduced its valuation allowance against the related deferred tax assets to zero as of December 31, 2004. Differences between the statutory federal income tax rate and the effective tax rate as a percentage of income taxes are summarized below.

At December 31, 2004, the Company had California net operating loss carryforwards of $1.5 million. The California net operating loss carryforwards will begin to expire in 2013, unless previously utilized. The Company also has federal research and development tax credits of approximately $43,000, which will begin to expire in 2021 unless previously utilized. The California research and development credit carryforward of approximately $49,000 can be carried over to succeeding years until exhausted.

	2004		2003		2002
Statutory rate	34.0	%	(34.0	)%	(34.0	)%
State income taxes, net of Federal tax benefit	4.0		(4.0	)	1.7
Valuation allowance	(26.9	)	44.7		66.2
Goodwill impairment	—		—		—
Non-deductible amortization	—		—		—
Revision of prior years’ tax estimates	—		(10.3	)	(23.4	)
Foreign earnings taxed at different rates	(4.0	)	(4.5	)	(12.5	)
Other items	.1		(1.5	)	0.5
Effective rate	7.2	%	(9.6	)%	(1.5	)%

The Company has adopted the position under APB 23 that earnings of its foreign subsidiaries will be permanently reinvested outside of the United States. As such, United States deferred taxes have not been provided for on these earnings.

10. STOCK OPTION PLAN

In 1992, the Company adopted a Stock Option Plan for management. The Company has reserved 175,431 shares for issuance under this Plan. Options are granted at the fair market value of the shares at the date of grant, generally become fully vested three years after grant, and expire ten years from the date of grant.

In May of 1994, the stockholders adopted the 1994 Stock Incentive Plan for employees, directors and consultants of the Company. The Company has reserved 1,366,667 shares for issuance under this Plan. Options are granted at the fair market value of the shares at the date of grant, generally become fully vested three years after grant, and expire ten years from the date of grant.

The pro forma compensation costs presented in Note 1 were determined using the weighted average fair values of options granted under the Company’s stock option plans during 2004, 2003 and 2002 were estimated at $5.06, $1.41 and $0.90, respectively, on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions: 1% dividend yield in 2004, volatility of 59% in 2004, 49% in 2003 and 50% in 2002, risk free rate of return of 3.5% in 2004, 2.7% in 2003 and 3.3% in 2002 and expected lives of five years. The estimated fair value of options granted is subject to the assumptions made and if the assumptions changed, the estimated fair value amounts could be significantly different. A summary of the Company’s fixed stock option plans as of December 31, 2004, 2003 and 2002 and activity during the years then ended is presented below:

	2004				2003				2002
	Shares		Weighted Average Exercise Price		Shares		Weighted Average Exercise Price		Shares		Weighted Average Exercise Price

Outstanding at January 1	712,497		$	5.21	729,189		$	5.79	1,029,323		$	10.08
Granted	132,494		$	11.37	90,440		$	3.03	108,899		$	1.92
Exercises	(299,025	)	$	4.82
Terminated	(60,628	)	$	15.20	(107,132	)	$	7.30	(409,033	)	$	15.92
Outstanding at December 31	485,338		$	5.86	712,497		$	5.21	729,189		$	5.79

The following table summarizes information about stock options outstanding and exercisable at December 31, 2004:

		Options Outstanding			Options Exercisable
Range of Exercise Prices	Number Outstanding at December 31, 2004	Weighted Average Remaining Contractual Life (Yrs.)	Weighted Average Exercise Price		Number Exercisable at December 31, 2004	Weighted Average Exercise Price

$1.61 - $3.29	176,231	8.4	$	2.42	85,240	$	2.21
$4.14 - $5.91	177,841	6.1	$	4.68	167,841	$	4.64
$11.47 - $15.75	131,266	9.2	$	12.09	8,772	$	15.18
$1.61 - $15.75	485,338	7.8	$	5.86	261,853	$	4.20

As of December 31, 2004, 2003 and 2002, 261,853, 503,420 and 457,258 shares were exercisable under the Plans at a weighted average exercise price of $4.20, $6.08 and $7.06 per share, respectively. As of December 31, 2004, an aggregate of 586,914 shares remain available for grant under the Plans.

On March 20, 2000, the Company and Nick Price Group entered into a stock option agreement. The option agreement allows Nick Price to purchase 50,000 shares of Common Stock at a purchase price of $4.89 per share with a three-year vesting period. In return for the shares, the Company has received the services of Nick Price at a guaranteed minimum value of $4.50 per share, or a minimum aggregate consideration of $225,000. The Company recognized compensation expense and a liability of approximately $0, $16,000 and $37,000 in 2004, 2003 and 2002, respectively. The shares are registered under a Form S-3, which was filed with the Securities and Exchange Commission on August 2, 2004. Nick Price Group exercised their 50,000 options on March 11, 2005.

11. EMPLOYEE BENEFIT PLAN

In 1994, the Company adopted the Aldila, Inc. 401(k) Savings Plan (the “Plan”) for employees of the Company and its subsidiaries. This defined contribution plan allows employees who satisfy the age and service requirements of the Plan to contribute up to 19% of pre-tax wages, limited to the maximum amount permitted under federal law. The Company matches the first 4% of wages contributed by employees at a rate of $0.25 for every $1.00. The Company’s matching contributions vest over four years based on years of service. The Company’s contributions amounted to approximately $48,000, $48,000 and $48,000 in 2004, 2003 and 2002, respectively.

12. COMMITMENTS AND CONTINGENCIES

The Company leases building space and certain equipment under operating leases. The Company’s leases for office and manufacturing space contain rental escalation clauses and renewal options. Rental expense for the Company was $900,000, $900,000 and $1.1 million for 2004, 2003 and 2002, respectively. As of December 31, 2004, future minimum lease payments for all operating leases are as follows (in thousands):

2005	$	1,024
2006	837
2007	667
2008	654
2009	624
Thereafter	421
	$	4,227

Amounts receivable from future minimum rental payments due from a sub-lessee for the year ending December 31, 2005 is $211,000.

13. SEGMENT INFORMATION

The Company designs and manufacturers graphite shafts for golf club manufacturers. In doing so, the Company also manufactures carbon fiber and prepreg materials, which are utilized in the manufacture of graphite golf shafts. In accordance with SFAS No. 131 “Disclosures about Segments of an Enterprise and Related Information”, the Company considers its business to consist of one reportable operating segment.

The Company markets its products domestically and internationally, with its principal international market being Europe.

The table below contains information about the geographical areas in which the Company operates. Revenues are attributed to countries based on location in which the sale is settled. Long-lived assets are based on the country of domicile. Sales to a major customer represented 22%, 27%, and 22% of net sales in 2004, 2003, and 2002, respectively. Sales to a second customer represented 2%, 6%, and 13% of net sales in 2004, 2003, and 2002, respectively. Sales to a third customer represented 17%, 21% and 22% of net sales in 2004, 2003 and 2002, respectively. Sales to a fourth customer represented 9%, 10% and 9% of net sales in 2004, 2003 and 2002, respectively.

(in thousands) 2004	Sales		Long-Lived Assets
United States	$	43,277	$	6,134
Scotland	—		—
England	3,510		—
China	4,356		1,887
Mexico	—		296
Other Foreign Countries	1,619		—
Total	$	52,762	$	8,317

2003	Sales		Long-Lived Assets
United States	$	32,180	$	6,794
Scotland	53		—
England	2,855		—
China	1,057		2,013
Mexico	—		256
Other Foreign Countries	1,662		—
Total	$	37,807	$	9,063

2002	Sales		Long-Lived Assets
United States	$	32,207	$	10,587
Scotland	189		—
England	2,165		—
China	1,023		2,324
Mexico	—		349
Other Foreign Countries	1,878		—
Total	$	37,462	$	13,260

14. QUARTERLY RESULTS OF OPERATIONS (Unaudited)

The following is a summary of the quarterly results of operations for the two years in the period ended December 31, 2004 (in thousands, except per share data):

	Quarter Ended
	March 31,			June 30,			September 30,		December 31,

2004:
Net sales	$	15,298		$	14,260		$	10,772	$	12,432
Gross profit	6,124			5,979			2,524		3,349
Net income	2,274			2,173			3,318		1,555
Net income per common share-basic	$	0.47		$	0.44		$	0.65	$	0.30
Net income per common share-diluted	$	0.46		$	0.42		$	0.62	$	0.29

2003:

Net sales	$	10,164		$	9,863		$	7,995	$	9,785
Gross profit	1,739			1,513			1,893		2,076
Net income (loss)	(169		)	(471		)	189		(1,275		)

Net income (loss) per common share-basic	$	(0.03	)	$	(0.10	)	$	0.04	$	(0.26	)
Net income (loss) per common share-diluted	$	(0.03	)	$	(0.10	)	$	0.04	$	(0.26	)

ALDILA INC. AND SUBSIDIARIES

SCHEDULE IIC VALUATION AND QUALIFYING ACCOUNTS

For the years ended December 31, 2004, 2003 and 2002

	Balance at beginning of year		Charged to costs and expenses			Deductions			Balance at end of year
Year ended December 31, 2002
Allowance for uncollectible accounts	$	151,275	$	(21,899	)	$	(107,040	)	$	22,336
Inventory Reserves	$	3,260,969	$	455,901		$	—		$	3,716,870
Warranty reserve	$	485,000	$	(3,000	)	$	(137,000	)	$	345,000

Year ended December 31, 2003
Allowance for uncollectible accounts	$	22,336	$	45,000		$	(33,260	)	$	34,076
Inventory Reserves	$	3,716,870	$	669,368		$	(2,378,908	)	$	2,007,330
Warranty reserve	$	345,000	$	(51,000	)	$	(110,000	)	$	184,000

Year ended December 31, 2004
Allowance for uncollectible accounts	$	34,076	$	59,878		$	(69,137	)	$	24,817
Inventory Reserves	$	2,007,330	$	97,288		$	(1,143,143	)	$	961,475
Warranty reserve	$	184,000	$	69,000		$	(77,000	)	$	176,000

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	ALDILA, INC.

	By:	/s/ Peter R. Mathewson
		Peter R. Mathewson
		Chairman of the Board,
		Chief Executive Officer

Signature	Title	Date

/s/ Peter R. Mathewson	Chief Executive Officer and Director (Principal Executive Officer)	March 30, 2005
Peter R. Mathewson


/s/ Robert J. Cierzan	Vice President, Finance (Principal Financial Officer and Principal Accounting Officer)	March 30, 2005
Robert J. Cierzan


/s/ Lloyd I Miller, III	Director	March 30, 2005
Lloyd I. Miller, III

/s/ Thomas A. Brand	Director	March 30, 2005
Thomas A. Brand

/s/ Andrew M. Leitch	Director	March 30, 2005
Andrew M. Leitch

/s/ Bryant R. Riley	Director	March 30, 2005
Bryant R. Riley

EXHIBIT INDEX

Exhibit Number		Exhibit

2.1		Agreement of Purchase and Sale, dated as of December 14, 1991, by and among Aldila Acquisition Corp., Aldila, Inc. and all of the Shareholders of Aldila, Inc., as amended by the First Amendment dated January 9, 1992 by and among Aldila Acquisition Corp., Aldila, Inc. and all the Shareholders of Aldila, Inc. (Filed as Exhibit 2.1 to the Company’s Registration Statement on Form S-1 (Registration No. 33-61560) and incorporated herein by reference).

3.1		Restated Certificate of Incorporation. (Filed as Exhibit 3.1 to the Company’s Registration Statement on Form S-1 (Registration No. 33-70010) and incorporated herein by reference).

3.2		Restated By-Laws of the Company. (Filed as Exhibit 3.2 to the Company’s Registration Statement on Form S-1 (Registration No. 33-61560) and incorporated herein by reference).

4.1		Specimen form of Company’s Common Stock Certificate. (Filed as Exhibit 4.1 to the Company’s Registration Statement on Form S-1 (Registration No. 33-61560) and incorporated herein by reference).

*10.1		1992 Stock Option Plan of the Company, as amended. (Filed as Exhibit 10.6 to the Company’s Registration Statement on Form S-1 (Registration No. 33-61560) and incorporated herein by reference).

*10.2		Form of Stock Option Agreement in connection with Stock Option Plan. (Filed as Exhibit 10.7 to the Company’s Registration Statement on Form S-1 (Registration No. 33-61560) and incorporated herein by reference).

*10.3		Executive Bonus Plan of the Company. (Filed as Exhibit 10.2 to the Company’s Report on Form 10-Q for the quarterly period ended September 30, 1994 and incorporated herein by reference).

10.4		Form of Indemnification Agreement between the Company and its directors and executive officers. (Filed as Exhibit 10.13 to the Company’s Registration Statement on Form S-1 (Registration No. 33-61560) and incorporated herein by reference).

10.5		Business Park Net Lease dated as of May 29,1987, between the Company and Kaiser Development Company as amended by the First Amendment to Lease dated as of January 12, 1992, between the Company and Bedford Development Company. (Filed as Exhibit 10.15 to the Company’s Registration Statement on Form S-1 (Registration No. 33-61560) and incorporated herein by reference).

10.6		Lease Agreement dated as of October 15, 1990, between the Company and Baja del Mar, S.A. de C.V. (Filed as Exhibit 10.16 to the Company’s Registration Statement on Form S-1 Registration No. 33-61560) and incorporated herein by reference).

10.7		Lease Agreement dated as of August 30, 1993, between the Company and T.M. Cobb Company. (Filed as Exhibit 10.16 to the Company’s Registration Statement on Form S-1 (Registration No. 33-70010) and incorporated herein by reference).

10.8		First Amendment to Lease Agreement dated as of August 30, 1993, between the Company and T.M. Cobb Company. (Filed as Exhibit 10.14 to the Company’s Report on Form 10-K for the year ended December 31, 1993 and incorporated herein by reference).

10.9		Lease Agreement dated as of November 30, 1993, between the Company and T.M. Cobb Company. (Filed as Exhibit 10.15 to the Company’s Report on Form 10-K for the year ended December 31, 1993 and incorporated herein by reference).

10.10		1994 Stock Incentive Plan of the Company, as amended. (Filed as Exhibit A to the Company’s 1997 Proxy Statement dated March 26, 1997 and incorporated herein by reference).

10.11		Form of Stock Option Agreement in connection with the 1994 Stock Incentive Plan. (Filed as Exhibit 10.1 to the Report on Form 10-Q for the quarterly period ended September 30, 1994 and incorporated herein by reference).

10.12		Lease Agreement dated May 15, 1995 between the Company and Desarrollo Industrial de Tijuana, S.A. de C.V.(Filed as Exhibit 10.1 to the Company’s Report on Form 10-Q for the quarterly period ended June 30, 1995 and incorporated herein by reference).

10.13		Loan Agreement dated March 27, 1998 between Aldila, Inc. and Union Bank of California, N.A. (Filed as Exhibit 10.1 to the Company’s Report on Form 10-Q for the quarterly period ended March 31, 1998 and incorporated herein by reference).

10.14		First Amendment to Loan Agreement dated March 22, 1999 between the Company and Union Bank of California, N.A. (Filed as Exhibit 10.16 to the Company’s Report on Form 10-K for the year ended December 31, 1998 and incorporated herein by reference).

10.15		Member Interest Purchase Agreement dated as of October 20, 1999 among SGL Carbon Fibers and Composites, Inc., SGL Technik GmbH, Aldila Materials Technology Corp. and the Company. (Filed as Exhibit 10.17 to the Company’s Report on Form 10-K for the year ended December 31, 1999 and incorporated herein by reference).

*10.16		Loan and Security Agreement by and between Aldila Golf Corp. and Foothill Capital Corporation dated July 9, 1999. (Filed as Exhibit 10.1 to the Company’s Report on Form 10-Q for the quarterly period ended June 30, 1999 and incorporated herein by reference).

*10.17		Severance Protection Agreement dated March 11, 1999 between the Company and Peter R. Mathewson. (Filed as Exhibit 10.3 to the Company’s Report on Form 10-Q for the quarterly period ended June 30, 1999 and incorporated herein by reference).

*10.18		Severance Protection Agreement dated March 11, 1999 between the Company and Robert J. Cierzan. (Filed as Exhibit 10.4 to the Company’s Report on Form 10-Q for the quarterly period ended June 30, 1999 and incorporated herein by reference).

*10.19		Severance Protection Agreement dated March 11, 1999 between the Company and Michael J. Rossi. (Filed as Exhibit 10.5 to the Company’s Report on Form 10-Q for the quarterly period ended June 30, 1999 and incorporated herein by reference).

10.20		1994 Stock Option Plan of the Company, as amended. (Filed as attachment A-1 in the Company’s 2000 Proxy Statement and registered on the Company’s Form S-8 (Registration No. 333-57754) and incorporated herein by reference).

10.21		Aldila, Inc. Audit Committee Charter included as Exhibit A in the Company’s 2001 Proxy dated April 4, 2001 and incorporated herein by reference.

10.22		Aldila, Inc.’s Code of Business Conduct and Ethics adopted on December 31, 2002 (Filed as Exhibit 14.0 in the Company’s Report on Form 10-K for the year ended December 31, 2003)

11.1		Statement re: Computation of Net Income (Loss) per Common Share.

21.1		Subsidiaries of the Company.

23.1		Consent of Independent Registered Public Accounting Firm – Peterson & Co., LLP

23.2		Consent of Independent Registered Public Accounting Firm – Deloitte & Touche LLP

31.1		Certification of Chief Executive Officer

31.2		Certification of Chief Financial Officer

Part I

	Item 1.	Business
	Item 2.	Properties
	Item 3.	Legal Proceedings
	Item 4.	Submission of Matters to a Vote of Security Holders

Part II

	Item 5.	Market for Registrant’s Common Equity and Related Stockholder Matters
	Item 6.	Selected Financial Data
	Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 7a.	Quantitative and Qualitative Disclosures about Market Risk
	Item 8.	Financial Statements and Supplementary Data
	Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
	Item 9A.	Controls and Procedures

Part III

	Item 10.	Directors and Executive Officers of the Registrant
	Item 11.	Executive Compensation
	Item 12.	Security Ownership of Certain Beneficial Owners and Management
	Item 13.	Certain Relationships and Related Transactions
	Item 14.	Principal and Accounting Fees and Services

Part IV

	Item 15.	Exhibits, Financial Statement Schedules, and Reports on Form 8-K

Signatures
Exhibit Index

	Consolidated Balance Sheets at December 31, 2004 and 2003;

	Consolidated Statements of Operations for the years ended December 31, 2004, 2003 and 2002;

	Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2004, 2003 and 2002;

	Consolidated Statements of Cash Flows for the years ended December 31, 2004, 2003 and 2002;

	Notes to Consolidated Financial Statements

	Reports of Independent Registered Public Accounting Firms

	/s/ PETERSON & Co., LLP
	PETERSON & Co., LLP

San Diego, California
February 18, 2005

32.1		Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

99.1		Carbon Fiber Technology, LLC financial statements as of and for the years ended December 31, 2004, 2003 and 2002