10-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

xANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2005

or

oTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                  to                 

Commission file number: 1-4252

UNITED INDUSTRIAL CORPORATION

(Exact name of registrant as specified in its charter)

Delaware	95-2081809
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
124 Industry Lane
Hunt Valley, Maryland	21030
(Address of principal executive offices)	(Zip Code)

(410) 628-3500

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Name of each exchange on which registered
Common Stock, par value $1.00 per share	New York Stock Exchange

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

NONE

(Title of class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. oYes   x No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. oYes   x No

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. x Yes   o No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of 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. x.

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one).

[Large accelerated filer o      Accelerated filer x      Non-accelerated filer o

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

The aggregate market value of the voting common equity held by non-affiliates of the registrant on June 30, 2005 (the last business day of the registrant’s most recently completed second fiscal quarter), based on the closing price of the registrant’s common stock on the New York Stock Exchange on such date, was $344,967,627.

On March 1, 2006, the registrant had outstanding 11,279,515 shares of common stock, par value $1.00 per share, which is the registrant’s only class of common stock.

DOCUMENTS INCORPORATED BY REFERENCE:

Certain portions of the registrant’s definitive proxy statement to be filed pursuant to Regulation 14A of the Securities Exchange Act of 1934, as amended, in connection with the registrant’s 2006 Annual Meeting of Shareholders are incorporated by reference into Part III of this report.

UNITED INDUSTRIAL CORPORATION
INDEX TO ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2005

		Page
PART I
Item 1.	Business		4
Item 1A.	Risk Factors		12
Item 1B.	Unresolved Staff Comments		20
Item 2.	Properties		21
Item 3.	Legal Proceedings		22
Item 4.	Submission of Matters to a Vote of Security Holders		22
PART II
Item 5.	Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.		23
Item 6.	Selected Financial Data		24
Item 7.	Management’s Discussion and Analysis of Financial Condition And Results of Operations.		25
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk		45
Item 8.	Financial Statements and Supplementary Data.		47
Item 9.	Changes in and Disagreements With Accountants on Accounting and Financial Disclosure		98
Item 9A.	Controls and Procedures		98
Item 9B.	Other Information		100
PART III
Item 10.	Directors and Executive Officers of the Registrant.		101
Item 11.	Executive Compensation.		101
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters		102
Item 13.	Certain Relationships and Related Transactions.		102
Item 14.	Principal Accountant Fees and Services.		102
PART IV
Item 15.	Exhibits and Financial Statement Schedules		103

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PART I

Forward-Looking Statements and Important Factors

This Annual Report on Form 10-K (“Annual Report”) contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based on management’s expectations, estimates, projections and assumptions. Words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “estimates,” and variations of such words and similar expressions are intended to identify such forward-looking statements which include, but are not limited to, projections of revenues, earnings, segment performance, cash flows and contract awards. These forward-looking statements are subject to risks and uncertainties, which could cause the actual results or performance of United Industrial Corporation (“United Industrial”) and its subsidiaries (collectively, the “Company”) to differ materially from those expressed or implied in such statements. These risks and uncertainties include, but are not limited to, the following:

·the Company’s successful execution of internal performance plans;

·performance issues with key suppliers, subcontractors and business partners;

·the ability to negotiate financing arrangements with lenders;

·the outcome of current and future litigation, proceedings and investigations;

·the accuracy of the Company’s estimates of its potential asbestos related exposure and insurance coverage;

·product demand and market acceptance risks;

·the effect of economic conditions;

·the impact of competitive products and pricing;

·product development, commercialization and technological difficulties;

·capacity and supply constraints or difficulties;

·the integration of acquisitions;

·legislative or regulatory actions impacting the Company’s Defense segment, Energy segment and discontinued transportation operation;

·changing priorities or reductions in the U.S. Government defense budget;

·contract continuation and future contract awards; and

·U.S. and foreign military budget constraints and determinations.

The Company intends that all forward-looking statements it makes will be subject to the safe harbor protection of the federal securities laws found in Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.

These statements speak only as to the date when they are made. The Company makes no commitment to update any forward-looking statement or to disclose any facts, events or circumstances after the date hereof that may affect the accuracy of any forward-looking statements. See “Risk Factors” under Item 1A herein for important factors that could cause the Company’s actual results to differ materially from those suggested by the Company’s forward-looking statements contained in this Annual Report on Form 10-K.

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ITEM 1.BUSINESS

Business Overview

The continuing operations of the Company consist of two business segments: Defense and Energy. The Company designs, produces, and supports defense systems. Its products and services include unmanned aircraft systems, training and simulation systems, automated aircraft test and maintenance equipment, armament systems, logistical and engineering services, and other leading-edge technology solutions for defense needs. The Company also manufactures combustion equipment for biomass and refuse fuels. The operations of the Defense and Energy segments are conducted principally through two wholly owned subsidiaries, AAI Corporation and its subsidiaries (“AAI”) and Detroit Stoker Company (“Detroit Stoker”), respectively.

The Defense segment contributes a large majority of the net sales from continuing operations. The Defense segment accounted for 92.9%, 92.2% and 90.8% of total consolidated net sales for 2005, 2004 and 2003, respectively. The Energy segment accounted for 7.1%, 7.8% and 9.2% of total consolidated net sales for 2005, 2004 and 2003, respectively.

The Company’s discontinued transportation operation is discussed separately, following the section regarding the business segments.

The Company’s corporate headquarters and administrative offices are located in Hunt Valley, Maryland.

Financial Information Relating to Business Segments

For financial information about each business segment, including net sales, income before taxes, and total assets, see Note 13 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Description of Business

Business Segments

Defense Segment

AAI develops, manufactures, and supports Unmanned Aircraft Systems (“UAS”); electronic warfare (“EW”) test and training systems; training simulators for aircraft maintenance and combat systems; advanced boresight equipment; automated test systems for avionics; and other leading edge technologies. In addition, AAI provides sophisticated engineering, logistical, and maintenance services to the U.S. Department of Defense (“DoD”) and other customers which complement AAI’s key product platforms, as well as those of other original equipment manufacturers. The U.S. Government, principally the DoD, is AAI’s main customer.

AAI’s products and services designed for military customers include:

·the Shadow 200® Tactical Unmanned Aircraft System (“Shadow 200 TUAS”), the U.S. Army’s primary tactical UAS platform;

·specialized engineering and logistical services for the defense and aerospace industry like those designed by the Company to increase the flexibility and mobility of the U.S. Air Force’s C-17 and F–22 Raptor aircraft Maintenance Training System programs, and to provide support for joint service biological detection systems;

·test equipment employed by all U.S. military branches to ensure airborne electronic warfare systems are operating properly such as our Joint Services Electronic Combat Systems Tester (“JSECST”),

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and the Advanced Boresight Equipment (“ABE”) systems used to align avionics weapons systems onboard military fixed-wing aircraft and helicopters;

·training equipment including onboard radar simulator/simulators for Naval ships, Moving Target Simulators (“MTS”), and high fidelity electronic warfare training systems to the U.S. military; and

·other leading edge technologies such as the Projectile Detection and Cueing System (“PDCue®”) that is used to locate origin and class of fire in multiple protection and monitoring situations, and Lightweight Small Arms Technologies to develop the next generation family of high performance, lightweight weapons utilizing advanced technology ammunition. The Projectile Detection and Cueing System (“PDCue®”) that is used to locate origin and class of fire in multiple protection and monitoring situations; and Lightweight Small Arms Technologies to develop the next generation family of high performance, lightweight weapons utilizing advanced technology ammunition.

AAI’s other products and services are utilized by numerous military and commercial customers worldwide. These products and services offer superior test and maintenance capabilities for the F-16 aircraft, many Boeing airframes, various General Electric and Pratt & Whitney aircraft engines, and other aviation equipment. AAI also supplies its high quality test equipment to provide depot maintenance services to domestic and foreign military aviation customers.

In 2005, 2004 and 2003, approximately  93.8%, 90.5% and 80.0%, respectively, of AAI’s total net sales consisted of production, logistical services and research and development under defense contracts with the U.S. Government. International defense contracts, including foreign military sales through the U.S. Government, accounted for 4.2%, 7.0%, and 12.0% of AAI’s total net sales in 2005, 2004 and 2003, respectively. These contracts generally related to UAS and test and training systems with foreign governments. No single customer, other than the U.S. Government, accounted for ten percent or more of AAI’s total net sales during 2005.

Sales to the U.S. Government normally return a smaller profit margin than international commercial sales. Under certain circumstances, as prescribed by the Federal Acquisition Regulations (“FAR”), the U.S. Government may be entitled to a price re-determination and may also terminate contracts at its option. These risks are mitigated by protections on AAI’s intellectual property, substantial requirements on the U.S. Government to meet certain specific criteria in the FAR, and by AAI working closely with its customers to ensure AAI meets their expectations.

AAI’s operations are primarily focused on the following product lines:

·Unmanned Aircraft Systems

In the UAS business area, AAI is one of the few companies to have entered full-rate production and successfully fielded operational UAS for the DoD. AAI first began development work in the UAS product line in 1985, producing the highly successful RQ-2 Pioneer unmanned aerial vehicle (“Pioneer UAV”). The Pioneer UAV was employed by the United States in Operation Desert Storm and in the conflicts in Somalia and Bosnia, and is currently being used in Operation Iraqi Freedom. In 1999, AAI was awarded a contract to provide the next generation of tactical UAS to the U.S. Army, the RQ-7 Shadow 200 TUAS. Since 1999, AAI has been awarded additional production, engineering, modification, and retrofit or reset contracts, and various support service contracts for Shadow 200 TUAS. The RQ-7 Shadow 200 TUAS is currently deployed in support of military units in Operation Iraqi Freedom. In addition, AAI has other UAS products that it has fielded with international customers.

In 2005, 2004 and 2003, net sales of UAS contributed approximately 58.6%, 52.9% and 39.1%, respectively, of total consolidated net sales from continuing operations.

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Major competitors in the UAS market include Northrop Grumman Corporation, Aeronautical Systems, Inc., The Boeing Company, Sagem SA, and Israel Aircraft Industries.

·Services

AAI provides engineering, logistical, and maintenance services to the DoD and other customers which complement AAI’s key product platforms, as well as those of other original equipment manufacturers primarily through its wholly owned subsidiary, AAI Services Corporation. Services’ flagship program in the training and simulation services product line is the C-17 Maintenance Training System program. Services modifies existing training suites to maintain concurrency with the C-17 aircraft production line, and also builds new training devices. It produced its third suite of trainers for the Mississippi Air National Guard, is completing a fourth suite of trainers for the U.S. Air Force at McGuire Air Force Base, and recently received an order for the construction of six new trainers for three additional U.S. Air Force bases. In addition, Services started work on a new significant maintenance trainer program for the U.S. Air Force’s new F-22 Raptor aircraft.

Services also provides operations and maintenance services to the U. S. Army, Air Force, Navy, and Marine Corps for a wide variety of operational systems including AAI’s Shadow 200 TUAS and the Pioneer UAV systems, as well as training systems such as the C-17 Maintenance Training System program, T-45 Ground Based Training System, Simulator for Electronic Combat Training (“SECT”) and Compass Call Mission Crew Simulator (“CCMCS”). Further, Services provides support for joint service biological detection systems at more than 45 U.S. facilities throughout the U.S., Middle East, Europe and Asia. Finally, Services provides depot maintenance equipment and services to domestic and foreign military aviation customers including the U.S. Navy at the Jacksonville Naval Depot, and to the U.S. Air Force at Hill Air Force Base in Utah and Tinker Air Force Base in Oklahoma.

In 2005, 2004, and 2003, net sales of Services contributed 18.1%, 17.7%, and 15.7%, respectively, of total consolidated net sales from continuing operations.

Major competitors in Services’ markets include L-3 Communications Corporation, DynCorp, Cubic Corporation, Camber Corporation, The Boeing Company, SAIC, Anteon, Raytheon, and Rockwell Collins, Inc.

·Test Systems

AAI develops, manufactures and supports EW test systems, including the JSECST, which is employed by all U.S. military branches to ensure airborne electronic warfare systems function correctly; ABE systems, which align avionics and weapon systems on board military aircraft and helicopters; and radar simulators, which realistically simulate threat signals to verify the operational status of radar warning receivers and associated cockpit displays and controls. The Company also offers development services to support the application of these products to specific aircraft or applications.

The JSECST is an organizational level (flight-line) test system that assures aircraft electronic warfare systems are ready for use. The JSECST product has been selected as one of the DoD family of Testers. As a result, the JSECST is currently planned to support all U.S. military fighter aircraft. JSECST enjoys a significant share of the flight-line electronic warfare test market.

ABE is a gyro-stabilized, electro-optical, angular measurement system that is used to align avionics and weapon systems onboard military fixed-wing aircraft and helicopters. AAI’s gyroscopic-based boresight equipment market share has increased as new aircraft requirements

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evolve. Platforms currently supported by AAI’s ABE include the C-17 Globemaster, EF2000 Eurofighter, MR2 Nimrod, AH-64 Apache, MH-60 Seahawk, and AH-1Z Super Cobra.

AAI also produces and sells the Model 527 Radar Simulator, a portable, radio-frequency signal generator that realistically simulates threat signals to verify the operational status of radar warning receivers and the associated cockpit displays and controls.

On April 4, 2005, the Company acquired ESL Defence Limited (“ESL”), an EW systems company based in the United Kingdom. The net purchase price was $10,363,000 in cash. ESL is a designer and producer of electro-optical (“EO”) test and simulation products for use on flight lines and in aircraft maintenance facilities. The simulators are used to assess the operational readiness of sophisticated missile warning and countermeasures self-protection systems used on military aircraft. ESL’s EO simulators are also used at military test, evaluation, and training ranges to evaluate the effectiveness of new self-protection systems and to train pilots for combat readiness. In addition, ESL specializes in EW related research, study, and in-service support activity for U.K. government agencies and prime contractors both in the United Kingdom and the United States. ESL contributed $7,270,000 in net sales from the date of acquisition in April of 2005 through the year ended December 31, 2005.

In 2005, 2004 and 2003, net sales of Test Systems contributed 8.7%, 10.1%, and 15.5%, respectively, of total consolidated net sales from continuing operations.

Major competitors in the Test Systems market include BAE Systems, DRS Technologies, Inc. and EDO Corporation.

·Training Systems

AAI provides training systems to the U.S. Navy and international customers that allow for the training of Combat Information Center personnel and operators on their actual equipment. The subsystems interface with the ship’s equipment to provide the stimulus needed to make the equipment behave as it would in actual threat situations.

AAI is a sole source provider of certain onboard training subsystems for the radar, navigation equipment and tactical data link equipment currently in the U.S. Navy’s inventory. AAI has produced shipboard training and simulation systems for over 30 years, starting with the 20B4 and 20B5 Pierside trainers, in the 1970’s. AAI currently provides the permanently installed radar stimulator/simulators for all ships in the U.S. Navy’s Battle Force Tactical Training (“BFTT”) System as well as the BFTT compatible portable Carry-On Combat Systems Trainers that are configurable to any combat ship.

AAI has developed 27 separate training subsystems for the U.S. Navy to date and is currently producing these training subsystems as needed for installation on U.S. Navy ships. AAI has produced approximately 420 of these subsystems, which have been installed on 95 ships. Each training subsystem substantially consists of commercially available components and one custom interface, designed and built by AAI. AAI’s patented design dramatically reduces the costs of production and improves performance of the product.

AAI provides Moving Target Simulators (“MTS”) to international customers and high fidelity EW training systems to the U.S. Military. MTS’s are used to train air defense system personnel in the use of man-portable missile systems, self-propelled and towed gun systems. Since 2003 MTS systems have been delivered to Australia and Italy. In 2005, the Netherlands procured an MTS that will be delivered late in 2006.

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AAI also has a leading position in the development of aircraft electronic maintenance simulators for the U.S. Air Force, having produced trainers for the Boeing E-3 Airborne Warning and Control System, and Northrop Grumman E-8 Joint Surveillance and Target Attack Radar System (“JSTARS”) wide-area surveillance aircraft.

In each of 2005, 2004 and 2003, net sales of training systems contributed less than 10% of total consolidated net sales from continuing operations.

Major competitors in the Training System market include Northrop Grumman Corporation, Lockheed Martin, L-3 Communications Corporation, Cubic Corporation, AEgis, The Boeing Company, Rockwell Collins, Inc., and CAE Inc.

·Advanced Programs

AAI maintains an organization designed to investigate and respond to the emerging markets and the needs of our customers. Under Advanced Programs, AAI has developed a gunfire detection system, PDCue, to counter snipers for the U.S. Army and U.S. Marine Corps, using existing technology. AAI’s Advanced Programs is also developing new lightweight arms technologies and requisite lightweight ammunition for the U.S. Army. Through technology and manufacturing licenses, AAI looks for opportunities to provide leading-edge products not developed by AAI to support U.S. military needs. As a subcontractor to the Mississippi Band of Choctaw Indians, AAI’s Advanced Programs organization develops, manufactures and supports Aviation Ground Support Equipment and Hydraulic Test Equipment for all DoD Services.

In each of 2005, 2004 and 2003, net sales of Advanced Programs contributed less than 10% of total consolidated net sales from continuing operations.

AAI’s administrative offices and its principal manufacturing and engineering facilities are located in Hunt Valley, Maryland.

Energy Segment

Detroit Stoker is a supplier of stokers and related combustion equipment for the production of steam used in heating, industrial processing and electric power generation around the world. Detroit Stoker offers a full line of stokers for burning bituminous and lignite coals, as well as biomass, municipal solid waste and industrial by-products. Detroit Stoker also provides auxiliary equipment and services, including fuel feed and ash removal systems, gas/oil burners and complete aftermarket services for its products. Detroit Stoker’s principal markets include the pulp and paper industry, public utilities, independent power producers, industrial manufacturing, institutional heating and cogeneration facilities.

Detroit Stoker’s waste to energy technology is used in both public and private plants that generate steam and power from municipal waste. Its solid fuel combustion technologies are particularly well suited for biomass fuels that generate power from waste products such as bark, sugar cane husks, palm oil residue, sawdust, sunflower hulls and poultry litter.

Detroit Stoker markets and sells its products and services in North America, Europe, Asia, South America, Australia and New Zealand. Detroit Stoker’s products compete with those of several other manufacturers worldwide.

During the fourth quarter of 2004, Detroit Stoker developed and initiated a plan to restructure its operations to provide greater efficiencies and profitability. As a result of the planned reduction in Detroit in 2004, the Company recognized a pension curtailment charge in the Energy segment to accelerate the amortization of prior service costs and recognize enhanced benefits, primarily for one of its pension benefit plans, of approximately $1,959,000.

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In January of 2005, most of the manufacturing operations previously performed at Detroit Stoker’s facilities were outsourced to lower cost producers. Twenty-eight hourly production positions were eliminated. Approximately $258,000 was charged to this restructuring in 2005. Detroit Stoker continues to evaluate additional measures to further reduce operating costs.

During 2005, as part of the Company’s ongoing strategy to explore the sale of non-core assets, the Company continued its engagement of Imperial Capital, LLC, an investment banking firm, to act as exclusive financial advisor to assist in exploring strategic alternatives for Detroit Stoker, including a possible sale. The Company and Imperial Capital continue to explore potential transactions involving Detroit Stoker. From time to time, the Company and potential buyers may have discussions regarding a potential transaction, negotiate the terms of a potential transaction, and enter into customary non-binding agreements in order to facilitate any such discussions and negotiations. No assurances can be given regarding whether a transaction involving Detroit Stoker will occur or the timing or proceeds from any such transaction.

Detroit Stoker’s administrative offices and its principal operations are located in Monroe, Michigan.

Discontinued Transportation Operation

The Company’s transportation business is accounted for as a discontinued operation. For financial information regarding the discontinued transportation operation, see Note 19 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report. For a more complete description of the Company’s discontinued transportation operation, including its remaining commitments and contingencies, see Note 17 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Funded Backlog

The Company’s funded backlog, defined as orders placed for which funds have been appropriated or purchase orders received, for continuing operations by business segment at December 31, 2005 and 2004 was as follows:

	2005		2004
	(dollars in thousands)
Defense segment	$	487,366	$	380,622
Energy segment	8,499		7,296
Total	$	495,865	$	387,918

Except for approximately $145,865,000, substantially all of the funded backlog at December 31, 2005 is expected to be filled in 2006.

Patents and Trademarks

The Company owns approximately 36 active U.S. patents, in addition to numerous foreign patents, relating to various product lines, including, but not limited to, electronics, electro-mechanical systems, UAS, ordnance, training and simulation systems, test equipment, hydraulics and stokers. The latest of these issued U.S. patents will endure until 2025, with the earliest enduring until 2006. In addition, there are numerous patents pending, both in the United States and internationally.

Any patent issued may be invalidated, circumvented or challenged. Any of the Company’s pending or future patent applications, whether or not challenged, may not be issued with the scope of claims sought, if at all. No individual patent is considered to be of material importance to the Company or any of its business segments.

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The Company also owns a number of active trademark registrations (including those for the mark AAI among others) and pending trademark applications in the U.S. and in various foreign countries or regions. Each trademark registration of the Company will endure until the respective mark ceases to be used or the corresponding registration is otherwise not renewed. Trademark applications are subject to review by the issuing authority, may be opposed by private parties, and may not be issued. Likewise, once issued, trademark registrations remain subject to challenge and/or cancellation.

Research and Development

During 2005, 2004 and 2003, the Company’s Defense segment expended approximately $10,139,000, $5,352,000 and $4,865,000, respectively, on independent research and development of new products and improvements of existing products. The increase in the defense segment during 2005 was primarily due to enhancement of the UAS products. In addition, the Defense segment was and is under contract, primarily with the U.S. Government, to conduct research and development. During 2005, 2004 and 2003 the Company recognized revenue of $35,334,000, $25,384,000 and $12,513,000, respectively, under these contracts. During 2005, 2004 and 2003, the Energy segment expended approximately $79,000, $67,000 and $148,000, respectively, on research and development of new products and improvements of existing products. All of these programs are funded by the subsidiary involved.

Employees

As of December 31, 2005, the Company had approximately 2,000 full-time employees. In the Defense segment, a union represented 37 employees under two separate collective bargaining agreements each expiring September 30, 2006. On January 31, 2005, the Company and the union representing employees in the Energy segment ratified a new agreement that expires on January 25, 2007. The union currently represents 19 employees in the Energy segment. The Company considers its relations with employees to be satisfactory.

Financial Information Relating to Geographic Areas

The Company acquired ESL on April 4, 2005, an EW systems company based in the United Kingdom. ESL is a designer and producer of electro-optical (“EO”) test and simulation products for use on flight lines and in aircraft maintenance facilities. In addition, ESL specializes in EW related research, study, and in-service support activity for U.K. government agencies and prime contractors both in the United Kingdom and the United States. For the year ended December 31, 2005, ESL contributed net sales of $7,270,000.

The Company had no other significant foreign operations, and no other significant long-lived assets outside of the United States at December 31, 2005.

For financial information about geographic areas, including net sales to foreign countries, see Note 13 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Certification with the New York Stock Exchange

On May 25, 2005, the Company’s Chief Executive Officer filed with the New York Stock Exchange, the certification regarding the Company’s compliance with the New York Stock Exchange’s corporate governance listing standards as required by Listed Company Manual Rule 303A.12.

The certification of the company’s President and Chief Executive Officer and the Company’s Vice President and Chief Financial Officer required by Section 302 of the Sarbanes-Oxley Act of 2002 are filed as Exhibits 31.1 and 31.2 to this Annual Report on Form 10-K.

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Available Information

The Company furnishes its stockholders with annual reports containing audited financial statements. The Company files its annual reports, quarterly reports, current reports, and proxy statements, and all amendments to those reports and proxy statements with the Securities and Exchange Commission electronically via the Securities and Exchange Commission’s Electronic Data Gathering, Analysis and Retrieval system (“EDGAR”). The Securities and Exchange Commission maintains an Internet site that contains reports, proxy and information statements, and other information regarding companies that file electronically with the Securities and Exchange Commission via EDGAR. The address of this Internet site is http://www.sec.gov. Interested persons may also read and copy any reports, statements or other information that the Company files with the Securities and Exchange Commission at the Securities and Exchange Commission’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. Interested persons can request copies of these documents, upon payment of a duplicating fee, by writing to the Securities and Exchange Commission. Please call the Securities and Exchange Commission at 1-800-SEC-0330 for further information on the operation of the Public Reference Room. The Company’s annual reports, quarterly reports, current reports, proxy statements and all amendments to those reports are available free of charge through the Company’s website at http://www.unitedindustrial.com as soon as reasonably practicable after such reports are electronically filed with or furnished to the Securities and Exchange Commission. Information contained on the Company’s website is not incorporated into this Annual Report and does not constitute a part of this Annual Report.

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ITEM 1A.RISK FACTORS

Risk Factors

The following are some of the factors that the Company’s management believes could cause the Company’s actual results to differ materially from expected and historical results. Additional risks and uncertainties not presently know to management, or that management currently sees as immaterial, may also harm the Company’s business. If any of the risks or uncertainties described below or any such additional risks and uncertainties actually occur, the Company’s business, results of operations and financial condition could be materially and adversely affected.

The Company depends on government contracts for substantially all of its sales.

The Company derived approximately 87.1% of its consolidated net sales from the U.S. Government and its agencies during the year ended December 31, 2005. The Company expects that sales to the U.S. Government will continue to be the primary source of its revenue for the foreseeable future. Therefore, any significant disruption or deterioration of the Company’s relationship with the U.S. Government would significantly reduce the Company’s revenues. In addition, the funding of defense programs also competes with non-defense spending of the U.S. Government. The Company’s business is also highly sensitive to changes in national and international priorities and the U.S. Government budgets. A shift in Government defense spending to other programs in which the Company is not involved or a reduction in U.S. Government defense spending generally could have severe consequences on the Company’s results of operations.

The Company acts as prime contractor or major subcontractor for many different U.S. Government programs. Over its lifetime, a program may be implemented by the award of many different individual contracts and subcontracts. The funding of U.S. Government programs is subject to congressional appropriations. Although multiple year contracts may be planned in connection with major procurements, Congress generally appropriates funds on a fiscal year basis even though a program may continue for several years. Consequently, programs are often only partially funded initially, and additional funds are committed only as Congress makes further appropriations. The termination of funding for a U.S. Government program would result in a loss of anticipated future revenues attributable to that program, and could have a negative impact on the Company’s operations. In addition, the termination of a program or failure to commit funds to a prospective program or a program already started could increase the Company’s overall costs of doing business.

U.S. Government contracts typically contain provisions and are subject to laws and regulations that give the government agencies rights and remedies not typically found in commercial contracts, including providing the government agency with the ability to unilaterally terminate or reduce the value of and modify some of the terms and conditions of existing contracts, suspend or permanently prohibit the Company from doing business with the U.S. Government or with any specific governmental agency, control and potentially prohibit the export of the Company’s products, and claim rights in technologies and systems invented, developed or produced by the Company.

If a U.S. Government agency terminates a contract with the Company for convenience, the Company generally may recover only its incurred or committed costs, settlement expenses and profit on the work completed prior to termination. If an agency terminates a contract with the Company for default, the Company is denied any recovery and may be liable for excess costs incurred by the agency in procuring undelivered items from an alternative source. The Company may receive show-cause or cure notices under contracts that, if not addressed to the agency’s satisfaction, could give the agency the right to terminate those contracts for default or to cease procuring the Company’s services under those contracts.

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In the event that any of the Company’s contracts were to be terminated or adversely modified, there may be significant adverse effects on its revenues, operating costs and income that would not be recoverable.

As a U.S. Government contractor, the Company is subject to a number of procurement rules and regulations.

The Company must comply with and is affected by laws and regulations relating to the formation, administration and performance of U.S. Government contracts. These laws and regulations, among other things, require certification and disclosure of all cost and pricing data in connection with contract negotiations, define allowable and unallowable costs and otherwise govern the Company’s right to reimbursement under certain cost-based U.S. Government contracts and restrict the use and dissemination of classified information and the exportation of certain products and technical data. A violation of specific laws and regulations could result in the imposition of fines and penalties or the termination of the Company’s contracts and, under certain circumstances, suspension or debarment from future contracts for a period of time.

These laws and regulations affect how the Company does business with its customers and in some instances, impose added costs on its businesses. These costs might increase in the future, reducing margins, which could have a negative effect on the Company’s financial condition.

The Company’s businesses could be adversely affected by a negative audit by the U.S. Government.

U.S. Government agencies, such as the Defense Contract Audit Agency (“DCAA”), routinely audit and investigate government contractors. These agencies review a contractor’s performance under its contracts, cost structure and compliance with applicable laws, regulations and standards. The DCAA also reviews the adequacy of, and a contractor’s compliance with, its internal control systems and policies, including the contractor’s purchasing, property, estimating, compensation and information management systems. These audits may occur several years after the period to which the audit relates. Any costs found to be improperly allocated to a specific contract will not be reimbursed, while such costs already reimbursed must be refunded. If an audit identifies significant unallowable costs, the Company could incur a material charge to our earnings and reduction on our cash position.

If an audit uncovers improper or illegal activities, the Company may be subject to civil and criminal penalties and administrative sanctions, including termination of contracts, forfeiture of profits, suspension of payments, fines and suspension or prohibition from doing business with the U.S. Government. In addition, as a U.S. Government contractor, the Company is subject to an increased risk of investigations, criminal prosecution, civil fraud, whistle-blower lawsuits and other legal actions and liabilities to which purely private sector companies are not, the results of which could have a material adverse effect on the Company’s operations. The Company could suffer serious harm to its reputation if allegations of impropriety were made against it.

The Company’s revenues will be adversely affected if the Company fails to win competitively awarded contracts or to receive renewal or follow-on contracts.

The Company obtains many of its U.S. Government contracts through a competitive bidding process. There are no assurances that the Company will continue to win competitively awarded contracts. Renewal and follow-on contracts are important because the Company’s contracts are for fixed terms. These terms vary from shorter than one year to over five years, particularly for contracts with options. The typical term of the Company’s contracts with the U.S. Government is between one and three years. The loss of revenues from the Company’s possible failure to win competitively awarded contracts or to obtain renewal

13

or follow-on contracts may be significant because the Company’s U.S. Government contracts account for a substantial portion of its revenues.

Cost overruns on the Company’s fixed-price contracts could subject it to losses, decrease its operating margins and adversely affect its future business.

During the year ended December 31, 2005, fixed price contract sales comprised 53.1% of Defense segment sales. Under firm fixed price contracts, the Company performs services under a contract at a stipulated price. If the Company fails to anticipate technical problems, estimate costs accurately or control costs during its performance of fixed price contracts, the Company can incur losses on those contracts because any costs in excess of the fixed price are absorbed by the Company. Under time and materials contracts, the Company is paid for labor at negotiated hourly billing rates and for certain expenses. Under cost reimbursement contracts, which are subject to a contract ceiling amount, the Company is reimbursed for allowable costs and paid a fee, which may be fixed or performance based. However, if costs exceed the contract ceiling or are not allowable under the provisions of the contract or applicable regulations, the Company may not be able to obtain reimbursement for all such costs. The Company’s ability to manage costs on each of these contract types may materially and adversely affect its financial condition. Cost overruns also may adversely affect the Company’s ability to sustain existing programs and obtain future contract awards.

Due to the size and nature of many of the Company’s contracts, the estimation of total revenues and cost at completion is complicated and subject to many variables. Assumptions have to be made regarding the length of time to complete the contract because costs also include expected increases in wages and prices for materials. Incentives or penalties related to performance on contracts are considered in estimating sales and profit rates and are recorded when there is sufficient information for the Company to assess anticipated performance. Estimates of award fees are also used in estimating sales and profit rates based on actual and anticipated awards.

Because of the significance of the judgments and estimation processes described above, it is possible that the results could be different and the differences could be material if the Company used different assumptions or if the underlying circumstances were to change. Changes in underlying assumptions, circumstances or estimates may adversely affect future period financial performance. For additional information regarding the Company’s accounting policies for recognizing sales and profits, see Critical Accounting Policies above.

Other risks associated with U.S. Government contracts may expose the Company’s business to adverse consequences.

Like all U.S. Government contractors, the Company is subject to risks associated with uncertain cost factors related to:

·scarce technological skills and components;

·the frequent need to bid on programs in advance of design completion, which may result in unforeseen technological difficulties and/or cost overruns;

·the substantial time and effort required for design and development;

·design complexity;

·rapid obsolescence; and

·the potential need for design improvement.

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Failure to perform by one of the Company’s subcontractors, partners or suppliers could materially and adversely affect the Company’s performance and its ability to obtain future business.

Many of the Company’s contracts involve subcontracts or partnerships with other companies upon which the Company relies to perform a portion of the services the Company must provide to its customers. There is a risk that the Company may have disputes with its subcontractors, including disputes regarding the quality and timeliness of work performed by the subcontractor, customer concerns about the subcontractor, the Company’s failure to extend existing task orders or issue new task orders under a subcontract or the Company’s hiring of personnel of a subcontractor. A failure by one or more of the Company’s subcontractors to satisfactorily provide, on a timely basis, the agreed upon services may materially and adversely impact the Company’s ability to perform its obligations as the prime contractor. Subcontractor performance deficiencies could expose the Company to liability and have a material adverse effect on the Company’s ability to compete for future contracts and orders.

In addition, in connection with certain contracts, the Company commits to certain performance guarantees. The Company’s ability to perform under these guarantees may in part be dependent on the performance of other parties, including partners and subcontractors. If the Company is unable to meet these performance obligations, the performance guarantees could have a material adverse effect on the Company’s product margins and its results of operations, liquidity or financial position.

In addition, several suppliers are the Company’s sole source of certain components. If a supplier should cease to deliver such components added cost and manufacturing delays could result, which may affect the Company’s ability to meet customer needs and may have an adverse impact on the Company’s profitability.

The Company derives revenues from international sales and is subject to the risks of doing business in foreign countries.

The Company derived approximately 4.8% of its revenues from international sales during the year ended December 31, 2005 and, as a result, is subject to risks of doing business internationally, including:

·changes in regulatory requirements that may adversely affect the Company’s ability to sell certain products or repatriate profits to the United States;

·domestic and foreign government policies, including requirements to expend a portion of program funds locally and governmental industrial cooperation requirements;

·fluctuations in foreign currency exchange rates;

·delays in placing orders;

·the complexity and necessity of using foreign representatives and consultants;

·the uncertainty of adequate and available transportation;

·the uncertainty of the ability of foreign customers to finance purchases;

·uncertainties and restrictions concerning the availability of funding credit or guarantees;

·the imposition of tariffs, embargoes, export controls and other trade restrictions;

·the difficulty of managing and operating an enterprise spread over various countries;

·compliance with a variety of foreign laws, as well as U.S. laws affecting the activities of U.S. companies abroad; and

·economic and geopolitical developments and conditions, including international hostilities, acts of terrorism and governmental reactions, inflation, trade relationships and military and political alliances.

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While these factors or the impact of these factors are difficult to predict, any one or more of these factors could adversely affect the Company’s operations in the future.

The Company may not be successful in obtaining the necessary licenses to conduct operations abroad and Congress may prevent proposed sales to foreign governments.

Licenses for the export of many of the Company’s products are required from U. S. government agencies in accordance with various statutory authorities, including the Export Administration Act of 1979, the International Emergency Economic Powers Act, the Trading with the Enemy Act of 1917 and the Arms Export Control Act of 1976. The Company can give no assurance that it will be successful in obtaining these necessary licenses in order to conduct business abroad. In the case of certain sales of defense equipment and services to foreign governments, the U.S. Department of State must notify Congress at least 15 to 30 days, depending on the size and location of the sale, prior to authorizing these sales. During that time, Congress may take action to block the proposed sale.

The Company operates in highly competitive markets and its future success will depend on its ability to develop new technologies that achieve market acceptance and to compete successfully.

The defense industry, in which the Company primarily participates, is highly competitive and characterized by rapid technological change. If the Company does not continue to improve existing product lines and develop new products and technologies, its business could be materially and adversely affected. In addition, competitors could introduce new products with greater capabilities, which could also have a material and adverse effect on the Company’s business. Accordingly, the Company’s future performance depends on a number of factors, including its ability to:

·identify emerging technological trends in target markets;

·develop and maintain competitive products;

·enhance the Company’s products by adding innovative features that differentiate them from those of competitors; and

·develop, manufacture and bring products to market quickly at cost-effective prices.

The Company believes that, in order to remain competitive in the future, it will need to continue to develop new products, which will require the investment of significant financial resources. The need to make these expenditures could divert the Company’s attention and resources from other projects and the Company cannot be sure that these expenditures will ultimately lead to the timely development of new technology. Due to the design complexity of the Company’s products, the Company may in the future experience delays in completing the development and introduction of new products. Any delays could result in increased costs of development or deflect resources from other projects. In addition, there can be no assurance that the market for the Company’s products will develop or continue to expand as currently anticipated. The failure of the Company’s technology to gain market acceptance could significantly reduce revenues and harm the Company’s business. Furthermore, the Company cannot be sure that its competitors will not develop competing technologies which gain market acceptance in advance of the Company’s products.

In addition, the Company competes primarily for government contracts against many companies that are larger, devote greater resources to research and development and generally have greater financial and other resources. Consequently, these competitors may be better positioned to take advantage of economies of scale and develop new technologies. In order to remain competitive, the Company must keep its capabilities technically advanced and compete on price and value added to its customers. The Company’s ability to compete depends on the effectiveness of its research and development programs, its readiness with respect to facilities, equipment and personnel to undertake the programs for which the Company

16

competes and its past performance and demonstrated capabilities. The Company’s ability to compete also may be adversely affected by limits on its capital resources and its ability to invest in maintaining and expanding market share. If the Company is unable to compete effectively, its business and prospects will be adversely affected.

United Industrial and Detroit Stoker are subject to asbestos related litigation and other liabilities. In addition to asbestos related claims, the Company may face costly litigation.

The Company’s financial condition and performance may be affected by pending litigation, including asbestos related claims and environmental matters, and other loss contingencies, and by unanticipated liabilities. The Company is subject to lawsuits, several of which involve large claims and significant defense costs. Any of these claims, whether with or without merit, could result in costly litigation and divert the time, attention and resources of management. In addition, successful claims in excess of any applicable liability insurance could have a material adverse effect on the Company’s business, results of operations and financial condition. These litigation matters and contingencies are described in Note 17 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

The Company is subject to significant environmental laws and regulations.

The Company’s business is subject to a wide range of general and industry specific environmental, health and safety, federal, state and local laws and regulations, including those relating to air emissions, wastewater discharges, solid and hazardous waste management and disposal and site remediation. Compliance with these laws and regulations is a significant factor in the Company’s business. The Company may incur significant capital and operating expenditures to achieve and maintain compliance with applicable environmental laws and regulations. The Company’s failure to comply with applicable environmental laws and regulations or permit requirements could result in substantial civil or criminal fines or penalties or enforcement actions, including regulatory or judicial orders enjoining or curtailing operations or requiring remedial or corrective measures, installation of pollution control equipment or other actions. As an owner and operator of real estate, the Company may be responsible under environmental laws and regulations for the investigation, remediation and monitoring, as well as associated costs, expenses and third-party damages, including tort liability, relating to past or present releases of hazardous substances on or from the Company’s properties. Liability under these laws may be imposed without regard to whether the Company knew of, or was responsible for, the presence of those substances on its property and may not be limited to the value of the property. The Company may also be responsible under environmental laws and regulations for the investigation, remediation and monitoring, as well as associated costs, expenses and third-party damages, including tort liability, related to facilities or sites to which it has sent hazardous waste materials. In addition, situations may give rise to material environmental liabilities that have not yet been discovered. New environmental laws or regulations, or changes in existing laws, may be enacted that require the Company to make significant expenditures.

The Company’s level of returns on pension plan assets and interest rates could affect its earnings and cash flows in future periods.

Net income or loss and cash flow may be significantly positively or negatively impacted by the amount of income or expense recorded and required contributions for the Company’s pension plan, which is a cash balance plan. Judgments, assumptions and assessments of uncertainties are required in developing the projected obligations for pension and other post-retirement employee benefits. Changes in assumptions related to the Company’s pension plan can significantly affect its results of operations.

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The Company depends on the recruitment and retention of qualified personnel and its failure to attract and retain such personnel could seriously harm the Company’s business.

Due to the specialized nature of the Company’s businesses, future performance is highly dependent upon the continued services of its key engineering personnel and executive officers. The Company’s prospects depend upon its ability to attract and retain qualified engineering, manufacturing, marketing, sales and management personnel. Competition for personnel is intense and the Company may not be successful in attracting or retaining qualified personnel. Failure to successfully compete for these personnel could seriously harm the Company’s business, results of operations and financial condition.

The Company may be unable to adequately protect its intellectual property rights, which could affect its ability to compete.

Protecting the Company’s intellectual property rights is critical to its ability to compete and succeed as a company. The Company owns a large number of U.S. and foreign patents and patent applications, as well as trademark, copyright and semiconductor chip mask work registrations which are necessary and contribute significantly to the preservation of the Company’s competitive position in the market. There can be no assurance that any of these patents and other intellectual property will not be challenged, invalidated or circumvented by third parties. In some instances, the Company augmented its technology base by licensing the proprietary intellectual property of others. In the future, the Company may not be able to obtain necessary licenses on commercially reasonable terms. The Company enters into confidentiality and invention assignment agreements with its employees and non-disclosure agreements with its suppliers and certain customers so as to limit access to and disclosure of its proprietary information. These measures may not be sufficient to deter misappropriation or independent third-party development of similar technologies. Moreover, the protection provided to the Company’s intellectual property by the laws and courts of foreign nations may not be as advantageous as the remedies available under U.S. law.

The Company intends to complement its growth strategy through acquisitions, which subject the Company to numerous risks.

The Company intends to complement its growth strategy through acquisitions that broaden its product and service offerings, deepen its capabilities and allow entry into new attractive domestic and international markets. Acquisitions may require significant capital resources and divert management’s attention from its existing business. Acquisitions also entail an inherent risk which could subject the Company to contingent or other liabilities, including liabilities arising from events or conduct predating the acquisition of a business that were not known to the Company at the time of the acquisition. The Company may also incur significantly greater expenditures in integrating an acquired business than had been initially anticipated. In addition, acquisitions may create unanticipated tax and accounting problems. A key element of the Company’s acquisition strategy, depending on the type of acquisition, may also include retaining management and key personnel of the acquired business to operate the acquired business for the Company. The Company’s inability to retain these individuals could materially impair the value of an acquired business. The Company’s failure to successfully accomplish future acquisitions or to manage and integrate completed or future acquisitions could have a material adverse effect on its business, financial condition or results of operations. There can be no assurances that the Company:

·will identify suitable acquisition candidates;

·can consummate acquisitions on acceptable terms;

·can successfully integrate any acquired business into its operations or successfully manage the operations of any acquired business; or

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·will be able to retain an acquired company’s significant client relationships, goodwill and key personnel or otherwise realize the intended benefits of any acquisition.

The Company increased its leverage as a result of the sale of the 3.75% Convertible Senior Notes.

In connection with the sale of the 3.75% Convertible Senior Notes, the Company incurred $120,000,000 of indebtedness. The degree to which the Company is leveraged could adversely affect its ability to obtain further financing or working capital, consummate acquisitions or otherwise pursue strategies and could make the Company more vulnerable to industry downturns and competitive pressures. The Company’s ability to meet its debt service obligations will be dependent upon its future performance, which will be subject to the financial, business and other factors affecting the Company’s operations, many of which are beyond the Company’s control.

The Company may violate financial covenants under its credit facility which could have a material adverse effect on the Company’s liquidity and financial condition. The terms of the credit facility may restrict the Company’s financial and operational flexibility, including its ability to invest in new business opportunities.

The Company has a four-year secured revolving credit facility with a syndicate of six banks. The credit facility, which expires in July, 2009, provides the Company with borrowing capacity of $100,000,000, including a $5,000,000 swing line and a $100,000,000 letter of credit sub-facility. The Company intends to use the credit facility to fund future acquisitions, finance capital expenditures, provide working capital, fund letters of credit and for other general corporate purposes. As of December 31, 2005, approximately $2,441,000 of letters of credit were outstanding under the credit facility. The terms of the credit facility require the Company to comply with certain affirmative, negative and financial covenants, including, among others, the maintenance of certain leverage and fixed charge coverage ratios, minimum consolidated tangible net worth ratios, limits on the incurrence of debt and preferred equity, limits on the incurrence of liens, a limit on the making of dividends or distributions, limits on sales of assets and a limit on capital expenditures. If the Company’s future financial performance or operations results in a violation of the covenants under the credit facility, the Company could be required to repay outstanding borrowings, which would have a material adverse effect on the Company’s liquidity and financial condition. The terms of the credit facility may restrict the Company’s financial and operational flexibility, including its ability to invest in new business opportunities.

Changes in stock option accounting rules will adversely impact the Company’s results of operations prepared in accordance with generally accepted accounting principles.

The Company has historically used an employee stock option program to hire, provide incentive to and retain key employees in a competitive marketplace. Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”), allows companies the choice of either using a fair value method of accounting for options, which would result in expense recognition for all options or using an intrinsic value method, as prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), with a pro forma disclosure of the impact on net income (loss) of using the fair value option expense recognition method. Historically, the Company has elected to apply APB 25 and the disclosure provisions of SFAS 123 and accordingly the Company did not recognize any expense with respect to employee stock options for periods up to and including December 31, 2005.

In December 2004, the Financial Accounting Standards Board issued Statement 123(R), “Share-Based Payment,” which requires all companies to measure compensation cost for all share-based payments, including employee stock options, at fair value. The SEC has issued rules which allow companies to implement Statement 123(R) at the beginning of the annual reporting period that begins

19

after June 15, 2005. Consistent with the new rule, the Company will be required to adopt Statement 123(R) in the first quarter of its 2006 fiscal year, and will implement the new standard on a prospective basis. The Company is currently evaluating the effect that the adoption of Statement 123(R) will have on the Company’s financial position and results of operations, and it is possible that the adoption of this standard may adversely affect the Company’s results of operations in future periods. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Recent Accounting Pronouncements” above.

The Company’s charter and bylaws, Delaware law and the indenture for the Company’s 3.75% Convertible Senior Notes contain provisions that could discourage a takeover even if beneficial to shareholders.

The Company’s charter and bylaws, in conjunction with Delaware law, contains provisions that could make it more difficult for a third party to obtain control of the Company even if doing so would be beneficial to shareholders. For example, the Company’s bylaws allow the Board of Directors to expand its size and fill any vacancies without shareholder approval. Furthermore, the Company’s board has the authority to issue preferred stock and to designate the voting rights, dividend rate and privileges of the preferred stock, all of which may be greater than the rights of common shareholders. Additionally, upon a change of control of the Company, the holders of the 3.75% Convertible Senior Notes may have the right to require the Company or its successor to repurchase the 3.75% Convertible Senior Notes at a make-whole premium designed to compensate note holders for the lost option time value of their 3.75% Convertible Senior Notes, plus accrued and unpaid interest to the date of repurchase in cash. This could make it more difficult for a third party to obtain control of the Company even if doing so would be beneficial to shareholders.

ITEM 1B.UNRESOLVED STAFF COMMENTS

None.

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ITEM 2.PROPERTIES

The following table sets forth the principal properties owned or leased by the Company as of March 1, 2006.

Location	Principal Use	Approximate Area	Owned or Leased
Industry Lane Hunt Valley, MD	Corporate headquarters, and manufacturing, engineering and administrative facilities for AAI	429,750 sq.ft. floor space on 38 acres of land	Owned in fee
5 Alliance Dr. Charleston, SC	Manufacturing, engineering, and administrative for AAI	222,000 sq.ft. 35 acres	Owned in fee
318 Clubhouse Road Hunt Valley, MD	Office space for AAI	29,792 sq.ft.	Leased to December 31, 2009
10150 York Road Suite 200 Hunt Valley, MD	Office space for AAI	27,414 sq.ft.	Leased to April 30, 2010
3200 Enterprise Street Brea, CA	Manufacturing, engineering and administrative facilities for AAI	9,035 sq.ft.	Leased to June 30, 2008
1235 S. Clark St. Suite 1100 Arlington, VA	Office space for AAI	4,426 sq.ft.	Leased to February 28, 2010
1601 Paseo San Luis Sierra Vista, AZ	Office space for AAI	3,408 sq.ft.	Leased to June 30, 2007
3501 Quadrangle Blvd. Suite 260 Orlando, FL	Office space for AAI	4,578 sq.ft.	Leased to July 31, 2010
4141 Colonel Glenn Hwy Beavercreek, OH	Office space for AAI	1,454 sq.ft.	Leased to July 31, 2006
555 Sparkman Drive Huntsville, AL	Office space for AAI	2,650 sq.ft.	Leased to March 31, 2006
Kenai, AK	Training school operated by AAI	Approximately 1 acre of land	Leased to November 6, 2027
300 Clubhouse Road Hunt Valley, MD	Office space for AAI	19,098 sq.ft	Leased to April 30, 2007
1285 N. Air Depot, Midwest City, OK	Office and lab space for AAI	5,000 sq ft	Leased to March 31, 2006
1289 N. Air Depot, Midwest City, OK	Office and lab space for AAI	5,000 sq ft	Leased to March 31, 2006
1327 West 2550 South Ogden, UT	Office space and light manufacturing for AAI	7,500 sq.ft.	Leased to August 1, 2006
2735 West 5th North Street Summerville, SC	Office space and light manufacturing for AAI	59,000 sq.ft.	Leased to June 30, 2006

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404 Industrial Road Suite 1 Choctaw, MS	Engineering and manufacturing facility and office space for AAI	40,020 sq.ft.(1)	Leased to February 28, 2008
Unit 16 Compass Point Ensign Way Hamble, Hampshire United Kingdom	Engineering and administrative facilities for AAI	6,000 sq. ft.	Leased to May 27, 2017 with rent review dates of May 27, 2007 and May 27, 2012
Unit 17 Compass Point Ensign Way Hamble, Hampshire United Kingdom	Engineering and administrative facilities for AAI	6,000 sq. ft.	Leased to June 12, 2017 with rent review dates of June 12, 2007 and June 12, 2012
401 Westpark Court Peachtree City, GA	After market sales and marketing office for AAI	250 sq. ft.	Leased to August 31, 2006
6196 Lake Gray Blvd Jacksonville, FL	Office space for AAI	5,648 sq.ft	Leased to May 31, 2010
1510 East First Street Monroe, MI	Warehouse, engineering, assembly and administrative facilities for Detroit Stoker	155,260 sq.ft. floor space on 16.2 acres of land (East Building)	Owned in fee
1426 East First Street Monroe, MI	Limited administrative and storage use for Detroit Stoker	140,650 sq.ft. floor space	Owned in fee

(1)Represents total square feet of space leased, including 34,650 square feet of shared space and 5,370 square feet of office space for AAI.

For information with respect to obligations for lease rentals, see Note 9 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report. The Company considers the properties to be suitable and adequate for its present needs. The properties are being substantially utilized.

ITEM 3.LEGAL PROCEEDINGS

Information relating to legal proceedings and various commitments and contingencies is described in Part II, Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations of this Annual Report, and Note 17 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

ITEM 4.SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of the Company’s security holders during the fourth quarter of the year ended December 31, 2005.

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PART II

ITEM 5.MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Market Information and Holders

The Company’s par value $1.00 per share common stock (the “Common Stock”) currently trades on the New York Stock Exchange under the symbol “UIC”. The following table sets forth the high and low sales prices per share of Common Stock for each of the quarterly periods during 2005 and 2004, as reported by the New York Stock Exchange:

	For the Quarterly Period Ended
	March 31,			June 30,			September 30,			December 31,
2005
Low		$	28.01		$	27.58		$	31.86		$	33.59
High		$	39.33		$	37.34		$	38.30		$	45.27
2004
Low		$	16.95		$	18.94		$	23.01		$	29.77
High		$	19.42		$	24.50		$	34.45		$	41.52

The number of shareholders of record of Common Stock as of March 1, 2006 was approximately 1,476.

Dividend Policy

The Board of Directors of United Industrial declared quarterly dividends of $0.10 per share on Common Stock to shareholders of record during each of the calendar quarters of 2005 and 2004. The payment of any future dividends will be at the discretion of the Board of Directors and will depend upon, among other things, the Company’s corporate strategy, future earnings, operations, capital requirements, the general financial condition of the Company, and general business conditions. In addition, under the terms of the Indenture governing United Industrial’s $120,000,000 3.75% convertible senior notes due September 15, 2024, (the “3.75% Convertible Senior Notes”), should United Industrial distribute a cash dividend in any quarterly period in excess of $0.10 per share, the conversion rate provided for in the Indenture would be adjusted. The Company’s current credit facility also restricts the amount and conditions under which the Company may declare dividends. See Note 7, to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Purchases of Equity Securities by the Issuer

For information regarding the Company’s purchases of its equity securities, see Note 11 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Period	Total Number of Shares Purchased		Average Price Paid per Share			Total Number of Shares Purchased as a Part of Publicly Announced Programs		Approximate Dollar Value of Shares That May Yet Be Purchased Under The Program (in millions)
10/1/05—10/31/05		163,049		$	35.16		163,049		—
11/1/05—11/30/05		—		—			—		—
12/1/05—12/31/05		—		—			—		—

On September 7, 2005, the Board of Directors of the Company authorized a stock purchase plan for up to $15,000,000. The Company repurchased a total of 425,627 shares at an average price of $35.20 during the remainder of 2005 utilizing all funds available under the plan.

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ITEM 6.SELECTED FINANCIAL DATA

	Year Ended December 31,
	2005			2004			2003			2002			2001
	(Dollars and shares in thousands, except per share data)
Operating Data
Continuing Operations:
Net Sales	$	517,153		$	385,084		$	310,947		$	258,767		$	238,495
Operating Costs	460,484			344,250			287,690			253,394			217,844
Interest (Expense) Income, Net	(2,611		)	(945		)	371			(716		)	601
Income Before Income Taxes	61,898			39,902			23,517			4,438			22,011
Provision for Income Taxes	21,539			13,800			8,411			574			7,383
Income from Continuing Operations	40,359			26,102			15,106			3,864			14,628
Income (Loss) From Discontinued Operations	599			698			(20,947		)	(42,941		)	(9,265		)
Net Income (Loss)	40,958			26,800			(5,841		)	(39,077		)	5,363
Basic Earnings (Loss) per Share:
Income From Continuing Operations	3.41			2.04			1.14			0.30			1.15
Income (loss) From Discontinued Operations	0.05			0.06			(1.58		)	(3.30		)	(0.73		)
Net Income (Loss)	3.46			2.10			(0.44		)	(3.00		)	0.42
Diluted Earnings (Loss) per Share:
Income From Continuing Operations	2.85			1.94			1.10			0.28			1.10
Income (Loss) From Discontinued Operations	0.04			0.05			(1.53		)	(3.13		)	(0.70		)
Net Income (Loss)	2.89			1.99			(0.43		)	(2.85		)	0.40
Cash Dividends Paid on Common Stock	4,733			5,093			5,315			3,912			5,069
Cash Dividends Declared per Common Share	0.40			0.40			0.40			0.30			0.40
Shares Outstanding at Year End	11,279			12,292			13,267			13,068			12,872
Financial Position (at Year End)
Total Assets	$	304,401		$	421,149	(1)	$	161,689	(1)	$	158,195		$	252,525
Property and Equipment, Net—Continuing Operations	44,743			27,645			22,216			21,196			24,514
Long-Term Debt, Including Current Portion	121,687			122,958			—			—			—
Shareholders’ Equity	25,522			31,566			40,947			47,631			120,344
Financial Ratios
Return on Shareholders’ Equity (Net Income)	160.5		%	84.9		%	—		%	—		%	4.5		%
Income from Continuing Operations as a Percentage of Net Sales	7.8		%	6.8		%	4.9		%	1.5		%	6.1		%
Statistical Data—Continuing Operations
Funded Backlog as of Year End	$	496,000		$	388,000		$	323,000		$	301,000		$	207,000
Capital Expenditures	25,358			9,628			6,213			5,219			2,028
Depreciation and Amortization	9,217			5,846			5,415			8,763			6,413
Number of Employees at end of year	2,000			1,650			1,600			1,600			1,500

Certain prior year balances have been reclassified to conform to the current year presentation.

(1)The total assets and liabilities for the years ended December 31, 2004 and 2003 have been equally adjusted to reflect the consolidation of ETI in accordance with the FASB issued Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51 (“FIN 46R”), effective for the year ended December 31, 2003, and previously they were reflected under the equity method. The increase to total assets reflected in this report over previously filed reports is $821 and $11,571 as of December 31, 2004 and 2003, respectively.

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ITEM 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Consolidated Financial Statements and related notes that appear elsewhere in this Annual Report.

Management Overview

Introduction

The Company designs, produces and supports defense systems. Its products and services include unmanned aircraft systems, training and simulation systems, automated aircraft test and maintenance equipment, armament systems, logistical and engineering services, and other leading-edge technology solutions for defense needs. The Company also manufactures combustion equipment for biomass and refuse fuels.

During 2005, the Company continued to focus on its core Defense segment, which accounted for approximately 92.9%, 92.2%, and 90.8% of total consolidated net sales from continuing operations during 2005, 2004, and 2003, respectively. The U.S. Government, principally the DoD, is the Company’s principal customer, and the Company expects that sales to the DoD will be its primary source of revenue for the foreseeable future. As more fully discussed in Part I, Item 1 of this Annual Report, the Defense segment’s largest product area includes the development, manufacture and support of UAS, including the Shadow 200 TUAS, which is the U.S. Army’s tactical UAS platform. AAI is one of the few companies to have entered full-rate production and successfully fielded operational UAS for the DoD. The Company’s results in 2005 significantly benefited from the Shadow 200 TUAS full-rate production program that commenced in 2003, and by providing support and logistical services for delivered Shadow 200 TUAS, including systems deployed in Operation Iraqi Freedom.

The Global War on Terrorism, Operation Iraqi Freedom, and homeland defense concerns have focused the U.S. Government’s efforts on ensuring that U.S. armed forces are equipped and trained to prevail in large-scale and small-scale conflicts around the world. At the same time, the DoD is committed to transforming the military into a more agile, responsive, lethal and survivable force for future engagements. The Company believes that a key element of the DoD’s strategy is the use of unmanned systems, including UAS. Current market analyses performed by AAI, based on information gathered from budgets and forecasts reported by the DoD, continue to call for near-term growth in U.S. UAS programs. However, as a consequence of this growth larger manufacturers have entered the marketplace. Some of these new competitors are the major aircraft manufacturers, including Northrop Grumman and The Boeing Company. In addition, the DoD is seeking new and more cost effective methods of sustaining its systems in the field. Increasingly, the DoD is asking contractors to provide innovative logistics, field service and training solutions in support of procured systems in order to reduce overall maintenance and operational costs, as well as improve operational effectiveness of these systems.

The Company intends to strengthen its competitive advantage by continuously improving operational excellence and continuing to invest in research and development initiatives to maintain its track record and technological edge over its competitors in the Company’s niche markets. The Company also intends to grow its Defense segment and plans to use its position as a prime contractor to work with its customers to expand markets for current products, create upgrades to extend product life, and develop the requirements for future systems. Additionally, the Company intends to leverage its expertise, resources and capabilities to expand its engineering and services offerings by addressing customers’ product support, logistics, fielding and upgrade needs in order to control a greater portion of the product life cycle. Finally, the

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Company intends to complement its growth strategy for its Defense segment through select acquisitions that broaden its product and service offerings, deepen its capabilities and provide entry into new markets.

Acquisition of ESL

On April 4, 2005, the Company acquired ESL, an EW systems company based in the United Kingdom. The net purchase price was $10,363,000 in cash. ESL is a designer and producer of electro-optical (“EO”) test and simulation products for use on flight lines and in aircraft maintenance facilities. The simulators are used to assess the operational readiness of sophisticated missile warning and countermeasures self-protection systems used on military aircraft. ESL’s EO simulators are also used at military test, evaluation, and training ranges to evaluate the effectiveness of new self-protection systems and to train pilots for combat readiness. In addition, ESL specializes in EW related research, study, and in-service support activity for U.K. government agencies and prime contractors both in the United Kingdom and the United States. For the year ended December 31, 2005, ESL contributed net sales of $7,270,000 to total consolidated net sales from continuing operations.

Gain on Sale of Property

In January 2005, the Company sold approximately 26 acres of undeveloped property adjacent to its Hunt Valley, Maryland facility for $8,105,000, which yielded proceeds of $7,555,000, net of selling expenses and closing costs. The net proceeds were deposited with a qualified intermediary. The Company recognized a pretax gain on the sale of this property in the first quarter of 2005 of approximately $7,152,000. On March 4, 2005, the Company purchased, with funds distributed by the qualified intermediary, a new facility for $5,085,000 in Charleston, South Carolina for AAI Services Corporation, to support the growth in its operations. Substantially all the remaining net proceeds were disbursed from the qualified intermediary account by July 11, 2005, and were used for improvements to the new facility. The Company expects that it will be able to defer paying substantially all of the income tax obligation incurred in connection with the gain on the sale of the property in Hunt Valley, in accordance with Section 1031(b) of the Internal Revenue Code.

Issuance of 3.75% Convertible Senior Notes

In September 2004, United Industrial issued and sold $120,000,000 aggregate principal amount of 3.75% convertible senior notes due September 15, 2024 (“3.75% Convertible Senior Notes”), unless earlier redeemed, repurchased, or converted. United Industrial used $24,356,000 of the proceeds to purchase 850,400 shares of the United Industrial’s Common Stock in privately negotiated transactions concurrent with the issuance and sale of the 3.75% Convertible Senior Notes. United Industrial received approximately $91,268,000 of net proceeds from this sale after the concurrent purchase of the Common Stock and payment of $4,376,000 of investment banking and other professional and printing fees associated with the sale. The Company intends to use the net proceeds for acquisitions and general corporate purposes. At December 31, 2005, the remaining balance of the net proceeds was invested in short-term, interest bearing investments and marketable equity securities.

Restructuring Activities

During the fourth quarter of 2004, the Company’s management adopted plans designed to maximize efficiencies in its Energy segment and its Defense segment’s fluid test systems product area, in accordance with the Company’s previously disclosed strategic initiatives.

In the Company’s Energy segment, Detroit Stoker eliminated 28 production positions during the first quarter of 2005, by outsourcing most of its manufacturing operations to lower cost producers. In connection with the planned reduction in Detroit Stoker’s workforce, in the fourth quarter of 2004 the

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Company recognized a pension curtailment charge in the Energy segment to accelerate the amortization of prior service costs and recognize enhanced benefits primarily for one of its pension benefit plans of approximately $1,959,000, which is included in selling and administrative expenses in the accompanying Consolidated Statements of Operations. As a result of the same reduction in Detroit Stoker’s workforce, the Company recognized severance charges of $94,000 and facility consolidation and closure costs of $164,000 for the year ended December 31, 2005. Detroit Stoker does not expect any additional costs associated with this restructuring plan.

In the fourth quarter of 2004, AAI began reorganizing the operations of its fluid test systems product area in the Defense segment in expectation of realizing certain operating efficiencies. These activities resulted in total charges of approximately $2,552,000 of which approximately $600,000 was expensed and $200,000 was paid in 2004. In addition, the Company recorded a noncash charge in 2004 in the Defense segment of approximately $300,000 for the write down of certain inventories of the fluid test systems product line, which was included in cost of sales. For the year ended December 31, 2005, $1,952,000 was expensed and $2,352,000 was paid or otherwise settled in connection with this restructuring plan. The Company recorded a noncash charge in 2005 in the Defense segment of approximately $124,000 for the write down of certain assets of the fluid test systems product line. AAI does not expect to recognize any additional restructuring expense related to the fluid test systems product line.

On October 31, 2003, the Company closed its office in New York City and relocated the corporate activities handled at that location to its existing facility in Hunt Valley, Maryland. In connection with this relocation, in 2003, the Company recorded a charge of $546,000 related to severance costs for the former employees at that location and a charge of $355,000 related to the closure of the New York City office, for a total charge of $901,000, which is included in selling and administrative expenses in the accompanying Consolidated Statements of Operations.

Results of Operations

The Company’s operating cycle is long-term and involves various types of production contracts and varying production delivery schedules. In addition to historical information, the following discussion contains forward-looking statements that are subject to risks and uncertainties. Actual results may differ substantially from those referred to herein due to a number of factors, including but not limited to risks described in the section entitled Risk Factors in this Annual Report. Accordingly, operating results of a particular year, or year-to-year comparisons of recorded revenues and earnings, may not be indicative of future operating results. The following comparative analysis should be viewed in this context.

The following information relates to the continuing operations of the Company and its consolidated subsidiaries, except where references are made to discontinued operations. The transportation operation is accounted for as discontinued operations in the Company’s consolidated financial statements as of and for the years ended December 31, 2005, 2004 and 2003.

Overview of Consolidated Results

Continuing Operations

The following discussion provides an overview of the Company’s consolidated results of operations from continuing operations, and is followed by a discussion of each business segment’s results.

In 2004, certain reclassifications were made to gross profit and selling and administrative expenses in 2003 to conform to the current year presentation.

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For the Years Ended December 31, 2005, 2004 and 2003

										2005 vs 2004 Increase		2004 vs 2003 Increase
	2005			2004			2003			$	%	$	%
	(dollars in thousands)
Net sales	$	517,153		$	385,084		$	310,947		132,069	34.3	74,137	23.8
Gross profit	125,790			95,946			71,329			29,844	31.1	24,617	34.5
Gross margin percentage	24.3		%	24.9		%	22.9		%	—	—	—	—
Selling and administrative expenses	67,908			53,414			46,688			14,494	27.1	6,726	14.4
Selling and administrative expenses as a percentage of sales	13.1		%	13.9		%	15.0		%	—	—	—	—
Operating income	56,669			40,834			23,257			15,835	38.8	17,577	75.6
Operating income as a percentage of sales	11.0		%	10.6		%	7.5		%	—	—	—	—
Income from continuing operations before income tax	61,898			39,902			23,517			21,996	55.1	16,385	69.7
Income from continuing operations, net of income taxes	40,359			26,102			15,106			14,257	54.6	10,996	72.8

Year Ended December 31, 2005 Compared to the Year Ended December 31, 2004

The increase in net sales in 2005 was primarily driven by the Company’s Defense segment that contributed $125,126,000 to the growth. This increase was mainly generated by higher production and logistical support related to Shadow 200 TUAS. Also contributing to the growth were various other Defense segment programs including the Biological Detection Systems, Advanced Boresight Equipment, and Lightweight Small Arms Technology. The acquisition of ESL in the second quarter of 2005 contributed $7,270,000 to the net sales increase. In addition, the Energy segment experienced higher demand in response to the high and volatile energy prices for oil and natural gas, resulting in $6,943,000 of higher net sales.

The decrease in gross margin percentage in 2005 compared to 2004 was primarily due to $6,900,000 of gross profit recognized in 2004 as the result of the favorable resolution of technical risks and achievements of production efficiencies experienced on the Shadow 200 TUAS program, partially offset in 2005 by higher net sales of products and services with improved gross margins. In addition, the Energy segment realized an improvement in its gross margin percentage in 2005 due to the implementation of the restructuring plan adopted in 2004.

The increase in the selling and administrative expenses in 2005 included $16,474,000 related to support of the Defense segment’s growth including general and administrative expenses incurred by ESL (acquired in April 2005) of $3,038,000. Other than ESL, areas that experienced increases included research and development and bid and proposal costs, compensation, facilities, information technology, and legal. Restructuring charges in 2005 in connection with the Defense segment’s fluid test systems product line were essentially offset by reduced expenses resulting from that restructuring (see “Management Overview” section above for additional information). Partially offsetting these increases in 2005 were savings in the Energy segment of $1,779,000 primarily due to lower restructuring costs.

The increase in income from continuing operations in 2005 compared to 2004 was primarily due to the growth in net sales and operating margin as well as a pretax gain of $7,152,000 from the sale of

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undeveloped property, partially offset by an increase in pretax net interest expense of $1,666,000 primarily due to the issuance of the Company’s 3.75% Convertible Senior Notes on September 15, 2004.

The provision for income taxes for the year ended December 31, 2005 reflected an annual effective income tax rate for continuing operations of 34.8 % compared to 34.6% in 2004.

Year Ended December 31, 2004 Compared to the Year Ended December 31, 2003

The increase in net sales in 2004 was primarily driven by the Company’s Defense segment that contributed $72,636,000 to the growth. This increase was mainly generated by higher production and logistical support related to Shadow 200 TUAS. Also contributing to the growth in the Defense segment was higher sales for the C-17 Maintenance Training System program. In addition, the Energy segment experienced higher demand for its alternative fuel products in response to the high and volatile energy prices for oil and natural gas, resulting in $1,501,000 of higher net sales.

The increase in gross margin percentage in 2004 was generally experienced in the Defense segment and primarily due to $6,900,000 of gross profit recognized in 2004 as the result of the favorable resolution of technical risks and achievements of production efficiencies experienced on the Shadow 200 TUAS program. Lower pension expense and the prescription drug subsidy provided by the Medicare Act of 2003 also contributed to the improved gross margin in 2004. Partially offsetting these favorable items in 2004 were restructuring charges in connection with the Defense segment’s fluid test systems product line (see “Management Overview” section above for additional information) and a charge related to the discovery and correction in the third quarter of 2004 of the cumulative effect of overstated revenue and related unbilled accounts receivable that occurred during the years 1998 through 2003. The corrections were not material in the aggregate or in any one year.

The increase in the selling and administrative expenses in 2004 included $5,165,000 related to support of the Defense segment’s growth. Areas that experienced increases included research and development and bid and proposal costs, legal, and consulting. The Energy segment contributed $1,955,000 to this increase that was primarily due to restructuring costs. These items were partially offset by costs, in 2003, totaling $901,000 associated with the closure of the Company’s office in New York City and relocation of the activities handled at that location to an existing facility in Hunt Valley, Maryland.

The increase in income from continuing operations in 2004 compared to 2003 was primarily due to the growth in net sales and operating margin. These favorable results were partially offset by an increase in pretax net interest expense of $1,316,000 primarily due to the issuance of the Company’s 3.75% Convertible Senior Notes on September 15, 2004.

The provision for income taxes for the year ended December 31, 2004 reflected an annual effective income tax rate for continuing operations of 34.6 % compared to 35.8% in 2003. The lower tax rate was primarily attributable to research and development tax credits.

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Segment Results

	For the Years Ended December 31,
	2005			2004			2003
	(dollars in thousands)
Net sales:
Defense	$	480,187		$	355,061		$	282,425
Energy	36,966			30,023			28,522
Consolidated total	$	517,153		$	385,084		$	310,947
Gross profit:
Defense	$	110,863		$	84,296		$	59,283
Energy	14,927			11,650			12,046
Consolidated total	$	125,790		$	95,946		$	71,329
Selling and administrative expenses:
Defense	$	58,816		$	42,342		$	37,177
Energy	8,996			10,775			8,820
Other	96			297			691
Consolidated total	$	67,908		$	53,414		$	46,688
Income (loss) from continuing operations before income taxes:
Defense	$	59,282		$	41,202		$	23,182
Energy	5,695			542			2,695
Other	(3,079		)	(1,842		)	(2,360		)
Consolidated total	$	61,898		$	39,902		$	23,517

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Defense Segment

For the Years Ended December 31, 2005, 2004 and 2003

										2005 vs 2004 Increase			2004 vs 2003 Increase
	2005			2004			2003			$		%	$		%
	(dollars in thousands)
Net sales	$	480,187		$	355,061		$	282,425		$	125,126	35.2	$	72,636	25.7
Gross profit	110,863			84,296			59,283			26,567		31.5	25,013		42.2
Gross margin percentage	23.1		%	23.7		%	21.0		%	—		—	—
Selling and administrative expenses	58,816			42,342			37,177			16,474		38.9	5,165		13.9
Selling and administrative expenses as a percentage of sales	12.2		%	11.9		%	13.2		%	—		—	—		—
Operating income	51,367			40,650			21,677			10,717		26.4	18,973		87.5
Operating income as apercentage of sales	10.7		%	11.4		%	7.7		%	—		—	—		—
Income before income Taxes	59,282			41,202			23,182			18,080		43.9	18,020		77.7

Year Ended December 31, 2005 Compared to Year Ended December 31, 2004

The increase in net sales of $125,126,000 for the Defense segment was primarily due to the Shadow 200 TUAS program, including approximately $67,129,000 higher net sales generated as the result of providing logistical support related to an increasing number of fielded Shadow 200 TUAS in 2005, including deployed systems in Operation Iraqi Freedom, a full year of logistical support in 2005 related to the Biological Detection Systems program that was awarded in the third quarter of 2004, increased demand for ABE systems, an increase in sales related to the Lightweight Small Arms Technology program and the acquisition of ESL in the second quarter of 2005.

The decrease in gross margin percentage in 2005 compared to 2004 was primarily due to $6,900,000 of gross profit recognized in 2004 as the result of the favorable resolutions of technical risks and achievements of production efficiencies experienced on the Shadow 200 TUAS program, partially offset in 2005 by increased Shadow 200 TUAS performance based logistics program sales with improved gross margins, improved margins on JSECST production contracts, and increased sales volume and gross margins on ABE.

The increase in selling and administrative expenses of $16,474,000 was primarily due to $5,848,000 for higher research and development and bid and proposal costs to support the Defense segment’s growth, $3,444,000 in increased compensation costs, $3,038,000 of selling and administrative expenses incurred by ESL (acquired in April 2005), $1,162,000 increased facility and information technology expense, $763,000 of higher legal expenses, and an increase in other expenses of $2,219,000 associated with the general volume increase in the Defense segment’s business.

The increase in income from continuing operations before income taxes included a gain of $7,152,000 from the sale of undeveloped property.

Year Ended December 31, 2004 Compared to Year Ended December 31, 2003

The increase in net sales for the Defense segment was primarily due to a greater level of production of and support for Shadow 200 TUAS systems, including approximately $31,484,000 higher net sales generated as the result of providing support and logistical services for delivered Shadow 200 TUAS systems, including deployed systems in Operation Iraqi Freedom. Approximately $14,200,000 higher sales volume for the C-17 Maintenance Training System program also contributed to the increase in net sales in 2004.

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The increase in gross profit for the Defense segment was primarily due to the higher sales volume, the recognition of the favorable resolution of technical risks of $6,900,000, approximately $1,534,000 lower pension and other post-retirement benefits due to higher returns on the pension assets and approximately $400,000 for the recognition of the effects of the prescription drug subsidy provided by the Medicare Act of 2003, partially offset by $800,000 of charges related to the restructuring activities in the Defense segment’s fluid test systems product line, and a $780,000 charge related to the discovery and correction in the third quarter of 2004 of the cumulative effect of overstated revenue and related unbilled accounts receivable that occurred during the years 1998 through 2003. The corrections were not material in the aggregate or in any one year.

The increase in gross margin percentage was primarily due to the recognition of $6,900,000 of gross profit as the result of the favorable resolution of technical risks and achievement of production efficiencies experienced in the Shadow 200 TUAS production program.

The $5,165,000 increase in selling and administrative expenses was primarily due to higher research and development and bid and proposal costs, legal and consulting fees, and other expenses associated with the general volume increase in the Defense segment’s business.

The increase in income from continuing operations before taxes in 2004 compared to 2003 was primarily due to the increase in net sales and the recognition of $6,900,000 of pretax profit due to the favorable resolution of technical risks and achievement of production efficiencies experienced in the Shadow 200 TUAS production program. These favorable items were partially offset by higher selling and administrative expenses and a noncash pretax impairment charge in 2004 of $861,000 to write down the cost of certain assets related to the commercial firefighting training facility AAI owns and operates in Kenai, Alaska.

Energy Segment

For the Years Ended December 31, 2005, 2004 and 2003

										2005 vs 2004 Increase (Decrease)				2004 vs 2003 Increase (Decrease)
	2005			2004			2003			$		%		$		%
	(dollars in thousands)
Net sales	$	36,966		$	30,023		$	28,522		6,943		23.1		1,501		5.3
Gross profit	14,927			11,650			12,046			3,277		28.1		(396	)	(3.3	)
Gross margin percentage	40.4		%	38.8		%	42.2		%	—		—		—		—
Selling and administrative expenses	8,996			10,775			8,820			(1,779	)	(16.5	)	1,955		22.2
Selling and administrative expenses as a percentage of sales	24.3		%	35.9		%	30.9		%	—		—		—		—
Operating income	5,342			380			2,509			4,962		1305.7		(2,129	)	(84.9	)
Operating income as a percentage of sales	14.5		%	1.3		%	8.8		%	—		—		—		—
Income before income Taxes	5,695			542			2,695			5,153		950.7		(2,153	)	(79.9	)

Year Ended December 31, 2005 Compared to Year Ended December 31, 2004

The increase in net sales of $6,943,000 for the Energy segment in 2005 was primarily due to the higher demand for stokersand related combustion equipment as customers sought alternative fuel sources in response to the high and volatile prices experienced recently, especially for oil and natural gas.

The implementation during 2005 of the restructuring plans adopted in 2004, primarily from the outsourcing of all manufacturing operations, contributed to the increase in gross margin percentage.

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The decrease in selling and administrative expenses was primarily due to restructuring costs of $258,000 incurred in 2005 compared to the pension curtailment charge of $1,959,000 related to restructuring in 2004.

Income before income taxes in the Energy segment was $5,153,000 higher in 2005 than for the same period in 2004, primarily due to a growth in sales and the positive effects from the implementation of the restructuring plans adopted in 2004. In January of 2005, Detroit Stoker outsourced a majority of its manufacturing operations to lower cost vendors and eliminated twenty-eight hourly production positions. Approximately $258,000 was charged to this restructuring in 2005 in contrast to a $1,959,000 pension curtailment charge related to Detroit Stoker’s restructuring activities recorded in 2004.

Year Ended December 31, 2004 Compared to Year Ended December 31, 2003

The increase in net sales for the year ended December 31, 2004 was primarily due to higher demand for stokers and related combustion equipment as steam producers sought alternative fuel sources in response to the high and volatile energy prices experienced recently, especially for oil and natural gas. The decrease in gross margin percentage in 2004 compared to 2003 was primarily due to increased competition.

Excluding the $1,959,000 pension curtailment charge related to Detroit Stoker’s 2004 restructuring activities, selling and administrative expenses for the Energy segment in 2004 were similar to 2003.

Asbestos litigation expense decreased $175,000 to $542,000 in 2004 from $717,000 in 2003. Asbestos litigation expense in 2004 resulted in part from a $231,000 increase in the asbestos liability, net of potential insurance recoveries, based on a ten-year estimate of future liability, the period in which such costs are deemed to be reasonably estimable. The higher asbestos litigation expense incurred in 2003 was primarily for legal and other professional fees associated with studies performed to evaluate the extent of potential asbestos liability and related available insurance coverage.

Income before income taxes in the Energy segment in the year ended December 31, 2004 was $2,153,000 lower than for the same period in 2003 primarily due to the pension curtailment charge of $1,959,000 related to the restructuring activities at Detroit Stoker in 2004, as discussed in the “Management Overview” section above.

Other Segment

Comparison for the Years Ended December 31, 2005, 2004 and 2003

										2005 vs 2004 Increase (Decrease)				2004 vs 2003 Increase (Decrease)
	2005			2004			2003			$		%		$		%
	(dollars in thousands)
Selling and administrative expenses	$	96		$	297		$	691		(201	)	(67.7	)	(394	)	(57.0	)
Loss before income taxes	(3,079		)	(1,842		)	(2,360		)	1,237		67.2		(518	)	(21.9	)

Year Ended December 31, 2005 compared to Year Ended December 31, 2004

Expenses included under the heading Other increased for the year ended December 31, 2005 compared to the same period in 2004, primarily due to an increase of $4,226,000 in interest expense as the result of the issuance of the 3.75% Convertible Senior Notes on September 15, 2004 offset by an increase in interest income of $1,995,000.

Year Ended December 31, 2004 compared to Year Ended December 31, 2003

Expenses included under the heading Other decreased in 2004 compared to 2003 primarily due to a pretax charge of approximately $901,000 related to severance and lease termination costs incurred in 2003 associated with closing and relocating the Company’s corporate headquarters from New York City to Hunt Valley, Maryland, partially offset by charges recorded in 2004 related to environmental issues.

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Discontinued Transportation Operation

The Company designated, and began accounting for its transportation business, as a discontinued operation in 2001. Further, the Company ceased to accept new transportation business in December 2001, the time the decision was made to discontinue the transportation business. On July 26, 2002, AAI sold two transportation overhaul contracts, one with the New Jersey Transit Corporation and the other with the Maryland Transit Administration, together with related assets and liabilities, to ALSTOM Transportation, Inc. (“ALSTOM”). AAI agreed to indemnify ALSTOM against, among other things, future breach by AAI of representations and covenants contained in the master agreement (the “ALSTOM Agreement”). Between March 3 and July 20, 2004, ALSTOM provided AAI with notice of indemnification claims pursuant to the ALSTOM Agreement totaling approximately $8,500,000. . On December 30, 2004, AAI entered into a settlement agreement with ALSTOM with respect to such indemnification claims that resulted in a payment from AAI to ALSTOM of $300,000, and an additional $150,000 payment made by AAI into an escrow account, in full settlement of ALSTOM’s claims. As of December 31, 2005, no claims have been raised against the escrow.

In addition to the two transportation overhaul contracts AAI sold to ALSTOM, the Company’s remaining transportation operation has been conducted primarily in connection with Electric Transit, Inc. (“ETI”). AAI owns 35% of ETI, and Skoda a.s. (“Skoda”), a Czech company, owns the remaining 65% of ETI. During 2001, Skoda was declared bankrupt in the Czech Republic and has been unable to fund its obligations to ETI which are provided for in the shareholders’ agreement with AAI. The financial statements for ETI have been consolidated for the years ended December 31, 2005, 2004 and 2003, and previously they were reflected under the equity method.

During 2004, ETI fulfilled its initial delivery obligations and completed a retrofit program under its one remaining production contract, which was for the design and manufacture of 273 electric trolley buses (“ETBs”) for the San Francisco Municipal Railway (“MUNI”). In executing its contract with MUNI, ETI entered into major subcontracts with AAI, certain Skoda operating affiliates, and others. Both AAI and the Skoda operating affiliates have completed their delivery requirements and the Skoda operating affiliates are now subject to warranty obligations. Although AAI has completed performance on its subcontract with ETI relating to the MUNI contract, AAI has continued to provide ETI with personnel and other financial support in order to enable ETI to satisfy certain of its remaining commitments to MUNI.

As of April 22, 2004, ETI and MUNI executed an agreement to modify the original MUNI contract (“Modification No. 6”) under which MUNI relieved ETI of its warranty, performance and certain related bonding obligations, as well as other obligations under its ETB contract with MUNI, except for a defined scope of work related to modifications of ETB hardware. In connection with Modification No. 6, AAI executed a guaranty agreement with MUNI that assures performance of certain of ETI’s remaining contractual obligations to MUNI. In exchange for the guaranty and other consideration (including a cash payment of $500,000), AAI obtained a release from all further obligations under its subcontract with ETI, including its subcontractor warranty obligations.

Also related to the MUNI contract is AAI’s claim under a labor and materials bond for unpaid receivables from ETI totaling in excess of $47,000,000 (the maximum penal sum of the labor and materials bond) less AAI’s indemnity obligation to the surety of that bond for up to $14,800,000 (representing 35% of the original face value of the labor and materials bond (in proportion to AAI’s equity interest in ETI)). AAI’s payment rights under the labor and materials bond (among other damage claims asserted by AAI) are currently at issue in a case before the United States District Court for the Northern District of California. Prior to final adjudication of this case, there can be no assurances as to the amount or timing of a recovery by AAI, if any, on its claim on the labor and materials bond. To date no amount of recovery has been recorded.

For a more complete description of the Company’s discontinued transportation operation, see Note 19 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

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Year Ended December 31, 2005 Compared to the Year Ended December 31, 2004

The Company’s discontinued transportation operation reported income of $599,000, net of income taxes for the year ended December 31, 2005 compared to income of $698,000, net of income tax for the same period in 2004.

During 2005 and 2004, ETI was able to favorably resolve certain operational risks associated with the execution of its last remaining program. ETI reported net income for the years ended December 31, 2005 of approximately $3,241,000. Partially offsetting this income in 2005 was $2,319,000 of net expenses incurred by the Company’s discontinued transportation operation to wind down its operation, including $1,926,000 in legal fees. (See Note 17 Commitments and Contingencies to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for additional information,)  ETI reported net income for the year ended December 31, 2004 of approximately $2,321,000. Partially offsetting this income in 2004 was $1,247,000 of net expenses incurred by the Company’s discontinued transportation operation to wind down its operation. These net expenses included $4,566,000 of general and administrative expenses and other charges, including $2,294,000 of professional fees related to litigation matters, partially offset by $3,319,000 related to the favorable resolution of certain matters previously reserved.

Year Ended December 31, 2004 Compared to the Year Ended December 31, 2003

The Company’s discontinued transportation operation reported income of $698,000, net of income taxes for the year ended December 31, 2004 compared to a loss of $20,947,000, net of an income tax benefit for the same period in 2003.

The results in 2003 included a pretax loss of $24,879,000 primarily related to the loss estimated at that time to be incurred by ETI to complete the production and warranty phases of its one remaining contract to provide ETBs to MUNI, as well as $4,314,000 of costs related to idle capacity at AAI’s leased transportation facility, and $3,028,000 of the Company’s general and administrative expenses related to the discontinued transportation operation.

Pension

							Increase
	2005			2004			(Decrease)
	(dollars in thousands)
Minimum pension liability	$	28,448		$	17,513			$	10,935
Accumulated other comprehensive loss	$	52,422		$	47,046			$	5,376
Less: Deferred tax benefit	(18,346		)	(16,466		)		(1,880		)
	$	34,076		$	30,580			$	3,496
Intangible pension asset	$	3,288		$	3,564			$	(276	)

During 2005, the Company’s minimum pension liability increased $10,935,000 primarily due to a reduction in the discount rate to 5.50% in 2005 from 5.75% in 2004. The Company also expensed approximately $6,080,000 of net periodic pension benefit cost to operations and charged $5,376,000 ($3,496,000, net of income taxes) to accumulated other comprehensive loss to recognize an additional minimum pension liability. The Company contributed $244,000 during 2005 to fund a portion of its pension obligation.

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Income Taxes

As of December 31, 2005, the Company had recorded net deferred tax assets of approximately $17,332,000. Management believes the Company will generate sufficient taxable income in future years to realize this benefit based upon the historical performance of the Company’s Defense and Energy segments and their existing backlogs. The Company’s effective income tax rate for continuing operations in 2005 was 34.8 % compared to 34.6% in 2004.

Backlog

The Company’s funded backlog for continuing operations, defined as orders placed for which funds have been appropriated or purchase orders received, by business segment at December 31, 2005 and 2004 was as follows:

	At December 31,				Increase (Decrease)
	2005		2004		$	%
	(dollars in thousands)
Defense	$	487,366	$	380,622	106,744	28.0
Energy	8,499		7,296		1,203	16.5
Total	$	495,865	$	387,918	107,947	27.8

The increase in funded backlog for the Defense segment at December 31, 2005 compared to December 31, 2004 was generally due to the timing of funding by the U.S. Army for the Shadow 200 TUAS full-rate production contract awards which are fully funded when awarded, and an increase in orders for the continued logistical support services for delivered Shadow 200 TUAS systems, including systems deployed in Operation Iraqi Freedom. The increase also includes additional orders awarded by the DoD to provide logistical support for Biological Detection Systems at U.S. facilities around the world. The Defense segment also received additional funding for the C-17 Maintenance Training Devices and funding for Phase II for the Lightweight Small Arms Technology Program.

The increase in the Energy segment’s funded backlog was primarily due to an increase in orders received during 2005 compared to 2004. The Company believes the increase in orders results primarily from increased prices for oil and gas.

Backlog represents products or services that the Company’s customers have committed by contract to purchase from the Company, but the Company has not yet delivered. Cancellation of purchase orders or reductions of product quantities in existing contracts by such customers could substantially and materially reduce backlog and, consequently, future revenues. Moreover, the Company’s failure to replace canceled or reduced backlog could result in lower revenues.

Liquidity and Capital Resources

Overview

The Company’s principal sources of liquidity are cash on hand, cash generated from operations, and a $100,000,000 credit facility. On July 18, 2005, United Industrial and AAI, entered into a $100,000,000 four year revolving Credit Agreement with a syndicate of six banks, consisting of SunTrust Bank, as administrative agent and issuing bank, Citibank, F.S.B., Key Bank, PNC Bank, Commerce Bank and Provident Bank. The Credit Agreement provides for a Credit Facility consisting of a $100,000,000 Senior Secured Revolving Credit Facility with a $5,000,000 Swing Line and a $100,000,000 Letter of Credit subfacility. The interest rate for loans made under this facility is thirty day LIBOR plus an applicable margin between 1.25% and 2.00% based upon the Company’s leverage ratio. As of December 31, 2005, the Company had $2,441,000 outstanding under the Letter of Credit subfacility. Pursuant to the terms of the

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Credit Agreement and parent guaranty, United Industrial has guarantied AAI’s obligations. The proceeds of the Credit Facility will be used to fund future acquisitions, finance capital expenditures, provide working capital, fund letters of credit, and for other general corporate purposes. Based on cash on hand, future cash expected to be generated from operations, and the new Credit Facility, the Company expects to have sufficient cash to meet its requirements for at least the next twelve months.  In order to facilitate the implementation of a new enterprise resource planning system (“ERP System”), the Company received an extension letter from the syndicate of banks related to its establishment of deposit and disbursement accounts with SunTrust Bank. These accounts were established January 3, 2006.

As discussed under the subheading “Gain on Sale of Property” in the “Management Overview” contained in Item 7, Part II, in January 2005, the Company sold approximately 26 acres of undeveloped property adjacent to its Hunt Valley, Maryland facility for $8,105,000, which yielded proceeds of $7,555,000, net of selling expenses and closing costs. These net proceeds were deposited with a qualified intermediary. The Company reinvested approximately $5,085,000 of the net proceeds from this sale with funds disbursed by the qualified intermediary in a new facility in Charleston, South Carolina for AAI Services Corporation to support the growth in their operations. The remaining net proceeds were disbursed from the qualified intermediary account by July 11, 2005, and were used primarily for improvements to the new facility. The Company expects that it will be able to defer paying substantially all of the income tax obligation incurred in connection with the gain on the sale of the property in Hunt Valley, in accordance with Section 1031 (b) of the Internal Revenue Code.

In accordance with its strategic initiatives to enhance shareholder value, the Company is continuing to focus its efforts on the profitability and growth of its core Defense product areas, seeking to maximize operating efficiencies and exploring the sale of non-core assets.

The Company seeks to complement its growth strategy for its Defense segment through select acquisitions that broaden its product and service offerings, deepen its capabilities, and allow entry into new markets. Acquisition candidates may include public and private companies and divisions, subsidiaries and product lines of such companies. In accordance with this initiative on April 4, 2005, the Company acquired ESL, as more fully discussed in the “Management Overview” section, above.

During 2005, as part of the Company’s ongoing strategy to explore the sale of non-core assets, the Company continued its engagement of Imperial Capital, LLC, an investment-banking firm, to act as exclusive financial advisor to assist in exploring strategic alternatives for Detroit Stoker, including a possible sale. The Company and Imperial Capital continue to explore potential transactions involving Detroit Stoker. From time to time, the Company and potential buyers may have discussions regarding a potential transaction, negotiate the terms of a potential transaction, and enter into customary non-binding agreements in order to facilitate any such discussions and negotiations. No assurances can be given regarding whether a transaction involving Detroit Stoker will occur or the timing or proceeds from any such transaction.

The Company conducts a significant amount of business with the U.S. Government. Sales to agencies of the U.S. Government were $450,581,000, $325,092,000, and, $249,547,000 for 2005, 2004, and 2003, respectively. Although the U.S. Government announced plans at the beginning of 2005 to reduce its defense spending, there are currently no indications of a significant change in the status of government funding for any of the Company’s programs. However, should a change in government funding occur, the Company’s results of operations, financial position and liquidity could be materially and adversely affected. Such a change could have a significant, adverse impact on the Company’s profitability and stock price.

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Cash Requirements

Contractual Obligations

The following table summarizes the Company’s expected future payments related to contractual obligations at December 31, 2005:

	Payments Due By Period (a)
	Total		Less Than 1 Year			1-3 Years			3-5 Years			More Than 5 Years
	(dollars in thousands)
Long-term debt(b)	$	205,816		$	5,477		$	9,652		$	9,000		$	181,687
Capital leases	114			40			58			16			—
Operating leases	8,502			2,321			3,413			1,715			1,053
Purchase obligations(c)	9,557			9,557			—			—			—
Severance obligations	154			154			—			—			—
Other long-term liabilities(d)	—			—			—			—			—
Total	224,143			17,549			13,123			10,731			182,740

(a)See Notes 7, 9, and 12 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for additional information on long-term debt and credit arrangements, leases, and pension and other post-retirement benefit obligations, respectively.

(b)Includes current maturities of long-term debt and scheduled interest payments. Assumes that no cash payments will be made for contingent interest or any of the make-whole premiums under the 3.75% Convertible Senior Notes. See “Debt and Related Covenants” below.

(c)Includes agreements to purchase goods and services that are legally enforceable and binding on the Company and that specify all significant terms, including quantity, price and timing. However, purchase orders issued for goods and services under firm government contracts that provide the Company with full recourse under termination clauses are excluded.

(d)Other long-term liabilities reported on the Company’s balance sheet consist primarily of estimated liabilities for pension and other post-retirement benefits, the reserve for asbestos litigation and other obligations. Due to the nature of these liabilities, there are no contractual payments scheduled for settlement.

During 2005, the Company’s cash requirements for long-term debt obligations was higher than prior years primarily due to the issuance and sale of the 3.75% Convertible Senior Notes in September 2004. The Company anticipates that it will make interest payments of approximately $4,500,000 per year as long as the $120,000,000 aggregate principal amount of the 3.75% Convertible Senior Notes remains outstanding.

Capital Expenditures

	Year Ended December 31,
	2005		2004		2003
	(dollars in thousands)
Purchases of property and equipment	$	25,358	$	9,628	$	6,213

Capital expenditures in 2005 were significantly higher than in 2004 primarily due to the purchase of a new facility in Charleston, South Carolina for AAI Services Corporation to support the growth in its operations, enhancements to certain of the Company’s UAS production facilities, including the purchase of new manufacturing equipment to increase production output and efficiency, and the continuing implementation of the Company’s ERP System.

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As of December 31, 2005, the Company had no significant commitments for capital expenditures.

Other Cash Requirements

On March 10, 2005, United Industrial’s Board of Directors authorized a stock purchase plan for up to $25,000,000 of Common Stock. During the first six months of 2005, United Industrial repurchased a total of 735,345 shares at an average price of $33.97 per share, utilizing all funds available under the March 10, 2005 stock purchase plan.

On September 7, 2005, the Board of Directors of United Industrial authorized a stock purchase plan for up to $15,000,000. United Industrial repurchased a total of 425,627 shares at an average price of $35.20 during the remainder of 2005 utilizing all funds available under the September 7, 2005 plan.

The Company paid cash dividends totaling $0.40 per share in each of 2005, 2004, and 2003. Aggregate dividend payments amounted to $4,733,000, $5,093,000, and $5,315,000 in 2005, 2004 and 2003, respectively.

The cash required to completely exit the discontinued transportation operation subsequent to December 31, 2005 is expected to be approximately $1,843,000 through 2006. These amounts exclude legal fees expected to be incurred by AAI in pursuit of payment under a surety bond as well as related damage claims. (See Note 17 Commitments and Contingencies to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for a discussion of AAI’s claims.)

For additional information regarding the Company’s contingencies, please see the discussion under the heading “Contingent Matters” below.

Sources and Uses of Cash

The following is a summary of the Company’s major operating, investing, and financing activities for each of the three years ended December 31, 2005, 2004 and 2003. The financial information presented in the table below is summarized from the Company’s Consolidated Statements of Cash Flows.

	Year Ended December 31,
	2005			2004			2003
	(dollars in thousands)
Operating activities:
Net cash provided by continuing operations	$	55,772		$	25,263		$	40,835
Net cash used in operating activities from discontinued operations	(3,563		)	(4,753		)	(7,946		)
Net cash provided by operating activities	52,209			20,510			32,889
Net cash provided by (used in) investing activities	84,344			(134,097		)	(6,213		)
Net cash (used in) provided by financing activities	(139,736		)	170,128			(6,173		)
(Decrease) increase in cash and cash equivalents	$	(3,183	)	$	56,541		$	20,503

Operating Activities

Net cash provided by continuing operations in the year ended December 31, 2005 increased $30,509,000 to $55,772,000 compared to $25,263,000 for the same period in 2004. This increase is generally due to improved working capital by $21,367,000 as well as higher income from continuing operations before noncash depreciation and other charges of $9,142,000. Accounts receivable was higher and inventory was lower at December 31, 2005 than at December 31, 2004 primarily due to the achievement of certain billing milestones in the Defense segment during 2005.

The Company’s cash flows from operations are dependent on the timing of receipts from various government payment offices and, as a result, may differ from period to period. Such differences could be significant.

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Net cash used by the discontinued transportation operations in the year ended December 31, 2005 primarily related to unreimbursed services and other financial support provided to ETI in connection with the MUNI contract guaranty agreement as discussed in Note 17 Commitments and Contingencies to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Investing Activities

On December 29, 2004, the Company invested $124,619,000 in U.S. treasury bills maturing on February 24, 2005. The U.S. treasury bills were concurrently loaned to the Company’s broker-dealer in a securities lending transaction in exchange for cash collateral in an amount equal to 100% of the fair value of the securities lent. The securities lending transaction terminated on February 23, 2005, at which time the Company redeemed the U.S. treasury bills and received approximately $373,000 of short-term capital gain thereon, repaid the cash collateral to its broker-dealer together with $444,000 of related interest charges, and collected the $25,000,000 deposit plus $86,000 of accrued interest thereon.

During the year ended December 31, 2005, the Company invested $12,596,000 in marketable common stock of a single issuer that is classified as available-for-sale. Management expects that these securities will be sold within one year. An unrealized loss of $635,000, net of tax, was recorded in other comprehensive income at December 31, 2005.

Cash used for the purchase of property and equipment in 2005 was $25,358,000, including $7,515,000 for the purchase and improvement of a facility in Charleston, South Carolina, $6,151,000 for implementation of AAI’s new ERP system, and $8,893,000 for Defense facility improvements including $5,292,000 for enhancements to the UAS production facilities for the year ended December 31, 2005. Capital expenditures were $9,628,000 for the same period in the prior year and included purchases for the Defense segment to support the growth in the UAS business and purchases related to the implementation of the Company’s new ERP system. The Company anticipates that future requirements for expenditures will include completing the facilities improvement and the ERP system implementation as well as expenditures incurred during the ordinary course of business. See “Capital Expenditures” below.

On April 4, 2005, the Company purchased ESL for $9,883,000, net of cash acquired.

Net cash provided by investing activities in 2005 included proceeds of $7,555,000 from the sale of certainundeveloped property at the Company’s Hunt Valley, MD corporate headquarters.

Financing Activities

The Company’s financing activities for the year ended December 31, 2005 used $139,736,000 of cash, including approximately $124,619,000 for the repayment of collateral received from a securities lending transaction of U.S. treasury bills that were sold concurrently. In connection with this securities lending transaction, the Company also received the $25,000,000 refundable deposit from its broker-dealer. This deposit, together with a decrease of $4,035,000 in collateral the Company was required to post in connection with outstanding letters of credit and a cash management security arrangement with Bank of America Business Capital, is presented as a $29,035,000 decrease in restricted cash in the accompanying Consolidated Statements of Cash Flows for the period ending December 31, 2005.

Financing activities in 2005 also included $39,960,000 for the repurchase of Common Stock, $4,733,000 of cash used for the payment of dividends on Common Stock, $1,812,000 of cash receipts from the exercise of employee stock options, and $1,271,000 used for the repayment of long-term debt, primarily related to the financing of the ERP system.

The Company’s financing activities in 2004 provided $170,128,000 of cash, including approximately $91,268,000 of net proceeds from the issuance and sale of the 3.75% Convertible Senior Notes after the concurrent purchase of 850,400 shares of Common Stock for $24,356,000 and paying $4,376,000 of investment banking and other professional and printing fees associated with the sale. In addition, the Company received cash in the amount of $124,619,000 from its broker-dealer as collateral for lending to its

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broker-dealer an equal amount of U.S. treasury bills that were purchased concurrently. In connection with this securities lending transaction, the Company provided a $25,000,000 refundable deposit into a segregated, interest bearing account at its broker-dealer. This deposit, together with $8,845,000 the Company was required to post as cash collateral in connection with outstanding letters of credit and a cash management security arrangement with Bank of America Business Capital, is presented as a $33,845,000 increase in deposits and restricted cash in the accompanying Consolidated Statements of Cash Flows for 2004. Financing activities in 2004 also included $4,580,000 of cash receipts from the exercise of employee stock options, $10,486,000 of cash used for the purchase of Common Stock under the Company’s previously announced stock purchase program, $5,093,000 of cash used for the payment of dividends on Common Stock, and $915,000 used for the repayment of long-term debt, primarily related to the financing of AAI’s new ERP System.

Debt and Related Covenants

For a complete description of the Company’s long-term debt at December 31, 2005, including the terms and conditions of each debt instrument, please see Note 7 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report. The discussion below highlights the more significant covenants related to the Company’s debt.

On September 15, 2004, United Industrial issued and sold $120,000,000 aggregate principal amount of the 3.75% Convertible Senior Notes. Under specific circumstances, United Industrial may have to pay, in cash or a combination of cash and Common Stock, amounts in addition to the 3.75% fixed interest rate. Such payments, which are defined in the Indenture governing the 3.75% Convertible Senior Notes, include Contingent Interest, Additional Interest, a Make-Whole Interest Payment, and a Repurchase Event Make-Whole Premium. Please see Note 7 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for a more detailed discussion of the amounts of these contingent payments and the circumstances that would trigger such additional payments.

On July 18, 2005, United Industrial and AAI, entered into a $100,000,000 four year revolving Credit Agreement with a syndicate of six banks. (See discussion in Liquidity and Capital Resources Overview.)

Detroit Stoker has a $3,000,000 unsecured line of credit with Monroe Bank and Trust that may be used for cash borrowings or letters of credit. This financing arrangement was renewed in 2005 and expires on September 1, 2006. At December 31, 2005, Detroit Stoker had no cash borrowings and had $941,000 of undrawn letters of credit outstanding, which results in approximately $2,058,000 available for borrowings under the line of credit.

Cash Management

Based on cash on hand and future cash expected to be generated from operations, the Company expects to have sufficient cash to meet its requirements during the next twelve months.

The ratio of current assets to current liabilities was 2.7 at the end of 2005 and 1.8 at the end of 2004.

Contingent Matters

Off-Balance Sheet Arrangements

In connection with certain contracts, United Industrial’s operating subsidiaries have committed to certain performance guarantees. The ability to perform under these guarantees may, in part, be dependent on the performance of other parties, including partners and subcontractors. If United Industrial’s operating subsidiaries are unable to meet these performance obligations, the performance guarantees could have a material adverse effect on product margins and the Company’s results of operations, liquidity or financial position. United Industrial’s operating subsidiaries monitor the progress of their partners and subcontractors, and United Industrial does not believe that the performance of these partners and subcontractors will adversely affect these contracts as of December 31, 2005. No assurances can be given,

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however, as to the liability of United Industrial’s operating subsidiaries if partners or subcontractors are unable to perform their obligations.

For a discussion of AAI’s and United Industrial’s indemnity obligations relating to ETI, 35% of which is owned by AAI, see Notes 16 and Note 18 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Other Contingent Matters

The Company is involved in various lawsuits and claims, including asbestos-related litigation and environmental matters. For further information, please see Note 17 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.

Critical Accounting Policies

Application and Use of Estimates

The preparation of the Company’s financial statements in conformity with accounting principles generally accepted in the U.S. requires the Company’s management to make estimates and assumptions. These estimates and assumptions affect the Company’s reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements as well as reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates and those differences could be material. Judgments and assessments of uncertainties are required in applying the Company’s accounting policies in many areas. For example, key assumptions are particularly important in estimating final contract costs for long-term contracts under the percentage-of-completion method of accounting and in developing the Company’s projected liabilities for pension and other post-retirement benefits. Other areas in which significant uncertainties exist include, but are not limited to, projected costs to be incurred in connection with legal matters. The Company applied its critical accounting policies and estimation methods consistently in all periods presented in its consolidated financial statements and the Company’s management has discussed these policies with the Audit Committee.

Commitments and Contingencies

The Company recognizes a liability for legal indemnification and defense costs when it believes it is probable a liability has been incurred and the amount can be reasonably estimated. The liabilities are developed based on currently available information. The accruals are recorded at undiscounted amounts if the Company cannot reliably determine the timing of the cash payments, and the amounts are classified as non-current liabilities in the accompanying consolidated balance sheets. The Company also has insurance that covers certain losses and records receivables to the extent that claims can be reasonably estimated and realization is deemed probable. The receivables are recorded at undiscounted amounts to coincide with the related accruals, and the amounts are classified as non-current receivables in the accompanying consolidated balance sheets.

Revenue Recognition

The Company follows the percentage-of-completion method of accounting for its long-term contracts. Sales and gross profit are recognized as work is performed based on the relationship between actual costs incurred and total estimated costs at completion. Alternatively, certain contracts provide for the production of various units throughout the contract period, and sales and gross profit on these contracts are accounted for based on the units delivered. Amounts representing contract change orders, claims or other items are included in sales only when they can be reliably estimated and realization is probable. Incentives or penalties, estimated warranty costs and awards applicable to performance on contracts are considered in estimating sales and profit rates, and are recorded when there is sufficient information to assess anticipated contract performance. When adjustments in contract value or estimated costs are

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determined, any changes from prior estimates are reflected in earnings in the current period. Anticipated losses on contracts or programs in progress are charged to earnings when identified. Although management believes that the profits are fairly stated and that adequate provisions for losses on certain of the fixed price contracts have been recorded in the financial statements, revisions to such estimates do occur and at times are material to the Company’s results of operations and financial position.

Inventories

Inventories are recorded at the lower of cost or market. Inventoried costs associated with long-term contracts include costs and earnings of incomplete contracts not yet billable to the customer. These amounts represent the difference between the percentage-of-completion method of accounting for long-term contracts used to record operating results by the Company’s Defense segment and the amounts billable to the customer under the terms of the specific contracts. Estimates of final contract costs and earnings (including earnings subject to future determination through negotiation or other procedures) are reviewed and revised periodically throughout the lives of the contracts.

Income Taxes

The Company files income tax returns and estimates income taxes in each of the taxing jurisdictions in which it operates. The Company is subject to tax audits in each of these jurisdictions, which could result in changes to the estimated taxes. The amount of these changes would vary by jurisdiction and would be recorded when known. Management has considered future taxable income and on-going tax planning strategies in assessing the need for a valuation allowance on its deferred tax assets at December 31, 2005, and concluded that no allowance was required at that time. The Company has recorded liabilities for tax contingencies for open years. The Company does not expect the resolution of tax matters for these years to have a material impact on its results of operations, financial condition or cash flows.

New Accounting Pronouncements

In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, a replacement of APB opinion No. 20 and FASB Statement No. 3 (“SFAS No. 154”). SFAS No. 154 requires retrospective application to prior period financial statements of a voluntary change in accounting principle, and is effective in the first quarter of 2006. The Company does not expect the adoption of SFAS No. 154 to have a material effect on its results of operations, financial condition or cash flows.

In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4, which becomes effective for inventory costs incurred for fiscal years beginning after June 15, 2005. Upon adoption the Company does not expect SFAS No.151 to have a material effect on its results of operations, financial condition or cash flows.

On December 16, 2004, the FASB issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”). SFAS No. 123R is effective for public entities that do not file as small business issuers as of the beginning of the first interim or annual reporting period that begins after December 15, 2005. SFAS No. 123R replaced SFAS No. 123, “Accounting for Stock-Based Compensation”, and superseded SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure” (“SFAS No. 148”), and Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No. 25”), and its related implementation guidance. SFAS No. 123R establishes accounting standards for transactions in which an entity exchanges its equity instruments for goods and services, and focuses primarily on transactions in which an entity obtains employee services in exchange for share-based payment. SFAS No. 123R requires entities to recognize the cost of employee services received in exchange for awards of equity instruments based on the grant-date fair value of those awards (with limited exceptions). As of December 31, 2005, the Company accounted for its stock-based compensation plans under the intrinsic value method of accounting in accordance with APB No. 25, which generally resulted in the recognition of no compensation cost. In addition, the Company furnished the pro forma disclosures of

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stock-based compensation expense required under SFAS No. 148. The Company will adopt the provisions of SFAS No. 123R for the interim period beginning January 1, 2006, using the modified version of the prospective application. Under that transition method, compensation cost is recognized for all awards granted after the effective date, and to all awards modified, repurchased, or cancelled after that date. In addition, compensation cost is recognized on or after the effective date for the portion of outstanding awards for which the requisite service has not yet been rendered, based on the grant-date fair value of those awards previously calculated and reported in the pro forma disclosures under SFAS 123. The Company will not adopt the modified retrospective application election allowed under SFAS No. 123R for periods before the effective date and, accordingly, will not adjust prior-period financial statements presented for comparative purposes. Based on the number of unvested outstanding awards at December 31, 2005, the pretax effect of adopting SFAS No. 123R is expected to increase compensation cost by approximately $1,292,000, $952,000 and $207,000 respectively, for the years ending December 31, 2006, 2007 and 2008. Additional compensation cost will be recognized as new options are awarded. The Company has not made any material modifications to its stock-based compensation plans as the result of the issuance of SFAS No. 123R. See Note 2 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for pro forma compensation cost, net of tax, for each of the three years ended December 31, 2004.

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ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate

3.75% Convertible Senior Notes

On September 15, 2004, the Company issued and sold $120,000,000 of 3.75% Convertible Senior Notes. Several features contained in the Indenture governing the 3.75% Convertible Senior Notes are considered embedded derivative instruments, including the Conversion feature, Repurchase Event Make-Whole Premium, Contingent Interest, and the Make-Whole Interest Payment, each of which is discussed below (also see Note 7 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report). The Company is accounting for these embedded derivative instruments pursuant to Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities,” and related amendments and guidance. The Contingent Interest and Make-Whole Interest Payment features were bifurcated from the 3.75% Convertible Senior Notes and are being accounted for separately as derivative instruments. The aggregate fair value assigned to these embedded derivatives was approximately $457,000 at December 31, 2005, and was approximately $742,000 at December 31, 2004. The Company recorded in its Consolidated Statements of Operations for the change in the fair value of these embedded derivatives a gain of $284,000 during 2005 and a loss of $212,000 during 2004. The Conversion feature and Repurchase Event Make-Whole Premium feature were not required to be bifurcated and separately accounted for as derivative instruments.

Each of the embedded derivatives may result in certain payments to the holders of the 3.75% Convertible Senior Notes, as described below:

·Conversion Feature

The 3.75% Convertible Senior Notes are convertible into shares of the Company’s Common Stock prior to stated maturity at an initial conversion rate, subject to adjustment, of 25.4863 shares per $1,000 principal amount of the 3.75% Convertible Senior Notes (equal to an initial conversion price of approximately $39.24 per share) under certain circumstances. Upon conversion, the Company may choose to deliver, in lieu of shares of the Company’s Common Stock, cash or a combination of cash and shares of the Company’s Common Stock. If converted at the initial conversion price of $39.24, the Company could elect to issue to the holders of the 3.75% Convertible Senior Notes 3,058,356 shares of the Company’s Common Stock, $120,000,000, or a combination thereof.

·Repurchase Event Make-Whole Premium

If any of the holders of the 3.75% Convertible Senior Notes elect to require the Company to repurchase any of their outstanding holdings as the result of a Repurchase Event that occurs prior to September 15, 2009, the Company will pay at its option in cash, in shares of Common Stock (unless, among other conditions, the Company’s Common Stock is no longer approved for listing on a U.S. national securities exchange), or a combination thereof to such holders a Repurchase Event Make-Whole Premium. The amount of the Repurchase Event Make-Whole Premium is equal to the principal amount of the notes multiplied by a specified percentage.

·Contingent Interest

The Company will pay Contingent Interest to the holders of the 3.75% Convertible Senior Notes during any six-month interest period from March 15 to September 14, and from September 15 to March 14, commencing with the six month period starting September 15, 2009, if the average market price of the 3.75% Convertible Senior Notes for the five trading days ending on the third trading day immediately preceding the first day of the relevant six-month period equals 120% or more of the principal amount of the 3.75% Convertible Senior Notes. The amount of Contingent

45

Interest payable in respect of any six month period will equal 0.23% of the average market price of the 3.75% Convertible Senior Notes for the specified period referred to above. For example, if the average market price of the 3.75% Convertible Senior Notes is 120% of the principal amount for the specified period then the aggregate annual amount of Contingent Interest would be $552,000.

·Make-Whole Interest Payment

The Company may also elect to automatically convert some or all of the outstanding 3.75% Convertible Senior Notes on or prior to maturity if the closing price of its Common Stock has exceeded 150% of the conversion price for a specified period prior to the notice of its election to automatically convert. If such an Automatic Conversion occurs on or prior to September 15, 2009, the Company will pay a Make-Whole Interest Payment at the time of conversion in cash or, at its option, in shares of Common Stock, equal to five full years of interest, less any interest actually paid or provided for prior to Automatic Conversion. For example, if the Company has the ability and elects to automatically convert the 3.75% Convertible Senior Notes after three interest payments have been made then the Make-Whole Interest Payment would be $15,750,000. At the Company’s option, the Make-Whole Interest Payment is payable in cash or the Company’s Common Stock valued at 95% of the average of the closing price of the Common Stock for a specified period.

The interest rate on the 3.75% Convertible Senior Notes is fixed and, accordingly, not affected by changes in interest rates. However, if interest rates decline, the interest paid by the Company on the 3.75% Convertible Senior Notes could be at above market rates.

The Company filed a shelf registration statement relating to the resale of the 3.75% Convertible Senior Notes and the shares of Common Stock issuable upon conversion by the holders thereof with the Securities and Exchange Commission on November 12, 2004, which was declared effective by the Securities and Exchange Commission on December 14, 2004. If the Company fails to keep such shelf registration statement continuously effective until September 15, 2006, or such earlier period as defined in the Registration Rights Agreement (defined therein as a “Registration Default”), additional interest will be paid to the holders of the 3.75% Convertible Senior Notes at the annual rate of 0.25%, or up to $75,000 for the first 90 days after any such Registration Default, and thereafter at an annual rate of 0.50%, or $600,000 per year, until the events are satisfied.

Foreign Currency

A portion of the Company’s operations consist of manufacturing and sales activities in foreign jurisdictions, and some of these transactions are denominated in foreign currencies. As a result, the Company’s financial results could be affected by changes in foreign exchange rates. A 10% change in the foreign exchange rate would not have a significant impact on the balance sheet or results from operations.

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ITEM 8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

UNITED INDUSTRIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS

	December 31,
	2005			2004 (Revised—see Notes 2 and 19)
	(Dollars in thousands, except per share data)
ASSETS
Current assets:
Cash and cash equivalents	$	77,496		$	80,679
Securities pledged to creditors	—			124,626
Marketable equity securities	11,617			—
Deposits and restricted cash	4,810			33,845
Trade receivables, net	69,284			46,658
Inventories	23,603			34,639
Prepaid expenses and other current assets	9,244			12,465
Assets of discontinued operations	12,428			14,366
Total current assets	208,482			347,278
Deferred income taxes	12,835			13,930
Intangible assets	7,946			4,060
Goodwill	3,607			—
Other assets	6,602			7,893
Insurance receivable - asbestos litigation	20,186			20,343
Property and equipment, net	44,743			27,645
Total assets	$	304,401		$	421,149
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt	$	964		$	958
Payable under securities loan agreement	—			124,619
Accounts payable	25,787			21,664
Accrued employee compensation and taxes	17,290			13,706
Other current liabilities	20,147			14,942
Liabilities of discontinued operations	13,287			19,387
Total current liabilities	77,475			195,276
Long-term debt	120,723			122,000
Post-retirement benefit obligation, other than pension	19,409			20,813
Minimum pension liability	28,448			17,513
Accrual for asbestos obligations	31,450			31,852
Other liabilities	1,374			2,129
Total liabilities	278,879			389,583
Shareholders’ equity:
Preferred stock, par value $1.00 per share; 1,000,000 shares authorized; none issued and outstanding	—			—
Common stock, par value $1.00 per share; 30,000,000 shares authorized; 11,279,379 and 12,291,951 shares outstanding at December 31, 2005 and 2004, respectively (net of shares held in treasury)	14,374			14,374
Additional capital	83,799			84,296
Retained earnings	39,724			3,499
Treasury stock, at cost; 3,094,769 and 2,082,197 shares at December 31, 2005 and 2004 , respectively	(76,868		)	(40,019		)
Accumulated other comprehensive loss, net of tax	(35,507		)	(30,584		)
Total shareholders’ equity	25,522			31,566
Total liabilities and shareholders’ equity	$	304,401		$	421,149

See accompanying notes to the consolidated financial statements

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UNITED INDUSTRIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS

	Year Ended December 31,
	2005			2004			2003
	(Dollars in thousands, except per share data)
Net sales	$	517,153		$	385,084		$	310,947
Cost of sales	391,363			289,138			239,618
Gross profit	125,790			95,946			71,329
Selling and administrative expenses	67,908			53,414			46,688
Impairment of long-lived assets	273			861			—
Asbestos litigation expense	412			542			717
Other operating expenses, net	528			295			667
Operating income	56,669			40,834			23,257
Non-operating income and (expense):
Gain on sale of property	7,152			—			—
Equity in net income of joint venture	196			97			57
Interest income	3,473			831			463
Interest expense	(6,084		)	(1,776		)	(92		)
Other income (expense), net	492			(84		)	(168		)
	5,229			(932		)	260
Income from continuing operations before income taxes	61,898			39,902			23,517
Provision for income taxes:
Federal current	18,105			12,242			9,274
Federal deferred	3,115			1,132			(1,525		)
State	199			426			662
Foreign	120			—			—
Total provision for income taxes	21,539			13,800			8,411
Income from continuing operations	40,359			26,102			15,106
Income (loss) from discontinued operations, net of tax expense of $323 and $376 in 2005 and 2004, respectively, and tax benefit of $11,274, in 2003	599			698			(20,947		)
Net income (loss)	$	40,958		$	26,800		$	(5,841	)
Basic earnings (loss) per share:
Income from continuing operations	$	3.41		$	2.04		$	1.14
Income (loss) from discontinued operations	0.05			0.06			(1.58		)
Net income (loss)	$	3.46		$	2.10		$	(0.44	)
Diluted earnings (loss) per share:
Income from continuing operations	$	2.85		$	1.94		$	1.10
Income (loss) from discontinued operations	0.04			0.05			(1.53		)
Net income (loss)	$	2.89		$	1.99		$	(0.43	)

See accompanying notes to the consolidated financial statements

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UNITED INDUSTRIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS

	Year Ended December 31,
	2005			2004			2003 (Revised—see Notes 2 and 19)
	(Dollars in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)	$	40,958		$	26,800			$	(5,841	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
(Income) loss from discontinued operations, net of tax	(599		)	(698		)		20,947
Debt issuance costs and deferred financing costs	1,096			286				—
Depreciation and amortization	9,217			5,846				5,415
Gain on sale of property	(7,152		)	—				—
Provision for asbestos litigation	(245		)	231				—
Curtailment charge for post-retirement benefits	—			1,959				—
Impairment of long-lived assets	273			861				—
Deferred income taxes	3,115			1,132				(1,525		)
Income from equity investment in joint venture	(196		)	(97		)		(57		)
Income tax refund	—			—				16,822
Changes in operating assets and liabilities	10,097			(11,270		)		5,074
Other, net	(792		)	213				—
Net cash provided by operating activities from continuing operations	55,772			25,263				40,835
Net cash used in operating activities from discontinued operations	(3,563		)	(4,753		)		(7,946		)
Net cash provided by operating activities	52,209			20,510				32,889
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment	(25,358		)	(9,628		)		(6,213		)
Purchase of marketable equity securities	(12,596		)	—				—
Purchase of available-for-sale securities	—			(124,619		)		—
Proceeds from sale of available-for-sale securities	124,626			—				—
Business acquisition, net of cash received	(9,883		)	—				—
Cash advance received on pending property sale	—			150				—
Proceeds from sale of property	7,555			—				—
Net cash provided by (used in) investing activities	84,344			(134,097		)		(6,213		)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt, net	—			120,000				—
Cash received in securities lending transaction	—			124,619				—
Debt issuance fees paid	—			(4,376		)		—
Repayment of collateral received from security lending transaction	(124,619		)	—				—
Proceeds from exercise of stock options	1,812			4,580				5,178
Repayment of long-term debt	(1,271		)	(915		)		—
Purchases of treasury shares	(39,960		)	(34,842		)		(6,036		)
Dividends paid	(4,733		)	(5,093		)		(5,315		)
Decrease (increase) in deposits and restricted cash	29,035			(33,845		)		—
Net cash (used in) provided by financing activities	(139,736		)	170,128				(6,173		)
(Decrease) increase in cash and cash equivalents	(3,183		)	56,541				20,503
Cash and cash equivalents at beginning of year	80,679			24,138				3,635
Cash and cash equivalents at end of year	$	77,496		$	80,679			$	24,138

See accompanying notes to the consolidated financial statements

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UNITED INDUSTRIAL CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Nature of Operations

United Industrial Corporation (“United Industrial”), including its subsidiaries (collectively, the “Company”) is an advanced technology company applying its resources to the research, development and production of aerospace and military systems, electronics and components under defense contracts, and, to a lesser extent, to energy systems for industry and utilities.

The Company’s principal business segments are Defense and Energy. The operations of the Defense and Energy segments are conducted principally through two wholly owned subsidiaries, AAI Corporation and its subsidiaries (“AAI”) and Detroit Stoker Company (“Detroit Stoker”), respectively. The Company has a transportation operation that is accounted for as discontinued operations (see Notes 1 and 17).

The Company conducts a significant amount of business with the U.S. Government. Sales to agencies of the U.S. Government were approximately $450,581,000, $325,092,000, and $249,547,000, for 2005, 2004, and 2003, respectively. No single customer other than the U.S. Government accounted for ten percent or more of consolidated net sales in any year.

Note 2. Summary of Significant Accounting Policies

Use of Estimates in the Preparation of Financial Statements

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 and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements as well as reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates and those differences could be material.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and variable interest entities for which the Company is considered the primary beneficiary. The financial statements for Electric Transit, Inc. (“ETI”), a variable interest entity for which the Company is the primary beneficiary, have been consolidated for all years presented. Previously the Company accounted for its investment in ETI under the equity method. Accordingly, the Consolidated Balance Sheet as of December 31, 2004 and the Statement of Cash Flow for the year ended December 31, 2003, have been labeled revised. This only resulted in an adjustment to increase total assets and liabilities as of December 31, 2004 by $821,000. Significant intercompany accounts and transactions have been eliminated in consolidation for financial reporting purposes. The Company includes in income its proportionate share of the net earnings or losses of unconsolidated investees when the Company’s ownership interest is between 20% and 50%.

Fair Value of Financial Instruments

The following methods and assumptions were used to estimate the fair value of each class of the Company’s financial instruments, which included non-derivative financial instruments included in current assets and current liabilities, long-term debt, and derivative financial instruments.

The fair value of all non-derivative financial instruments included in current assets and current liabilities, including cash and cash equivalents, accounts receivable, accounts payable, and payable under securities loan agreement, approximated their carrying amount due to the short maturity of those instruments. The fair value of securities pledged to customers was estimated based on market prices for three month U.S. treasury bills.

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The Company’s 3.75% Convertible Senior Notes (see Note 7) had a carrying amount of $120,000,000 and an estimated fair value of $145,992,000 at December 31, 2005. The fair value was estimated based on market prices for the same or similar issues as quoted by the Company’s financial advisor.

The Indenture governing the Company’s 3.75% Convertible Senior Notes features embedded derivatives, some of which were bifurcated from the host contract and are being accounted for separately as derivative instruments. The fair value of each of the embedded derivatives is estimated using valuation models from financial advisors.

Discontinued Operations

The Company accounts for its transportation operation, including ETI, as discontinued operations. The assets and liabilities of the discontinued transportation operations are summarized and reported separately in the accompanying Consolidated Balance Sheets as assets and liabilities of discontinued operations, respectively. The results of the discontinued operation have been summarized and reported separately as income (loss) from discontinued operations in the accompanying Consolidated Statements of Operations. The sources and uses of net cash flows from discontinued operations, are reported separately as net cash used in discontinued operations in the accompanying Consolidated Statements of Cash Flows. See Notes 17 and 19 for additional information.

The Company determined that ETI is a variable interest entity and that the Company is the primary beneficiary of the variable interests as a result of AAI recording 100% of the expected losses (see Note 17 and 19). The financial statements of ETI have been consolidated for all periods presented for the first time in these financial statements.

Cash and Cash Equivalents

Cash and cash equivalents consist of cash on hand and investments in highly liquid instruments with a maturity of three months or less from the date purchased.

Deposits and Restricted Cash

Effective December 23, 2004, the Company terminated its Loan and Security Agreement dated June 28, 2001, as amended, with Bank of America Business Capital (formerly Fleet Capital Corporation). As a result, the Company was required to post cash as collateral for its outstanding undrawn letters of credit and maintain a minimum cash balance. The aggregate amount of cash required to be on deposit with Bank of America Business Capital was $4,810,000 and $8,845,000, at December 31, 2005 and 2004, respectively, which was classified as Deposits and restricted cash in the accompanying Consolidated Balance Sheets.

In addition, in connection with the securities lending transaction described below, the Company provided a refundable deposit of $25,000,000 into a segregated, interest bearing account at its broker-dealer, which was classified as Deposits and restricted cash in the accompanying Consolidated Balance Sheets at December 31, 2004. The Company collected the deposit in February 2005.

Available-for-sale Marketable Securities

Available-for-sale marketable securities are recorded at fair value. Unrealized holding gains and losses, net of the related tax effect, on available-for-sale marketable securities are excluded from earnings and are reported as a separate component of other comprehensive income until realized. Realized gains and losses from the sale of available-for-sale marketable securities are determined on a specific-identification basis.

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Securities Lending Transaction

On December 29, 2004, the Company purchased $125,000,000 aggregate principal amount at maturity of U.S. treasury bills for $124,619,000, which matured on February 24, 2005. The Company classified this investment as available-for-sale.

Concurrently with the purchase of the U.S. treasury bills, the Company entered into a securities lending transaction with its broker-dealer, which matured on February 23, 2005 and was accounted for as a secured borrowing. In exchange for lending the U.S. treasury bills to its broker-dealer, the Company received cash collateral from its broker-dealer in an amount equal to the fair value of the securities loaned, net of a $25,000,000 refundable deposit. At maturity, the Company repaid the cash collateral received, together with approximately $444,000 of related interest charges. Also at maturity, the Company collected its $25,000,000 refundable deposit, together with approximately $86,000 of related interest income earned. During the first quarter of 2005, the Company realized a $7,500 loss on this investment, excluding approximately $373,000 of short-term capital gain.

Inventories

Inventories are stated at the lower of cost or market. At December 31, 2005 and 2004, approximately 10% and 8%, respectively, of total inventory was priced using the last-in first-out (“LIFO”) method. The remaining inventory was priced using either actual or average cost. If the first-in first-out (“FIFO”) method of inventory pricing had been used, inventories would have been approximately $ 3,245,000 and $3,351,000 higher than reported at December 31, 2005 and 2004, respectively.

Inventories also include the costs and earnings in excess of billings represented revenue recognized under the percentage of completion method of accounting for long-term contracts in excess of the amounts billable to the customer under the terms of the specific contracts. The Company’s inventoried costs included production costs and related overhead, including an applicable portion of general and administrative expenses.

Revenue and Gross Profit Recognition

The Company follows the percentage of completion method of accounting for its long-term contracts. Sales and gross profit are recognized as work is performed based on the relationship between actual costs incurred and total estimated costs at completion. Alternatively, certain contracts provide for the production of various units throughout the contract period, and sales and gross profit on these contracts are recognized based on the units delivered. Amounts representing contract change orders, claims or other items are included in sales when they can be reliably estimated and realization is probable. There were no pending change orders or claims recorded at December 31, 2005 and 2004. Incentives or penalties, estimated warranty costs and awards applicable to performance on contracts are considered in estimating sales and profit rates, and are recorded when there is sufficient information to assess anticipated contract performance.

Estimates of final contract costs are reviewed and revised periodically throughout the lives of the contracts. When adjustments in contract value or estimated costs are determined, any changes from prior estimates are reflected in earnings in the current period. Anticipated losses on contracts or programs in progress, including the applicable portion of general and administrative expenses, are charged to earnings when identified.

Noncontract revenue is recorded when the product is shipped and title passes or when the services are provided.

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Property and Equipment, Net

	December 31,
	2005			2004
	(Dollars in thousands)
Land	$	2,294		$	317
Buildings and improvements	42,891			34,851
Machinery and equipment	68,695			73,156
Furniture and fixtures	4,636			5,083
	118,516			113,407
Accumulated depreciation and amortization	(73,773		)	(85,762		)
Total	$	44,743		$	27,645

Property and equipment are stated at historical cost, net of accumulated depreciation. The Company calculates depreciation using the straight-line method for buildings and improvements, and the double declining balance method for machinery and equipment (except software, which is depreciated using the straight-line method) and most of its furniture and fixtures to amortize cost over the estimated useful lives of the various classes of property and equipment, which range from three years to thirty-nine years for buildings and improvements, and from three years to eight years for both machinery and equipment and furniture and fixtures.

On January 14, 2005, the Company sold approximately 26 acres of undeveloped property adjacent to its Hunt Valley, Maryland facility for $8,105,000. At December 31, 2004, the related cost of this property was classified as assets held for sale and included in Prepaid expenses and other current assets in the accompanying Consolidated Balance Sheets. The Company recognized a pretax gain on the sale of this property in the first quarter of 2005 of approximately $7,152,000.

Impairment of Long-Lived Assets and Goodwill

The Company evaluates long-lived assets, including identifiable intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. The Company recorded goodwill related to the acquisition of ESL in April 2005. Goodwill will be tested annually for impairment or on an interim basis whenever events or changes in circumstances indicate that the fair value is below the carrying value.

Long-lived assets to be disposed of are reported at the lower of carrying amount or estimated fair value less costs to sell the assets.

Debt Issuance Costs

Costs incurred to issue debt are deferred and amortized as a component of interest expense over the estimated term of the related debt using a method that approximates the effective interest rate method.

Earnings Per Share

Basic earnings per share for all periods presented was computed by dividing net earnings for the respective period by the weighted average number of shares of the Company’s par value $1.00 per share common stock (“Common Stock”) outstanding during the period. Diluted earnings per share was computed by dividing  net earnings during the period, adjusted in 2004 to add back the after-tax interest charges incurred on the Company’s 3.75% Convertible Senior Notes issued on September 15, 2004 (see Note 7), by  the weighted average number of shares of Common Stock outstanding during the period, adjusted to add the weighted average number of potential dilutive common shares that would have been

53

outstanding upon the assumed exercise of stock options and conversion of the 3.75% Convertible Senior Notes for Common Stock.

Options to purchase 5,000 shares of the Company’s Common Stock for the year ended December 31, 2005 were not included in the computation of diluted earnings per share because their impact would be anti-dilutive.

Basic and diluted earnings per share amounts were computed as follows:

	Year Ended December 31, 2005
	Earnings				Number of Shares		Earnings Per Share
	(Dollars in thousands, except per share data)
Basic Earnings Per Share
Income from continuing operations	$		40,359		11,829,851				$		3.41
Effect of Dilutive Securities:
Stock options	—				447,029
3.75% Convertible Senior Notes	3,378				3,058,356
Diluted Earnings Per Share
Income from continuing operations, assuming conversion	$		43,737		15,335,236				$		2.85
		Year Ended December 31, 2004
		Earnings				Number of Shares		Earnings Per Share
		(Dollars in thousands, except per share data)
Basic Earnings Per Share
Income from continuing operations		$		26,102		12,771,659				$		2.04
Effect of Dilutive Securities:
Stock options		—				410,201
3.75% Convertible Senior Notes		1,177				894,110
Diluted Earnings Per Share
Income from continuing operations, assuming conversion		$		27,279		14,075,970				$		1.94
		Year Ended December 31, 2003
		Earnings				Number of Shares		Earnings Per Share
		(Dollars in thousands, except per share data)
Basic Earnings Per Share
Income from continuing operations		$		15,106		13,219,000				$		1.14
Effect of Dilutive Securities:
Stock options		—				443,000
Diluted Earnings Per Share
Income from continuing operations		$		15,106		13,662,000				$		1.10

Stock-Based Compensation

For each of the three years ended December 31, 2005, 2004 and 2003, the Company accounted for its stock-based compensation plans in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No. 25”), and its related implementation guidance, whereby compensation cost for stock options is recognized in earnings based on the excess, if any, of the quoted market price of the stock at the grant date of the award or other measurement date over the amount an employee must pay to acquire the stock. Had compensation cost been determined consistent

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with the fair value method set forth under Statement of Financial Accounting Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”), for all awards under the plans, income and earnings per share from continuing operations would have decreased to the pro forma amounts indicated below:

	Year Ended December 31,
	2005			2004			2003
	(Dollars in thousands, except per share data)
Income from continuing operations:
As reported	$	40,359		$	26,102		$	15,106
Deduct: Total employee stock-based compensation expense determined under fair value method for all awards, net of tax	(892		)	(658		)	(716		)
Pro forma	$	39,467		$	25,444		$	14,390
Earnings per share from continuing operations:
As reported:
Basic	$	3.41		$	2.04		$	1.14
Diluted	2.85			1.94			1.10
Pro forma:
Basic	$	3.34		$	1.99		$	1.09
Diluted	2.79			1.89			1.05

The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model, based on the following weighted average assumptions used for grants in 2005, 2004, and 2003, respectively:  dividend yield of 1.2%, 1.6%, and 2.4%; expected volatility of  36.9%, 21.3%, and  26.1%; risk-free interest rate of 4.0%, 4.0%, and 4.3%; and expected life of five years in 2005, nine years in 2004, and ten years in of 2003. The weighted average fair value of options granted was $11.91 and $5.39 for the years ended December 31, 2005 and 2004, respectively.  In 2003, some of the options granted had an exercise price that was greater than the current market price on the date of grant, while all of the other options were granted with an exercise price equal to the market price on the date of the grant. In 2003, the weighted average fair value of options granted with their exercise price equal to the current market price on the date of grant was $4.91. The weighted average fair value of options granted with their exercise price greater than the current market price on the date of grant was $4.87.

As more fully described under “New Accounting Pronouncements” below, on December 16, 2004, the FASB issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”), which replaced SFAS No. 123 and superseded SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure” (“SFAS No. 148”), and APB No. 25 and its related implementation guidance. SFAS No. 123R requires entities to recognize the cost of employee services received in exchange for awards of equity instruments based on the grant date fair value of those awards (with limited exceptions). SFAS No. 123R is effective for the Company for the first quarter of 2006.

Foreign Currency Translation

The functional currency of the Company’s international operations is the applicable local currency. The translation of the applicable foreign currency into U.S. dollars is performed for balance sheet accounts using current exchange rates in effect at the balance sheet date and for revenue and expense accounts using the weighted average rates of exchange prevailing during the year. The unrealized gains and losses resulting from such translation are included as a separate component of stockholders’ equity in accumulated other comprehensive income (loss).

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Legal Matters

The Company recognizes a liability for legal indemnification and defense costs when it believes it is probable a liability has been incurred and the amount can be reasonably estimated. The liabilities are developed based on currently available information. The accruals are recorded at undiscounted amounts if the Company cannot reliably determine the timing of the cash payments, and the amounts are classified as liabilities in the accompanying consolidated balance sheets. The Company also has insurance that covers certain losses, including certain defense costs, and records receivables to the extent that claims can be reasonably estimated and realization is deemed probable. The receivables are recorded at undiscounted amounts to coincide with the related accruals, and the amounts are classified as non current receivables in the accompanying consolidated balance sheets.

New Accounting Pronouncements

In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, a replacement of APB opinion No. 20 and FASB Statement No. 3 (“SFAS No. 154”). SFAS No. 154 requires retrospective application to prior period financial statements of a voluntary change in accounting principle, and is effective in the first quarter of 2006. The Company does not expect the adoption of SFAS No. 154 to have a material effect on its results of operations, financial conditions or cash flows.

In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4, which becomes effective for inventory costs incurred for fiscal years beginning after June 15, 2005. Upon adoption the Company does not expect SFAS No.151 to have a material effect on its results of operations, financial conditions or cash flows.

On December 16, 2004, the FASB issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”). SFAS No. 123R is effective beginning July 1, 2005. SFAS No. 123R replaced SFAS No. 123, “Accounting for Stock-Based Compensation”, and superseded SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure” (“SFAS No. 148”), and Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No. 25”), and its related implementation guidance. SFAS No. 123R establishes accounting standards for transactions in which an entity exchanges its equity instruments for goods and services, and focuses primarily on transactions in which an entity obtains employee services in exchange for share-based payment. SFAS No. 123R requires entities to recognize the cost of employee services received in exchange for awards of equity instruments based on the grant date fair value of those awards (with limited exceptions). As of December 31, 2005, the Company accounted for its stock-based compensation plans under the intrinsic value method of accounting in accordance with APB No. 25, which generally resulted in the recognition of no compensation cost. In addition, the Company furnished the pro forma disclosures of stock-based compensation expense required under SFAS No. 148. The Company will adopt the provisions of SFAS No. 123R on January 1, 2006, using the modified version of the prospective application. Under that transition method, compensation cost is recognized for all awards granted after the effective date, and to all awards modified, repurchased, or cancelled after that date. In addition, compensation cost is recognized on or after the effective date for the portion of outstanding awards for which the requisite service has not yet been rendered, based on the grant date fair value of those awards previously calculated and reported in the pro forma disclosures under SFAS No. 123. The Company will not adopt the modified retrospective application election allowed under SFAS No. 123R for periods before the effective date and, accordingly, will not adjust prior period financial statements presented for comparative purposes. Based on the number of unvested outstanding awards at December 31, 2005, the pretax effect of adopting SFAS No. 123R is expected to increase compensation cost for the years ended December 31, 2006, 2007 and 2008, by approximately $1,292,000, $952,000, and $207,000, respectively,  Additional compensation cost will be recognized as new options are awarded. The Company has not made any material modifications to its stock-based compensation plans as the result of the issuance of SFAS No. 123R. See the sub-heading

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“Stock-Based Compensation” above for pro forma compensation cost, net of tax, for each of the three years ended December 31, 2005, 2004 and 2003.

Note 3—Marketable Equity Securities

Available-for-sale marketable securities are recorded at fair value. Unrealized holding gains and losses, net of the related tax effect, on available-for-sale marketable securities are excluded from earnings and are reported as a separate component of other comprehensive income until realized. Realized gains and losses from the sale of available-for-sale marketable securities are determined on a specific identification basis. Marketable equity securities at December 31, 2005, represent common stock of one entity. Management expects that these securities will be sold within one year. An unrealized loss of $635,000, net of tax, was recorded in other comprehensive income at December 31, 2005.

Note 4. Trade Receivables, net

	December 31,
	2005			2004
	(Dollars in thousands)
U.S. Government:
Amounts billed	$	53,597		$	19,235
Unbilled recoverable costs and earned fees	4,608			18,423
Retainage per contract provisions	7			53
	58,212			37,711
Other:
Industrial and non-U.S. Government customers	11,327			9,202
Allowance for doubtful accounts	(255		)	(255		)
	11,072			8,947
Total	$	69,284		$	46,658

Amounts due from the U.S. Government primarily related to long-term contracts of the Company’s Defense segment.

Billed and unbilled receivables from the U.S. Government included $5,095,000 and $4,709,000 at December 31, 2005 and 2004 , respectively, related to contracts for which a subsidiary of the Company is a subcontractor to other government contractors. Unbilled recoverable costs and earned fees represented amounts that will be substantially collected within one year. Retainage amounts will generally be billed over the next twelve months.

Other trade receivables, net of an allowance for doubtful accounts, primarily consisted of receivables from industrial and other non-U.S. Government customers. The Company continuously evaluates the credit worthiness of its non-U.S. Government customers and generally does not require collateral.

The results for the Defense segment included a charge of approximately $780,000 related to the discovery and correction in the third quarter of 2004 of the cumulative effect of overstated revenue and related unbilled accounts receivable that occurred during the years 1998 through 2003. The Company determined that the overstated revenue and related unbilled accounts receivable did not have a material effect on its results for the year ended December 31, 2004, or any periods prior to the third quarter of 2004.

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Note 5. Inventories

	December 31,
	2005			2004
	(Dollars in thousands)
Costs and earnings related to long-term contracts	$	140,237		$	138,436
Deduct: progress payments related to long-term contracts	(126,898		)	(113,345		)
Costs and earnings in excess of billings	13,339			25,091
Finished goods and work in progress, not incurred under contracts	8,262			8,293
	21,601			33,384
Materials and supplies	2,002			1,255
Total (1)	$	23,603		$	34,639

(1)Total inventories included $2,189,000 and $2,296,000 of finished goods and work in progress for the Energy segment at December 31, 2005 and 2004, respectively, and $228,000 and $386,000 of materials and supplies for the Energy segment at December 31, 2005 and 2004, respectively.

The costs and earnings in excess of billings represented revenue recognized under the percentage of completion method of accounting for long-term contracts in excess of the amounts billable to the customer under the terms of the specific contracts. The Company’s inventoried costs included production costs and related overhead, including an applicable portion of general and administrative expenses.

Note 6. Intangible Assets, Goodwill and Other Assets

	December 31,
Intangible Assets	2005		2004
	(Dollars in thousands)
Customer relationships	$	2,054	$	—
Internally developed technology	2,329		—
Intangible pension asset	3,288		3,564
Patents and other intangible assets, net	275		496
Total	$	7,946	$	4,060

Customer relationships and internally developed technology represents assets acquired in connection with the purchase of ESL in April 2005, and are being amortized on a straight-line basis through 2012. Patents and other intangible assets represent assets acquired in connection with the purchase of ACL Technologies Inc., an indirect, wholly owned subsidiary of the Company, and are being amortized primarily on a straight-line basis through 2007. Amortization expense was $846,000, $222,000 and $222,000 in 2005, 2004, and 2003, respectively. Accumulated amortization was $5,956,000 and $5,110,000 at December 31, 2005 and 2004, respectively. Amortization expense is expected to be $923,000 in 2006, $754,000 in 2007 and $701,000 in each of the years 2008 through 2011, and $175,000 in 2012.

	December 31,
Goodwill	2005			2004
	(Dollars in thousands)
Goodwill at acquisition	$	3,831			$	—
Foreign currency translation	(224		)		—
Total	$	3,607			$	—

The Company recorded goodwill related to the acquisition on April 4, 2005 of ESL. The purchase price of this business was allocated to the estimated fair value of net tangible and intangible assets

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acquired, with the excess of $3,831,000 recorded as goodwill. Goodwill will be tested annually for impairment or on an interim basis whenever events or changes in circumstances indicate that the fair value is below the carrying value.

	December 31,
Other Assets	2005		2004
	(Dollars in thousands)
Investment in affiliate	$	1,812	$	1,616
Debt issuance costs	3,639		4,620
Other	1,151		1,657
Total	$	6,602	$	7,893

Aggregate accumulated amortization of debt issuance costs was $1,267,000 at December 31, 2005 and $286,000 at December 31, 2004.

Note 7. Long-Term Debt, Credit Arrangements, and Secured Borrowing

Long-Term Debt

The Company’s long-term debt consisted of the following at December 31, 2005 and 2004:

	December 31,
	2005		2004
	(Dollars in thousands)
3.75% Convertible Senior Notes	$	120,000	$	120,000
Vendor financing arrangement - interest at 2.58%, due April 2007	1,599		2,840
Capital lease obligations - interest ranging from 4.75% to 5.25%, due through November 2009	88		118
Total	121,687		122,958
Less: Current portion	964		958
Long-term debt	$	120,723	$	122,000

3.75% Convertible Senior Notes

In September 2004, United Industrial issued and sold $120,000,000 aggregate principal amount of 3.75% convertible senior notes due September 15, 2024, unless earlier redeemed, repurchased, or converted. The Company used $24,356,000 of the proceeds to repurchase 850,400 shares of United Industrial’s Common Stock in privately negotiated transactions concurrent with the issuance and sale of the 3.75% Convertible Senior Notes. The Company received approximately $91,268,000 of net proceeds from this sale after the concurrent repurchase of Common Stock and paying $4,376,000 of investment banking and other professional and printing fees associated with the sale. These fees were deferred and included in Other assets in the accompanying Consolidated Balance Sheets at December 31, 2004, and are being amortized as interest expense.

The 3.75% Convertible Senior Notes are senior unsecured obligations of the Company, and are fully and unconditionally guaranteed by AAI. The 3.75% Convertible Senior Notes bear interest at 3.75% per annum, payable semi annually in arrears on March 15 and September 15 of each year beginning March 15, 2005. In addition, the Company will pay Contingent Interest, as defined in the Indenture governing the 3.75% Convertible Senior Notes, during any six-month interest period from March 15 to September 14, and from September 15 to March 14, commencing with the six month period starting September 15, 2009, if the average market price of the 3.75% Convertible Senior Notes for the five trading days ending on the third trading day immediately preceding the first day of the relevant six month period equals 120% or

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more of the principal amount of the 3.75% Convertible Senior Notes. The amount of Contingent Interest payable in respect of any six month period will equal 0.23% of the average market price of the 3.75% Convertible Senior Notes for the five trading day period referred to above. The Company filed a shelf registration statement relating to the resale of the 3.75% Convertible Senior Notes and the shares of Common Stock issuable upon conversion by the holders thereof with the Securities and Exchange Commission on November 12, 2004, which was declared effective by the Securities and Exchange Commission on December 14, 2004. If the Company fails to keep such shelf registration statement continuously effective until September 15, 2006, or such earlier period as defined in the Registration Rights Agreement (defined therein as a “Registration Default”), the Company is required to pay additional interest to the holders of the 3.75% Convertible Senior Notes at the annual rate of 0.25%, or up to $75,000 for the first 90 days after any such Registration Default, and thereafter at an annual rate of 0.50%, or $600,000 per year, until the events are satisfied.

The 3.75% Convertible Senior Notes are convertible into shares of the Company’s Common Stock prior to stated maturity at an initial conversion rate, subject to adjustment, of 25.4863 shares per $1,000 principal amount of the 3.75% Convertible Senior Notes (equal to 3,058,356 shares of Common Stock initially issuable upon conversion and an initial conversion price of approximately $39.24 per share) only under the following circumstances:

·during any calendar quarter after the calendar quarter ending December 31, 2004, if the closing sale price, as defined in the Indenture, of the Company’s Common Stock for each of 20 or more consecutive trading days in a period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter exceeds 120% of the conversion price in effect on the last trading day of the immediately preceding calendar quarter;

·during the five business day period after any five consecutive trading day period in which the average trading price per $1,000 principal amount of the 3.75% Convertible Senior Notes was equal to or less than 98% of the Average Conversion Value, as defined in the Indenture, during such period, unless the 3.75% Convertible Senior Notes are surrendered after 2019 and, on any trading day during the specified period, the closing sale price of the Company’s Common Stock was between 100% and 120% of the then-current conversion price;

·if the Company exercises its right to call any of the 3.75% Convertible Senior Notes for redemption (as discussed more fully below), the effected holders may surrender their holdings for conversion, even if they are not otherwise convertible at that time; or

·upon the occurrence of certain specified corporate transactions which, if such transactions occur prior to September 15, 2009 and also constitute a Repurchase Event, as defined in the Indenture, would entitle holders that surrender their holdings for conversion to receive a Repurchase Event Make-Whole Premium, as defined in the Indenture.

Upon conversion, the Company may choose to deliver, in lieu of shares of the Company’s Common Stock, cash or a combination of cash and shares of the Company’s Common Stock. The Company may also elect to automatically convert some or all of the outstanding 3.75% Convertible Senior Notes on or prior to maturity if the closing price of its Common Stock has exceeded 150% of the conversion price for at least 20 trading days during a period of 30 consecutive trading days, ending within five trading days prior to the notice of its election to automatically convert. If such an Automatic Conversion, as defined in the Indenture, occurs on or prior to September 15, 2009, the Company will pay a Make-Whole Interest Payment, as defined in the Indenture, at the time of conversion in cash or, at its option, in shares of Common Stock, equal to five full years of interest, less any interest actually paid or provided for prior to Automatic Conversion.

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The Company has the right to redeem all or a portion of the 3.75% Convertible Senior Notes any time on or after September 15, 2009 at a redemption price, payable in cash, equal to 100% of the principal amount redeemed plus accrued and unpaid interest (including Contingent Interest, if any). On each of September 15, 2009, September 15, 2014 and September 15, 2019, or at any time upon the occurrence of a Repurchase Event (which generally will be deemed to occur upon the occurrence of a “Change in Control” or a “Termination of Trading” of the Company’s Common Stock, each as defined in the Indenture), the holders of the 3.75% Convertible Senior Notes have the right to require the Company to repurchase all or a portion of their outstanding holdings at a purchase price, payable at the Company’s option in cash, in shares of Common Stock (unless, among other conditions, the Company’s Common Stock is no longer approved for listing on a U.S. national securities exchange), or a combination thereof, equal to 100% of the principal amount to be repurchased plus accrued and unpaid interest (including Contingent Interest, if any). In addition, if any of the holders elect to require the Company to repurchase any of their outstanding holdings as the result of a Repurchase Event that occurs prior to September 15, 2009, the Company must pay at its option in cash, in shares of Common Stock (unless, among other conditions, the Company’s Common Stock is no longer approved for listing on a U.S. national securities exchange), or a combination thereof to such holders a Repurchase Event Make-Whole Premium, in addition to the purchase price described above.

Several features contained in the Indenture are considered embedded derivative instruments, including the Conversion feature, Repurchase Event Make-Whole Premium, Contingent Interest, and the Make-Whole Interest Payment, each of which is discussed briefly above. The Company is accounting for these embedded derivative instruments pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” and related amendments and guidance. The Contingent Interest and Make-Whole Interest Payment features were bifurcated from the 3.75% Convertible Senior Notes and are being accounted for separately in accordance with EITF 00-19:  Accounting for Derivative Financial Instruments Indexed To, and Potentially Settled in, a Company’s Own Stock. The effect of this accounting treatment is to increase the effective interest rate for the debt. The aggregate fair value assigned to these embedded derivatives initially was a liability of approximately $530,000. The Company will record gains or losses in its Consolidated Condensed Statements of Operations for changes in the fair value of each of these embedded derivatives. The aggregate fair value of these embedded derivatives was approximately $457,000 at December 31, 2005 and $742,000 at December 31, 2004.

In connection with the issuance and sale of the 3.75% Convertible Senior Notes, certain covenants in the Company’s former Loan and Security Agreement with Bank of America Business Capital (formerly Fleet Capital Corporation) were amended.

Other Long-term Debt and Capital Lease Obligations

In connection with the Company’s implementation of a new enterprise resource planning information system, AAI entered into a three year arrangement with Oracle Credit Corporation, which commenced on July 1, 2004, to finance $3,751,000 of related costs. The amount financed will be repaid in quarterly installments of principal and interest of approximately $330,000 from July 1, 2004 through April 1, 2007. At December 31, 2005, the Company owed an aggregate principal amount of $1,599,000 under this financing arrangement, of which $935,000 represented the current portion.

The Company leases certain equipment used in its operations, some of which are considered capital leases. The Company’s total obligations under capitalized leases at December 31, 2005 was $88,000, of which $29,000 represented the current portion. See Note 9 for the Company’s future minimum payments under all lease arrangements at December 31, 2005.

Aggregate maturities of all long-term debt, including capital lease obligations, during the next five years are $982,000 in 2006, $673,000 in 2007, $17,000 in 2008, $13,000 in 2009, and $120,000,000 thereafter. As discussed above, under certain circumstances the Company has the right to redeem all or a portion of

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the 3.75% Convertible Senior Notes and the holders of the 3.75% Convertible Senior Notes have the right to require the Company to repurchase all or a portion of their outstanding holdings prior to the maturity date.

Credit Agreements

On July 18, 2005, United Industrial and AAI, entered into a $100,000,000 four year revolving credit agreement (the “Credit Agreement”) with a syndicate of six banks, consisting of SunTrust Bank, as administrative agent and issuing bank, Citibank, F.S.B., Key Bank, PNC Bank, Commerce Bank and Provident Bank. The Credit Agreement provides for a credit facility (the “Credit Facility”) consisting of a $100,000,000 Senior Secured Revolving Credit Facility with a  $5,000,000 Swing Line and a  Letter of Credit subfacility up to the full amount of the credit facility less outstanding amounts. The interest rate for loans made under this facility is thirty day London Interbank Offered Rate (“LIBOR”) plus an applicable margin between 1.25% and 2.00% based upon the Company’s leverage ratio. As of December  31, 2005 the Company had approximately $2,400,000 of undrawn letters of credit outstanding, which results in approximately $97,600,000 available for drawing under the Letter of Credit subfacility.

Pursuant to the terms of the Credit Agreement and the parent guaranty agreement dated as of July 18, 2005 (the “Parent Guaranty”), United Industrial has guaranteed AAI’s obligations under the Credit Agreement. In addition, certain of AAI’s subsidiaries entered into a subsidiary guaranty agreement, dated as of July 18, 2005, whereby they guaranteed the payment of AAI’s obligation under the Credit Agreement (the “Subsidiary Guaranty”). The proceeds of the Credit Facility will be used to fund future acquisitions, finance capital expenditures, provide working capital, fund letters of credit, and for other general corporate purposes. The Credit Agreement contains affirmative, negative and financial covenants customary for facilities of this type, including, among other things, maintenance of certain leverage and fixed charge coverage ratios, as well as minimum consolidated tangible net worth ratios, limits on the incurrence of debt and preferred equity, limits on the incurrence of liens, a limit on the making of dividends or distributions, limits on sales of assets and a limit on capital expenditures.

In connection with the Credit Agreement, United Industrial, AAI and certain of AAI’s subsidiaries entered into a security agreement, dated as of July 18, 2005, whereby they granted the lenders under the Credit Agreement, a first priority security interest in all of their assets. The security interest was granted, with respect to AAI, to secure its obligations under the Credit Agreement and other loan documents to which it is a party, with respect to United Industrial, to secure its obligations under the Parent Guaranty and other loan documents to which it is a party, and with respect to AAI’s subsidiaries, to secure their obligations under the Subsidiary Guaranty and other loan documents to which they are a party.

In connection with the Credit Agreement, United Industrial entered into a parent pledge agreement, dated as of July 18, 2005, pursuant to which it pledged the capital stock of AAI to secure its obligations under the Parent Guaranty, the Credit Agreement, and other loan documents to which it is a party. In addition, AAI and certain of its subsidiaries entered into a borrower pledge agreement, dated as of July 18, 2005, pursuant to which they pledged the capital stock of their subsidiaries, with respect to AAI, to secure its obligations under the Credit Agreement and other loan documents to which it is a party, and with respect to its subsidiaries, to secure their obligations under the Subsidiary Guaranty and other loan documents to which they are a party.

In connection with the Credit Agreement, AAI and certain of its subsidiaries entered into an environmental indemnity agreement, dated as of July 18, 2005, pursuant to which they agreed to indemnify the lenders under the Credit Agreement with respect to certain hazardous materials or environmental conditions that may affect certain property that the lenders encumbered in connection with the Credit Agreement.

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Effective December 23, 2004, the Company terminated its Loan and Security Agreement dated June 28, 2001, as amended, with Bank of America Business Capital (formerly Fleet Capital Corporation). As a result, the Company was required to post cash as collateral for its undrawn letters of credit outstanding in an amount equal to 110% of the outstanding balance and for other obligations the Company may incur in the future with Bank of America Business Capital. The Company was required to maintain an aggregate cash balance of $4,810,000 and $8,845,000 at December 31, 2005 and 2004, respectively, with Bank of America Business Capital, which is included in Deposits and restricted cash in the accompanying Consolidated Balance Sheets.

Detroit Stoker has a $3,000,000 unsecured line of credit with Monroe Bank and Trust that may be used for cash borrowings or letters of credit. This financing arrangement was renewed in 2005 and expires on September 1, 2006. At December 31, 2005, Detroit Stoker had no cash borrowings and had $941,000 of undrawn letters of credit outstanding, which results in approximately $2,059,000 available for borrowings under the line of credit.

Secured Borrowing

On December 29, 2004, the Company purchased $125,000,000 aggregate principal amount at maturity of U.S. treasury bills for $124,619,000, which matured on February 24, 2005. The Company classified this investment as available-for-sale, which required it to be reported at estimated fair value, with unrealized gains and losses, net of tax, reported as a separate component of Accumulated Other Comprehensive Loss in Shareholders’ Equity until realized. Concurrently with the purchase of the U.S. treasury bills on December 29, 2004, the Company entered into a securities lending transaction with its broker-dealer, which matured on February 23, 2005 and was accounted for as a secured borrowing. In exchange for lending the U.S. treasury bills to its broker-dealer, the Company received cash collateral from its broker-dealer in an amount equal to 100% of the fair value of the securities loaned, net of a $25,000,000 refundable deposit that remained at its broker-dealer in a segregated, interest bearing account. At maturity on February 23, 2005, the Company repaid the cash collateral received, together with approximately $444,000 of related interest charges. Also at maturity, the Company collected its $25,000,000 refundable deposit, together with approximately $86,000 of related interest income earned. During the first quarter of 2005, the Company realized a $7,500 loss on this investment, excluding approximately $373,000 of short-term capital gain received.

Note 8. Stock Options

In June 2004, the shareholders approved the 2004 Stock Option Plan (the “2004 Plan”). The 2004 Plan provides for the granting of options to key employees with respect to an aggregate of up to 600,000 shares of Common Stock. On March 10, 2004, the Company’s 1994 Stock Option Plan, as amended (the “1994 Plan”), expired and no additional options may be granted under the 1994 Plan. Options previously granted under the 1994 Plan and granted pursuant to the 2004 Plan may be either “incentive stock options”, within the meaning of Section 422(b) of the Internal Revenue Code, or non-qualified options. Shares of Common Stock subject to options may be either authorized and unissued shares, or previously issued shares acquired or to be acquired by the Company and held in its treasury.

Under the 2004 Plan and the 1994 Plan (collectively, the “Employee Option Plans”), the exercise price for each share subject to an option granted previously and in the future is not less than 100% of the market value of the Common Stock on the date the option is granted. Options granted are exercisable over a period determined by the Board of Directors, but no longer than ten years after the date they are granted under the 1994 Plan and five years for the 2004 Plan. Options granted under the Employee Option Plans generally vest one-third each year after a one year waiting period.

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In May 1997, the shareholders approved the 1996 Stock Option Plan for Non-Employee Directors, as amended (the “1996 Plan”), which provides for the granting of options with respect to an aggregate of up to 300,000 shares of Common Stock and expires in 2006. Options may be exercised up to one-third as of the grant date of an option, and up to an additional one-third may be exercised as of the date of each subsequent annual meeting of shareholders. Options granted pursuant to the 1996 Plan prior to April 8, 2004 expire and are no longer exercisable after ten years from the date of grant, and, as the result of an amendment to the 1996 Plan during 2004, options granted after April 8, 2004 expire after five years from the date of grant. The exercise price for each share subject to an option granted is not less than 100% of the market value of the Common Stock on the date the option is granted.

A summary of stock option activity under all plans is as follows:

	Number of Shares			Weighted- Average Exercise Price
	(Shares in thousands)
Balance at December 31, 2002		1,523			$	11.22
Granted		155			16.71
Exercised		(555	)		9.32
Cancelled		(14	)		10.81
Balance at December 31, 2003		1,109			12.94
Granted		258			19.14
Exercised		(435	)		10.54
Cancelled		(56	)		18.57
Balance at December 31, 2004		876			15.59
Granted		229			34.34
Exercised		(148	)		12.21
Cancelled		(12	)		11.97
Balance at December 31, 2005		945			$	20.72

	Year Ended December 31,
	2005		2004		2003
	(Shares in thousands)
Exercisable		579		558		770
Available for future grants		421		650		264

The following table provides information with respect to stock options outstanding and exercisable at December 31, 2005:

	Options Outstanding							Options Exercisable
	Number		Weighted- Average Remaining Life (yrs)		Weighted- Average Exercise Price			Number		Weighted- Average Exercise Price
	(Shares in thousands)
Range of exercise prices:
$7.50 to $9.00		72		3.40		$	8.50		72		$	8.50
$12.25 to $12.90		92		4.18		12.69			92		12.69
$13.99 to $16.76		210		6.85		15.94			210		15.94
$17.32 to $19.05		272		7.37		17.95			157		18.33
$20.12 to $29.75		70		4.24		24.32			43		22.79
$31.31 to $36.16		229		4.25		34.34			5		34.74
Totals		945		5.65		$	20.72		579		$	15.82

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Note 9. Leases

Total rental expense for all operating leases amounted to $3,258,000, $2,668,000, and $3,778,000 in 2005, 2004, and 2003, respectively. Contingent rental payments were not significant.

Future minimum annual lease payments due over the next five years and thereafter under capital leases and non-cancelable operating leases with terms in excess of one year were as follows at December 31, 2005:

	Capital Leases				Operating Leases
	(Dollars in thousands)
2006		$	40			$2,321
2007		38				1,836
2008		20				1,577
2009		16				1,258
2010		—				457
2011 and thereafter		—				1,053
Total minimum lease payments		114				$	8,502
Less: Amount representing interest		(26		)
Present value of minimum lease payments		$	88

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Note 10. Changes in Shareholders’ Equity

	Common Shares Outstanding			Common Stock		Additional Capital				Retained Earnings (Deficit)			Cost of Shares in Treasury			Accumulated Other Comprehensive Loss				Total Shareholders’ Equity
	(Amounts in thousands, except per share amounts)
Balance at December 31, 2002		13,068			14,374		$	92,085		($16,254		)	($10,312		)		($32,262		)		$	47,631
Net loss		—			—-		—			(5,841		)	—				—-				(5,841		)
Minimum pension liability, net of tax expense of $3,161		—			—		—			—			—				4,150				4,150
Total comprehensive loss		—			—-		—			(5,841		)	—				4,150				(1,691		)
Cash dividends declared		—			—-		(5,315		)	—			—-				—				(5,315		)
Stock options exercised		555			—		187			—			4,991				—				5,178
Stock options - tax benefit		—			—-		1,162			—			—-				—				1,162
Treasury stock purchases		(358	)		—		—-			—			(6,036		)		—				(6,036		)
Employee awards		2			—		6			—			12				—				18
Balance at December 31, 2003		13,267			14,374		$	88,125		$	(22,095	)	$	(11,345	)		$	(28,112	)		$	40,947
Net income		—			—-		—			26,800			—				—-				26,800
Minimum pension liability,
net of tax benefit of $2,294		—			—-		—			—-			—				(2,468		)		(2,468		)
Unrealized loss on securities, net of tax benefit of $3		—			—		—			—			—				(4		)		(4		)
Total comprehensive income		—			—-		—			26,800			—				(2,472		)		24,328
Cash dividends declared		—			—-		(3,885		)	(1,206		)	—				—-				(5,091		)
Stock options exercised		435					(1,578		)	—			6,158				—				4,580
Stock options - tax benefit		—			—-		1,629			—			—-				—				1,629
Treasury stock purchases		(1,411	)		—		—-			—			(34,842		)		—				(34,842		)
Employee awards		1			—		5			—			10				—				15
Balance at December 31, 2004		12,292			14,374		$	84,296		$	3,499		$	(40,019	)		$	(30,584	)		$	31,566
Net income		—			—-		—			40,958			—				—-				40,958
Minimum pension liability, net of tax benefit of $1,881		—			—-		—			—-			—				(3,496		)		(3,496		)
Unrealized loss on securities, net of tax benefit of $351		—			—		—			—			—				(635		)		(635		)
Foreign currency translation		—			—		—			—			—				(792		)		(792		)
Total comprehensive income		—			—-		—			40,958			—				(4,923		)		36,035
Cash dividends declared		—			—-		—			(4,733		)	—				—-				(4,733		)
Stock options exercised		148					(1,299		)	—			3,111				—				1,812
Stock options - tax benefit		—			—-		802			—			—-				—				802
Treasury stock purchases		(1,161	)		—		—-			—			(39,960		)		—				(39,960		)
Balance at December 31, 2005		11,279			14,374		$	83,799		$	39,724		$	(76,868	)		$	(35,507	)		$	25,522

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The components of Accumulated other comprehensive loss were as follows at December 31,:

	2005		2004		2003
	(Dollars in thousands)
Minimum pension liability, net of tax	$	34,076	$	30,580	$	28,112
Unrealized loss on securities, net of tax	639		4		—
Foreign currency translation	792		—		—
Total accumulated other comprehensive loss	$	35,507	$	30,584	$	28,112

At the Company’s Annual Meeting of Shareholders held on June 10, 2004, the shareholders voted to approve an amendment to the Company’s Restated Certificate of Incorporation to create an authorized class of 1,000,000 shares of preferred stock. The preferred stock is available for future issuance in series and with such voting rights, designations, preferences and relative, participating, optional or other special rights and qualifications, limitations or restrictions thereof as the Board of Directors may determine for each series issued from time to time. At December 31, 2005, no shares of preferred stock had been issued and none were outstanding.

The Company declared cash dividends on its Common Stock of $0.40 per share in each of 2005, 2004 and 2003.

The exercise of stock options that have been granted under the Company’s various stock option plans give rise to compensation which is includable in the taxable income of the applicable employees and deductible by the Company for Federal and state income tax purposes in certain circumstances. Such compensation results from increases in the fair market value of the Company’s Common Stock subsequent to the grant date of the applicable exercised stock options. In accordance with APB No. 25, such compensation cost has not been recognized as an expense for financial accounting purposes and, therefore, the related tax benefits are recorded directly in Additional Capital.

Note 11. Treasury Stock

In November 2003, the Board of Directors of the Company authorized the purchase of up to $10,000,000 of the Company’s Common Stock. As of December 31, 2003, the Company had purchased a total of 357,600 shares for an aggregate amount of $6,036,000, or $16.88 per share. On March 10, 2004, the Company’s Board of Directors extended the plan for one additional year through March 15, 2005, and authorized the purchase of up to an additional $10,000,000 of Common Stock. During 2004, a total of 560,100 shares were purchased under the plan for an aggregate amount of $10,486,000, or $18.72 per share. Since the inception of the plan in November 2003 through December 31, 2004, the Company purchased a total of 917,700 shares for $16,522,000, or an average of $18.00 per share.

Separate from the purchase plan discussed above, in September 2004 the Company purchased 850,400 shares of its Common Stock for approximately $24,356,000, or $28.64 per share, using a portion of the net proceeds from the issuance and sale in September 2004 of the 3.75% Convertible Senior Notes. These shares were purchased concurrently with the sale of the 3.75% Convertible Senior Notes in privately negotiated transactions.

On March 10, 2005, the Company’s Board of Directors of the Company authorized a stock purchase plan for up to $25,000,000. During the first six months of 2005, a total of 735,345 shares were repurchased under the plan, at an average price of $33.97 per share, utilizing all funds available under the March 10, 2005 stock purchase plan.

On September 7, 2005, the Board of Directors of the Company authorized a stock purchase plan for up to $15,000,000. The Company repurchased a total of 425,627 shares at an average price of $35.20 during the remainder of 2005 utilizing all funds available under the plan.

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Note 12. Pensions and Other Post-retirement Benefits

The Company sponsors two qualified defined benefit plans, one defined contribution plan, and several non-qualified pension plans, and other post-retirement benefit plans for its employees.  The qualified defined benefit plans are funded through a trust. Contributions to these plans are based upon the projected unit credit actuarial funding method and are limited to amounts that are currently deductible for tax reporting purposes. Two subsidiaries of the Company sponsor unfunded post-retirement healthcare plans. Both of these plans are contributory for certain retirees and their spouses.

On December 8, 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the “Medicare Act of 2003”) was signed into law. The Medicare Act of 2003 introduced a prescription drug benefit and a Federal subsidy to sponsors of retiree healthcare plans. Effective July 1, 2004, the Company adopted FSP No. FAS 106-2 and included the effects of the Medicare Act of 2003 in its measurement of net periodic post-retirement benefit cost and accumulated post-retirement benefit obligation (“APBO”) retroactively to January 1, 2004. The Company remeasured its APBO in October 2004 and determined that the estimated effect of the Medicare Act of 2003 was a reduction in the Company’s APBO from the amount determined when originally measured on December 31, 2003 of approximately $3,300,000. The effect of adopting FSP No. FAS 106-2 had no cumulative effect on retained earnings at December 31, 2003.

The following table provides the weighted average allocation of pension plan assets for each major investment category as of December 31, 2005 and 2004, and the Company’s target allocation of plan assets:

	Percentage of Plan Assets
	Target Allocation	At December 31,
Plan Assets	for 2005	2005			2004
Equity Securities	55 - 65%		66	%		64	%
Debt Securities	35 - 45%		32	%		35	%
Other	Up to 10%		2	%		1	%
Total			100	%		100	%

The Company intends to employs a total return investment approach whereby a mix of equity and fixed income investments are used to maximize the long-term return of plan assets for a prudent level of risk. The investment portfolio contains a diversified blend of equity and fixed income investments. Furthermore, equity investments are diversified across U.S. and non-U.S. stocks, as well as small and large capitalizations. U.S. equities also are diversified across actively managed and passively invested portfolios. The Company currently does not intend to use other investment vehicles, such as real estate, private equity, and hedge funds. However, the Company may use such investment vehicles in the future. Derivatives may be used to gain market exposure in an efficient and timely manner; however, derivatives may not be used to leverage the portfolio beyond the market value of the underlying investments. Investment risk is measured and monitored on an ongoing basis through quarterly investment portfolio reviews, annual liability measurements, and periodic asset/liability studies. The assets will be reallocated quarterly or more often to meet the target allocations. In the first quarter of 2006 the debt and equity securities investments were realigned within their respective target allocations. Pension investment policies are reviewed by the Investment Committee at least annually and are updated when necessary.

In determining the long-term rate of return for plan assets, historical markets are studied and long-term historical relationships between equity and fixed-income securities are preserved consistent with the widely accepted capital market principle that assets with higher volatility generate a greater return over the long term. Current market factors such as inflation and interest rates are evaluated before long-term capital market assumptions are determined. The estimated long-term portfolio return considers diversification and rebalancing the investment mix. Peer data and historical returns are reviewed to check

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for reasonability and appropriateness. Currently, equity securities are expected to return 10% to 11% over the long-term, while cash and fixed income securities are expected to return between 4% and 6%. Based on historical experience, the Investment Committee expects that the Plan’s asset managers will generate a modest (.5% to 1.0% per annum) premium to their respective market benchmark indices.

The following table provides a rollforward of the benefit obligations and plan assets for the pension and other post-retirement benefits plans for each of the years ended December 31, 2005 and 2004, and a statement of the funded status of the Company’s plans at December 31 of both years:

	Pension Benefits						Other Post-retirement Benefits
	2005			2004			2005			2004
	(Dollars in thousands)
Change in Benefit Obligation
Benefit obligation at beginning of year	$	185,028		$	170,045		$	22,194		$	24,644
Service cost	3,527			2,981			177			167
Interest cost	10,459			10,389			1,359			1,280
Actuarial loss	7,983			12,514			3,330			1,734
Medicare Part D Subsidy	—			—			—			(3,261		)
Curtailments	—			1,115			—			83
Plan amendments	—			—			—			181
Participant contributions	—			—			621			565
Benefits paid	(11,016		)	(12,016		)	(3,622		)	(3,199		)
Benefit obligation at end of year	195,981			185,028			24,059			22,194
Change in Plan Assets
Fair value of plan assets at beginning of year	156,928			153,915			—			—
Actual return on plan assets	9,566			14,770			—			—
Administrative expenses	—			—			(67		)	(40		)
Participant contributions	—			—			621			565
Employer contributions	244			259			3,068			2,674
Benefits paid	(11,016		)	(12,016		)	(3,622		)	(3,199		)
Fair value of plan assets at end of year	155,722			156,928			—			—
Underfunded status of plans	(40,259		)	(28,100		)	(24,059		)	(22,194		)
Unrecognized net actuarial loss	64,233			57,633			4,719			1,462
Unrecognized prior service cost	3,288			3,564			(69		)	(81		)
Net amount recognized	$	27,262		$	33,097		$	(19,409	)	$	(20,813	)

The net amount was recognized in the Consolidated Balance Sheets at December 31, 2005 and 2004 as follows:

	Pension Benefits						Other Post-retirement Benefits
	2005			2004			2005			2004
	(Dollars in thousands)
Accrued benefit liability	$	(28,448	)	$	(17,513	)	$	(19,409	)	$	(20,813	)
Intangible asset	3,288			3,564			N/A			N/A
Accumulated other comprehensive loss	52,422			47,046			N/A			N/A
Net amount recognized	$	27,262		$	33,097		$	(19,409	)	$	(20,813	)

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These amounts were allocated to each of the Company’s reportable segments based on active headcount.

The accumulated benefit obligation for the defined benefit pension plans was $184,170,000 and $174,441,000 at December 31, 2005 and 2004, respectively. A minimum pension liability is recorded to the extent that the accumulated benefit obligation exceeds plan assets. A related intangible asset based on unrecognized prior service cost and an adjustment to accumulated comprehensive loss is also recorded. A reduction in shareholders’ equity, net of related income tax benefit of $18,346,000 and $16,466,000 as of December 31, 2005 and 2004, respectively, has been separately reported in the amount of $34,076,000 and $30,580,000 as of December 31, 2005 and 2004, respectively.

The expected employer contributions for the year ending December 31, 2006 to the pension and other post-retirement benefit plans are $936,000 and $2,689,000, respectively.

At December 31, 2005, the Company expects to pay pension and other post-retirement benefits in each of the next five years and in the aggregate for the five years thereafter, as follows:

	Pension Benefits		Other Post-retirement Benefits
	(Dollars in thousands)
Year 1	$	12,710		$	2,689
Year 2	12,375			2,873
Year 3	12,770			3,051
Year 4	13,593			3,152
Year 5	13,285			3,066
Aggregate for year 6 through year 10	71,521			10,525

The following table provides the weighted average assumptions used to determine the benefit obligations for the Company’s pension and other post-retirement benefit plans at December 31, 2005 and 2004:

	Pension Benefits				Other Post-retirement Benefits
	2005		2004		2005		2004
Discount rate	5.50	%	5.75	%	5.50	%	5.75	%
Rate of compensation increase	4.00	%	4.00	%	N/A		N/A
Current healthcare trend rate:
Defense segment
Pre-65 claim group	N/A		N/A		9.50	%	10.00	%
Post-65 claim group	N/A		N/A		9.95	%	10.50	%
Energy segment
Pre-65 claim group	N/A		N/A		9.00	%	9.50	%
Post-65 claim group	N/A		N/A		9.40	%	9.95	%
Ultimate healthcare trend rate	N/A		N/A		5.00	%	5.00	%
Years of ultimate healthcare trend rate:
Defense segment	N/A		N/A		2015		2015
Energy segment	N/A		N/A		2014		2014

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The following table provides the components of net periodic pension and other post-retirement benefits cost for each of the three years ended December 31, 2005, 2004 and 2003:

	Pension Benefits									Other Post-retirement Benefits
	2005			2004			2003			2005			2004			2003
	(Dollars in thousands)
Service cost	$	3,527		$	2,981		$	2,679		$	177		$	167		$	179
Interest cost	10,459			10,389			10,369			1,359			1,280			1,587
Expected return on plan assets	(12,829		)	(12,614		)	(11,339		)	—			—			—
Amortization of prior service cost	201			255			183			(13		)	(19		)	(41		)
Amortization of unrecognized transition assets	—			—			(4		)	—			—			—
Amortization of net loss	4,722			3,850			4,427			141			—			93
Settlement—curtailment	—			1,915			—			—			44			—
Net periodic cost	$	6,080		$	6,776		$	6,315		$	1,664		$	1,472		$	1,818

The following table provides the weighted average assumptions used to determine net periodic pension and other post-retirement benefits cost for each of the three years ended December 31, 2005, 2004, and 2003:

	Pension Benefits						Other Post-retirement Benefits
	2005		2004		2003		2005		2004		2003
Discount rate:
Defense segment	5.75	%	6.25	%	6.75	%	5.75	%	6.25	%	6.75	%
Energy segment	5.75	%	6.25	%	6.75	%	5.75	%	6.25	%	6.75	%
Expected return on plan assets:
Defense segment	8.50	%	8.50	%	8.50	%	N/A		N/A		N/A
Energy segment	8.50	%	8.50	%	8.50	%	N/A		N/A		N/A
Rate of compensation increase	4.00	%	4.00	%	4.00	%	N/A		N/A		N/A
Current healthcare trend rate:
Defense segment	N/A		N/A		N/A
Pre-65 claim							10.00	%	7.00	%	7.50	%
Post-65 claim							10.50	%	7.00	%	7.50	%
Energy segment	N/A		N/A		N/A
Pre-65 claim							9.50	%	10.0	%	6.81	%
Post-65 claim							9.95	%	10.5	%	6.81	%
Ultimate healthcare trend rate:
Defense segment	N/A		N/A		N/A		5.00	%	5.00	%	5.00	%
Energy segment	N/A		N/A		N/A		5.00	%	5.00	%	5.00	%
Years of ultimate healthcare trend rate:
Defense segment	N/A		N/A		N/A		2015		2008		2008
Energy segment	N/A		N/A		N/A		2014		2005		2005

Net periodic benefit cost for the Defense segment is considered a contract cost and included in cost of sales in the accompanying Consolidated Statements of Operations. Net periodic benefit cost for the Energy segment is included in selling and administrative expenses.

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The assumed healthcare cost trend rate has an effect on the amounts reported for the healthcare plans. The following table illustrates the effect of an increase and a decrease in the assumed healthcare cost trend rate of one percentage point:

	One Percentage-Point
	Increase			Decrease
	(Dollars in thousands)
Effect on total of service and interest cost components in 2005		$	20		$	(21	)
Effect on post-retirement benefit obligation as of December 31, 2005		$	283		$	(285	)

Defined Contribution Plans

The Company sponsors a 401(k) plan with employee and employer matching contributions based on specified formulas. The Company contributed $4,675,000, $4,365,000, and $3,866,000 to the 401(k) plan in 2005, 2004, and 2003, respectively.

Note 13. Segment Information - Continuing Operations

The Company has two reportable segments: Defense and Energy. Costs related to the continuing operations that are not identified with the two business segments are grouped under the heading Other. The Defense segment’s products include UAS, EW test and training systems, training simulators for aircraft maintenance and combat systems, advanced boresight equipment, automated test systems for avionics and engineering, and logistical and maintenance services. The Energy segment manufactures combustion equipment for biomass and refuse fuels. The Company has a transportation operation that is accounted for as discontinued operations in the accompanying Consolidated Financial Statements.

The accounting policies of the reportable segments are the same as those described in Summary of Significant Accounting Policies (see Note 2).

The Company’s reportable segments are business units that offer different products. The reportable segments are each managed separately because they manufacture and distribute products with different production processes.

Sales to agencies of the U.S. Government, primarily by the Company’s Defense segment, were $450,581,000, $325,092,000, and $249,547,000, in 2005, 2004, and 2003, respectively. No single customer other than the U.S. Government accounted for ten percent or more of consolidated net sales in any year. Export sales were $25,068,000, $29,618,000, and $40,064,000, in 2005, 2004, and 2003, respectively.

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The following table provides summary financial information for each segment, together with any items necessary to reconcile to the consolidated total for the Company:

	Defense		Energy			Other			Reconciliations				Total
	(Dollars in thousands)
Year Ended December 31, 2005
Net sales	$	480,187	$	36,966		$	—			$	—		$	517,153
Gross profit	110,863		14,927			—				—-			125,790
Interest income (expense), net	470		248			(3,329		)		—			(2,611		)
Depreciation and amortization expense	8,957		260							—			9,217
Income (loss) before income taxes	59,282		5,695			(3,079		)					61,898
Capital expenditures	25,239		119			—				—-			25,358
Segment assets (at year end)	185,169		48,746			153,558				(83,072		)	304,401
Year Ended December 31, 2004
Net sales	$	355,061	$	30,023		$	—			$	—		$	385,084
Gross profit	84,296		11,650			—				—-			95,946
Interest income (expense), net	445		33			(1,423		)		—			(945		)
Depreciation and amortization expense	5,494		352			—				—-			5,846
Income (loss) before income taxes	41,202		542			(1,842		)		—			39,902
Capital expenditures	9,368		260			—				—-			9,628
Segment assets (at year end)	217,134		39,205			243,375				(78,565		)	421,149
Year Ended December 31, 2003
Net sales	$	282,425	$	28,522		$	—			$	—		$	310,947
Gross profit	59,283		12,046			—				—-			71,329
Interest income (expense), net	1,475		(7		)	(1,097		)		—			371
Depreciation and amortization expense	4,866		382			167				—			5,415
Income (loss) before income taxes	23,182		2,695			(2,360		)		—			23,517
Capital expenditures	5,960		253			—				—-			6,213
Segment assets (at year end)	134,280		44,111			62,367				(79,069		)	161,689

The reconciliations in the table above consist of the following items:

	December 31,
	2005			2004			2003
	(Dollars in thousands)
Segment Assets:
Assets of discontinued operations	$	12,428		$	14,366		$	16,660
Elimination of investment in consolidated subsidiaries	(76,805		)	(78,050)			(64,428		)
Reclassification of deferred tax liabilities	(18,187		)	(14,740		)	(21,970		)
Elimination of intercompany receivables	(508		)	(141		)	(9,331		)
	$	(83,072	)	$	(78,565	)	$	(76,069	)

Income (loss) before income taxes includes research and development costs amounting to $10,218,000, $5,419,000, and $5,013,000 in 2005, 2004, and 2003, respectively, principally in the Defense segment.

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Note 14. Income Taxes

The asset and liability method is used in accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. In addition, the effect on deferred taxes of a change in tax rates is recognized in the period that includes the enactment date.

The following table provides a reconciliation between total income tax expense as computed by applying the Federal statutory income tax rate to income from continuing operations before income taxes and the provision for income taxes for continuing operations as recorded by the Company for each of the three years ended December 31, 2005, 2004, and 2003:

	2005			2004			2003
	(Dollars in thousands)
Federal income tax expense at statutory rate	$	21,664		$	13,966		$	7,996
State and local income tax expense, net of Federal income tax benefit	130			276			434
Research and development credits	(169		)	(882		)	—
Non-taxable income	(613		)	(480		)	(412		)
Other	527			920			393
Provision for income taxes	$	21,539		$	13,800		$	8,411

The Company recorded income tax expense from its discontinued operations during 2005 and 2004, and income tax benefits during 2003. During 2003, the Company received a tax refund of $16,822,000 related to the net carryback of the tax loss from discontinued operations in 2002 to prior years. The timing of the deductibility of $16,566,000 of this loss is in dispute with the Internal Revenue Service.

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The Company’s deferred income tax balances consisted of the following at December 31, 2005 and 2004:

	2005			2004
	(Dollars in thousands)
Deferred tax assets:
Asbestos litigation reserve	$	4,346		$	4,430
Pension plans	8,546			4,614
Losses on long-term contracts not currently deductible	788			2,300
Post-retirement and other employee benefits other than pensions	7,411			7,913
Product warranty and other provisions	917			775
Vacation and payroll related accruals	1,972			1,726
Capital loss carryover	736			—
Other	497			137
Total deferred tax asset	25,213			21,895
Deferred tax liabilities:
Tax over book depreciation	(1,561		)	(1,472		)
Section 1031 exchange	(2,414		)	—
Interest on 3.75% Convertible Senior Notes	(1,947		)	(360		)
Intangibles	(1,308		)	—
Other	(651		)	(551		)
Total deferred tax liability	(7,881		)	(2,383		)
Net deferred tax asset	$	17,332		$	19,512
The net deferred tax asset was classified as follows:
Current	$	4,497		$	5,582
Long-term	12,835			13,930

Note 15. Supplemental Cash Flow and Other Financial Information

Cash Flow Information

Noncash investing and financing activities are excluded from the Consolidated Statements of Cash Flows.

Cash paid for interest and income taxes during each of the three years ended December 31, 2005, 2004 and 2003 was as follows:

	2005		2004		2003
	(Dollars in thousands)
Cash paid for:
Income taxes	$	13,917	$	11,412		$	—
Interest expense	4,567		161			92

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The components of the changes in operating assets and liabilities used to reconcile net income (loss) to net cash provided by (used in) operating activities in the Consolidated Statements of Cash Flows for the three years ended December 31, 2005, 2004 and 2003 were as follows:

	2005			2004			2003
	(Dollars in thousands)
(Increase) decrease in trade receivables	$	(21,761	)	$	(13,268	)	$	4,311
Decrease (increase) in inventories	11,717			(17,671		)	3,983
Decrease (increase) in prepaid expenses and other current assets	2,101			(1,743		)	(1,309		)
Increase (decrease) in accounts payable, accruals, and other current liabilities	14,483			14,501			(5,186		)
Other long-term assets and liabilities, net	3,557			6,911			3,275
Total changes in operating assets and liabilities - (use) / source of cash	$	10,097		$	(11,270	)	$	5,074

Other Financial Information

Prepaid expenses and other current assets consisted of the following components:

	2005		2004
	(Dollars in thousands)
Prepaid insurance	$	3,474	$	3,165
Prepaid support and maintenance costs	368		368
Other prepaid expenses	905		600
Federal income tax receivable	—		2,347
Current deferred income taxes	4,497		5,582
Assets held for sale	—		403
	$	9,244	$	12,465

Other current liabilities consisted of the following components:

	2005		2004
	(Dollars in thousands)
Customer advances	$	9,936	$	5,576
Reserve for contract losses	1,379		1,680
Accrued interest expense	1,349		1,364
Federal income tax payable	2,296		—
Other accrued costs	2,355		2,864
Other	2,832		3,458
	$	20,147	$	14,942

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Other accrued costs included $765,000 and $779,000 for the Company’s product warranty liability at December 31, 2005 and 2004, respectively. The Company provides product warranties to its customers associated with certain product sales. The Company records estimated warranty costs in the period in which the related products are delivered. The warranty liability recorded at each balances sheet date is based on the estimated number of months of warranty coverage remaining for products delivered and the average historical monthly warranty payments, and is included in other current liabilities and other liabilities on the Consolidated Balance Sheet. Changes in the carrying amount of the product warranty liability for the years ended December 31, 2005 and 2004 were as follows:

	2005			2004
	(Dollars in thousands)
Product liability warranty at January 1,	$	779		$	840
Warranty expense	425			449
Expenditures	(439		)	(510		)
Product liability warranty at December 31,	$	765		$	779

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Note 16. Selected Quarterly Data (Unaudited)

	Quarterly Periods of 2005								Quarterly Periods of 2004
	Fourth		Third		Second		First		Fourth		Third			Second			First
	(Dollar amounts in thousands, except per share data)
Net sales	$	163,275	$	126,402	$	119,928	$	107,548	$	95,157	$	98,719		$	109,560		$	81,648
Gross profit	39,828		29,634		30,285		26,043		25,648		24,761			28,050			17,487
Selling and administrative expenses	22,640		14,318		17,315		13,635		18,568		12,648			11,970			10,228
Income from continuing operations	10,120		9,314		8,301		12,624		3,313		7,744			10,323			4,722
Income (loss) from discontinued operations	294		112		145		48		1,637		(274		)	(190		)	(475		)
Net income	10,414		9,426		8,446		12,672		4,950		7,470			10,133			4,247
Basic earnings (loss) per share:
Continuing	0.90		0.80		0.69		1.03		$	0.27	$	0.60		$	0.80		$	0.36
Discontinued	0.02		0.01		0.01		—		0.13		(0.02		)	(0.01		)	(0.03		)
Net income (loss)	0.92		0.81		0.70		1.03		0.40		0.58			0.79			0.33
Diluted earnings (loss) per share:
Continuing	0.75		0.68		0.60		0.84		$	0.26	$	0.57		$	0.78		$	0.35
Discontinued	0.02		0.01		0.01		—		0.13		(0.02		)	(0.01		)	(0.03		)
Net income (loss)	0.77		0.69		0.61		0.84		0.39		0.55			0.77			0.32
Dividends declared per share	$	0.10	$	0.10	$	0.10	$	0.10	$	0.10	$	0.10		$	0.10		$	0.10
Stock prices:
High	45.27		38.30		37.34		39.33		$	41.52	$	34.45		$	24.50		$	19.42
Low	33.59		31.86		27.58		28.01		29.77		23.01			18.94			16.95

Note 17. Commitments and Contingencies

In the normal course of its continuing and discontinued business, various lawsuits, claims and legal proceedings have been or may be instituted or asserted against or by the Company. Based on currently available facts, the Company believes, except as otherwise set forth below, that the disposition of matters pending or asserted against the Company will not have a material adverse effect on the Company’s financial position, results of operations or liquidity.

ASBESTOS

History

United Industrial and Detroit Stoker have been named as defendants in asbestos-related personal injury litigation. Neither United Industrial nor Detroit Stoker fabricated, milled, mined, manufactured or marketed asbestos, and neither United Industrial nor Detroit Stoker made or sold insulation products or other construction materials that have been identified as the primary cause of asbestos-related disease in the vast majority of claimants. Rather, United Industrial and Detroit Stoker made several products, some of the parts and components of which used asbestos-containing material fabricated and provided by third parties. The use of asbestos-containing materials ceased in approximately 1981.

Cases involving United Industrial and Detroit Stoker typically name 80 to 100 defendants. As of this date, United Industrial and Detroit Stoker have not gone to trial with respect to any asbestos-related personal injury claims, although there is no assurance that trials may not occur in the future. Accordingly, as of this date, neither United Industrial nor Detroit Stoker have been required to pay any punitive damage awards, although there can be no assurance this might not occur in the future. In addition, as of this date, some previously pending claims have been settled or dismissed (with or without prejudice). There is no assurance, however, that dismissals and settlements will occur at the same rate, if at all, or that claims that have been dismissed without prejudice will not be re-filed.

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Defenses

Management continues to believe that a majority of the claimants in pending cases will not be able to demonstrate that they have been exposed to United Industrial’s or Detroit Stoker’s asbestos-containing products or suffered any compensable loss as a result of any such exposure. This belief is based in large part on two factors: the limited number of asbestos-containing products and betterments sold by United Industrial and Detroit Stoker and United Industrial’s and Detroit Stoker’s access to sales, service, and other historical business records going back over 100 years, which allow United Industrial and Detroit Stoker to determine to whom products were sold, the date of sale, the installation site and, in some instances, the date products were removed from service. In addition, because of the limited and restricted placement of the asbestos-containing products, even at sites where a claimant can verify his or her presence during the same period those products were installed, liability cannot be presumed because, even if an individual contracted an asbestos-related disease, not everyone who was employed at a site was exposed to United Industrial’s or Detroit Stoker’s asbestos-containing products.

These factors have allowed United Industrial and Detroit Stoker to effectively manage their asbestos-related claims.

Settlements

To date, settlements of claims against United Industrial and/or Detroit Stoker have been made without any admission of liability by United Industrial and/or Detroit Stoker. Settlement amounts may vary depending upon a number of factors, including the jurisdiction where the action was brought, the nature and extent of the disease alleged and the associated medical evidence, the age and occupation of the claimant, the existence or absence of other possible causes of the claimant’s alleged illness, and the availability of legal defenses, as well as whether the action is brought alone or as part of a group of claimants. Before paying any settlement amount, United Industrial and/or Detroit Stoker require proof of exposure to their asbestos-containing products and proof of injury to the plaintiff. In addition, the claimant is required to execute a release of United Industrial, Detroit Stoker and associated parties, from any liability for asbestos-related injuries or claims.

Insurance Coverage

The insurance coverage potentially available to United Industrial and Detroit Stoker is substantial. Following the institution of asbestos litigation, an effort was made to identify all of United Industrial’s and Detroit Stoker’s primary and excess insurance carriers from 1940 through 1990. There were approximately 40 such carriers, all of which were put on notice of the litigation. In November of 1999, a Participation Agreement was entered into among United Industrial, Detroit Stoker and three of their primary insurance carriers. The Participation Agreement is an advance understanding that supplements all of the contracts of insurance, without altering the coverage of those contracts, which creates an administrative framework within which the insurers and United Industrial and Detroit Stoker can more efficiently and effectively manage the large quantity of on-going litigation.

Any party may terminate the Participation Agreement, without cause, by giving the other parties 60 days prior written notice. Termination of the Participation Agreement does not affect any rights or obligations of the parties that have accrued under the Participation Agreement on or before the effective date of the termination, nor does it affect any rights outside of the Participation Agreement.

Although the carriers can opt out of the Participation Agreement on 60 days notice, management does not believe that this will occur in the immediate or near term. For example, unless a carrier professes to have met the limits of its liability, it would have to consider the potentially greater costs of permitting United Industrial and Detroit Stoker to handle their own cases. Further, opting out of the Participation Agreement does not exculpate liability on the part of the carrier.

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United Industrial’s counsel retained a consulting firm with expertise in the field of evaluating insurance coverage and the likelihood of recovery for claims, such as costs incurred in connection with asbestos-related injury claims. In 2002 and 2003, that firm worked with United Industrial to project the insurance coverage of United Industrial and Detroit Stoker for asbestos-related claims. In 2005, United Industrial engaged the same firm to update its insurance analysis and projection. In each case, the insurance consultant’s conclusions were based primarily on a review of United Industrial’s and Detroit Stoker’s coverage history, application of reasonable assumptions to the allocation of coverage consistent with industry standards, an assessment of the creditworthiness of the insurance carriers, and the knowledge and experience of the consulting firm in the field of insurance coverage analysis. The insurance consultant also considered the Participation Agreement.

Based on the assumptions employed by and the report prepared by the insurance consultant, other variables, and the report prepared by the asbestos liability consultant, which is discussed below, the Company recorded an estimated insurance recovery as of December 31, 2005, of $20,186,000 reflecting the estimate determined to be probable of being available to mitigate United Industrial’s and Detroit Stoker’s potential asbestos liability through 2015, and as of December 31, 2002, of $20,343,000, reflecting the estimate determined to be probable of being available to mitigate United Industrial’s and Detroit Stoker’s potential asbestos liability through 2012. The Company continuously evaluates this insurance receivable and believes it is appropriately valued at December 31, 2005.

Quantitative Claims Information

As of December 31, 2005, United Industrial and/or Detroit Stoker were named in asbestos litigation pending in Arkansas, California, Louisiana, Michigan, Minnesota, Mississippi, New Jersey, New York, North Dakota and Rhode Island. As of December 31, 2005, there were approximately 11,059 total pending claims asserted in law suits, compared to approximately 21,123 pending claims asserted in lawsuits as of December 31, 2004. The decrease in claims was primarily attributable to dismissal of cases initially brought in Mississippi in 2002-2003. In 2004, Detroit Stoker was named as a defendant in two cases in Arkansas alleging personal injuries to one and approximately 199 plaintiffs (subsequently reduced to 42), respectively, as a result of silica and/or refractory ceramic fiber exposure, in addition to asbestos exposure. The pleadings in these two cases name approximately 32 and 68 defendants, respectively. Because claims are often filed and disposed of by dismissal or settlement in large numbers, the amount and timing of settlements and the number of open claims during a particular period can fluctuate from period to period and may not be indicative of the trend in future claims, settlements or dismissals. In addition, most of these lawsuits do not include specific dollar claims for damages, and many include a number of plaintiffs and multiple defendants. Therefore, the Company cannot provide any meaningful disclosure about the total amount of the damages sought. In addition, the direct asbestos-related expenses of United Industrial and Detroit Stoker for defense and indemnity for the past five years were not material.

A significant increase in the volume of asbestos-related bodily injury cases arose in Mississippi beginning in 2002 and extended through mid-year 2003. Management believes this peak in the volume of claims in Mississippi was due to the passage of tort reform legislation (applicable to asbestos-related injuries), which became effective at the end of 2002 and which resulted in a large number of claims being filed in Mississippi by plaintiffs seeking to ensure their claims would be governed by the law in effect prior to the passage of tort reform.

In 2002, United Industrial’s counsel engaged a consulting firm with expertise in the field of evaluating asbestos bodily-injury claims to assist United Industrial in projecting the future asbestos-related liabilities and defense costs of United Industrial and Detroit Stoker. In 2005, United Industrial’s counsel engaged the same consulting firm to update the report it issued in 2003. In each case, the methodology used by the asbestos liability consultant to project future asbestos-related costs is based primarily on estimates of the labor force exposed to asbestos in United Industrial’s and Detroit Stoker’s products, epidemiological

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modeling of asbestos-related disease manifestation, and estimates of claim filings and settlement and defense costs that may occur in the future. Using this information, in each case the asbestos liability consultant estimated the number of future claims that would be filed, as well as the related costs that would be incurred in resolving those claims. United Industrial’s and Detroit Stoker’s claims history prior to 2002 was not a significant variable in developing the estimates because such history was determined by the consulting firm not to be significant as compared to the number of claims filed in 2002.

Projecting future asbestos costs is subject to numerous variables that are extremely difficult to predict. In addition to the significant uncertainties surrounding the number of claims that might be received, other variables include the type and severity of the disease alleged by each claimant, the long latency period associated with asbestos exposure, dismissal rates, costs of medical treatment, the impact of bankruptcies of other companies that are co-defendants in claims, uncertainties surrounding the litigation process from jurisdiction to jurisdiction and from case to case, and the impact of potential changes in legislative or judicial standards. Furthermore, any predictions with respect to these variables are subject to even greater uncertainty as the projection period lengthens. In light of these inherent uncertainties, United Industrial’s and Detroit Stoker’s limited claims history and consultation with the asbestos and insurance consultants, the Company believes that ten years is the most reasonable period for recognizing a reserve for future costs, and that costs that might be incurred after that period were not reasonably estimable. As a result, the Company also believes that its ultimate net asbestos-related contingent liability (i.e. its indemnity or other claim disposition costs plus related legal fees less insurance recoveries) cannot be estimated with certainty.

Based on the assumptions and results reflected in the 2005 and 2003 reports, prepared by the asbestos liability consultant and other variables, the Company recorded an undiscounted liability for its best estimate of liabilities for asbestos-related matters in the amount of $31,450,000 as of December 31, 2005 and $31,852,000 as of December 31, 2004, respectively, including damages and defense costs, and its insurance receivables for asbestos-related liabilities were $20,186,000 and $20,343,000 at December 31, 2005 and 2004, respectively. These figures reflect the Company’s policy of maintaining a ten-year estimate of future liability, the period in which such costs are deemed to be reasonably estimable.

Given the inherent uncertainty in making future projections, and the fact that United Industrial and Detroit Stoker periodically receive potentially material new information from claimants and their counsel that relates to the factual basis of their asserted and unasserted claims, United Industrial and Detroit Stoker will periodically, either (1) validate the key assumptions used in projecting the future asbestos-related liabilities and defense costs of United Industrial and Detroit Stoker or; (2) re-examine and if necessary update the projections of current and future asbestos claims, based on experience and other relevant factors, such as changes in the tort system and the resolution of bankruptcies of various asbestos defendants.

No assurances can be given as to the actual amount of United Industrial’s and Detroit Stoker’s liability for such present and future claims or the amount of insurance recoveries (including any recoveries from liquidating excess insurance carriers), and the differences from estimated amounts could be material.

Federal Asbestos Legislation

The outlook for federal legislation to provide a national asbestos litigation trust fund continues to be uncertain. Also uncertain is whether, and to what extent, United Industrial and Detroit Stoker would be required to make contributions to any prospective national asbestos trust. No assurances can be given that a proposed trust or any other asbestos legislation will ultimately become law, or when such action might occur.

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STATE OF ARIZONA DEPARTMENT OF ENVIRONMENTAL QUALITY V. UIC, ET AL.

On May 19, 1993, United Industrial was named as one of three defendants in a civil action brought pursuant to the Comprehensive Environmental Response Compensation and Liability Act (“CERCLA”) by the Arizona Department of Environmental Quality (“ADEQ”) in the United States District Court for the District of Arizona. ADEQ sought remediation of a manufacturing site in the State of Arizona operated by U.S. Semiconductor Products, Inc. (“U.S. Semiconductor”), a manufacturer of semiconductors formerly owned by United Industrial. ADEQ alleged that from 1959 until United Industrial sold U.S. Semiconductor in 1961, U.S. Semiconductor disposed of tricholoroethylene, a “hazardous substance,” and other hazardous substances under CERCLA, onto the ground and into various pits and drains located on the site.

In 1996, United Industrial entered into a consent decree with ADEQ. Pursuant to the consent decree, United Industrial is required to complete a Remedial Investigation/Feasibility Study (“RI/FS”), pay $125,000 for past response costs, pay quarterly Arizona oversight costs (averaging less than $13,000 annually) and pay $125,000 for future response costs plus a graduated percentage of the cleanup costs for the site if those costs are in excess of $10,000,000 but less than $40,000,000. United Industrial’s liability for future response costs under the consent decree is capped at $1,780,000 in addition to the $125,000 that United Industrial has already paid. In connection with the RI/FS, United Industrial has retained and is paying for an environmental consultant. The Remedial Investigation was submitted to ADEQ for approval on March 31, 2004 and was approved by ADEQ on August 9, 2004. In March 2005, ADEQ issued its Proposed Remedial Objectives Report for public comment. ADEQ received no substantive comments regarding the report, and in May 2005, ADEQ issued its final Remedial Objectives Report. United Industrial is required to submit to ADEQ a Feasibility Study and Proposed Remedies to meet ADEQ’s May 2005 Remedial Objectives.  Management believes it will likely reach closure with ADEQ on all RI/FS issues on an acceptable basis to United Industrial following approval of the Feasibility Study. No assurances can be given, however, as to the actual extent to which United Industrial may be determined to have further liability, if at all. Management believes it is appropriately accrued for this matter.

MICHIGAN DEPARTMENT OF NATURAL RESOURCES

Detroit Stoker was notified in March 1992 by the Michigan Department of Natural Resources (“MDNR”) that it is a potentially responsible party in connection with the cleanup of a former industrial landfill located in Port of Monroe, Michigan. MDNR is treating the Port of Monroe landfill site as a contaminated facility within the meaning of the Michigan Environmental Response Act (“MERA”). Under MERA, if a release or potential release of a discarded hazardous substance is or may be injurious to the environment or to the public health, safety or welfare, MDNR is empowered to undertake or compel investigation and response activities in order to alleviate any contamination threat. Management believes Detroit Stoker would be considered a de minimus potentially responsible party and does not believe that the resolution of this matter will have a materially adverse effect on United Industrial’s or Detroit Stoker’s financial condition or results of operations. No assurances can be given, however, as to the actual extent to which Detroit Stoker may be determined to be liable, if at all.

OTHER LEGAL MATTERS

Departments and agencies of the U.S. Government have the authority at many levels to investigate transactions and operations of the Company, and the results of such investigations may lead to administrative, civil, or criminal proceedings, the ultimate outcome of which could be fines, penalties, repayments or compensatory or treble damages. Agencies that oversee contract performance include: the Defense Contract Audit Agency, the Department of Defense Inspector General, the General Accounting Office, the Department of Justice, the Department of State, and Congressional Committees. U.S. Government regulations provide that certain findings against a contractor may lead to suspension or debarment from future U.S. Government contracts or the loss of export privileges for a company or an operating division or subdivision.

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The Company has in place international and domestic compliance policies and procedures, including training of employees. From time to time, the Company receives allegations of improper conduct relating to its operations, including operations subject to the U.S. Foreign Corrupt Practices Act, export control and licensing regulations and other U.S. domestic and international laws. When the Company receives any such allegations, it conducts internal (and if necessary, external) investigations to determine whether there is support for any such allegations, and takes corrective action when warranted. An investigation is ongoing in response to allegations provided to Company management of improper payments to foreign government officials and improper invoicing. External counsel has been retained by the Audit Committee of the Company’s Board of Directors to determine if there is support for any such allegations, and to review the Company’s compliance policies and procedures, and the Company is cooperating fully with counsel. In addition, appropriate government agencies have been advised of this investigation. The Company is cooperating with their requests for information. The investigation by external counsel, which is continuing, has thus far not revealed any prior involvement or knowledge regarding the allegations by any officer or director of United Industrial. At the current stage of this investigation, any ultimate liability is not presently determinable.

PERFORMANCE GUARANTIES

In connection with certain contracts, United Industrial’s operating subsidiaries have committed to certain performance guaranties existing at December 31, 2005. The ability to perform under these guaranties may, in part, be dependent on the performance of other parties, including partners and subcontractors. If United Industrial’s operating subsidiaries are unable to meet these performance obligations, the performance guaranties could have a material adverse effect on profit margins and the Company’s results of operations, liquidity or financial position. United Industrial’s operating subsidiaries monitor the progress of their partners and subcontractors, and United Industrial and its operating subsidiaries do not believe that the performance of these partners and subcontractors will adversely affect these contracts. No assurances can be given, however, as to the liability of United Industrial’s operating subsidiaries if partners or subcontractors are unable to perform their obligations.

DISCONTINUED TRANSPORTATION OPERATION

MUNI Contract

In connection with the discontinued Transportation operations, AAI owns 35% of ETI. Skoda a.s. (“Skoda”), a Czech company, owns the remaining 65% of ETI. ETI’s one remaining production contract with MUNI involves the design and manufacture of 273 electric trolley buses (“ETBs”). In executing its contract with MUNI, ETI entered into subcontracts with AAI, certain Skoda operating affiliates and others. AAI and the Skoda operating affiliates have completed performance of their respective scopes of work to support the delivery of the ETB’s to MUNI and the Skoda operating affiliates are now subject to warranty requirements. Skoda’s operating affiliates have continued to deliver products and services under their subcontracts with ETI through December 2005.

As of April 22, 2004, ETI and MUNI finalized an agreement to modify the original MUNI contract (“Modification No. 6”) under which ETI assigned its remaining subcontractor obligations to MUNI and MUNI relieved ETI of its warranty, performance and certain related bonding obligations, as well as other obligations under its ETB contract with MUNI, except for the performance of a defined scope of work related to modifications of ETB hardware, which have been completed.

In conjunction with Modification No. 6, AAI executed a guaranty agreement with MUNI as of April 22, 2004 (the “Guaranty Agreement”) that assures performance of certain of ETI’s obligations under Modification No. 6. In conjunction with the Guaranty Agreement, AAI obtained a release from all further obligations under its subcontract with ETI, including its subcontractor warranty obligations, in exchange for a cash payment to MUNI of $500,000 and other consideration. AAI’s sole remaining obligation under

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the Guaranty Agreement is to provide the services of three engineers and one purchasing expediter through April 2006.  The Company believes that it has adequately provided for its obligations under the Guaranty Agreement in its existing loss reserves.

As required by MUNI, ETI obtained a surety bond to guaranty payment to all those providing labor and materials to ETI in furtherance of its performance under the MUNI contract. AAI agreed to indemnify the surety, if necessary, for up to $14,800,000 on this labor and materials bond, representing 35% of the original face value of the bond (in proportion to AAI’s equity interest in ETI). On November 18, 2003, AAI made a claim against the labor and materials bond for unpaid receivables in connection with AAI’s MUNI subcontract from ETI, totaling in excess of $47,000,000, the maximum penal sum of the labor and materials bond. AAI’s payment rights under the labor and materials bond (among other claims) are currently at issue in a case before the United States District Court for the Northern District of California. Prior to final adjudication of this case, there can be no assurances as to the amount or timing of a recovery by AAI, if any, on its claim on the labor and materials bond. To date no amount of recovery has been recorded.

Note 18. Acquisition

On April 4, 2005, the Company acquired ESL Defence Limited, an EW company based in the United Kingdom. The net purchase price was $10,363,000. The operating results of ESL have been included in the consolidated financial statements of the Company since April 4, 2005. The purchase price of this business has been allocated to the estimated fair value of net tangible and intangible assets acquired, with any excess recorded as goodwill. The estimates related to the acquired assets and liabilities, specifically the completion of the identification and valuation of intangible assets acquired, were finalized during December 2005.    The following table summarizes the fair value of the assets and liabilities assumed at April 4, 2005.

	At April 4, 2005
	(Dollars in thousands)
Cash and equivalents		$	479
Current assets		1,546
Property and equipment		384
Intangible assets		5,437
Goodwill		3,831
Total assets acquired		11,677
Current liabilities		1,314
Total liabilities assumed		1,314
Net assets acquired		$	10,363

The acquired intangible assets, all of which are being amortized and relate primarily to contract related intangibles, have an estimated weighted average useful life of approximately seven years. The goodwill is not expected to be deductible for United Kingdom purposes, but is expected to be deductible for U.S. Earnings and Profits purposes. Aggregate amortization expense for amortizing intangible assets was $624,000 at December 31, 2005.  Estimated amortization expense for the next five years is $701,000 in 2006, $701,000 in 2007, $701,000 in 2008, $701,000, in 2009, and $701,000 in 2010. This acquisition is not considered to be material, therefore, pro-forma information is not presented.

Note 19. Discontinued Transportation Operation

In December 2001, a decision was made to discontinue the transportation business. Further, the Company ceased to accept new transportation business in December 2001, the time the decision was made to discontinue the transportation business  It was decided that AAI would sell all or part of the

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transportation business and “runoff” the operations for any remaining contractual obligations.   In July 2002, AAI sold two transportation overhaul contracts with the New Jersey Transit Corporation and the Maryland Transit Administration and related assets and liabilities to ALSTOM Transportation, Inc. After the sale of the two transportation overhaul contracts, the Company’s transportation operations consisted primarily of one remaining production contract between ETI and MUNI. AAI owns a 35% interest in the shares of ETI, with the remaining 65% owned by a Czech company, Skoda. AAI continued to perform its obligations under its subcontract with ETI on the MUNI project, and continues to provide ETI with personnel and other financial support in order to enable ETI to satisfy certain of its remaining commitments to MUNI. The Company ceased to accept new transportation business at December 2001, the time the decision was made to discontinue the transportation business.

Following Skoda’s bankruptcy declaration in 2001 in the Czech Republic, effective as of 2002, AAI began recording 100%, instead of 35%, of ETI’s losses and income in accordance with the equity method of accounting applicable to minority shareholders. The Company has determined that ETI is a variable interest entity, for which the Company is the primary beneficiary, in accordance with FIN 46R, which became effective for years beginning after December 31, 2002. The financial statements for ETI have been consolidated for the years ended December 31, 2005, 2004 and 2003. Previously the Company accounted for its investment in ETI under the equity method. Accordingly, the Consolidated Balance Sheet as of December 31, 2004 and the Statement of Cash Flow for the year ended December 31, 2003, have been labeled revised. The Company accounts for its remaining transportation operation as discontinued operations, including the consolidation of ETI as a variable interest entity.

Summary results of the discontinued transportation operation, which have been reported separately as Income (loss) from discontinued operations in the accompanying Consolidated Statements of Operations, were as follows:

	Year Ended December 31,
	2005			2004			2003
	(Dollars in thousands)
Sales	$	1,189		$	15,441		$	96,032
Cost of sales	2,729			(12,441		)	(124,145		)
General and administrative expenses	(2,931)			(1,885		)	(3,936		)
Other expense	(65		)	(41		)	(172		)
Income (loss) before income taxes	922			1,074			(32,221		)
(Provision for) benefit from income taxes	(323		)	(376		)	11,274
Income (loss) from discontinued operations, net of income taxes	$	599		$	698		$	(20,947	)

During 2005 and 2004, ETI was able to favorably resolve certain operational risks associated with the execution of its last remaining program. ETI reported net income for the years ended December 31, 2005 and 2004 of approximately $3,241,000 and $2,321,000, respectively. Partially offsetting this income in 2005 was $2,319,000 of net expenses incurred by the Company’s discontinued transportation operation to wind down its operation, including $1,926,000 in legal fees. Partially offsetting this income in 2004 was $1,247,000 of net expenses incurred by the Company’s discontinued transportation operation to wind down its operation. These net expenses included $4,566,000 of general and administrative expenses and other charges, including $2,294,000 of professional fees related to litigation matters, partially offset by $3,319,000 related to the favorable resolution of certain matters previously reserved.

The results in 2003 included a pretax loss of $24,879,000 primarily related to the loss estimated at that time to be incurred by ETI to complete the production and warranty phases of its one remaining contract to provide ETBs to MUNI, as well as $4,314,000 of costs related to idle capacity at AAI’s leased

84

transportation facility, and $3,028,000 of the Company’s general and administrative expenses related to the discontinued transportation operation.

The following table provides the sources and uses of net cash flows for the discontinued operation, which are aggregated and reported separately as Net cash used in discontinued operations in the accompanying Consolidated Statements of Cash Flows:

	Year Ended December 31,
	2005			2004			2003
	(Dollars in thousands)
Net income (loss)	$	599		$	698		$	(20,947	)
Changes in operating assets and liabilities	(6,087		)	3,015			13,959
Deferred income taxes	1,925			(8,466		)	(958		)
Net cash used in operating activities from discontinued operations	$	(3,563	)	$	(4,753	)	$	(7,946	)

There were no financing or investing activities in the years ended December 31, 2005, 2004, or 2003.

Assets and liabilities of the discontinued transportation operation, which have been reported and summarized in the accompanying Consolidated Balance Sheets as Assets and Liabilities of discontinued operations, respectively, were as follows:

	December 31,
	2005		2004
	(Dollars in thousands)
Current Assets:
Cash	$	606	$	694
Trade receivables	103		24
Prepaid expenses and other current assets	150		153
Deferred income taxes	11,569		13,495
	$	12,428	$	14,366
Current Liabilities:
Accounts payable	256		$	989
Accrued employee compensation and taxes	159		164
Other current liabilities	11,270		11,270
Accrual for contract losses	1,602		6,932
Other	—		32
	$	13,287	$	19,387

Note 20. Investments in Unconsolidated Investees

Pioneer UAV, Inc.

The Company owns 50% of Pioneer UAV, Inc. The Company’s investment was $1,812,000, $1,616,000, and $1,519,000 at December 31, 2005, 2004, and 2003, respectively. The Company had no outstanding advances due from the investee at December 31, 2005, 2004 or 2003. The Company’s share of the venture’s profits using the equity method of accounting applicable to minority shareholders was $196,000, $97,000, and $57,000 for the years ended December 31, 2005, 2004, and 2003, respectively.

85

Note 21. Restructuring Charges

	Severance				Employee Relocation				Facility Relocation				Facility Closing Costs			Total
	(Dollars in thousands)
Defense segment
Reserve balance at December 31, 2004		$	160			$	169			$	74		$	—		$	403
Restructuring charges		373				418				—			1,161			1,952
Paid or otherwise settled		(533		)		(587		)		(74		)	(1,161		)	(2,355		)
Reserve balance at December 31, 2005		$	—			$	—			$	—		$	—		$	—
Energy segments
Reserve balance at December 31, 2004		$	—			$	—			$	—		$	—		$	—
Restructuring charges		94				—				61			103			258
Paid or otherwise settled		(94		)		—				(61		)	(103		)	(258		)
Reserve balance at December 31, 2005		$	—			$	—			$	—		$	—		$	—

During the fourth quarter of 2004, the Company’s management adopted plans to maximize efficiencies by streamlining its Energy segment and fluid test systems product area operations in the Defense segment, in accordance with the Company’s previously disclosed strategic initiatives.

As part of its plan, Detroit Stoker eliminated 28 production positions during the first quarter of 2005 by outsourcing most of its manufacturing operations to lower cost producers. In connection with the planned reduction in Detroit Stoker’s workforce, in the fourth quarter of 2004 the Company recognized a pension curtailment charge in the Energy segment to accelerate the amortization of prior service costs and recognize enhanced benefits primarily for one of its pension benefit plans of approximately $1,959,000, which is included in selling and administrative expenses in the accompanying Consolidated Statements of Operations. As a result of the same reduction in Detroit Stoker’s workforce, the Company recognized severance charges of $94,000 and facility consolidation and closure costs of $164,000 for the year ended December 31, 2005. Detroit Stoker does not expect any additional costs associated with this restructuring plan.

In the fourth quarter of 2004, AAI began reorganizing the operations of its fluid test systems product area in the Defense segment in expectation of realizing certain operating efficiencies. These activities resulted in total charges of approximately $2,522,000, of which approximately $600,000 was expensed and $200,000 was paid in 2004. In addition, the Company recorded a noncash charge in 2004 in the Defense segment of approximately $300,000 for the write down of certain inventories of the fluid test systems product line, which was included in cost of sales. During 2005, $1,952,000 was expensed and $2,352,000 was paid or otherwise settled in connection with this restructuring plan. AAI does not expect to recognize any additional restructuring expense related to the fluid test systems product area.

On October 31, 2003, the Company closed its office in New York City and relocated the corporate activities handled at that location to its existing facility in Hunt Valley, Maryland. In connection with this relocation, in 2003, the Company recorded a charge of $546,000 related to severance costs for the former employees at that location and a charge of $355,000 related to the closure of the New York City office, for a total charge of $901,000, which is included in selling and administrative expenses in the accompanying Consolidated Statements of Operations. There was no remaining reserve at December 31, 2004 as the result of payments made.

86

Note 22. Impairment of Long-Lived Assets

During the fourth quarter of 2005, the Company recorded a noncash, pretax impairment charge of $273,000 ($177,000 after tax) to write-off the remaining cost of certain assets related to the commercial firefighting training facility AAI owns and operates in Kenai, Alaska. During the fourth quarter of 2004, the Company recorded a noncash, pretax impairment charge of approximately $861,000 ($560,000 after tax) to write down the cost of certain assets related to the commercial firefighting training facility AAI owns and operates in Kenai, Alaska. The Company evaluated the carrying value of the assets related to the firefighting training facility by analyzing the estimated cash flows that those assets are expected to generate in the future. In 2005, the Company determined that the assets should be written off. Accordingly, an impairment charge was recorded to write-off the remaining carrying value of those assets. Fair value was estimated based on discounted future cash flows. The operations of the firefighting training facility do not meet management’s expectations and, accordingly, management is evaluating various alternatives for the facility.

Note 23. Supplemental Guarantor Information

In September 2004, United Industrial issued and sold $120,000,000 aggregate principal amount of 3.75% Convertible Senior Notes, which are fully and unconditionally guaranteed by AAI, the Company’s wholly owned subsidiary that constitutes the Defense segment. The 3.75% Convertible Senior Notes are not guaranteed by Detroit Stoker, the Company’s wholly owned subsidiary that constitutes the Energy segment. The following condensed consolidating financial information sets forth supplemental information for United Industrial, the parent company, AAI, the guarantor subsidiary, and Detroit Stoker, the non-guarantor subsidiary, as of December 31, 2005 and 2004, and for each of the three years ended December 31, 2005, 2004 and 2003.

87

CONDENSED CONSOLIDATING FINANCIAL INFORMATION
Condensed Consolidating Balance Sheets
As of December 31, 2005

	United Industrial Corporation  (Parent)				AAI Corporation and Subsidiaries (Guarantor)				Detroit Stoker Company (Non- Guarantor)				Eliminations				United Industrial Corporation and Subsidiaries
		(Dollars in thousands)
ASSETS
Current assets:
Cash and cash equivalents			$	54,365		$	8,768			$	14,363			$	—			$	77,496
Marketable equity securities			11,617			—				—				—				11,617
Securities pledged to creditors			—			—				—				—				—
Deposits and restricted cash			—			4,810				—				—				4,810
Trade receivables, net			311			64,487				4,486				—				69,284
Inventories			—			21,186				2,417				—				23,603
Other current assets			1,151			7,330				828				(65		)		9,244
Assets of discontinued operations			—			12,428				—				—				12,428
Total current assets			67,444			119,009				22,094				(65		)		208,482
Insurance receivable - asbestos litigation			—			—				20,186				—				20,186
Property and equipment, net			—			43,128				1,615				—				44,743
Other assets			9,309			34,952				4,852				(18,123		)		30,990
Intercompany receivables			—			508				—				(508		)		—
Investment in consolidated subsidiaries			118,968			—				—				(118,968		)		—
			$	195,721		$	197,597			$	48,747			$	(137,664	)		$	304,401
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt			$	—		$	964			$	—			$	—			$	964
Other current liabilities			5,020			72,582				6,564				(20,942		)		63,224
Liabilities of discontinued operations						13,287				—				—				13,287
Total current liabilities			5,020			86,833				6,564				(20,942		)		77,475
Long-term debt			120,000			723												120,723
Reserve for asbestos litigation			—			—				31,450				—				31,450
Other long-term liabilities			3,260			52,305				11,789				(18,123		)		49,231
Intercompany (receivables) payables			41,617			(62,622		)		612				20,393				—
Shareholders’ equity (deficit)			25,824			120,358				(1,668		)		(118,992		)		25,522
			$	195,721		$	197,597			$	48,747			$	(137,664	)		$	304,401

88

CONDENSED CONSOLIDATING FINANCIAL INFORMATION
Condensed Consolidating Balance Sheets
As of December 31, 2004

	United Industrial Corporation (Parent)				AAI Corporation and Subsidiaries (Guarantor) (revised)			Detroit Stoker Company (Non- Guarantor)				Eliminations				United Industrial Corporation and Subsidiaries
	(Dollars in thousands)
ASSETS
Current assets:
Cash and cash equivalents		$	129			$	72,269		$	8,281			$	—			$	80,679
Securities pledged to creditors		124,626				—			—				—				124,626
Deposits and restricted cash		25,000				8,845			—				—				33,845
Trade receivables, net		17				44,152			2,489				—				46,658
Inventories		—				31,957			2,682				—				34,639
Other current assets		3,295				8,283			909				(22		)		12,465
Assets of discontinued operations		—				14,366			—				—				14,366
Total current assets		153,067				179,872			14,361				(22		)		347,278
Insurance receivable - asbestos litigation		—				—			20,343				—				20,343
Property and equipment, net		—				25,643			2,002				—				27,645
Other assets		12,258				25,844			2,499				(14,718		)		25,883
Intercompany receivables		—				141			—				(141		)		—
Investment in consolidated subsidiaries		78,050				—			—				(78,050		)		—
		$	243,375			$	231,500		$	39,205			$	(92,931	)		$	421,149
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt		$	—			$	958		$	—			$	—			$	958
Payable under securities loan agreement		124,619				—			—				—				124,619
Other current liabilities		5,466				41,179			3,689				(22		)		50,312
Liabilities of discontinued operations		—				19,387			—				—				19,387
Total current liabilities		130,085				61,524			3,689				(22		)		195,276
Long-term debt		120,000				2,000			—				—				122,000
Reserve for asbestos litigation		—				—			31,852				—				31,852
Other long-term liabilities		2,152				41,253			11,768				(14,718		)		40,455
Intercompany (receivables) payables		(40,428		)		40,528			41				(141		)		—
Shareholders’ equity (deficit)		31,566				86,195			(8,145		)		(78,050		)		31,566
		$	243,375			$	231,500		$	39,205			$	(92,931	)		$	421,149

89

CONDENSED CONSOLIDATING FINANCIAL INFORMATION - CONTINUED
Condensed Consolidating Statements of Operations
Year Ended December 31, 2005

	United Industrial Corporation (Parent)				AAI Corporation and Subsidiaries (Guarantor)				Detroit Stoker Company (Non- Guarantor)				Eliminations				United Industrial Corporation and Subsidiaries
	(Dollars in thousands)
Net sales		$	—			$	480,187			$	36,966			$	—			$	517,153
Cost of sales		—				369,324				22,039				—				391,363
Gross profit		—				110,863				14,927				—				125,790
Selling and administrative expenses		96				58,816				8,996				—				67,908
Impairment of long-lived assets		—				273				—				—				273
Asbestos litigation expense		—				—				412				—				412
Other operating income (expense)		56				(407		)		(177		)		—				(528		)
Operating (loss) income		(40		)		51,367				5,342				—				56,669
Non-operating income and (expense):
Interest income		2,507				704				262				—				3,473
Interest expense		(5,850		)		(234		)		—				—				(6,084		)
Intercompany interest (expense) income		14				—				(14		)		—				—
Other (expense) income, net		290				7,445				105				—				7,840
		(3,039		)		7,915				353				—				5,229
(Loss) income from continuing operations before income taxes		(3,079		)		59,282				5,695				—				61,898
Benefit from (provision for) income taxes		1,078				(21,667		)		(950		)		—				(21,539		)
Income (loss) from continuing operations		(2,001		)		37,615				4,745				—				40,359
Income from discontinued operations, net of income taxes		—				599				—				—				599
Income from investment in subsidiaries		42,959				—				—				(42,959		)		—
Net income (loss)		$	40,958			$	38,214			$	4,745			$	(42,959	)		$	40,958

90

CONDENSED CONSOLIDATING FINANCIAL INFORMATION - CONTINUED
Condensed Consolidating Statements of Operations
Year Ended December 31, 2004

	United Industrial Corporation (Parent)				AAI Corporation and Subsidiaries (Guarantor)				Detroit Stoker Company (Non- Guarantor)				Eliminations				United Industrial Corporation and Subsidiaries
	(Dollars in thousands)
Net sales		$	—			$	355,061			$	30,023			$	—			$	385,084
Cost of sales		—				270,765				18,373				—				289,138
Gross profit		—				84,296				11,650				—				95,946
Selling and administrative expenses		297				42,342				10,775				—				53,414
Impairment of long-lived assets		—				861				—				—				861
Asbestos litigation expense		—				—				542				—				542
Other operating income (expense)		101				(443		)		47				—				(295		)
Operating (loss) income		(196		)		40,650				380				—				40,834
Non-operating income and (expense):
Interest income		512				240				79				—				831
Interest expense		(1,624		)		(152		)		—				—				(1,776		)
Intercompany interest (expense) income		(311		)		357				(46		)		—				—
Other (expense) income, net		(223		)		107				129				—				13
		(1,646		)		552				162				—				(932		)
(Loss) income from continuing operations before income taxes		(1,842		)		41,202				542				—				39,902
Benefit from (provision for) income taxes		3,782				(14,788		)		(2,794		)		—				(13,800		)
Income (loss) from continuing operations		1,940				26,414				(2,252		)		—				26,102
Income from discontinued operations, net of income taxes		—				698				—				—				698
Income from investment in subsidiaries		24,860				—				—				(24,860		)		—
Net income (loss)		$	26,800			$	27,112			$	(2,252	)		$	(24,860	)		$	26,800

91

CONDENSED CONSOLIDATING FINANCIAL INFORMATION - CONTINUED
Condensed Consolidating Statements of Operations
Year Ended December 31, 2003

	United Industrial Corporation (Parent)				AAI Corporation and Subsidiaries (Guarantor)				Detroit  Stoker Company (Non- Guarantor)				Eliminations			United Industrial Corporation  and Subsidiaries
	(Dollars in thousands)
Net sales		$	—			$	282,425			$	28,522			$	—		$	310,947
Cost of sales		—				223,142				16,476				—			239,618
Gross profit		—				59,283				12,046				—			71,329
Selling and administrative expenses		691				37,177				8,820				—			46,688
Asbestos litigation expense		—				—				717				—			717
Other operating expense, net		238				429				—				—			667
Operating (loss) income		(929		)		21,677				2,509				—			23,257
Non-operating income and (expense):
Interest income		301				109				53				—			463
Interest expense		—				(92		)		—				—			(92		)
Intercompany interest (expense) income		(1,398		)		1,458				(60		)		—			—
Other (expense) income, net		(334		)		30				193				—			(111		)
		(1,431		)		1,505				186				—			260
(Loss) income from continuing operations before income taxes		(2,360		)		23,182				2,695				—			23,517
Benefit from (provision for) income taxes		549				(8,221		)		(739		)		—			(8,411		)
(Loss) income from continuing operations		(1,811		)		14,961				1,956				—			15,106
Loss from discontinued operations, net of income tax benefit		—				(20,947		)		—				—			(20,947		)
Loss from investment in subsidiaries		(4,030		)		—				—				4,030			—
Net (loss) income		$	(5,841	)		$	(5,986	)		$	1,956			$	4,030		$	(5,841	)

92

CONDENSED CONSOLIDATING FINANCIAL INFORMATION - CONTINUED
Condensed Consolidating Statements of Cash Flows
Year Ended December 31, 2005

	United Industrial Corporation (Parent)		AAI Corporation and Subsidiaries (Guarantor)		Detroit Stoker Company (Non- Guarantor)			Eliminations			United Industrial Corporation and Subsidiaries
	(Dollars in thousands)
OPERATING ACTIVITIES:
Net cash (used in) provided by continuing operations	$	(18,510)	$	68,081		$	6,201		$	—	$	55,772
Net cash used in operating activities from discontinued operations	—		(3,563)			—			—		(3,563)
Net cash provided by (used in) operating activities	(18,510)		64,518			6,201			—		52,209
INVESTING ACTIVITIES:
Purchase of property and equipment	—		(25,239)			(119)			—		(25,358)
Proceeds from available-for-sale securities	124,626		—			—			—		124,626
Investment in marketable securities	(12,596)		—			—			—		(12,596)
Acquisitions, net of cash acquired	—		(9,883)			—			—		(9,883)
Proceeds from sale of property	—		7,555			—			—		7,555
Net cash (used in) provided by investing activities	112,030		(27,567)			(119)			—		84,344
FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt, net	(124,619)		—			—			—		(124,619)
Cash received in securities lending transaction
Proceeds from exercise of stock options	1,812		—			—			—		1,812
Repayment of long-term debt	—		(1,271)			—			—		(1,271)
Purchases of treasury shares	(39,960)		—			—			—		(39,960)
Dividends paid	(4,733)		—			—			—		(4,733)
Increase in deposits and restricted cash	25,000		4,035			—			—		29,035
Intercompany activities	103,216		(103,216)			—			—		—
Net cash (used in) financing activities	(39,284)		(100,452)			—			—		(139,736)
(Decrease) increase in cash and cash equivalents	54,236		(63,501)			6,082			—		(3,183)
Cash and cash equivalents at beginning of year	129		72,269			8,281			—		80,679
Cash and cash equivalents at end of year	$	54,365	$	8,768		$	14,363		$	—	$	77,496

93

CONDENSED CONSOLIDATING FINANCIAL INFORMATION - CONTINUED
Condensed Consolidating Statements of Cash Flows
Year Ended December 31, 2004

	United Industrial Corporation (Parent)				AAI Corporation and Subsidiaries (Guarantor)				Detroit Stoker Company (Non- Guarantor)				Eliminations			United Industrial Corporation and Subsidiaries
	(Dollars in thousands)
OPERATING ACTIVITIES:
Net cash (used in) provided by continuing operations		$	(1,046	)		$	23,358			$	2,951			$	—		$	25,263
Net cash used in operating activities from discontinued operations		—				(4,753		)		—				—			(4,753		)
Net cash provided by (used in) operating activities		(1,046		)		18,605				2,951				—			20,510
INVESTING ACTIVITIES:
Purchase of property and equipment		—				(9,368		)		(260		)		—			(9,628		)
Purchase of available-for-sale securities		(124,619		)		—				—				—			(124,619		)
Cash advance received on pending property sale		—				150				—				—			150
Net cash (used in) provided by investing activities		(124,619		)		(9,218		)		(260		)		—			(134,097		)
FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt, net		120,000				—				—				—			120,000
Cash received in securities lending transaction		124,619				—				—				—			124,619
Debt issuance fees paid		(4,376		)		—				—				—			(4,376		)
Proceeds from exercise of stock options		4,580				—				—				—			4,580
Repayment of long-term debt		—				(915		)		—				—			(915		)
Purchases of treasury shares		(34,842		)		—				—				—			(34,842		)
Dividends paid		(5,093		)		—				—				—			(5,093		)
Increase in deposits and restricted cash		(25,000		)		(8,845		)		—				—			(33,845		)
Intercompany activities		(54,742		)		55,160				(418		)		—			—
Net cash (used in) provided by financing activities		125,146				45,400				(418		)		—			170,128
(Decrease) increase in cash and cash equivalents		(519		)		54,787				2,273				—			56,541
Cash and cash equivalents at beginning of year		648				17,482				6,008				—			24,138
Cash and cash equivalents at end of year		$	129			$	72,269			$	8,281			$	—		$	80,679

94

CONDENSED CONSOLIDATING FINANCIAL INFORMATION - CONTINUED
Condensed Consolidating Statements of Cash Flows
Year Ended December 31, 2003

	United Industrial Corporation (Parent)				AAI Corporation and Subsidiaries (Guarantor)				Detroit Stoker Company (Non- Guarantor)				Eliminations			United Industrial Corporation and Subsidiaries
	(Dollars in thousands)
OPERATING ACTIVITIES:
Net cash provided by continuing operations		$	17,906			$	19,720			$	3,209			$	—		$	40,835
Net cash used in operating activities from discontinued operations		—				(7,946		)		—				—			(7,946		)
Net cash provided by operating activities		17,906				11,774				3,209				—			32,889
INVESTING ACTIVITIES:
Purchase of property and equipment		—				(5,960		)		(253		)		—			(6,213		)
FINANCING ACTIVITIES:
Proceeds from exercise of stock options		5,178				—				—				—			5,178
Purchases of treasury shares		(6,036		)		—				—				—			(6,036		)
Dividends paid		(5,315		)		—				—				—			(5,315		)
Intercompany activities		(11,205		)		10,565				640				—			—
Net cash (used in) provided by financing activities		(17,378		)		10,565				640				—			(6,173		)
Increase in cash and cash equivalents		528				16,379				3,596				—			20,503
Cash and cash equivalents at beginning of year		120				1,103				2,412				—			3,635
Cash and cash equivalents at end of year		$	648			$	17,482			$	6,008			$	—		$	24,138

95

Report of Independent Registered Public Accounting Firm

To United Industrial Corporation:

We have audited the accompanying Consolidated Balance Sheets of United Industrial Corporation (a Delaware corporation) and subsidiaries as of December 31, 2005 and 2004 and the related Consolidated Statements of Operations and Cash Flows for the years then ended. In connection with our audits of the consolidated financial statements, we also have audited financial statement sSchedule II. These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of United Industrial Corporation and subsidiaries as of December 31, 2005 and 2004, and the results of their operations and their cash flows for the years then ended, in conformity with U.S. Generally Accepted Accounting Principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of United Industrial Corporation’s internal control over financial reporting as of December 31, 2005, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) and our report dated March 14, 2006, expressed an unqualified opinion on management’s assessment of, and the effective operation of, internal control over financial reporting.

/s/ KPMG LLP
McLean, Virginia
March 14, 2006

96

Report of Independent Registered Public Accounting Firm

Board of Directors and Shareholders
United Industrial Corporation
Hunt Valley, Maryland

We have audited the accompanying consolidated statements of operations and cash flows of United Industrial Corporation and subsidiaries for the year ended December 31, 2003. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with auditing standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated results of operations and cash flows of United Industrial Corporation and subsidiaries for the year ended December 31, 2003 in conformity with U.S. generally accepted accounting principles.

                                                                  /s/ Ernst & Young LLP

Philadelphia, Pennsylvania
March 10, 2005, except for Note 21, as to
   which the date is September 15, 2004.

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ITEM 9.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A.CONTROLS AND PROCEDURES

The Company’s principal executive officer and principal financial officer (the “Certifying Officers”) are responsible for establishing and maintaining disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the Company.

All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to the preparation and presentation of financial statements.

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

The Company has established disclosure controls and procedures to ensure that material information relating to the Company, including its consolidated subsidiaries, is made known to the Certifying Officers and to other members of management and the Board of Directors.

Under the supervision and with the participation of management, including its Certifying Officers, the Company conducted an evaluation of the effectiveness of its disclosure controls and procedures. Based on this evaluation, the Certifying Officers concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this Annual Report.

Management’s Report on Internal Control Over Financial Reporting

The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control system is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes.

Under the supervision and with the participation of management, including its Certifying Officers, the Company conducted an evaluation of the effectiveness of its internal control over financial reporting based on the framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this evaluation under the framework in Internal Control - Integrated Framework, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2005.

Management’s assessment of the effectiveness of the Company’s internal control over financial reporting has been audited by KPMG LLP, an independent registered public accounting firm, as stated in their report which is included herein.

Changes in Internal Control Over Financial Reporting

There has been no change in the Company’s internal control over financial reporting that occurred during the Company’s fiscal quarter ended December 31, 2005, that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

The Company is initiating a company-wide implementation of a new enterprise resource planning information system. At December 31, 2005, the Company was in the final phases of the implementation process and, accordingly, had not made any significant changes to its internal control over financial reporting. However, as the process progresses to the implementation phase the Company expects to change certain systems that include internal controls, which is reasonably likely to result in changes in the Company’s internal control over financial reporting. The Company will review the new systems as they are implemented and make appropriate changes to the internal controls that are affected.

98

Report of Independent Registered Public Accounting Firm

The Board of Directors of United Industrial Corporation:

We have audited management’s assessment, included in the accompanying Management Report on Internal Control Over Financial Reporting, that United Industrial Corporation maintained effective internal control over financial reporting as of December 31, 2005, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). United Industrial Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, management’s assessment that United Industrial Corporation maintained effective internal control over financial reporting as of December 31, 2005, is fairly stated, in all material respects, based on the criteria established in Internal Control—Integrated Framework issued by COSO. Also in our opinion, United Industrial Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2005, based on the criteria established in Internal Control—Integrated Framework issued by COSO.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Consolidated Balance Sheet of United Industrial Corporation and subsidiaries as of December 31, 2005 and 2004, and the related Consolidated Statements of Operations, and Cash Flows for the years then ended, and our report dated March 14, 2006, expressed an unqualified opinion on those consolidated financial statements.

/s/ KPMG LLP

McLean, Virginia

March 14, 2006

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ITEM 9B.OTHER INFORMATION

On March 8, 2006, the Board of Directors approved payments of $410,000, $193,499, $174,189 and $32,479 to Frederick Strader, James Perry, Jonathan Greenberg and Stuart Gray, respectively, pursuant to the Company’s Management Incentive Plan (“MIP”) for the year ended December 31, 2005.

The MIP is a variable cash-based incentive plan designed to focus management’s attention on performance factors important to the continued success of each business unit and the Company overall. The MIP is administered by each subsidiary of the Company, after approval by the Company. On        , 2006, the Board of Directors adopted the MIP for the year ended December 31, 2006 on the same terms as the 2005 MIP.

Participants in the MIP are senior managers in a position to significantly affect the performance of their business unit who are selected to participate. These are generally managers with responsibility across an entire business unit (i.e., headquarter executives, product line and other general program managers, and selected functional managers). Base salary for such employees is established using competitive comparisons. The target incentive compensation, a percent of base salary, is similarly determined, thus ensuring the competitiveness of the Company’s total target compensation.

Annual incentive awards may range from zero to two hundred percent of the target incentive compensation. The target incentive percent varies from 10 to 50 percent of the participant’s base salary, depending on the participant’s salary grade. The target incentive compensation is based upon a combination of individual performance and business performance. The weighting of these factors can vary from one business unit to another, reflecting the relative importance of business to individual performance for that business unit during any year.

The business performance is based upon financial performance measures that are important to the business unit. Budgets as well as past and expected future performance results are criteria used in setting business performance targets. The business performance objectives for all participants are reviewed and approved by the Company’s chief executive officer.

The individual performance objectives are important personal objectives directly related to the participant’s major responsibilities. For example, those objectives could include such areas as market and/or customer share improvement; cost improvements; product development; pricing; inventory levels; introduction or improvement of products, processes or systems; health, safety and environmental performance; or management development. The individual performance objectives for all participants are mutually agreed to by the participant and his or her manager.

To determine an employee’s incentive compensation, both performance factors are rated and weighted according to the predetermined split. The two results are totaled and multiplied by the participant’s base salary to determine the incentive compensation. If the requisite performance objectives are not realized, no incentive compensation is paid to the participant.

The business and individual performance objectives for the Company’s chief executive officer, Frederick Strader, are reviewed and approved by the Compensation Committee of the Board of Directors of the Company. For the year ended December 31, 2005, the business and individual performance objectives for each of Messrs. Strader, Perry, Greenberg and Gray were either met or exceeded.

100

PART III

ITEM.10.DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The name, age and position held by each of the executive officers of United Industrial are as follows:

Name	Age	Position
Frederick M. Strader	52	Director, Chief Executive Officer and President
James H. Perry	44	Vice President, Chief Financial Officer and Controller
Jonathan A. Greenberg	39	Vice President, General Counsel, Chief Compliance and Ethics Officer and Secretary
Stuart F. Gray	46	Treasurer

Frederick M. Strader has served as a director of United Industrial since May 2005, as Chief Executive Officer since August 2003, and as President since January 2003. Mr. Strader has served as Chief Executive Officer of AAI since August 2003, Chief Operating Officer of AAI from January 2003 to August 2003,  and as Executive Vice President of AAI and Vice President and General Manager of AAI’s Defense and Services businesses from May 2001 to December 2002. Prior to joining the Company, Mr. Strader served as Vice President of United Defense LP, Armament Systems Division, a designer of large caliber armaments for the Navy, Army and Marine Corps from 1994 to April 2001.

James H. Perry has served as Vice President of United Industrial since May 1998, Chief Financial Officer since October 1995, Treasurer from December 1994 to April 2005, and as Controller since November 2005. Mr. Perry served as Chief Financial Officer of AAI since July 2000, as Treasurer from July 2000 to April 2005, and as Vice President since 1997.

Jonathan A. Greenberg has served as Vice President, General Counsel and Secretary of United Industrial and AAI since September 2004, and as Chief Compliance and Ethics Officer of United Industrial since May 2005. Prior to joining United Industrial, Mr. Greenberg served as Senior Corporate Counsel for Manugistics, Inc., a supply chain technology company, from May 2001 to August 2004 and as General Counsel and Vice President of Business Development, Unibex, Inc., an e-commerce software and technology firm, from July 2000 to May 2001.

Stuart F. Gray has served as Treasurer of United Industrial and AAI since April 2005. Prior to joining United Industrial, Mr. Gray served as Director of Corporate Finance, Wm. T. Burnett & Co. and STX, a manufacturer of foam, fiber and sporting goods products, from May 1996 to April 2005.

There are no family relationships among any of the executive officers or directors of United Industrial. Executive officers of United Industrial are elected by the Board of Directors on an annual basis and serve at the discretion of the Board.

Reference is made to the information to be set forth in the sections entitled “Election of Directors”, “Section 16(a) Beneficial Ownership Reporting Compliance”, and “Corporate Governance” in the definitive proxy statement involving the election of directors in connection with the 2006 Annual Meeting of Shareholders of United Industrial Corporation (the “Proxy Statement”), which sections are incorporated herein by reference. The Proxy Statement will be filed with the Securities and Exchange Commission not later than 120 days after December 31, 2005, pursuant to Regulation 14A of the Securities Exchange Act of 1934, as amended.

ITEM 11.EXECUTIVE COMPENSATION

Reference is made to the information to be set forth in the section entitled “Executive Compensation” in the Proxy Statement, which section (other than the Compensation Committee Report, Audit Committee Report and Performance Graph) is incorporated herein by reference.

101

ITEM 12.SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Reference is made to the information to be set forth in the sections entitled “Principal Shareholders” and “Security Ownership of Management” in the Proxy Statement, which sections are incorporated herein by reference.

Securities Authorized for Issuance Under Equity Compensation Plans

The following table provides information with respect to compensation plans (including individual compensation arrangements) under which equity securities of the Company are authorized for issuance to employees or non-employees (such as directors, consultants, advisors, vendors, customers, suppliers or lenders), as of December 31, 2005:

Plan category	Number of securities to be issued upon exercise of outstanding  options, warrants and rights		Weighted average exercise price of  outstanding options, warrants and rights			Number of securities remaining available for  future issuance under equity compensation plans (excluding securities reflected in column (a))
		(a)		(b)			(c)
Equity compensation plans approved by security holders		944,700		$	20.72		421,000
Equity compensation plans not approved by security holders		—		—			—
Total		944,700		$	20.72		421,000

ITEM 13.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Reference is made to the information to be set forth in the section entitled “Election of Directors” in the Proxy Statement, which section (other than the Compensation Committee Report, Audit Committee Report and Performance Graph) is incorporated herein by reference.

ITEM 14.PRINCIPAL ACCOUNTANT FEES AND SERVICES

Reference is made to the information to be set forth in the section entitled “Ratification of Appointment of Auditors” in the Proxy Statement, which section is incorporated herein by reference.

102

PART IV

ITEM 15.EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

(a)  The following documents are filed as a part of this Annual Report on Form 10-K:

(1) and (2) The responses to these portions of Item 15 are submitted as a separate section of this Annual Report on Form 10-K entitled “List of Financial Statements and Financial Statement Schedules” which follows the List of Exhibits.

(3) List of Exhibits

Exhibit Number	Description
3.1	Restated Certificate of Incorporation of United Industrial Corporation. (1)
3.2	By-Laws of United Industrial Corporation. **
4.1.1	Indenture dated as of September 15, 2004 by and among United Industrial Corporation, AAI Corporation and U.S. Bank National Association, as trustee. (2)
4.1.2	Registration Rights Agreement dated as of September 15, 2004 by and among the United Industrial Corporation and AAI Corporation, and UBS Securities LLC and the other initial purchaser named in the Purchase Agreement, dated September 9, 2004 among the United Industrial Corporation, AAI Corporation and the initial purchasers, for whom UBS Securities LLC is acting as representative. (2)
10.1*	United Industrial Corporation 1994 Stock Option Plan, as amended. (3)
10.2*	United Industrial Corporation 1996 Stock Option Plan for Non-employee Directors, as amended. (4)
10.3*	United Industrial Corporation 2004 Stock Option Plan. (4)
10.4	Loan and Security Agreement dated as of June 28, 2001 among United Industrial Corporation and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender (the “Loan Agreement”). (6)
10.5	Pledge Agreement dated as of June 28, 2001 among United Industrial Corporation and certain of its subsidiaries, as Pledgors, and Fleet Capital Corporation, as Lender. (6)
10.6	Waiver, Amendment and Consent Agreement dated as of March 6, 2002 among United Industrial Corporation and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (7)
10.7	Second Amendment and Consent Agreement dated as of June 28, 2002 among United Industrial Corporation and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (8)
10.8	Third Amendment and Waiver Agreement dated as of March 21, 2003 among United Industrial Corporation and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (9)
10.9	Fourth Amendment dated as of March 31, 2003 among the Company and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (10)
10.10	Fifth Amendment dated as of September 30, 2003 among the Company and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (10)

103

10.11	Letter from Fleet Capital Corporation to the Company dated November 12, 2003, amending the Loan Agreement. (10)
10.12	Sixth Amendment dated as of November 17, 2003 among the Company and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (11)
10.13	Seventh Amendment dated as of December 31, 2003 among the Company and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (11)
10.14	Eighth Amendment dated as of May 18, 2004 among the Company and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender, to the Loan Agreement. (1)
10.15	Ninth Amendment to the Loan Agreement dated as of August 16, 2004 among the Company and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender. (12)
10.16	Tenth Amendment to the Loan Agreement dated as of September 8, 2004 among the Company and certain of its subsidiaries, as Borrowers, and Fleet Capital Corporation, as Lender. (13)
10.17*	Employment Agreement dated as of June 18, 2003 between the Company and Frederick M. Strader. (14)
10.18*	Employment Agreement, dated March 3, 2000, between United Industrial Corporation and James H. Perry. (16)
10.19*	Success Bonus Agreement, dated April 10, 2002, between United Industrial Corporation and James H. Perry. (17)
10.20*	Amendment to Employment Agreement, dated January 2, 2003, between United Industrial Corporation and James H. Perry. (9)
10.21*	Employment Agreement, dated August 17, 2004, between the United Industrial Corporation and Jonathan A. Greenberg. (18)
10.22	Master Agreement, dated as of March 27, 2002, between ALSTOM Transportation Inc. and AAI Corporation. (7)
10.23	Amendment to Master Agreement, dated as of July 26, 2002, between ALSTOM Transportation Inc. and AAI Corporation. (19)
10.24*	United Industrial Corporation Management Incentive Plan, dated as of January 1, 2004.
10.25	Share Sale Agreement, dated April 1, 2005, by and among AAI Corporation, BAE Systems Avionics, John T. Burrows, Victor J. McMullan and Joanna Fowler. (20)
10.26	Revolving Credit Agreement, dated as of July 18, 2005, among AAI Corporation (as Borrower), United Industrial Corporation (as Parent), the Lenders from time to time Party thereto, Key Bank Nation Association and PNC Bank, National Association, Citibank, N.A., and Sun Trust Bank. (21)
10.27	Pledge Agreement, dated July 18, 2005, by AAI Corporation and certain subsidiaries, in favor of Sun Trust Bank for the benefit of the Lenders. (21)
10.28	Parent Guaranty Agreement, dated July 18, 2005, by United Industrial Corporation in favor of Sun Trust Bank for the benefit of the Lenders. (21)

104

10.29		Parent Pledge Agreement, dated as of July 18, 2005, by United Industrial corporation in favor of sun Trust Bank for the benefit of the Lenders. (21)
10.30		Security Agreement dated as of July 18, 2005, by and among United Industrial Corporation, AAI Corporation and certain subsidiaries and Sun Trust Bank, as Administrative Agent. (21)
10.31(a	)	Subsidiary Guaranty Agreement, dated as of July 18, 2005, by certain subsidiaries of AAI Corporation in favor of Sun Trust Bank for the benefit of the Lenders. (21)
10.31(b	)	Environmental Indemnity Agreement, dated as of July 18, 2005, among AAI Corporation and certain subsidiaries. (21)
10.32*		Employment Agreement, dated March 14, 2005, between the Company and Stuart F. Gray.**
10.33*		United Industrial Corporation Management Incentive Plan, dated as of January 1, 2005. **
10.34*		United Industrial Corporation Management Incentive Plan, dated as of January 1, 2006. **
21		Subsidiaries of the Company. **
23.1		Consent of KPMG LLP. **
23.2		Consent of Ernst & Young LLP. **
31.1		Rule 13a-14(a)/15d-14(a) Certification by the Chief Executive Officer of the Company. **
31.2		Rule 13a-14(a)/15d-14(a) Certification by the Chief Financial Officer of the Company. **
32.1		Section 1350 Certification by the Chief Executive Officer of the Company. **
32.2		Section 1350 Certification by the Chief Financial Officer of the Company. **

*Management contract or compensatory plan or arrangement.

**Filed herewith.

(1)Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2004.

(2)Incorporated by reference to the Company’s Current Report on Form 8-K filed with the Securitiesand Exchange Commission on September 16, 2004.

(3)Incorporated by reference to the Company’s Registration Statement on Form S-8 filed with the Securities and Exchange Commission on November 20, 2003.

(4)Incorporated by reference to the Company’s Registration Statement on Form S-8 filed with the Securities and Exchange Commission on June 26, 1997.

(5)Incorporated by reference to the Company’s Registration Statement on Form S-8 filed with the Securities and Exchange Commission on November 17, 2004.

(6)Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2001.

(7)Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2001.

(8)Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2002.

(9)Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.

105

(10)Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2003.

(11)Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2003.

(12)Incorporated by reference to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on September 8, 2004.

(13)Incorporated by reference to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on September 10, 2004.

(14)Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2003.

(15)Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 1998.

(16)Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 1999.

(17)Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2002.

(18)Incorporated by reference to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on September 8, 2004.

(19)Incorporated by reference to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on August 12, 2002.

(20)Incorporated by reference to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on April 6, 2005.

(21)Incorporated by reference to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on July 20, 2005.

106

Annual Report on Form 10-K

Item 15(a) (1) and (2)

List of Financial Statements and Financial Statement Schedules

Certain Exhibits

Financial Statement Schedules

Year ended December 31, 2005

United Industrial Corporation

Hunt Valley, Maryland

Form 10-K—Item 15(a) (1) and (2)

UNITED INDUSTRIAL CORPORATION AND SUBSIDIARIES

List of Financial Statements and Financial Statement Schedules

The following consolidated financial statements of United Industrial Corporation and subsidiaries are included in Item 8 of this Annual Report on Form 10-K:

Consolidated Balance Sheets—December 31, 2005 and 2004

Consolidated Statements of Operations—
Years Ended December 31, 2005, 2004 and 2003

Consolidated Statements of Cash Flows—
Years Ended December 31, 2005, 2004 and 2003

Notes to Consolidated Financial Statements

The following consolidated financial statement schedule of United Industrial Corporation and subsidiaries is included in Item 15(d):

Schedule II—Valuation and Qualifying Accounts

All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and, therefore, have been omitted.

107

Report of Independent Registered Public Accounting Firm

We have audited the consolidated financial statements of United Industrial Corporation and subsidiaries as of December 31, 2003 and 2002, and for the year ended December 31, 2005, and have issued our report thereon dated March 10, 2004 (except for Note 21, as to which the date is September 15, 2004). Our audit also included the financial statement schedule listed in Item 15(a) of this Annual Report (Form 10-K), as it relates to the year ended December 31, 2003. This schedule is the responsibility of the Company’s management. Our responsibility is to express an opinion based on our audits.

In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein, as it relates to the year ended December 31, 2003.

	/s/ Ernst & Young LLP
Philadelphia, Pennsylvania
March 10, 2004

109

Schedule II - Valuation and Qualifying Accounts
United Industrial Corporation and Subsidiaries
December 31, 2005

			Additions
Description	Balance at Beginning of Period		Charged to Costs and Expenses		Charged to Other Accounts		Deductions			Balance at End of Period
Year Ended December 31, 2005: Deducted from asset account: Allowance for doubtful accounts	$255,000			—		—		—		$255,000
Year Ended December 31, 2004: Deducted from asset accounts: Allowance for doubtful accounts	$	556,000		17,000		—		318,000	(a)	$	255,000
Year Ended December 31, 2003: Deducted from asset accounts: Allowance for doubtful accounts	$	235,000		321,000		—		—		$	556,000

(a)Uncollectible accounts written off.

110

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.

UNITED INDUSTRIAL CORPORATION
By:	/s/ FREDERICK M. STRADER
	Frederick M. Strader
	President and Chief Executive Officer
Date:	March 14, 2006

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

/s/ FREDERICK M. STRADER	March 14, 2006
Frederick M. Strader Director President and Chief Executive Officer (Principal Executive Officer)
/s/ JAMES H. PERRY	March 14, 2006
James H. Perry Vice President, Chief Financial Officer and Controller (Principal Financial and Accounting Officer)
/s/ WARREN G. LICHTENSTEIN	March 14, 2006
Warren G. Lichtenstein Chairman of the Board and Director
/s/ THOMAS A. CORCORAN	March 14, 2006
Thomas A. Corcoran Director
/s/ GLEN KASSAN	March 14, 2006
Glen Kassan Director
/s/ ROBERT MEHMEL	March 14, 2006
Robert Mehmel Director
/s/ RICHARD I. NEAL	March 14, 2006
Richard I. Neal Director

111

EX-3.2

Exhibit 3.2

BYLAWS

OF

UNITED INDUSTRIAL CORPORATION

(a Delaware corporation)

ARTICLE I

OFFICES

SECTION 1. Registered Office. The registered office of UNITED INDUSTRIAL CORPORATION (the “Corporation”) in the State of Delaware shall be at 1209 Orange Street, in the city of Wilmington, County of New Castle and its registered agent at such address shall be The Corporation Trust Company, or such other office or agent as the Board of Directors of the Corporation (the “Board”) shall from time to time select.

SECTION 2. Other Offices. The Corporation may also have an office or offices, and keep the books and records of the Corporation, except as may otherwise be required by law, at such other place or places, either within or without the State of Delaware, as the Board may from time to time determine or the business of the Corporation may require.

ARTICLE II

MEETING OF STOCKHOLDERS

SECTION 1. Place of Meeting. All meetings of the stockholders of the Corporation shall be held at the office of the Corporation or at such other places, within or without the State of Delaware, as may from time to time be fixed by the Board.

SECTION 2. Annual Meetings. The annual meeting of the stockholders for the election of directors and for the transaction of such other business as may properly come before the meeting shall be held each year at such date and time, within or without the State of Delaware, as the Board shall determine.

SECTION 3. Special Meetings. Except as otherwise required by law or the restated Certificate of Incorporation of the Corporation (the “Certificate”), special meetings of the stockholders for any purpose or purposes may be called by the majority of the entire Board or by stockholders holding together at least twenty percent (20%) of all the shares of the Corporation entitled to vote at the meeting and shall be held only for such business and at such date and time, within or without the State of Delaware, as is specified in the notice of any such special meeting of the stockholders.

SECTION 4. Notice of Meetings. Except as otherwise provided by law, written notice of each meeting of the stockholders, whether annual or special, shall be given, either by personal delivery or by mail, not less than 10 nor more than 60 days before the date of the meeting to each stockholder of record entitled to notice of the meeting. If mailed, such notice shall be deemed given when deposited in the United States mail, postage prepaid, directed to the stockholder at such stockholder’s address as it appears on the records of the Corporation. Each such notice shall state the place, date and hour of the meeting, and the purpose or purposes for which the meeting is called. Notice of any meeting of stockholders shall not be required to be given to any stockholder who shall attend such meeting in person or by proxy without protesting, prior to or at the commencement of the meeting, the lack of proper notice to such stockholder, or who shall sign a written waiver of notice thereof, whether before or after such meeting. Notice of adjournment of a meeting of stockholders need not be given if the time and place to which it is adjourned are announced at such meeting, unless the adjournment is for more than 30 days or, after adjournment, a new record date is fixed for the adjourned meeting.

SECTION 5. Order of Business. (a) At each meeting of the stockholders, the Chairman of the Board, if any, or if none or in the absence of the Chairman of the Board, the Vice-Chairman, if any, or if none or in the absence of the Vice-Chairman, such person as shall be selected by the Board shall act as chairman of the meeting. The order of business at each such meeting shall be as determined by the chairman of the meeting. The chairman of the meeting shall have the right and authority to prescribe such rules, regulations and procedures and to do all such acts and things as are necessary or desirable for the proper conduct of the meeting, including, without limitation, the establishment of procedures for the maintenance of order and safety, limitations on the time allotted to questions or comments on the affairs of the Corporation, restrictions on entry to such meeting after the time prescribed for the commencement thereof, and the opening and closing of the voting polls.

(b)  At any annual meeting of stockholders, only such business shall be conducted as shall have been brought before the annual meeting (i) by or at the direction of the chairman of the meeting, (ii) pursuant to the notice provided for in Section 4 of this Article II or (iii) by any stockholder who is a holder of record at the time of the giving of such notice provided for in this Section 6, who is entitled to vote at the meeting and who complies with the procedures set forth in Section 6.

(c) For business properly to be brought before an annual meeting by a stockholder, the stockholder must have given timely notice thereof in proper written form to the Secretary of the Corporation (the “Secretary”) and such business must be a proper matter for stockholder action under the Delaware General Corporation Law (“DGCL”). To be timely, a stockholder’s notice must be delivered to or mailed and received at the principal executive offices of the Corporation not less than 60 days nor more than 90 days prior to the first anniversary of the preceding year’s annual meeting of stockholders; provided, however, that if the date of the annual meeting is advanced

more than 30 days prior to or delayed by more than 60 days after such anniversary date, notice by the stockholder to be timely must be so delivered not earlier than the 90^th day prior to such annual meeting and not later than the close of business on the later of the 60^th day prior to such annual meeting or the 10^th day following the day on which public announcement of the date of such meeting is first made. To be in proper written form, a stockholder’s notice to the Secretary shall set forth in writing as to each matter the stockholder purposes to bring before the annual meeting:  (i) a brief description of the business desired to be brought before the annual meeting and the reasons for conducting such business at the annual meeting; (ii) the name and address of the stockholder proposing such business and all persons or entities acting in concert with the stockholder; (iii) the class and number of shares of the Corporation which are beneficially owned by the stockholder and all persons or entities acting in concert with such stockholder; and (iv) any material interest of the stockholder in such business. The foregoing notice requirements shall be deemed satisfied by a stockholder if the stockholder has notified the Corporation of his or her intention to present a proposal at an annual meeting and such stockholder’s proposal has been included in a proxy statement that has been prepared by management of the Corporation to solicit proxies for such annual meeting; provided, however, that if such stockholder does not appear or send a qualified representative to present such proposal at such annual meeting, the Corporation need not present such proposal for a vote at such meeting, notwithstanding that proxies in respect of such vote may have been received by the Corporation. Notwithstanding anything in the Bylaws to the contrary, no business shall be conducted at any annual meeting except in accordance with the procedures set forth in this Section 6. The chairman of an annual meeting shall, if the facts warrant, determine that business was not properly brought before the annual meeting in accordance with the provisions of this Section 6 and, if the chairman should so determine, the chairman shall so declare to the annual meeting and any such business not properly brought before the annual meeting shall not be transacted.

SECTION 7. List of Stockholders. It shall be the duty of the Secretary or other officer who has charge of the stock ledger to prepare and make, at least 10 days before each meeting of the stockholders, a complete list of the stockholders entitled to vote thereat, arranged in alphabetical order, and showing the address of each stockholder and the number of shares registered in such stockholder’s name.

SECTION 8. Voting. (a)  At each meeting of the stockholders, every stockholder shall be entitled to vote in person or by proxy appointed by instrument in writing, subscribed by each stockholder or by such stockholder’s duly authorized attorney-in-fact (but no such proxy shall be voted or acted upon after three years from its date, unless the proxy provides for a longer period), and, unless the Certificate provides otherwise, shall have one vote for each share of stock entitled to vote registered in the name of such stockholder on the books of the Corporation on the applicable record date fixed pursuant to these Bylaws. At all elections of directors the voting may but need not be by ballot and a plurality of the votes cast shall elect. Except as otherwise required by law or the Certificate, any other action shall be authorized by a majority of the votes cast.

(b)Any action required or permitted to be taken at any meeting of stockholders may, except as otherwise required by law or the Certificate, be taken without a meeting, without prior notice and without a vote, if a consent in writing, setting forth the action so taken, shall be signed by the holders of record of the issued and outstanding capital stock of the Corporation having a majority of votes that would be necessary to authorize or take such action at a meeting at which all shares entitled to vote thereon were present and voted, and the writing or writings are filed with the permanent records of the Corporation. Prompt notice of the taking of corporate action without a meeting by less than unanimous written consent shall be given to those stockholders who have not consented in writing.

SECTION 9. Inspectors. The Board, in advance of any meeting, may, but need not, appoint one or more inspectors of election to act at the meeting or any adjournment thereof. If an inspector or inspectors are not so appointed, the person presiding at the meeting may, but need not, appoint one or more inspectors. In case any person who may be appointed as an inspector fails to appear or act, the vacancy may be filled by appointment made by the Board in advance of the meeting or at the meeting by the person presiding thereat. Each inspector, if any, before entering upon the discharge of his or her duties, shall take and sign an oath faithfully to execute the duties of inspector at such meeting with strict impartiality and according to the best of his ability. The inspectors, if any, shall determine the number of shares of stock outstanding and the voting power of each, the shares of stock represented at the meeting, the existence of a quorum, and the validity and effect of proxies, and shall receive votes, ballots or consents, hear and determine all challenges and questions arising in connection with the right to vote, count and tabulate all votes, ballots, or consents, determine the result, and do such acts as are proper to conduct the election or vote with fairness to all stockholders. On request of the person presiding at the meeting, the inspector or inspectors, if any, shall make a report in writing of any challenge, question or matter determined by such inspector or inspectors and execute a certificate of any fact found by such inspector or inspectors.

ARTICLE III

BOARD OF DIRECTORS

SECTION 1. General Powers. The business and affairs of the Corporation shall be managed by or under the direction of the Board, which may exercise all such powers of the Corporation and do all such lawful acts and things as are not by law or by the Certificate directed or required to be exercised or done by the stockholders.

SECTION 2. Number and Tenure. The Board of Directors shall be six (6) in number, which number may be changed pursuant to a resolution of the Board of Directors, subject to the Corporation’s certificate of incorporation. Each director shall be

elected to a term of office to expire at the next annual meeting of shareholders. The Board shall keep full and fair records of its acts and proceedings and transactions. Directors need not be stockholders.

SECTION 3. Notification of Nomination. Nominations for the election of directors may be made by the Board or by any stockholder who is a stockholder of record at the time of giving of the notice of nomination provided for in this Section 3 of this Article III and who is entitled to vote for the election of directors. Any stockholder of record entitled to vote for the election of directors at a meeting may nominate persons for election as directors only if timely written notice of such stockholder’s intent to make such nomination is given, either by personal delivery or by United States mail, postage prepaid, to the Chairman of the Nominating and Corporate Governance Committee. To be timely, a stockholder’s notice must be delivered to or mailed and received at the principal executive offices of the Corporation (i) with respect to an election to be held at an annual meeting of stockholders, not less than 60 days nor more than 90 days prior to the first anniversary date of the preceding year’s annual meeting of stockholders; provided, however, that if the date of the annual meeting is advanced more than 30 days prior to or delayed by more than 60 days after such anniversary date, notice by the stockholder to be timely must be so delivered not earlier than the 90^th day prior to such annual meeting and not later than the close of business on the later of the 60^th day prior to such annual meeting or meeting is first made and (ii) with respect to an election to be held at a special meeting of stockholders for the election of directors, not earlier than the 90^th day prior to such special meeting and not later than the close of business on the later of the 60^th day prior to such special meeting or the 10^th day following the day on which public announcement is first made of the date of the special meeting and of the nominees proposed by the Board to be selected at such meeting. Each such notice shall set forth:  (i) the name and address of the stockholder who intends to make the nomination, of all persons or entities acting in concert with the stockholder, and of the person or persons to be nominated; (ii) a representation that the stockholder is a holder of record of stock of the Corporation entitled to vote at such meeting and intends to appear in person or by proxy at the meeting to nominate the person or persons specified in the notice; (iii) a description of all arrangements or understandings between the stockholder and each nominee and any other person or entities acting in concert with the stockholder (naming such person or entities) pursuant to which the nomination or nominations are to be made by the stockholder; (iv) such other information regarding each nominee proposed by the stockholder as would have been required to be included in a proxy statement filed pursuant to the proxy rules of the Securities and Exchange Commission had each nominee been nominated, or intended to be nominated, by the Board; (v) the class and number of shares of the Corporation that are beneficially owned by the stockholder and all persons or entities acting in concert with the stockholder; and (vi) the consent of each nominee to being named in a proxy statement as nominee and to serve as a director of the Corporation is so elected. The chairman of the meeting may refuse to acknowledge the nomination of any person not made in compliance with the foregoing procedure. Only such persons who are nominated in accordance with the procedures set forth in this Section 3 of this Article III shall be eligible to serve as directors of the Corporation.

Notwithstanding anything in the third sentence of this Section 3 of Article III to the contrary, in the event that the number of directors to be elected to the Board is increased and there is no public announcement naming all of the nominees for director or specifying the size of the increased Board made by the Corporation at least 70 days prior to the first anniversary of the preceding year’s annual meeting, a stockholder’s notice required by these Bylaws shall also be considered timely, but only with respect to nominees for any new positions created by such increase, if it shall be delivered to the Secretary at the principal executive offices of the Corporation not later than the close of business on the 10^th day following the day on which such public announcement is first made by the Corporation.

For purposes of this section, “public announcement” shall mean disclosure in a press release reported by the Dow Jones News Service, Associated Press or a comparable national news service or in a document publicly filed by the company with the Securities and Exchange Commission pursuant to Section 13, 14 or 15(d) of the Securities Exchange Act of 1934, as amended.

SECTION 4. Quorum and Manner of Acting. Except as otherwise provided by law, the Certificate or these Bylaws, a majority of the entire Board shall constitute a quorum for the transaction of business at any meeting of the Board, and, except as so provided, the vote of a majority of the directors present at any meeting at which a quorum is present shall be the act of the Board. The chairman of the meeting or a majority of the directors present may adjourn the meeting to another time and place whether or not a quorum is present. At any adjourned meeting at which a quorum is present, any business may be transacted which might have been transacted at the meeting as originally called.

SECTION 5. Place of Meeting. The Board may hold its meetings at such place or places within or without the State of Delaware as the Board may from time to time determine or as shall be specified or fixed in the respective notice or waivers of notice thereof.

SECTION 6. Annual Meeting. Following the annual meeting of stockholders, the newly elected Board shall meet for the purpose of the election of officers and the transaction of such other business as may properly come before the meeting. Such meeting may be held without notice immediately after the annual meeting of stockholders at the same place at which such stockholders’ meeting is held or at such other place as the Chairman of the Board, if any, or the Board shall determine.

SECTION 7. Regular Meetings. Regular meetings of the Board shall be held at such times and places as the Chairman of the Board, if any, or the Board shall from time to time by resolution determine.

SECTION 8. Special Meetings. Special meetings of the Board shall be held whenever called by the Chairman of the Board, the President or by a majority of the directors then in office.

SECTION 9. Notice of Meetings. Notice need not be given of regular meetings of the Board held at times and places fixed by resolution of the Board or of any adjourned meeting thereof. Notice of each special meeting of the Board shall be given by: (1) overnight delivery service or mailed to each director, in either case addressed to such director at such director’s residence or usual place of business, at least two days before the day on which the meeting is to be held, or (2) shall be sent to such director at such place by fax or other method of electronic transmission, including email, or be given personally or by telephone, not later than the day before the meeting is to be held, but notice need not be given to any director who shall, either before or after the meeting, submit a signed waiver of such notice or who shall attend such meeting other than for the express purpose of objecting, at the beginning of the meeting, to the transaction of any business because the meeting was not lawfully called or convened. Every such notice shall state the time and place but need not state the purpose of the meeting.

SECTION 10. Organization. At all meetings of the Board, the Chairman, if any, or if none or in the Chairman’s absence or inability to act, the Vice-Chairman, if any, or if none or in the Vice-Chairman’s absence or inability to act, a chairman chosen by the directors, shall preside. The Secretary or Assistant Secretary of the Corporation shall act as secretary at all meetings of the Board when present, and, in the Secretary’s and Assistant Secretary’s absence, the presiding officer may appoint any person to act as secretary.

SECTION 11. Rules and Regulations. The Board may adopt such rules and regulations not inconsistent with the provisions of law, the Certificate or these Bylaws for the conduct of its meetings and management of the affairs of the Corporation as the Board may deem proper.

SECTION 12. Participation in Meeting by Means of Communication Equipment. Any one or more members of the Board or any committee thereof may participate in any meeting of the Board or of any such committee by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and such participation in a meeting shall constitute presence in person at such meeting.

SECTION 13. Action without Meeting. Any action required or permitted to be taken at any meeting of the Board or any committee thereof may be taken without a meeting if all of the members of the Board or of any such committee consent thereto in writing and the writing or writings are filed with the minutes or proceedings of the Board or of such committee.

SECTION 14. Resignations. Any director of the Corporation may at any time resign by giving written notice to the Chairman of the Board, if any, the Vice-Chairman, if any, the President or the Secretary. Such resignation shall take effect at the time specified therein or, if the time be not specified therein, upon receipt thereof; and, unless otherwise specified therein, the acceptance of such resignation shall not be necessary to make it effective.

SECTION 15. Removal of Directors. Any director (including all members of the Board) may be removed from office at any time, with or, except as otherwise required by law or the Certificate, without cause, by the affirmative vote of the holders of a majority of the voting power of all of the shares of capital stock of the Corporation then entitled to vote generally in the election of directors.

SECTION 16. Vacancies. Except as otherwise required by law, the Certificate or these Bylaws, any vacancy in the Board for any reason and any newly created directorship resulting by reason of any increase in the number of directors may be filled only by the Board, by resolution adopted by the affirmative vote of a majority of the remaining directors then in office, even though less than a quorum (or by a sole remaining director); provided, however, that if the directors then in office shall constitute less than a majority of the whole Board (as constituted immediately prior to any such increase), upon application of any stockholder or stockholders holding at least ten percent (10%) of the total number of shares of the capital stock of the Corporation at the time outstanding having the right to vote for directors, an election to fill any such vacancy or vacancies or newly created directorship, or to replace the director or directors chosen by the directors then in office as aforesaid may be held as provided in Section 223 of the DGCL. If not so filled, any such vacancy shall be filled by the stockholders at the next annual meeting or at a special meeting called for that purpose. Any director so appointed shall hold office until such future annual meeting of stockholders as is appropriate for the class of directors to which he or she is elected and until his or her successor shall be duly elected and qualified.

SECTION 17. Compensation. Each director, in consideration of such person serving as a director, shall be entitled to receive from the Corporation such amount per annum and such fees for attendance at meetings of the Board, or of committees of the Board, or both, as the Board shall from time to time determine. In addition, each director shall be entitled to receive from the Corporation reimbursement for the reasonable expenses incurred by each such person in connection with the performance of such person’s duties as a director. Nothing contained in this Section 17 of this Article III shall preclude any director from serving the Corporation or any of its subsidiaries in any other capacity and receiving proper compensation therefore.

ARTICLE IV

COMMITTEES OF THE BOARD OF DIRECTORS

SECTION 1. Establishment of Committees of the Board of Directors. The Board may, in accordance with and subject to the DGCL, from time to time establish committees of the Board to exercise such powers and authorities of the Board, and to perform such other functions, as the Board may from time to time determine and specify in the resolution of appointment. Each committee must consist of two or more directors of the Corporation.

SECTION 2. Procedure; Meetings; Quorum. Regular meetings of committees of the Board, of which no notice shall be necessary, may be held at such times and places as shall be fixed by resolution adopted by a majority of the members thereof. Special meetings of any committee of the Board shall be called at the request of a majority of the members thereof. Notice of each special meeting of any committee of the Board shall be given by: (1) overnight delivery service or mailed to each member, in either case addressed to such member at such member’s residence or normal place of business, at least two days before the day on which the meeting is to be held, or (2) shall be sent to such members at such place by fax or other method of electronic transmission, including email, or be given personally or by telephone, not later than the day before the meeting is to be held, but notice need not be given to any member who shall, either before or after the meeting, submit a signed waiver of such notice or who shall attend such meeting other than for the express purpose of objecting, at the beginning of the meeting, to the transaction of any business because the meeting was not lawfully called or convened. Any special meeting of any committee of the Board shall be a legal meeting without any notice thereof having been given, if all members thereof shall be present thereat. Notice of any adjourned meeting of any committee of the Board need not be given. Any committee of the Board may adopt such rules and regulations not inconsistent with the provisions of the law, the Certificate or these Bylaws for the conduct of its meetings as such committee of the Board may deem proper. A majority of the members of any committee of the Board shall constitute a quorum for the transaction of business at any meeting, and the vote of a majority of the members thereof present at any meeting at which a quorum is present shall be the act of such committee. Each committee of the Board shall keep written minutes of its proceedings and shall report on such proceedings to the Board.

SECTION 3. Action by Written Consent. Any action required or permitted to be taken at any meeting of any committee of the Board may be taken without a meeting if all the members of the committee consent thereto in writing, and the writing or writings are filed with the minutes of proceedings of the committee.

SECTION 4. Term; Termination. In the event of any person shall cease to be a director of the Corporation, such person shall simultaneously therewith cease to be a member of any committee appointed by the Board.

ARTICLE V

OFFICERS

SECTION 1. Number; Term of Office. The Board shall elect the officers of the Corporation, which shall include a President and a Secretary, and may include, by election or appointment, a Chairman of the Board, a Vice-Chairman of the Board, one or more Vice-Presidents (any one or more of whom may be given an additional designation of rank, such as “Executive Vice-President” or “Senior Vice-President,” or function), a Treasurer and such Assistant Secretaries, such Assistant Treasurers and such other officers as the Board may from time to time deem proper. Each officer shall have such powers and duties as may be prescribed by these Bylaws and as may be assigned by the Board or the President. Any two or more offices may be held by the same person. The Board may from time to time authorize any officer to appoint and remove any such other officers and agents and to prescribe their powers and duties. The Board may require any officer or agent to give security for the faithful performance of such person’s duties.

SECTION 2. Term of Office; Removal; Remuneration. Each officer shall hold office for such term as may be prescribed by the Board and until such person’s successor shall have been chosen and shall qualify, or until such person’s death or resignation, or until such person’s removal in the manner hereinafter provided. Any officer may be removed, either with or without cause, by the Board. The remuneration of each officer shall be fixed by the Board or in such manner as the Board shall provide.

SECTION 3. Resignation. Any officer may resign at any time by giving notice to the Board, the President or the Secretary. Any such resignation shall take effect at the date of receipt of such notice or at any later date specified therein; and, unless otherwise specified therein, the acceptance of such resignation shall not be necessary to make it effective.

SECTION 4. Vacancies. A vacancy in any office because of death, resignation, removal or any other cause may be filled for the unexpired portion of the term by the Board.

SECTION 5. Chairman of the Board; Powers and Duties. The Chairman of the Board, if any, shall preside at all meetings of the stockholders and the Board and shall have such other powers and duties as may from time to time be assigned by the Board.

SECTION 6. Vice-Chairman of the Board; Powers and Duties. In case of the absence or disability of the Chairman of the Board or a vacancy in the office, the Vice-Chairman of the Board, if any, shall perform the duties of the Chairman of the Board. The Vice-Chairman shall have such other powers and duties as may from time to time be assigned by the Board.

SECTION 7. President and Chief Executive Officer. The President shall be the chief executive officer of the Corporation and shall have general management and supervision of the property, business and affairs of the Corporation and over its other officers and may execute and deliver in the name of the Corporation powers of attorney, contracts, bonds and other obligations and instruments and shall have such other powers and perform such other duties as customarily pertain to that office and as may be assigned by the Board or the Chairman of the Board, if any.

SECTION 8. Vice-President; Powers and Duties. A Vice-President may execute and deliver in the name of the Corporation powers of attorneys, contracts, bonds and other obligations and instruments pertaining to the regular course of the duties of said office and shall have such other powers and perform such other duties as may be assigned by the President or the Board.

SECTION 9. Secretary and Assistant Secretary; Powers and Duties. The Secretary shall attend all meetings of the stockholders and the Board and shall keep the minutes for such meetings in one or more books provided for that purpose. The Secretary shall be custodian of the corporate records, except those required to be in the custody of the Treasurer or the Controller, shall keep the seal of the Corporation, and shall execute and affix the seal of the Corporation to all documents duly authorized for execution under seal on behalf of the Corporation, and shall perform all of the duties incident to the office of the Secretary, as well as such other duties as may be assigned by the President or the Board.

The Assistant Secretaries shall perform such of the Secretary’s duties as the Secretary shall from time to time direct. In case of the absence or disability of the Secretary or a vacancy in the office, an Assistant Secretary designated by the Chairman of the Board, if any, or by the Secretary, if the office is not vacant, shall perform the duties of the Secretary.

SECTION 10. Treasurer and Assistant Treasurers; Powers and Duties. The Treasurer shall have care and custody of the funds and securities of the Corporation, shall deposit such funds in the name and to the credit of the Corporation with such depositories as the Treasurer shall approve, shall disburse the funds of the Corporation for proper expenses and dividends, and as may be ordered by the Board, taking proper vouchers for such disbursements, as well as such other duties as may be assigned by the President of the Board.

The Assistant Treasurers shall perform such of the Treasurer’s duties as the Treasurer shall from time to time direct. In case of the absence or disability of the

Treasurer or a vacancy in the office, an Assistant Treasurer designated by the Chairman of the Board, if any, or by the Treasurer, if the office is not vacant, shall perform the duties of the Treasurer.

ARTICLE VI

INDEMNIFICATION

SECTION 1. Scope of Indemnification. (a) Each person who was or is made a party or is threatened to be made a party to or is otherwise involved in any action, suit or proceeding, whether civil, criminal, administrative or investigative (hereinafter a “proceeding”), by reason of the fact that he or she is or was a director, officer, employee or agent of the Corporation or is or was serving at the request of the Corporation as a director, officer, employee or agent of another corporation or of a partnership, joint venture, trust or other enterprise, including service with respect to an employee benefit plan (hereinafter an “indemnitee”), whether the basis of such proceeding is alleged action in an official capacity as a director, officer, employee or agent or in any other capacity while serving as a director, officer, employee or agent, shall be indemnified and held harmless by the Corporation to the fullest extent authorized by the DGCL, as the same exists or may hereafter be amended (but, in the case of any such amendment, only to the extent that such amendment permits the Corporation to provide broader indemnification rights than permitted prior thereto), against all expense, liability and loss (including attorneys’ fees, judgments, fines, ERISA excise taxes or penalties and amounts paid in settlement) reasonably incurred or suffered by such indemnitee in connection therewith and such indemnification shall continue as to an indemnitee who has ceased to be a director, officer, employee or agent and shall inure to the benefit of the indemnitee’s heirs, executors and administrators; provided, however, that, except as provided in Section 3 of this Article VI with respect to proceedings to enforce rights to indemnification, the Corporation shall indemnify any such indemnitee in connection with a proceeding (or part thereof) initiated by such indemnitee only if such proceeding (or part thereof) was authorized by the Board.

(b)If an indemnitee is not entitled to indemnification with respect to a portion of any liabilities to which such person may be subject, the Corporation shall nonetheless indemnify such indemnitee to the maximum extent for the remaining portion of the liabilities.

(c)The termination of a proceeding by judgment, order, settlement, conviction, or upon a plea of nolo contendere or its equivalent shall not, of itself, create a presumption that the indemnitee is not entitled to indemnification.

(d)To the extent permitted by law, the payment of indemnification provided for by this Article, including the advancement of expenses pursuant to Section 2 of this Article VI, with respect to proceedings other than those brought by or in the

right of the Corporation, shall be subject to the conditions that the indemnitee shall give the Corporation prompt notice of any proceeding, that the Corporation shall have complete charge of the defense of such proceeding and the right to select counsel for the indemnitee, and that the indemnitee shall assist and cooperate fully in all matters respecting the proceeding and its defense or settlement. The Corporation may waive any or all of the conditions set forth in the preceding sentence. Any such waiver shall be applicable only to the specific payment for which the waiver is made and shall not in any way obligate the Corporation to grant such waiver at any future time. In the event of a conflict of interest between the indemnitee and the Corporation that would disqualify the Corporation’s counsel from representing the indemnitee under the rules of professional conduct applicable to attorneys, it shall be the policy of the Corporation to waive any or all of the foregoing conditions subject to such limitations or conditions as the Corporation shall deem to be reasonable in the circumstances.

SECTION 2. Advancing Expenses. The right to indemnification conferred in Section 1 of this Article VI shall include the right to be paid by the Corporation the expenses incurred in defending any proceeding for which such right to indemnification is applicable in advance of its final disposition (hereinafter an “advancement of expenses”); provided, however, that, if required by the DGCL, an advancement of expenses incurred by an indemnitee in his or her capacity as a director or officer (and not in any other capacity in which service was or is rendered by such indemnitee, including, without limitation, service to an employee benefit plan) shall be made only upon delivery to the Corporation of an undertaking (hereinafter an “undertaking”), by or on behalf of such indemnitee, to repay all amounts so advanced if it shall ultimately be determined by final judicial decision from which there is no further right to appeal (hereinafter a “final adjudication”) that such indemnitee is not entitled to be indemnified for such expenses under this Section or otherwise. No advance shall be made by the Corporation if a determination is reasonably and promptly made by a majority vote of disinterested directors, even if the disinterested directors constitute less than a quorum, or (if such a quorum is not obtainable or, even if obtainable, a quorum of disinterested directors so directs) by independent legal counsel in a written opinion, that, based upon the facts known to the Board or counsel at the time such determination is made, the indemnitee has acted in such a manner as to permit or require the denial of indemnification pursuant to the provisions of Section 1 of this Article VI.

SECTION 3. Right of Indemnitee to Bring Suit. The rights to indemnification and to the advancement of expenses conferred in Sections 1 and 2 of this Article VI shall be contract rights. If a claim under Sections 1 and 2 of this Article VI is not paid in full by the Corporation within sixty (60) days after a written claim has been received by the Corporation, except in the case of a claim for an advancement of expenses, in which case the applicable period shall be twenty (20) days, the indemnitee may at any time thereafter bring suit against the Corporation to recover the unpaid amount of the claim. If successful in whole or in part in any such suit, or in a suit brought by the Corporation to recover an advancement of expenses pursuant to the terms of an undertaking, the indemnitee shall be entitled to be paid also the expense of prosecuting or defending such suit. In any suit brought by (a) the indemnitee to enforce

a right to indemnification hereunder (but not in a suit brought by the indemnitee to enforce a right to advancement of expenses) it shall be a defense that the indemnitee has not met the applicable standard of conduct; and (b) the Corporation to recover an advancement of expenses pursuant to the terms of an undertaking, the Corporation shall be entitled to recover such expenses upon a final adjudication that the indemnitee has not met any applicable standard for indemnification set forth in the DGCL. Neither the failure of the Corporation (including its board of directors, independent legal counsel, or its stockholders) to have made a determination prior to the commencement of such suit that indemnification of the indemnitee is proper in the circumstances because the indemnitee has met the applicable standard of conduct set forth in the DGCL, nor an actual determination by the Corporation (including its board of directors, independent legal counsel, or its stockholders) that the indemnitee has not met such applicable standard of conduct, shall create a presumption that the indemnitee has not met the applicable standard of conduct, shall create a presumption that the indemnitee has not met the applicable standard of conduct or, in the case of such a suit brought by the indemnitee, be a defense to such suit. In any suit brought by the indemnitee to enforce a right to indemnification or to an advancement of expenses hereunder, or by the Corporation to recover an advancement of expenses pursuant to the terms of an undertaking, the burden of proving that the indemnitee is not entitled to be indemnified, or to such advancement of expenses, under this Section or otherwise shall be on the Corporation.

SECTION 4. Non-Exclusivity of Rights. The rights to indemnification and to the advancement of expenses conferred in this Article VI shall not be exclusive of any other right which any person may have or hereafter acquire under any statute, the Certificate, bylaw, agreement, vote of stockholders or disinterested directors or otherwise.

SECTION 5. Insurance, Contracts and Funding. The Corporation may purchase and maintain insurance to protect itself and any indemnitee against any expenses, judgments, fines and amounts payable as specified in this Article VI, to the fullest extent permitted by applicable law as then in effect. The Corporation may enter into contracts with any indemnitee in furtherance of the provisions of this Article VI and may create a trust fund, grant a security interest or use other means (including, without limitation, a letter of credit) to ensure the payment of such amounts as may be necessary to effect indemnification as provided in this Article VI.

SECTION 6. Effects of Amendments. Neither the amendment or repeal of, nor the adoption of a provision inconsistent with, any provision of this Article VI (including, without limitation, this Section 6) shall adversely affect the rights of any indemnitee under this Article VI with respect to any proceeding commenced or threatened prior to such amendment, repeal or adoption of an inconsistent provision.

SECTION 7. Severability. If any provision or provisions of this Article VI shall be held to be invalid, illegal or unenforceable for any reason whatsoever:  (a) the validity, legality and enforceability of the remaining provisions of this Article VI (including, without limitation, all portions of any paragraph of this Article VI containing any such provision held to be invalid, illegal or unenforceable, that are not themselves valid, illegal, or unenforceable) shall not in any way be affected or impaired thereby; and (b) to the fullest extent possible, the provisions of this Article VI (including, without limitation, all portions of any paragraph of this Article VI containing any such provision held to be invalid, illegal or unenforceable, that are not themselves invalid, illegal or unenforceable) shall be construed so as to give effect to the intent manifested by the provision held invalid, illegal or unenforceable.

ARTICLE VII

CAPITAL STOCK

SECTION 1. Share of Ownership. (a) Holders of shares of stock of the Corporation shall be recorded on the books of the Corporation and ownership of such stock shall be evidenced by a certificate or other form as shall be approved by the Board. Certificates representing shares of stock of each class shall be signed by, or in the name of, the Corporation by the President or any Vice President and by the Secretary or any Assistant Secretary or the Treasurer or any Assistant Treasurer of the Corporation, and sealed with the seal of the Corporation, which may be a facsimile thereof. Any or all such signatures and the signatures of any transfer agent or registrar may be facsimiles. Although any officer, transfer agent or registrar whose manual or facsimile signature is affixed to such a certificate ceases to be such officer, transfer agent or registrar before such certificate has been issued, the certificate may nevertheless be issued by the Corporation with the same effect as if such officer, transfer agent or registrar were still such at the date of its issue.

(b)  The stock ledger and blank share certificates shall be kept by the Secretary or by a transfer agent or by a registrar or by any officer or agent designated by the Board.

SECTION 2. Transfer of Shares. Transfers of shares of stock of each class of the Corporation shall be made only on the books of the Corporation by the holder thereof, or by such holder’s attorney thereunto authorized by a power of attorney duly executed and filed with the Secretary or a transfer agent for such stock, if any, and on surrender of the certificate or certificates, if any, for such shares properly endorsed or accompanied by a duly executed stock transfer power (or by proper evidence of succession, assignment or authority to transfer) and the payment of any taxes thereon; provided, however, that the Corporation shall be entitled to recognize and enforce any lawful restriction on transfer.

SECTION 3. Registered Stockholders and Addresses of Stockholders. (a) The Corporation shall be entitled to recognize the exclusive right of a person registered on its records as the owner of shares of stock to receive dividends and to vote as such owner, and shall not be bound to recognize any equitable or other claim to, or interest in, such share or shares of stock on the part of any other person, whether or not it shall have express or other notice thereof, except as otherwise provided by applicable law.

(b)  Each stockholder shall designate to the Secretary or transfer agent of the Corporation an address at which notices of meetings and all other corporate notices may be delivered or mailed to such person, and, if any stockholder shall fail to designate such address, corporate notices may be delivered to such person by mail directed to such person at such person’s post office address, if any, as the same appears on the stock record books of the Corporation or at such person’s last known post office address.

SECTION 4. Lost, Stolen, Destroyed and Mutilated Certificates. The Corporation may issue to any holder of shares of stock the certificate for which has been lost, stolen, destroyed or mutilated a new certificate or certificates for shares, upon the surrender of the mutilated certificate or, in the case of loss, theft or destruction of the certificate, upon satisfactory proof of such loss, theft or destruction. The Board, or a committee designated thereby, or the transfer agents and registrars for the stock, may, in their discretion, require the owner of the lost, stolen or destroyed certificate, or such person’s legal representative, to give the Corporation a bond in such sum and with such surety or sureties as they may direct to indemnify the Corporation and said transfer agents and registrars against any claim that may be made on account of the alleged loss, theft or destruction of any such certificate or the issuance of such new certificate.

SECTION 5. Regulations. The Board may make such additional rules and regulations as it may deem expedient concerning the issue and transfer of certificates representing shares of stock of each class of the Corporation and may make such rules and take such action as it may deem expedient concerning the issue of certificates in lieu of certificates claimed to have been lost, destroyed, stolen or mutilated.

SECTION 6. Fixing Date for Determination of Stockholders of Record. (a)  In order that the Corporation may determine the stockholders entitled to notice of or to vote at any meeting of stockholders or any adjournment thereof, the Board may fix, in advance, a record date, which shall not be more than 60 nor less than 10 days before the date of such meeting. If no record date is fixed by the Board, the record date for determining stockholders entitled to notice of or to vote at a meeting of stockholders shall be at the close of business on the day next preceding the day on which notice is given, or, if notice is waived, at the close of business on the day next preceding the day on which the meeting is held. A determination of stockholders entitled to notice of or to vote at a meeting of the stockholders shall apply to any adjournment of the meeting; provided, however, that the Board may fix a new record date for the adjourned meeting.

(b)In order that the Corporation may determine the stockholders entitled to consent to corporate action in writing without a meeting, the Board may fix a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted by the Board, and which date shall not be more than 10 days after the date upon which the resolution fixing the record date is adopted by the Board. Any stockholder of record seeking to have the stockholders authorize or take corporate action by written consent shall, by written notice to the Secretary, request the Board to fix a record date. The Board shall promptly, but in all events within 10 days after the date on which such a request is received; adopt a resolution fixing the record date. If no record date has been fixed by the Board within 10 days of the date on which such a request is received, the record date for determining stockholders entitled to consent to corporate action in writing without a meeting, when no prior action by the Board is required by applicable law, shall be the first date on which a signed written consent setting forth the action taken or proposed to be taken is delivered to the Corporation by delivery to its registered office in the State of Delaware, its principal place of business, or any officer or agent of the Corporation having custody of the books in which proceedings of meetings of stockholders are recorded. Delivery made to the Corporation’s registered office shall be by hand or by certified or registered mail, return receipt requested. If no record date has been fixed by the Board and prior action by the Board is required by applicable law, the record date for determining stockholders entitled to consent to corporate action in writing without a meeting shall be at the close of business on the date on which the Board adopts the resolution taking such prior action.

(c) In order that the Corporation may determine the stockholders entitled to receive payment of any dividend or other distribution or allotment of any rights or the stockholders entitled to exercise any rights in respect of any change, conversion or exchange of stock, or for the purpose of any other lawful action, the Board may fix a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted and which record date shall be not more than 60 days prior to such action. If no record date is fixed, the record date for determining stockholders for any such purpose shall be at the close of business on the day on which the Board adopts the resolution relating thereto.

SECTION 7. Transfer Agents and Registrars. The Board may appoint, or authorize any officer or officers to appoint, one or more transfer agents and one or more registrars.

ARTICLE VIII

DIVIDENDS

Subject always to the provisions of law and the Certificate, the Board shall have full power to determine whether any, and, if any, what part of any, funds legally available for the payment of dividends shall be declared as dividends and paid to stockholders; the division of the whole or any part of such funds of the Corporation shall rest wholly within the lawful discretion of the Board, and it shall not be required at any time, against such discretion, to divide or pay any part of such funds among or to the stockholders as dividends or otherwise; and before payment of any dividend, there may be set aside out of any funds of the Corporation available for dividends such sum or sums as the Board from time to time, in its absolute discretion, thinks proper as a reserve or reserves to meet contingencies, or for equalizing dividends, or for repairing or maintaining any property of the Corporation, or for such other purpose as the Board shall think conducive to the interest of the Corporation, and the Board may modify or abolish any such reserve in the manner in which it was created.

ARTICLE IX

CORPORATE SEAL

The Board shall provide a corporate seal which shall have inscribed thereon the name of the Corporation and the year of its incorporation, and shall be in such form and contain such other words and/or figures as the Board shall determine. The corporate seal may be used by printing, engraving, lithographing, stamping or otherwise making, placing or affixing, or causing to be printed, engraved, lithographed, stamped or otherwise made, placed or affixed, upon any paper or document, by any process whatsoever, an impression, facsimile or other reproduction of said corporate seal.

ARTICLE X

FISCAL YEAR

The fiscal year of the Corporation shall be fixed, and shall be subject to change, by the Board. Unless otherwise fixed by the Board, the fiscal year of the Corporation shall be the calendar year.

ARTICLE XI

WAIVER OF NOTICE

Whenever notice is required to be given by these Bylaws, by the Certificate or by law, a written waiver thereof, signed by the person or persons entitled to said notice, whether before or after the time stated therein, shall be deemed equivalent to notice.

ARTICLE XII

BANK ACCOUNTS, DRAFTS, CONTRACTS, ETC.

SECTION 1. Bank Accounts and Drafts. In addition to such bank accounts as may be authorized by the Board, the primary financial officer or any person designated by said primary financial officer, whether or not an employee of the Corporation, may authorize such bank accounts to be opened or maintained in the name and on behalf of the Corporation as he may deem necessary or appropriate, payments from such bank accounts to be made upon and according to the check of the Corporation in accordance with the written instructions of said primary financial officer, or other person so designated by the Treasurer.

SECTION 2. Contracts. The Board may authorize any person or persons, in the name and on behalf of the Corporation, to enter into or execute and deliver any and all deeds, bonds, mortgages, contracts and other obligations or instruments, and such authority may be general or confined to specific instances.

SECTION 3. Proxies:  Powers of Attorney; Other Instruments. The Chairman, if any, the President or any other person designated by either of them shall have the power and authority to execute and deliver proxies, powers of attorney and other instruments on behalf of the Corporation in connection with the rights and powers incident to the ownership of stock by the Corporation. The Chairman, if any, the President or any other person authorized by proxy or power of attorney executed and delivered by either of them on behalf of the Corporation may attend and vote at any meeting of stockholders of any company in which the Corporation may hold stock, and may exercise on behalf of the Corporation any and all of the rights and powers incident to the ownership of such stock at any such meeting, or otherwise as specified in the proxy or power of attorney so authorizing any such person. The Board, from time to time, may confer like powers upon any other person.

SECTION 4. Financial Reports. The Board may appoint the primary financial officer or other fiscal officer and/or the Secretary or any other officer to cause to be prepared and furnished to stockholders entitled thereto any special financial notice and/or financial statement, as the case may be, which may be required by any provision of law.

ARTICLE XIII

AMENDMENTS

 The Board shall have the power to adopt, amend or repeal the Bylaws by the affirmative vote of at least a majority of the members then in office. Bylaws adopted by the Board may be repealed or changed, and new Bylaws made, by the stockholders, and the stockholders may prescribe that any Bylaw made by them shall not be altered, amended or repealed by the Board.

EX-10.32

Exhibit 10.32

	AAI Corporation
	124 Industry Lane
	Hunt Valley, Maryland 21030-0126
	410-628-6600
	Fax: 410-628-3644
	aaicorp.com

March 14, 2005

Mr. Stuart Gray

5221 Springlake Way

Baltimore, MD 21212

Dear Stuart:

AAI is pleased to extend you an offer to join the Company as Treasurer, United Industrial Corporation, at a bi-weekly salary of $5,769.23 (annualized $150,000). In addition to your salary, you will be provided with a sign-on bonus of $10,000.00 which you will receive in your first full paycheck. If you voluntarily terminate employment within twelve months of the date of hire, you will be required to reimburse the bonus payment, less applicable mandatory taxes. You will accrue vacation as a rate of 13.4 hours per month for an annual total of four weeks.

You will be recommended to become a participant in the UIC Management Incentive Plan (MIP) for the year 2005 for a target incentive award of twenty percent (20%) of base salary, with a maximum award equal to two hundred (200%) of target. Your share of the 2005 MIP will be awarded in 2006 if you are in active full-time status at the time of payout. Participation in the MIP program and the amount of incentive compensation has to be approved by the UIC Compensation Committee.

In addition to the foregoing, you will be awarded 5,000 options to purchase UIC stock, with an exercise price equal to the closing price of UIC shares on the day you commence employment with the Company. One-third (1/3) of these options vest on the 1^st three anniversaries of your start date. This grant shall be made as of the day you commence employment and shall be subject to and governed by the terms of the United Industrial Corporation 2004 Stock Option Plan, the stock option agreement and all applicable Board resolutions.

In the event of Change of Control within the first two years of employment and/or you are not offered a position at your equivalent level or you are asked to move more than 50 miles from Hunt Valley, either of those conditions will invoke severance of 26 weeks. In the event of a Change of Control after two years of employment, you will be eligible for severance according to AAI policy.

This offer is contingent upon your successful completion of our post-offer physical examination and meeting our security requirements.

We look forward to your positive reply and your immediate contributions to a mutually successful future.

Sincerely,
/s/ Patrick H. Shockley
Patrick H. Shockley	ISO 9001:2000/AS9100
Director, Human Resources	SEI-CMM Level 4

EX-10.33

Exhibit 10.33

United Industrial Corporation

Management Incentive Plan

January 2005

UIC MANAGEMENT INCENTIVE PLAN

TABLE OF CONTENTS

Definitions	3
Plan Amendment and Termination	3
Effective Date of the Plan	3
MANAGEMENT INCENTIVE PLAN (MIP)	4
Philosophy	4
General Features	4
Payments	5
Entitlements	5
Administration	5
Miscellaneous	5
SETTING TARGETS AND OBJECTIVES	6
Financial Factor	6
Financial Factor Measurement	6
Guidelines for Objective Setting and Evaluation	7
Performance Factor	7
Guidelines for Objective Setting and Evaluation	7
Guidelines for Reviewing Overall Performance	8
Incentive Calculation	9
TARGET INCENTIVE COMPENSATION AWARD (TICA) CALCULATION – EXAMPLE	9
EARNED INCENTIVE COMPENSATION AWARD (EICA) CALCULATION:	10
Summary	10

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Definitions

Except as otherwise specified or as the context may otherwise require, the following terms have the meanings indicated below for the purposes of this Plan:

Company means UIC and all Subsidiaries of UIC.

Compensation Year or Year means the fiscal year of UIC.

Disability means disability according to the terms of the United Industrial Corporation Long-Term Disability Plan as may from time to time be applicable with respect to the particular Participant.

Layoff means a termination which is not for cause but rather is due to a permanent or indefinite reduction in the work force, including, but not limited to, the elimination of a Participant’s position as a result of a facility closure, discontinuance or relocation of operations, acquisition, reorganization or sale (including the sale by the Company of a business unit, division, product line or functionally related group of assets.)

Participant means an eligible Company employee selected for Plan participation in accordance with the procedures set forth herein.

Plan means the 2005 Management Incentive Plan (MIP) as set forth herein.

Plan Compensation means the amounts earned for the year as a consequence of the Plan.

Retirement means retirement according to the terms of the Subsidiary retirement plan.

Subsidiary means any corporation in which the Company owns total equity interest. However, if AAI or UIC owns majority interest, then any compensation plan must be approved by UIC.

Plan Amendment and Termination

UIC may, in its sole and absolute discretion, amend, suspend or terminate the Plan at any time, with or without advance notice to Participants.

Effective Date of the Plan

This Plan shall be effective as of January 1, 2005.

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MANAGEMENT INCENTIVE PLAN (MIP)

Philosophy

The UIC Management Incentive Plan (often called the Bonus Plan or Plan) is a variable cash based incentive plan designed to focus management attention on performance factors important to the continued success of their business unit and the Company overall. Achievement of high standards of business and individual performance should be rewarded financially and conversely; significant compensation should be at risk for failing to achieve those high standards.  The opportunity to earn compensation in addition to base salary is an integral part of our total compensation approach. The Management Incentive Plan serves as a direct link between a Participant’s compensation and the performance of a business unit or the Company overall.

General Features

Participants are senior managers in a position to significantly affect the performance of their business unit. These are generally managers with responsibility across an entire business unit, i.e. headquarter executives; product line and other general or program managers; and selected functional managers.

To be eligible to be selected to participate, a new hire to the Company or a newly eligible employee must be employed as of 1 September. Part-year Participants (i.e., employed after 1 January but prior to 1 September) shall be eligible for awards calculated pro rata to the number of days employed during the Compensation Year.

Target incentive compensation is over and above the base salary. It is a function of the annual results, both by the individual and the relevant business unit. Base salary levels are established using competitive comparisons. The target incentive compensation, a percent of base salary, is similarly determined, thus ensuring the competitiveness of UIC’s total target compensation. Base salary and target annual incentives are considered competitive total compensation. Actual incentive awards may range from zero to two hundred percent of target. The target incentive percent varies from 10 to 50 percent of base salary, depending on the Participant’s salary grade. Incentive awards are not guaranteed. The Plan requires reasonable risk on the part of the Participant, commensurate with potential reward-an opportunity to raise total compensation significantly above the target opportunity.

Participants in the MIP also receive:

•A maximum life insurance benefit of $400,000

•Long Term Disability coverage equal in value to their salary in the plan year plus their target cash bonus value (salary x bonus %) to a maximum benefit of $200,000.

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•Accidental Death and Dismemberment benefit equal to three times their annual compensation rounded to the next higher $1,000 subject to a maximum of $280,000.

Payments

The distribution of Plan Compensation shall be made by March 15 following the Compensation Year.

Entitlements

General Rule: To receive Plan Compensation from this Plan, the Participant must be an employee of the Company at the time of payment of Plan Compensation. Exceptions to this rule shall be made in the cases of death, retirement, layoff, and disability as described in this Section. UIC may also, in its sole discretion, permit other exceptions to this rule.

Death, Retirement, Layoff and Disability:  If a Participant dies, retires, is laid off, or becomes disabled during the Compensation Year, the individual Target Incentive Compensation Award (TICA) shall be prorated and payment made by March 15^th  following the Compensation Year. If death, retirement, layoff or disability occurs after the close of a Compensation Year, but before payment is made, such event shall not affect calculations.

Administration

The Compensation Committee of the Board of Directors, is authorized and empowered to administer the Plan; interpret the Plan, prescribe, amend and rescind rules relating to the Plan; and determine the rights and obligations of Participants under the Plan. The Compensation Committee may delegate certain of these activities and all other matters as it solely determines. Any determinations by the Compensation Committee or the Board of Directors are final and binding upon the Participants of the MIP.

Miscellaneous

No Contract or Guarantee of Continued Employment. Eligibility to participate and participation in the Plan is not a guarantee of continued employment. The Plan does not constitute a contract of employment and the Company specifically reserves the right to terminate a Participant’s employment at any time with or without cause and with or without notice or assigning a reason.

No Guarantee of Plan Compensation. Eligibility to participate and participation in this Plan does not guarantee the payment of Plan Compensation.

The UIC Board determines plan participation for each Compensation Year and participation of one year does not guarantee participation in future years.

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Assignment and Transfers. With the exception of transfer by will or by the laws of descent and distribution, rights under the Plan may not be transferred or assigned.

Withholding Tax. The Company will deduct taxes required by law to be withheld with respect to such payments from all cash payment due a Participant.

SETTING TARGETS AND OBJECTIVES

Key to an effective and equitable management incentive plan are the quality, realism and stretch of the targets and objectives. In setting these targets and objectives we focus on high standards, continuous improvement and Participant involvement. TICA and performance measurements are built around two basic factors: a financial factor and performance factor. The weighting of those factors can vary from one business unit to another, reflecting the relative importance of business to individual performance for that unit during any Compensation Year. Between them, the financial and performance factors total 100 percent. The factors are intended to be significant results that need to be achieved if the business unit’s strategic and overall performance objectives are to be realized.

The financial factor measures metrics important to the business unit. Budgets as well as past and expected future performance results are the criteria used in setting financial targets. These factors are reviewed and approved by the CEO. Achievement of the financial targets results in a 1.0 rating.

Performance objectives are important personal objectives directly related to a Participant’s major responsibilities. For example, these objectives could include such areas as market and/or customer share improvement; cost improvements; product development; pricing; inventory levels; introduction or improvement of products, processes or systems; health, safety and environmental performance; or management development. Performance objectives are set annually for each Participant through the Key Accountability Document (KAD). The Compensation Committee sets the performance objectives for the Chief Executive Officer.

UIC recognizes circumstances change throughout the year. Significant achievements during the Compensation Year, not contemplated at the inception of the Compensation Year, will be reviewed and incorporated in the final determination of Plan Compensation.

Financial Factor

Financial Factor Measurement

Actual Financial Factors are adjusted to level the effect of accounting changes, acquisition costs, land sales, strategic restructuring costs, capital expenditures,

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etc. Adjusted performance results are compared with the previously set targets and the zero (0) and two (2.0) performance levels. This comparison results in a Financial Factor rating for each business unit that is somewhere on a scale of zero to two.

Guidelines for Objective Setting and Evaluation

The 1.0 targets are the levels at which the unit is expected to perform for the Compensation Year. Each unit’s budget is the primary starting point for 1.0 target levels. No incentive is paid for results at or below the zero level, and twice the target incentive is paid for results at or above the 2.0 level.

• The 1.0 targets are generally established at levels judged to have a reasonable chance of attainment and match the commitments made to the UIC Board; the zero and 2.0 extremes are normally established in terms of reasonable stretch and relative risk.

• Targets are first developed by unit/division management. The CEO and appropriate staff discuss the targets and agree upon zero, one and two levels.

• In determining the business performance ratings, actual performance is adjusted to level the effect of accounting changes, acquisition costs, land sales, strategic restructuring costs, capital expenditures, etc.

• Adjusted performance results are compared with targets, which results in a Financial Factor rating for each business unit that is somewhere on the scale of zero to two.

• Business performance targets are finalized early in the Compensation Year but can be adjusted by the Board in cases of substandard change in the business.

Performance Factor

Guidelines for Objective Setting and Evaluation

Each Participant submits strategic performance objectives in KAD format to his/her manager. Performance objectives are based on the major job responsibilities assigned to the individual and are related to the business unit’s strategic and/or UIC’s overall performance objectives.

• To develop individual performance objectives, each Participant must understand and commit to the operating unit’s business and human resources strategies.

• The two to five most important individual objectives should be submitted to the next higher-level manager for review and approval. Objectives should state results required ensuring that the performance can be measured. In many cases, measurement of results cannot be quantified. When this quantification is not

7

possible, there should be a clear statement of the criteria that will be used to judge the accomplishment of the objectives. For example, if the objective is to develop a strategic plan, success is not determined primarily by a plan being developed on time but rather the quality of thinking that the plan portrays. The KAD should lay out the criteria to determine the quality. Measurements enable the Participant and manager to determine whether the objective or a portion of the objective has been successfully achieved.

•Objectives should be stated in measurable terms and should include timing.

•Objectives should identify specific achievements expected and not merely restate major responsibilities or plans to accomplish them.

•Objectives should be realistic with some stretch and be based on actual conditions.

The degree of difficulty may vary among the objectives. A priority ranking or assessment of relative difficulty, included in the objectives statement, will be of value during the review to determine the strategic performance factor rating. In determining the strategic performance rating, the following will be considered:

•The accomplishment of annual objectives and the significance of those objectives to overall business unit results.

•Demonstration of leadership

•Degree of difficulty of the objectives.

•Overall performance of major responsibilities including self-development.

•Performance in response to unanticipated circumstances or opportunities.

•Contributions to the management team and important corporate initiatives.

In summary, in rating Performance, achievement of objectives, leadership, overall job performance, response to unplanned major events and contributions to the overall management team are all to be considered. Performance is rated using the entire zero to two spectrum.

Guidelines for Reviewing Overall  Performance

Creates five general levels of performance with definitions of possible performance and a suggested range of ratings for each.

8

0 to .5	Overall performance considerably less than standard. Did not meet objectives primarily because of own performance. Performance in unplanned circumstances was below expectations. Individual did not demonstrate satisfactory improvement during the year.
.5 to .9	Overall performance of major position responsibilities did not meet all expectations. Some objectives achieved but not in a totally satisfactory manner. Measurable progress made during the year and current progress is satisfactory.
.9 to 1.1	Overall performance of major responsibilities meets current standards. Objectives substantially met, especially those of greater significance to business objectives. Performance in unplanned circumstances met or exceeded expectations.
1.1 to 1.5	Overall performance consistently met or exceeded standards for all responsibilities. Objectives were generally exceeded during the year. Function for which responsible has shown significant progress. Significant unplanned circumstances occurred during the year and related performance exceeded expectations
1.5 to 2.0	Outstanding performance in all aspects of current job. All objectives exceeded with recognition of these accomplishments. Has demonstrated success of at least one major breakthrough or significant project. Professional performer on all job functions and recognized as such by peers and superiors.

Achievement of tougher objectives receives a higher strategic performance factor rating, which translates into a higher incentive award. For example, a Participant who sets unusually demanding objectives and then misses one might receive a 1.4 Performance rating. A Participant who set more easily achieved objectives and then hits them all might receive a 1.0 Performance rating.

Incentive Calculation

To determine a Participant’s incentive, both factors, Financial and Performance are rated and weighted according to the predetermined split. The two results are totaled and multiplied by the Participant’s Compensation Year base salary earnings (prorated for partial-year participation) to determine the Plan Compensation.

TARGET INCENTIVE COMPENSATION AWARD (TICA) CALCULATION – EXAMPLE

(The actual percentages of Financial and Performance and the metrics used for Financial are only examples and may vary by organization or specific business needs year to year.)

Your Performance Factor is weighted at 20% and Financial Factor weighted at 80%. Within the Financial Factor, Cash Flow (CF) and Earnings Before Interest, Taxes,

9

Depreciation and Amortization (EBITDA) are weighted 70% and 30%, respectively.

This year, the Cash Flow rating was 1.2 and the EBITDA was 1.0. Your Performance rating was  .8

Your Target Incentive Compensation Award Eligible Earnings were: $100,000

Your Target Incentive Compensation Award Percentage is: 10%

Your Target Incentive Compensation Award Amount was: $10,000

EARNED INCENTIVE COMPENSATION AWARD (EICA) CALCULATION:

1. WEIGHTED PERFORMANCE FACTOR DETERMINATION

Your Performance Rating X Performance Weight = Weighted Performance Rating, or .8 X .20 = .16

2. WEIGHTED CF/EBITDA DETERMINATIONS

CF Contribution

The weight used to calculate CF Contribution below is the cash portion (70%) of the Financial weight (80%)

EBITDA Contribution

CF Rating X Weight = CF Weighted Rating

1.2 X .56 = .672

The weight used to calculate EBITDA Contribution below is the EBITDA portion (30%) of the Financial weight (80%)

EBITDA Rating X Weight = EBITDA Weighted Rating

1.00 X .24 = .24

3. YOUR TOTAL RATING DETERMINATION

Weighted Performance Rating + Weighted CF Rating + Weighted EBITDA Rating =Total Rating, or .16 + .672 + .24 = 1.072

4. YOUR EICA DETERMINATION (ROUNDED TO NEAREST DOLLAR)

Target Amount X Total Rating = Actual Incentive Award, or  $10,000 x 1.072 = $10,720

Summary

UIC’s Management Incentive Plan is an integral part of our competitive total compensation program, offering incentives and rewards offset by commensurate risk. Participants are individually selected from among those managers whose decisions significantly affect UIC’s performance.

10

Business and strategic performance targets and objectives are set in areas that require focus and emphasis in the Compensation Year including actions intended to execute longer term strategies. Performance is rigorously measured against the targets, objectives and on an overall basis.

Both business unit and individual performance affect incentive awards.

11

EX-10.34

Exhibit 10.34

United Industrial Corporation

Management Incentive Plan

January 2006

UIC MANAGEMENT INCENTIVE PLAN

TABLE OF CONTENTS

Definitions	3
Plan Amendment and Termination	3
Effective Date of the Plan	3
MANAGEMENT INCENTIVE PLAN (MIP)	4
Philosophy	4
General Features	4
Payments	5
Entitlements	5
Administration	5
Miscellaneous	5
SETTING TARGETS AND OBJECTIVES	6
Financial Factor	6
Financial Factor Measurement	6
Guidelines for Objective Setting and Evaluation	7
Performance Factor	7
Guidelines for Objective Setting and Evaluation	7
Guidelines for Reviewing Overall Performance	8
Incentive Calculation	9
TARGET INCENTIVE COMPENSATION AWARD (TICA) CALCULATION – EXAMPLE	9
EARNED INCENTIVE COMPENSATION AWARD (EICA) CALCULATION:	10
Summary	10

2

Definitions

Except as otherwise specified or as the context may otherwise require, the following terms have the meanings indicated below for the purposes of this Plan:

Company means UIC and all Subsidiaries of UIC.

Compensation Year or Year means the fiscal year of UIC.

Disability means disability according to the terms of the United Industrial Corporation Long-Term Disability Plan as may from time to time be applicable with respect to the particular Participant.

Layoff means a termination which is not for cause but rather is due to a permanent or indefinite reduction in the work force, including, but not limited to, the elimination of a Participant’s position as a result of a facility closure, discontinuance or relocation of operations, acquisition, reorganization or sale (including the sale by the Company of a business unit, division, product line or functionally related group of assets.)

Participant means an eligible Company employee selected for Plan participation in accordance with the procedures set forth herein.

Plan means the 2006 Management Incentive Plan (MIP) as set forth herein.

Plan Compensation means the amounts earned for the year as a consequence of the Plan.

Retirement means retirement according to the terms of the Subsidiary retirement plan.

Subsidiary means any corporation in which the Company owns total equity interest. However, if AAI or UIC owns majority interest, then any compensation plan must be approved by UIC.

Plan Amendment and Termination

UIC may, in its sole and absolute discretion, amend, suspend or terminate the Plan at any time, with or without advance notice to Participants.

Effective Date of the Plan

This Plan shall be effective as of January 1, 2006.

3

MANAGEMENT INCENTIVE PLAN (MIP)

Philosophy

The UIC Management Incentive Plan (often called the Bonus Plan or Plan) is a variable cash based incentive plan designed to focus management attention on performance factors important to the continued success of their business unit and the Company overall. Achievement of high standards of business and individual performance should be rewarded financially and conversely; significant compensation should be at risk for failing to achieve those high standards. The opportunity to earn compensation in addition to base salary is an integral part of our total compensation approach. The Management Incentive Plan serves as a direct link between a Participant’s compensation and the performance of a business unit or the Company overall.

General Features

Participants are senior managers in a position to significantly affect the performance of their business unit. These are generally managers with responsibility across an entire business unit, i.e. headquarter executives; product line and other general or program managers; and selected functional managers.

To be eligible to be selected to participate, a new hire to the Company or a newly eligible employee must be employed as of 30 September. Part-year Participants (i.e., employed after 1 January but prior to 30 September) shall be eligible for awards calculated pro-rata to the number of days employed during the Compensation Year.

Target incentive compensation is over and above the base salary. It is a function of the annual results, both by the individual and the relevant business unit. Base salary levels are established using competitive comparisons. The target incentive compensation, a percent of base salary, is similarly determined, thus ensuring the competitiveness of UIC’s total target compensation. Base salary and target annual incentives are considered competitive total compensation. Actual incentive awards may range from zero to two hundred percent of target. The target incentive percent varies from 10 to 50 percent of base salary, depending on the Participant’s salary grade. Incentive awards are not guaranteed. The Plan requires reasonable risk on the part of the Participant, commensurate with potential reward-an opportunity to raise total compensation significantly above the target opportunity.

Participants in the MIP also receive:

•A maximum life insurance benefit of $400,000

•If elected during enrollment, Long Term Disability coverage equal in value to their salary in the plan year plus their target cash bonus value (salary x bonus %) to a maximum benefit of $200,000.

•Accidental Death and Dismemberment benefit equal to three times their annual compensation rounded to the next higher $1,000 subject to a maximum of $280,000.

4

Payments

The distribution of Plan Compensation shall be made by March 15 following the Compensation Year.

Entitlements

General Rule: To receive Plan Compensation from this Plan, the Participant must be an employee of the Company at the time of payment of Plan Compensation. Exceptions to this rule shall be made in the cases of death, retirement, layoff, and disability as described in this Section. UIC may also, in its sole discretion, permit other exceptions to this rule.

Death, Retirement, Layoff and Disability:  If a Participant dies, retires, is laid off, or becomes disabled during the Compensation Year, the individual Target Incentive Compensation Award (TICA) shall be prorated and payment made by March 15^th following the Compensation Year. If death, retirement, layoff or disability occurs after the close of a Compensation Year, but before payment is made, such event shall not affect calculations.

Administration

The Compensation Committee of the Board of Directors, is authorized and empowered to administer the Plan; interpret the Plan, prescribe, amend and rescind rules relating to the Plan; and determine the rights and obligations of Participants under the Plan. The Compensation Committee may delegate certain of these activities and all other matters as it solely determines. Any determinations by the Compensation Committee or the Board of Directors are final and binding upon the Participants of the MIP.

Miscellaneous

No Contract or Guarantee of Continued Employment. Eligibility to participate and participation in the Plan is not a guarantee of continued employment. The Plan does not constitute a contract of employment and the Company specifically reserves the right to terminate a Participant’s employment at any time with or without cause and with or without notice or assigning a reason.

No Guarantee of Plan Compensation. Eligibility to participate and participation in this Plan does not guarantee the payment of Plan Compensation.

The UIC Board determines plan participation for each Compensation Year and participation of one year does not guarantee participation in future years.

Assignment and Transfers. With the exception of transfer by will or by the laws of descent and distribution, rights under the Plan may not be transferred or assigned.

Withholding Tax. The Company will deduct taxes required by law to be withheld with respect to such payments from all cash payment due a Participant.

5

SETTING TARGETS AND OBJECTIVES

Key to an effective and equitable management incentive plan are the quality, realism and stretch of the targets and objectives. In setting these targets and objectives we focus on high standards, continuous improvement and Participant involvement. TICA and performance measurements are built around two basic factors: a financial factor and performance factor. The weighting of those factors can vary from one business unit to another, reflecting the relative importance of business to individual performance for that unit during any Compensation Year. Between them, the financial and performance factors total 100 percent. The factors are intended to be significant results that need to be achieved if the business unit’s strategic and overall performance objectives are to be realized.

The financial factor measures metrics important to the business unit. Budgets as well as past and expected future performance results are the criteria used in setting financial targets. These factors are reviewed and approved by the CEO. Achievement of the financial targets results in a 1.0 rating.

Performance objectives are important personal objectives directly related to a Participant’s major responsibilities. For example, these objectives could include such areas as market and/or customer share improvement; cost improvements; product development; pricing; inventory levels; introduction or improvement of products, processes or systems; health, safety and environmental performance; or management development. Performance objectives are set annually for each Participant through the Key Accountability Document (KAD). The Compensation Committee sets the performance objectives for the Chief Executive Officer.

UIC recognizes circumstances change throughout the year. Significant achievements during the Compensation Year, not contemplated at the inception of the Compensation Year, will be reviewed and incorporated in the final determination of Plan Compensation.

Financial Factor

Financial Factor Measurement

Actual Financial Factors are adjusted to level the effect of accounting changes, acquisition costs, land sales, strategic restructuring costs, capital expenditures, etc. Adjusted performance results are compared with the previously set targets and the zero (0) and two (2.0) performance levels. This comparison results in a Financial Factor rating for each business unit that is somewhere on a scale of zero to two.

Guidelines for Objective Setting and Evaluation

The 1.0 targets are the levels at which the unit is expected to perform for the Compensation Year. Each unit’s budget is the primary starting point for 1.0 target levels. No incentive is paid for results at or below the zero level, and twice the target incentive is paid for results at or above the 2.0 level.

6

• The 1.0 targets are generally established at levels judged to have a reasonable chance of attainment and match the commitments made to the UIC Board; the zero and 2.0 extremes are normally established in terms of reasonable stretch and relative risk.

• Targets are first developed by unit/division management. The CEO and appropriate staff discuss the targets and agree upon zero, one and two levels.

• In determining the business performance ratings, actual performance is adjusted to level the effect of accounting changes, acquisition costs, land sales, strategic restructuring costs, capital expenditures, etc.

• Adjusted performance results are compared with targets, which results in a Financial Factor rating for each business unit that is somewhere on the scale of zero to two.

• Business performance targets are finalized early in the Compensation Year but can be adjusted by the Board in cases of substandard change in the business.

Performance Factor

Guidelines for Objective Setting and Evaluation

Each Participant submits strategic performance objectives in KAD format to his/her manager. Performance objectives are based on the major job responsibilities assigned to the individual and are related to the business unit’s strategic and/or UIC’s overall performance objectives.

• To develop individual performance objectives, each Participant must understand and commit to the operating unit’s business and human resources strategies.

• The two to five most important individual objectives should be submitted to the next higher-level manager for review and approval. Objectives should state results required ensuring that the performance can be measured. In many cases, measurement of results cannot be quantified. When this quantification is not possible, there should be a clear statement of the criteria that will be used to judge the accomplishment of the objectives. For example, if the objective is to develop a strategic plan, success is not determined primarily by a plan being developed on time but rather the quality of thinking that the plan portrays. The KAD should lay out the criteria to determine the quality. Measurements enable the Participant and manager to determine whether the objective or a portion of the objective has been successfully achieved.

•Objectives should be stated in measurable terms and should include timing.

•Objectives should identify specific achievements expected and not merely restate major responsibilities or plans to accomplish them.

•Objectives should be realistic with some stretch and be based on actual conditions.

7

The degree of difficulty may vary among the objectives. A priority ranking or assessment of relative difficulty, included in the objectives statement, will be of value during the review to determine the strategic performance factor rating. In determining the strategic performance rating, the following will be considered:

•The accomplishment of annual objectives and the significance of those objectives to overall business unit results.

•Demonstration of leadership

•Degree of difficulty of the objectives.

•Overall performance of major responsibilities including self-development.

•Performance in response to unanticipated circumstances or opportunities.

•Contributions to the management team and important corporate initiatives.

In summary, in rating Performance, achievement of objectives, leadership, overall job performance, response to unplanned major events and contributions to the overall management team are all to be considered. Performance is rated using the entire zero to two spectrum.

Guidelines for Reviewing Overall Performance

Creates five general levels of performance with definitions of possible performance and a suggested range of ratings for each.

0 to .5	Overall performance considerably less than standard. Did not meet objectives primarily because of own performance. Performance in unplanned circumstances was below expectations. Individual did not demonstrate satisfactory improvement during the year.
.5 to .9	Overall performance of major position responsibilities did not meet all expectations. Some objectives achieved but not in a totally satisfactory manner. Measurable progress made during the year and current progress is satisfactory.
.9 to 1.1	Overall performance of major responsibilities meets current standards. Objectives substantially met, especially those of greater significance to business objectives. Performance in unplanned circumstances met or exceeded expectations.
1.1 to 1.5	Overall performance consistently met or exceeded standards for all responsibilities. Objectives were generally exceeded during the year. Function for which responsible has shown significant progress. Significant unplanned circumstances occurred during the year and related performance exceeded expectations
1.5 to 2.0	Outstanding performance in all aspects of current job. All objectives exceeded with recognition of these accomplishments. Has demonstrated success of at least one major breakthrough or significant project. Professional performer on all job functions and recognized as such by peers and superiors.

8

Achievement of tougher objectives receives a higher strategic performance factor rating, which translates into a higher incentive award. For example, a Participant who sets unusually demanding objectives and then misses one might receive a 1.4 Performance rating. A Participant who set more easily achieved objectives and then hits them all might receive a 1.0 Performance rating.

Incentive Calculation

To determine a Participant’s incentive, both factors, Financial and Performance are rated and weighted according to the predetermined split. The two results are totaled and multiplied by the Participant’s Compensation Year base salary earnings (prorated for partial-year participation) to determine the Plan Compensation.

TARGET INCENTIVE COMPENSATION AWARD (TICA) CALCULATION – EXAMPLE

(The actual percentages of Financial and Performance and the metrics used for Financial are only examples and may vary by organization or specific business needs year to year.)

Your Performance Factor is weighted at 20% and Financial Factor weighted at 80%. Within the Financial Factor, Cash Flow (CF) and Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) are weighted 70% and 30%, respectively.

This year, the Cash Flow rating was 1.2 and the EBITDA was 1.0. Your Performance rating was .8

Your Target Incentive Compensation Award Eligible Earnings were: $100,000

Your Target Incentive Compensation Award Percentage is: 10%

Your Target Incentive Compensation Award Amount was: $10,000

EARNED INCENTIVE COMPENSATION AWARD (EICA) CALCULATION:

1. WEIGHTED PERFORMANCE FACTOR DETERMINATION

Your Performance Rating X Performance Weight = Weighted Performance Rating, or .8 X .20 = .16

9

2. WEIGHTED CF/EBITDA DETERMINATIONS

CF Contribution

The weight used to calculate CF Contribution below is the cash portion (70%) of the Financial weight (80%)

EBITDA Contribution

CF Rating X Weight = CF Weighted Rating

1.2 X .56 = .672

The weight used to calculate EBITDA Contribution below is the EBITDA portion (30%) of the Financial weight (80%)

EBITDA Rating X Weight = EBITDA Weighted Rating

1.00 X .24 = .24

3. YOUR TOTAL RATING DETERMINATION

Weighted Performance Rating + Weighted CF Rating + Weighted EBITDA Rating =Total Rating, or .16 + .672 + .24 = 1.072

4. YOUR EICA DETERMINATION (ROUNDED TO NEAREST DOLLAR)

Target Amount X Total Rating = Actual Incentive Award, or $10,000 x 1.072 = $10,720

Summary

UIC’s Management Incentive Plan is an integral part of our competitive total compensation program, offering incentives and rewards offset by commensurate risk. Participants are individually selected from among those managers whose decisions significantly affect UIC’s performance.

Business and strategic performance targets and objectives are set in areas that require focus and emphasis in the Compensation Year including actions intended to execute longer term strategies. Performance is rigorously measured against the targets, objectives and on an overall basis.

Both business unit and individual performance affect incentive awards.

10

EX-21

EXHIBIT 21

UNITED INDUSTRIAL CORPORATION

List of Subsidiaries

As of  March 1, 2006

Name of Subsidiary	State (or jurisdiction) in which Incorporated	Approximate Percentage of Voting Securities Owned by Immediate Parent
AAI Corporation	Maryland	100	%(a)
AAI Services Corporation (formerly AAI Engineering Support, Inc.)	Maryland	100	%(b)
AAI / ACL Technologies, Inc.	Maryland	100	%(b)
AAI / ACL Technologies Europe Limited	Great Britain	100	%(c)
AAI Australia Pty Ltd.	Australia	100	%(b)
ESL Defence (Holding) Ltd.	Great Britain	100	%(b)
ESL Defence Limited	Great Britain	100	%(d)
Detroit Stoker Company	Michigan	100	%(a)

(a) Percentage owned by United Industrial Corporation.

(b) Percentage owned by AAI Corporation.

(c) Percentage owned by AAI/ACL Technologies, Inc.

(d) Percentage owned by ESL Defence (Holding) Ltd.

All of the subsidiaries listed above are included in the consolidated financial statements of United Industrial Corporation.

1

EX-23.1

EXHIBIT 23.1

Consent of Independent Registered Public Accounting Firm

To United Industrial Corporation:

We consent to the incorporation by reference in the registration statements (Nos. 33-57065, 333-110619, 333-85819, 33-53911, 333-19517, 333-59487, 333-30103, 333-120577) on Form S-8 and (No. 333-120402) on Form S-3 of United Industrial Corporation of our reports dated March 14, 2006, with respect to:

•the consolidated balance sheets of United Industrial Corporation as of December 31, 2005 and 2004, and the related consolidated statements of operations, and cash flows for the years then ended,

•management’s assessment of the effectiveness of internal control over financial reporting as of December 31, 2005, and

•the effectiveness of internal control over financial reporting as of December 31, 2005,

which reports appear in the December 31, 2005, annual report on Form 10-K of United Industrial Corporation.

/s/ KPMG LLP

McLean, Virginia

March 14, 2006

1

EX-23.2

EXHIBIT 23.2

Consent of Independent Registered Public Accounting Firm

We consent to the incorporation by reference in the Registration Statement (Form S-3 No. 333-120402) pertaining to the United Industrial Corporation 3.75% Convertible Senior Notes due 2024, in the Registration Statement (Form S-8, No. 333-120577) pertaining to the United Industrial Corporation 2004 Stock Option Plan, in the Registration Statement (Form S-8, No. 33-57065) pertaining to the United Industrial Corporation 401(k) Retirement Savings Plan, in the Registration Statements (Form S-8, Nos. 333-110619, 333-85819, 33-53911, 333-19517 and 333-59487) pertaining to the United Industrial Corporation 1994 Stock Option Plan, and in the Registration Statement (Form S-8, No. 333-30103) pertaining to the United Industrial Corporation 1996 Stock Option Plan for Nonemployee Directors, of our report dated March 10, 2004 (except Note 21, as to which the date is September 15, 2004), with respect to the consolidated statements of income and cash flows of United Industrial Corporation for the year ended December 31, 2003 and our report dated March 10, 2004 with respect to the financial statement schedule of United Industrial Corporation, included in this Annual Report (Form 10-K) for the year ended December 31, 2005.

	/s/ Ernst & Young LLP
Philadelphia, Pennsylvania
March 14, 2006

1

EX-31.1

EXHIBIT 31.1

CERTIFICATION

 Pursuant to Exchange Act Rule 13a-14(a) / 15-d-14(a)

I, Frederick M. Strader, certify that:

1.I have reviewed this Annual Report on Form 10-K for the year ended December 31, 2005 of United Industrial Corporation;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date:	March 14, 2006	/s/ FREDERICK M. STRADER
		Frederick M. Strader
		President and Chief Executive Officer

1

EX-31.2

EXHIBIT 31.2

CERTIFICATION

Pursuant to Exchange Act Rule 13a-14(a) / 15-d-14(a)

I, James H. Perry, certify that:

1.I have reviewed this Annual Report on Form 10-K for the year ended December 31, 2005 of United Industrial Corporation;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date:	March 14, 2006	/s/ JAMES H. PERRY
		James H. Perry
		Vice President, Chief Financial Officer
		and Controller

1

EX-32.1

EXHIBIT 32.1

CERTIFICATION

Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to

 Section 906 of the Sarbanes-Oxley Act of 2002

I, Frederick M. Strader, as President and Chief Executive Officer of United Industrial Corporation (the “Company”), certify, pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002, that to my knowledge:

a.the accompanying Annual Report on Form 10-K for the year ended December 31, 2005 as filed with the U.S. Securities and Exchange Commission (the “Report”) fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

b.the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Date:	March 14, 2006	/s/ FREDERICK M. STRADER
		Frederick M. Strader
		President and Chief Executive Officer

77

EX-32.2

EXHIBIT 32.2

CERTIFICATION

Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to

Section 906 of the Sarbanes-Oxley Act of 2002

I, James H. Perry, as Vice President, Chief Financial Officer and Controller of United Industrial Corporation (the “Company”), certify, pursuant to 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002, that to my knowledge:

a.the accompanying Annual Report on Form 10-K for the year ended December 31, 2005 as filed with the U.S. Securities and Exchange Commission (the “Report”) fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

b.the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Date:	March 14, 2006	/s/ JAMES H. PERRY
		James H. Perry
		Vice President, Chief Financial Officer
		and Controller

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