10-Q

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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

Quarterly Report Pursuant To Section 13 or 15(d)
of the Securities Exchange Act of 1934

For Quarterly Period Ended August 31, 2001

Commission file number 1-6263

AAR CORP.
(Exact name of registrant as specified in its charter)

Delaware	36-2334820
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
One AAR Place, 1100 N. Wood Dale Road, Wood Dale, Illinois	60191
(Address of principal executive offices)	(Zip Code)

Registrant's telephone number, including area code (630) 227-2000

    Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /x/  No / /.

(APPLICABLE ONLY TO CORPORATE ISSUERS)

    Indicate the number of shares outstanding of each on the issuer's classes of common stock, as of the latest practicable date.

$1.00 par value, 26,957,745 shares outstanding as of August 31, 2001.

AAR CORP. and Subsidiaries
Quarterly Report on Form 10-Q
August 31, 2001

Table of Contents

			Page
Part I — FINANCIAL INFORMATION
	Item 1.	Financial Statements
		Condensed Consolidated Balance Sheets	3
		Condensed Consolidated Statements of Income	4
		Condensed Consolidated Statements of Cash Flows	5
		Condensed Consolidated Statements of Comprehensive Income	6
		Notes to Condensed Consolidated Financial Statements	7-9
	Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	10-12
	Item 3.	Quantitative and Qualitative Disclosure About Market Risk	12
Part II—OTHER INFORMATION
	Item 6.	Exhibits and Reports on Form 8-K
		Exhibits	13
		Reports on Form 8-K	13
	Signature Page		14

2

PART I, ITEM 1—FINANCIAL STATEMENTS

AAR CORP. and Subsidiaries
Condensed Consolidated Balance Sheets
As of August 31, 2001 and May 31, 2001
(In thousands)

			August 31, 2001			May 31, 2001
			(Unaudited)			(Derived from audited financial statements)
ASSETS
Current assets:
	Cash and cash equivalents		$	42,810		$	13,809
	Accounts receivable, less allowances of $11,359 and $11,016, respectively			110,641			115,187
	Inventories			274,387			263,099
	Equipment on or available for short-term leases			66,296			57,491
	Deferred tax assets, deposits and other			45,971			36,270
		Total current assets		540,105			485,856
Property, plant and equipment, net				108,074			108,907
Other assets:
	Investments in leveraged leases			28,805			28,715
	Cost in excess of underlying net assets of acquired companies, net			45,394			45,375
	Other			36,125			33,001
				110,324			107,091
			$	758,503		$	701,854
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
	Current maturities of long-term debt		$	65,396		$	410
	Notes payable			—			13,242
	Accounts and trade notes payable			69,560			73,975
	Accrued liabilities			36,680			35,706
	Accrued taxes on income			762			2,059
		Total current liabilities		172,398			125,392
Long-term debt, less current maturities				189,920			179,987
Deferred tax liabilities				54,838			55,063
Retirement benefit obligation				1,200			1,200
				245,958			236,250
Stockholders' equity:
	Preferred stock, $1.00 par value, authorized 250 shares; none issued			—			—
	Common stock, $1.00 par value, authorized 100,000 shares; issued 29,462 and 29,371 shares, respectively			29,462			29,371
	Capital surplus			149,214			148,316
	Retained earnings			218,044			219,848
	Treasury stock, 2,504 and 2,434 shares at cost, respectively			(40,217	)		(39,041	)
	Unearned restricted stock awards			(2,269	)		(2,499	)
	Accumulated other comprehensive income (loss)
		Cumulative translation adjustments		(11,035	)		(12,731	)
		Minimum pension liability		(3,052	)		(3,052	)
				340,147			340,212
			$	758,503		$	701,854

The accompanying Notes to Condensed Consolidated Financial
Statements are an integral part of these statements.

3

AAR CORP. and Subsidiaries
Condensed Consolidated Statements of Income
For the Three Months Ended August 31, 2001 and 2000
(Unaudited)
(In thousands except per share data)

		Three Months Ended August 31,
		2001			2000
Sales:
	Sales from products and leasing	$	180,392		$	200,810
	Sales from services		22,601			24,078
	Pass through sales		—			16,882
			202,993			241,770
Costs and operating expenses:
	Cost of products and leasing		155,814			171,199
	Cost of services		18,039			19,274
	Cost of pass through sales		—			16,882
	Selling, general and administrative and other		23,695			24,544
			197,548			231,899
Operating income			5,445			9,871
Interest expense			(5,544	)		(5,988	)
Interest income			747			506
Income before provision for income taxes			648			4,389
Provision for income taxes			162			1,230
Net income		$	486		$	3,159
Earnings per share of common stock — Basic		$	.02		$	.12
Earnings per share of common stock — Diluted		$	.02		$	.12
Weighted average common shares outstanding — Basic			26,945			26,859
Weighted average common shares outstanding — Diluted			27,209			26,962
Dividends declared and paid per share of common stock		$	.085		$	.085

The accompanying Notes to Condensed Consolidated Financial
Statements are an integral part of these statements.

4

AAR CORP. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
For the Three Months Ended August 31, 2001 and 2000
(Unaudited)
(In thousands)

				Three Months Ended August 31,
				2001			2000
Cash flows from operating activities:
	Net income			$	486		$	3,159
	Adjustments to reconcile net income to net cash provided from (used in) operating activities:
		Depreciation and amortization			4,459			4,694
		Deferred taxes			598			2,346
		Change in certain assets and liabilities, excluding effects of acquired businesses:
			Accounts receivable		3,104			1,794
			Inventories		(10,810	)		255
			Equipment on or available for short-term leases		(8,405	)		(8,515	)
			Accounts and trade notes payable		(4,732	)		(13,790	)
			Accrued liabilities and taxes on income		(481	)		(3,164	)
			Other, primarily prepaids		(10,350	)		5,478
	Net cash used in operating activities				(26,131	)		(7,743	)
Cash flows from investing activities:
	Property, plant and equipment expenditures, net				(3,000	)		(2,986	)
	Deferred payment on acquisition				(13,251	)		—
	Investment in equipment on long-term leases and leveraged leases				(90	)		(1,861	)
	Investment in joint ventures and other				(1,083	)		(7,449	)
	Net cash used in investing activities				(17,424	)		(12,296	)
Cash flows from financing activities:
	Proceeds from long term debt and bank loans				75,000			21,837
	Reduction in borrowings				(81	)		(80	)
	Cash dividends				(2,290	)		(2,283	)
	Other				(114	)		11
	Net cash provided from financing activities				72,515			19,485
Effect of exchange rate changes on cash					41			(18	)
Increase (decrease) in cash and cash equivalents					29,001			(572	)
Cash and cash equivalents, beginning of period					13,809			1,241
Cash and cash equivalents, end of period				$	42,810		$	669

The accompanying Notes to Condensed Consolidated Financial
Statements are an integral part of these statements.

5

AAR CORP. and Subsidiaries
Condensed Consolidated Statements of Comprehensive Income
For the Three Months Ended August 31, 2001 and 2000
(Unaudited)
(In thousands)

		Three Months Ended August 31,
		2001		2000
Net income		$	486	$	3,159
Other comprehensive income (loss)-
	Foreign currency translation		1,696		(993	)
Total comprehensive income		$	2,182	$	2,166

The accompanying Notes to Condensed Consolidated Financial
Statements are an integral part of these statements.

6

AAR CORP. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
August 31, 2001
(In thousands)

Note A—Basis of Presentation

    The accompanying condensed consolidated financial statements include the accounts of AAR CORP. (the Company) and its subsidiaries after elimination of intercompany accounts and transactions.

    These statements have been prepared by the Company without audit, pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). The condensed consolidated balance sheet as of May 31, 2001 has been derived from audited financial statements. To prepare the financial statements in conformity with accounting principles generally accepted in the United States of America, management has made a number of estimates and assumptions relating to the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities. Actual results could differ from those estimates. Certain information and footnote disclosures, normally included in comprehensive financial statements prepared in accordance with accounting principles generally accepted in the United States, have been condensed or omitted pursuant to such rules and regulations of the SEC. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's latest annual report on Form 10-K.

    In the opinion of management of the Company, the condensed consolidated financial statements reflect all adjustments (which consist only of normal recurring adjustments) necessary to present fairly the condensed consolidated financial position of AAR CORP. and its subsidiaries as of August 31, 2001 and the condensed consolidated results of operations, cash flows and comprehensive income for the three-month periods ended August 31, 2001 and 2000. The results of operations for such interim periods are not necessarily indicative of the results for the full years.

Note B—New Accounting Standards

    In July 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 141 "Business Combinations" effective for business combinations after June 30, 2001 and SFAS No. 142 "Goodwill and Other Intangible Assets," effective for fiscal years beginning after December 15, 2001. SFAS No. 141 requires all business combinations to be accounted for using the purchase method. Under SFAS No. 142, goodwill and intangible assets deemed to have indefinite lives will no longer be amortized, but will be subject to annual impairment tests in accordance with the statements. Other intangible assets will continue to be amortized over their useful lives. Early adoption of SFAS No. 142 is permitted for companies with a fiscal year beginning after March 2001, provided that the first quarter financial statements have not previously been issued. The Company adopted these statements in the first quarter of fiscal 2002. As a result of adoption of SFAS No. 142, the Company did not record goodwill amortization in the first quarter of fiscal 2002. Goodwill amortization in the first quarter of fiscal 2001 was $278. Had such amortization not been recorded, net income would have been $3,407 in the first quarter of fiscal 2001.

Note C—Revenue Recognition

    Sales and related cost of sales are recognized primarily upon shipment of products and performance of services. Lease revenue is recognized as earned.

    In connection with certain long-term inventory management programs, the Company purchases factory new products on behalf of its customers from original equipment manufacturers. These products are purchased from the manufacturer and "passed through" to the Company's customers at the Company's cost.

7

Note D—Inventory

    The following is a summary of inventories:

	August 31, 2001		May 31, 2001
Raw materials and parts	$	57,861	$	55,851
Work-in-process		21,205		20,208
Purchased aircraft, parts, engines and components held for sale		195,321		187,040
	$	274,387	$	263,099

Note E—Supplemental Cash Flows Information

    Supplemental information on cash flows:

	Three Months Ended August 31,
	2001		2000
Interest paid	$	2,622	$	4,651
Income taxes paid		701		906
Income tax refunds received		59		6,018

Note F—Common Stock and Earnings Per Share of Common Stock

    The computation of basic earnings per share is based on the weighted average number of common shares outstanding during each period. The computation of diluted earnings per share is based on the weighted average number of common shares outstanding during the period plus, when their effect is dilutive, incremental shares consisting of shares subject to stock options. The following table provides a reconciliation of the computations of basic and diluted earnings per share information for the three-month periods ended August 31, 2001 and 2000.

		Three Months Ended August 31,
		2001		2000
Basic EPS
	Net income	$	486	$	3,159
	Weighted average common shares outstanding		26,945		26,859
	Earnings per share—Basic	$	0.02	$	0.12
Diluted EPS
	Net income	$	486	$	3,159
	Weighted average common shares outstanding		26,945		26,859
	Additional shares due to hypothetical exercise of stock options		264		103
Average common shares outstanding—diluted			27,209		26,962
Earnings per share—Diluted		$	0.02	$	0.12

Note G—Long Term Debt

    On June 7, 2001, the Company completed a $75,000 private placement of long-term debt, including $55,000 of ten-year notes at 8.39% due May 15, 2011 and $20,000 of seven-year notes at 7.98% due

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May 15, 2008. The Company's $65,000 of 9.5% notes are due November 1, 2001 and have been classified as current maturities of long-term debt.

Note H—Segment Reporting

    The Company is a leading provider of value-added products and services to the global aviation/aerospace industry. In the first quarter of fiscal 2002, the Company changed its reporting segments to reflect changes in the chief decision making officer's approach to evaluating performance. Previously, the Company reported in three segments, Aircraft and Engines, Airframe and Accessories, and Manufacturing. The Company now reports its activities in four segments: Inventory and Logistic Services; Maintenance Repair and Overhaul; Manufacturing and Aircraft and Engine Sales and Leasing.

    Revenues in the Inventory and Logistic Services segment are derived from the sale of a wide variety of new, overhauled and repaired engine and airframe parts and accessories to the commercial, military, general and business aviation markets.

    Revenues in the Maintenance, Repair and Overhaul segment are derived from the repair and overhaul of a wide range of commercial and military aircraft engine and airframe parts and accessories; repair and overhaul of a wide variety of airframes and the repair and overhaul of parts to industrial gas and steam turbine operators.

    Revenues in the Manufacturing segment are derived from the manufacture and sale of in-plane cargo loading and handling systems, advanced composite materials and a wide array of containers, pallets and shelters.

    Revenues in the Aircraft and Engine Sales and Leasing segment are derived from the sale and lease of used commercial aircraft and new, overhauled and repaired commercial aircraft engines.

    The accounting policies for the segments are the same as those for the Company. The chief decision making officer of the Company evaluates performance based on the segments. The expenses and assets related to corporate activities are not allocated to the segments.

    Selected financial information for each segment is as follows:

		Three Months Ended August 31,
		2001		2000
Net sales, excluding pass through sales:
	Inventory and Logistic Services	$	81,186	$	98,882
	Maintenance, Repair and Overhaul		56,687		60,792
	Manufacturing		21,955		23,006
	Aircraft and Engine Sales and Leasing		43,165		42,208
		$	202,993	$	224,888

Gross profit:
	Inventory and Logistic Services	$	11,191	$	15,763
	Maintenance, Repair and Overhaul		10,287		10,170
	Manufacturing		2,061		2,906
	Aircraft and Engine Sales and Leasing		5,601		5,576
		$	29,140	$	34,415

9

PART I, ITEM 2—MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS

AAR CORP. and Subsidiaries
Results of Operations
(In thousands except percent data)

Three-Month Period Ended August 31, 2001
(as compared with the same period of the prior year)

    The Company reports its activities in four business segments: Inventory and Logistic Services, Maintenance, Repair and Overhaul, Manufacturing and Aircraft and Engine Sales and Leasing. The table below sets forth consolidated sales for the Company's four business segments for the three month periods ended August 31, 2001 and 2000.

		Three Months Ended August 31,
		2001		2000
Sales:
	Inventory and Logistic Services	$	81,186	$	98,882
	Maintenance, Repair and Overhaul		56,687		60,792
	Manufacturing		21,955		23,006
	Aircraft and Engine Sales and Leasing		43,165		42,208
		$	202,993	$	224,888

    Consolidated sales for the first quarter of the Company's fiscal year ending May 31, 2002, excluding pass through sales, decreased $21,895 or 9.7% over the same period in the prior year. The decline in first quarter sales was due primarily to the extremely difficult environment in the commercial aviation industry which, prior to the events of September 11, 2001, was plagued by a weakened global economy, high fuel and labor costs and a steep drop in business travel.

    In the Inventory and Logistic Services segment, sales decreased $17,696 or 17.9% as a result of lower engine and airframe parts demand. The decline in engine parts sales was also due to lower sales to a major customer for certain engine parts due principally to the impact of converting the Company's exclusive engine parts support agreement with this major customer to preferred status, which occurred in December 2000. The elimination of pass through sales was also attributable to this factor.

    In the Maintenance, Repair and Overhaul segment, sales decreased $4,105 or 6.8% during the first quarter of fiscal 2002 reflecting reduced demand for certain aircraft component overhaul services. Partially offsetting the reduction in sales was the favorable impact of the acquisition of Hermetic, which the Company acquired on September 29, 2000.

    In the Manufacturing segment, sales decreased $1,051 or 4.6% compared to the same period last year primarily as a result of lower sales of the Company's cargo handling systems.

    Consolidated gross profit decreased $5,275 or 15.3% over the prior year period as a result of lower sales and a reduction in the gross profit margin, which declined due to lower demand for engine parts support and margin pressure experienced primarily as a result of the competitive environment in which the Company operates to support its customers. Interest expense decreased $444 as a result of lower average short-term borrowings outstanding during the first quarter this year compared to last year, offset by interest on the $75,000 private placement of long-term debt, which was completed on June 7, 2001. Interest income was $241 higher than the first quarter of last year primarily as a result of an increase in cash invested during the first quarter.

    Operating income decreased $4,426 or 44.8% and net income decreased $2,673 or 84.6% over the prior year due primarily to the factors discussed above.

10

AAR CORP. and Subsidiaries
Financial Condition
(In thousands except ratios)

At August 31, 2001

    At August 31, 2001, the Company's liquidity and capital resources included cash of $42,810 and working capital of $367,707. At August 31, 2001, the Company's ratio of long-term debt to capitalization was 35.8%, up from 34.6% at May 31, 2001, and the Company's ratio of total debt to capitalization was 42.9% compared to 36.3% at May 31, 2001. The increase in the debt to capitalization ratios are attributable to the first quarter fiscal 2002 issuance of $75,000 long-term notes. The Company's $65,000 of 9.5% notes, which mature on November 1, 2001, will be paid off from a combination of available cash and short-term borrowings from the Company's unused and available bank lines. The Company continues to maintain its external sources of financing including $110,000 of unused available committed bank lines, and a universal shelf registration on file with the Securities and Exchange Commission under which up to $200,000 of common stock, preferred stock or medium-or long-term debt securities may be issued or sold subject to market conditions, and an accounts receivable securitization program under which the Company may sell an interest in defined pool of accounts receivable. At August 31, 2001, accounts receivable, net of retained interest, sold under this arrangement were $24,000 compared to $18,984 at May 31, 2001.

    During the three-month period ended August 31, 2001, the Company's operations used $26,131 of cash, principally reflecting investments in inventories, equipment on or available for lease and deposits, offset by a reduction in accounts receivable.

    During the three-month period ended August 31, 2001, the Company's investing activities used $17,424 of cash, principally reflecting the investment in property, plant and equipment of $3,000, and the final cash payment for the Hermetic acquisition of $13,251.

    During the three-month period ended August 31, 2001, the Company's financing activities generated $72,515 of cash, principally reflecting the issuance of $75,000 of long-term notes offset by the payment of cash dividends of $2,290.

    On September 11, 2001, four aircraft operated by United Airlines and American Airlines were hijacked and destroyed in terrorist attacks on the World Trade Center in New York, the Pentagon in Washington D.C. and in a crash near Johnstown, Pennsylvania. Immediately after the attacks, the Federal Aviation Administration closed U.S. airspace to civilian aircraft for several days.

    In the weeks that have followed the attacks, most of the major U.S.-based air carriers have announced significant reductions in worldwide capacity, some in excess of 20 percent. Many of the U.S.-based air carriers have announced plans to accelerate the retirement of certain types of aircraft, and are beginning to defer the delivery of new aircraft. Announced layoffs by the U.S.-based air carriers and some manufacturers of aircraft and related components have exceeded 100,000 people since the September 11 terrorist attacks.

    On September 22, the President of the United States signed the Air Transportation Safety and System Stabilization Act (the Act), which is intended to compensate victims of terrorist attacks and the U.S.-based air carriers for losses incurred as a result of the attacks. Among other things, the Act includes the payment of $5 billion to U.S.-based air carriers for incurred losses, and for the issuance of loan guarantees up to $10 billion in debt of U.S.-based air carriers.

    The impact of the events of September 11 on the Company depends on a number of factors, including (1) the demand level from the world's air carriers for the Company's products and services, (2) the adverse effect of the September 11 events on the economy, (3) whether air travel demand remains at current reduced levels or declines further, (4) the ability of the Company's customers to

11

meet their obligations to the Company, and (5) the affect, if any, on the value of the Company's inventories and equipment on or available for lease, which support the air carriers.

    Since September 11, the Company has taken a number of steps to reduce costs, preserve cash and maintain a strong balance sheet, including workforce and salary reductions, facility consolidations and a reduction in the quarterly cash dividend from 8.5 cents per share to 2.5 cents per share. At this point, however, the Company is unable to estimate the effect of the events of September 11, 2001 on its financial position or its future results of operations.*

    The Company believes that its cash and cash equivalents and available sources of financing will continue to provide the Company the ability to meet its ongoing working capital requirements, make anticipated capital expenditures, meet contractual commitments and pay dividends.*

    A summary of key indicators of financial condition and lines of credit follows:

Description		August 31, 2001			May 31, 2001
Working capital		$	367,707		$	360,464
Current ratio			3.1:1			3.9:1
Bank credit lines:
	Short-term debt	$	—		$	—
	Available but unused lines		110,000			125,000
Total credit lines		$	110,000		$	125,000
Long-term debt, less current maturities		$	189,920		$	179,987
Ratio of long-term debt to capitalization			35.8	%		34.6	%
Ratio of total debt to capitalization			42.9	%		36.3	%

*

See "Forward Looking Statements" section of this item.

Forward-Looking Statements

    Management's Discussion and Analysis of Financial Condition and Results of Operations contains certain statements relating to future results, which are forward-looking statements as that term is defined in the Private Securities Litigation Reform Act of 1995 and are identified by an asterisk(*). These forward-looking statements are based on beliefs of Company management, as well as assumptions and estimates based on information currently available to the Company, and are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results or those anticipated, depending on a variety of factors, including: general economic conditions; ability to acquire inventory at favorable prices; integration of acquisitions; marketplace competition; economic and aviation/aerospace market stability; Company profitability and the impact of the events of September 11, 2001 on the economy, the aviation/aerospace industry and the Company. Should one or more of these risks or uncertainties materialize adversely, or should underlying assumptions or estimates prove incorrect, actual results may vary materially from those described. These events and uncertainties are difficult or impossible to predict accurately and many are beyond the Company's control. The Company assumes no obligation to publicly release the result of any revisions that may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.

Item 3. Quantitative and Qualitative Disclosure About Market Risk

    The Company's exposure to market risk includes fluctuating interest rates under its unsecured bank credit agreements, foreign exchange rates and accounts receivable. See Part I, Item 2 for a

12

discussion on accounts receivable exposure. During the first quarter of fiscal 2002 and 2001, the Company did not utilize derivative financial instruments to offset these risks.

    At August 31, 2001, $110,000 was available under credit lines with domestic banks under revolving credit and term loan agreements, and $2,899 was available under credit agreements with foreign banks (credit facilities). Interest on amounts borrowed under the credit facilities is LIBOR based. As of August 31, 2001, the outstanding balance under these agreements was $0. A hypothetical 10 percent increase to the average interest rate under the credit facilities applied to the average outstanding balance during the first quarter of fiscal 2002 would not have had a material impact on the financial position or results of operations of the Company.

    Revenues and expenses of the Company's foreign operations in The Netherlands are translated at average exchange rates during the period and balance sheet accounts are translated at period-end exchange rates. Balance sheet translation adjustments are excluded from the results of operations and are recorded in stockholders' equity as a component of accumulated other comprehensive income (loss). A hypothetical 10 percent devaluation of foreign currencies against the U.S. dollar would not have a material impact on the financial position or results of operations of the Company.

PART II—OTHER INFORMATION

Item 6. Exhibits and Reports on Form 8-K

(a)

Exhibits

10	Material Contracts
10.7	Amendment No. 1 dated July 10, 2001 to the Amended and Restated Employment Agreement dated July 14, 1998 between Registrant and David P. Storch.

(b)

Reports on Form 8-K for Quarter ended August 31, 2001:



The Company filed no reports on Form 8-K during the three months ended August 31, 2001.

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SIGNATURE

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

	AAR CORP.
	(Registrant)
Date: October 12, 2001	/s/ TIMOTHY J. ROMENESKO Timothy J. Romenesko Vice President and Chief Financial Officer (Principal Financial Officer and officer duly authorized to sign on behalf of registrant)
	/s/ MICHAEL J. SHARP Michael J. Sharp Vice President—Controller Principal Accounting Officer)

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Table of Contents

PART I, ITEM 1—FINANCIAL STATEMENTS

PART I, ITEM 2—MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Item 3. Quantitative and Qualitative Disclosure About Market Risk
PART II—OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K

SIGNATURE

EX-10.7

Amendment No. 1 to
Amended and Restated Employment Agreement
Between David P. Storch ("Employee") and
AAR CORP. ("Company") dated July 14, 1998 ("Agreement")

    WHEREAS, the Company currently employs Employee pursuant to the terms of the Agreement; and

    WHEREAS, the Long-Term Incentive Plan for Employee set forth in Appendix (i) of the Agreement expired by its terms on May 31, 2000; and

    WHEREAS, the Company and Employee desire to amend the Agreement to incorporate a new Long-Term Incentive Plan for Employee and make certain other changes to the Agreement.

    NOW, THEREFORE, in consideration of the mutual agreement set forth herein, and other good and valuable consideration, the parties hereto agree as follows:

1.

Paragraph 6 of the Agreement is hereby amended to read as follows:

    "6. Vacation and Fringe Benefits.

    (a) Employee will accrue vacation in accordance with the Company's policy in effect from time to time for other executive officers; provided that no decrease in vacation benefits from those available on the date hereof shall be applicable to Employee during the term hereof. Employee shall be entitled to participate, according to eligibility provisions of each, in such medical, life and disability insurance programs, profit sharing plans, retirement plans and in other fringe benefit plans as may be in effect from time to time during the term hereof and available to other executive officers of the Company.

    (b) During the term of this Agreement and any extension thereof, Employee shall be entitled to reasonable personal use (including transportation of accompanying dependent family members) of any corporate business aircraft owned or chartered by the Company for Company business purposes from time to time, subject to payment of the standard industry fare level ("SFL") as published by the Internal Revenue Service from time to time."

2.

Appendix (i), dated June 1, 1994, to the Agreement, which expired by its terms on May 31, 2000, is hereby superceded by a new revised Appendix (i) dated July 10, 2001, in the form attached to this Amendment No. 1, which is hereby incorporated into the Agreement.

    IN WITNESS the undersigned have each caused this Amendment No. 1 to be duly executed effective July 10, 2001.

Employer:

Compensation Committee
AAR CORP. Board of Directors

By:	/s/ JAMES G. BROCKSMITH, JR. James G. Brocksmith, Jr. Chairman
AAR CORP.
By:	/s/ TIMOTHY J. ROMENESKO Timothy J. Romenesko Vice President
Employee:
	/s/ DAVID P. STORCH David P. Storch

David P. Storch Employment Agreement
Revised Appendix (i)
July 10, 2001

AAR CORP. Long-Term Incentive Plan
for David P. Storch
July 10, 2001 - May 31, 2005

Responsibility and Authority

    The Compensation Committee of the Board of Directors ("Committee") will be responsible for the administration of the Employee's long-term incentive compensation arrangements. Any interpretation or adjustments of the Plan will be by the Committee, whose decision is final.

Overall Structure of the Plan

•

Long-Term Incentive Plan compensation for the Employee will consist of:

(i)

At the Committee's discretion, an annual non-qualified stock option grant opportunity up to an amount (not to exceed the maximum amount permitted under the AAR CORP. Stock Benefit Plan) determined by a fraction, the numerator of which is equal to 1.25 times Employee's then current base salary, and the denominator of which is equal to the fair market value of the stock on the date of grant, divided by three. The options will vest ratably on the first through fourth grant anniversary dates, will expire on the tenth grant date anniversary and shall otherwise be on terms and conditions as the Committee may determine for other officers of the Company under the AAR CORP. Stock Benefit Plan;

(ii)

An annual performance restricted stock award opportunity of up to .9375 times the Employee's then current base salary ("Performance Dollars") each year in restricted stock based on the Company's average Return on Capital as compared to each of (i) the S&P 500 Index composite Average Return on Capital and (ii) the Company's Peer Group Index composite Average Return on Capital, during the performance period. The number of shares actually awarded will be determined by the Compensation Committee in its discretion up to the full amount of the opportunity based on performance. As a guideline in making its determination, the Compensation Committee will divide the Performance Dollars earned by the fair market value of the stock on the date of grant. All restricted stock awards hereunder will vest ratably (i.e. restrictions will lapse) on the first, second and third anniversary dates of the award and otherwise on such terms and conditions as the Committee may determine for other officers of the Company receiving restricted stock under the AAR CORP. Stock Benefit Plan and shall be reflected in a written restricted stock award agreement to be signed by the Employee prior to the award becoming final.

•

The first performance period begins June 1, 2001 and ends May 31, 2002. The second performance period begins June 1, 2001 and ends May 31, 2003. The third performance period begins June 1, 2002 and ends May 31, 2004. The fourth performance period begins June 1, 2003 and ends May 31, 2005.

•

For purposes of this program (i) "Peer Group Index" means the index selected by the Company from time to time for performance comparisons in the Company's annual proxy statement pursuant

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to applicable Securities and Exchange Commission regulations; and (ii) "Return on Capital" means earnings before interest and taxes (EBIT) divided by Total Capital (debt plus equity minus cash).

•

Performance Dollars will be earned in accordance with the following performance matrix:

% of Target Achieved*	% of Salary
0-80	0
80-100	31.25%
100-120	62.5%
120+	93.75%

*

The performance goals will be achieved if the Company's Return on Capital for the performance period is at least 80% of target; 100% target achievement will be 80% of the median of the S&P 500 and 60th percentile of the Peer Group. Results between the amounts shown on the schedule will be computed by linear interpolation.

•

No shares will be awarded at the end of any performance period in either category if AAR's result for that period is negative.

•

A Change in Control of the Company (as elsewhere defined in this Agreement) will cause all options under this plan to become vested and exercisable, all restricted stock to vest and restricted stock awards to be awarded according to the performance matrix above based on the higher of target or actual performance through the effective date of a change in control using the latest data then available to determine goals applicable for the partial performance period.

•

At the direction of the Compensation Committee, transactions which significantly alter the capital structure of AAR may be excluded from the measurement period (in whole or in part) in a manner determined by the Committee.

Definitions

    Peer Group Composite Index — means selected companies used from time to time for performance comparison in the Company's proxy statement. Any deletions or additions to the peer group during the performance period will cause measurement/calculation changes on a prospective basis from the date of the change in the peer group (beginning of the fiscal year in which the proxy is issued).

Return on Capital — means earnings before interest and taxes (EBIT) divided by total capital (debt plus equity minus cash).

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