Zoltek Companies, Inc. is a holding company, which operates through wholly-owned subsidiaries, Zoltek Corporation, Zoltek Zrt., Zoltek de Mexico SA de CV, Zoltek de Occidente SA de CV, Engineering Technology Corporation (“Entec Composite Machines”), Zoltek Properties, Inc., and Zoltek Automotive, LLC. Zoltek Corporation (“Zoltek”) develops, manufactures and markets carbon fibers and technical fibers in the United States. Carbon fibers are a low-cost but high performance reinforcement for composites used as the primary building material in everyday commercial products. Technical fibers are an intermediate product used in heat resistant applications such as aircraft brakes. Zoltek Zrt. is a Hungarian subsidiary that manufactures and markets carbon fibers and technical fibers and manufactures acrylic fiber precursor raw material used in production of carbon fibers and technical fibers. Zoltek de Mexico SA de CV and Zoltek de Occidente SA de CV are Mexican subsidiaries that manufacture carbon fiber and precursor raw material. Entec Composite Machines manufactures and markets filament winding and pultrusion equipment used in the production of large volume composite parts. The Company’s primary sales markets are in Europe and the United States; however, the Company has an increasing presence in Asia. Unless the context otherwise indicates, references to the “Company” are to Zoltek Companies, Inc. and its subsidiaries.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires that management make estimates and assumptions that affect amounts reported in the financial statements and accompanying notes. Actual results may differ from those estimates and assumptions.

Sales transactions are initiated through customer purchase orders or sales agreements which are based on fixed pricing terms. The Company recognizes sales of manufactured products on the date title to the product transfers to the customer, ordinarily upon shipping. Revenues are reported net of any value-added tax or other such tax assessed by a governmental authority on our revenue-producing activities. Costs associated with shipping and handling are included in costs of sales. Revenues generated by Entec Composite Machines are recognized on a percentage of completion basis based on the percentage of total project cost incurred to date which include change orders, revisions to estimates and provisions for anticipated losses on contracts and represented 3% or less of consolidated revenues for all years presented. Revenue from sales of consigned inventory is recognized upon the use of the product by the consignee or according to terms of the contract.

The Company reviews its accounts receivable balance on a quarterly basis to identify any specific customers for collectability issues. If the Company deems that an amount due from a customer is uncollectible, the amount is recorded as expense in the statement of operations. The Company evaluates the collectability of our accounts receivable for each of our segments based on a combination of factors. In circumstances where we are aware of a specific customer's inability to meet its financial obligations to us (e.g., bankruptcy filing or substantial downgrading of credit), we record a specific reserve for bad debts against the amounts due reducing the net recognized receivable to the amount we estimate will be collected. For all other customers, we estimate reserves for bad debts based on the length of time receivables have been past due and our experience with collection. We incurred bad debt expense on accounts receivable of less than $0.1 million for 2011, $0.5 million for 2010 and $1.3 million for 2009.

Zoltek's carbon fiber products are primarily sold to customers in the composite industry and its technical fibers are primarily sold to customers in the aerospace industry. Entec Composite Machines' products are primarily sold in the composite industry. The Company performs ongoing credit evaluations and generally requires collateral for significant export sales to new customers. The Company maintains reserves for potential credit losses and such losses have been within management's expectations.

In fiscal 2011, 2010 and 2009, we reported net sales of carbon fiber of $42.7 million, $49.5 million and $74.2 million, respectively, to Vestas Wind Systems, a leading wind turbine manufacturer, which represented 28.1%, 38.6% and 53.6% of our net sales, respectively, during these years. The related open accounts receivable balances at September 30, 2011 and 2010 were $15.0 million and $11.0 million, respectively. In fiscal 2011, we also reported net sales of $15.8 million to Saertex GMBH & Company, a manufacturer of fabrics for the composite industry, including materials for production of wind turbines. There was no open accounts receivable balance from Saertex at September 30, 2011. These were the only customers that represented greater than 10% of consolidated net sales during these years.

Cash equivalents include certificates of deposit and overnight repurchase agreements, all of which have initial maturities of three months or less. Cash equivalents are stated at cost plus accrued interest, which approximates market value. The Company deposits its temporary cash investments with high credit quality financial institutions, however, at times such investments may be in excess of the Federal Deposit Insurance Corporation insurance limit of $250,000 for U.S. banks. As of September 30, 2011, the Company had $13.6 million cash in these deposit accounts.

Inventories are valued at the lower of cost or market and are removed from inventory under the first-in-first-out method ("FIFO"). Cost of inventory includes material, labor and overhead. The Company recorded inventory valuation reserves of $0.7 million and $0.9 million as of September 30, 2011 and 2010, respectively, to reduce the carrying value of inventories to a net realizable value. This evaluation includes analyses of sales levels by product and projections of future demand within specific time horizons. If future demand or market conditions are less favorable than the Company's projections, additional inventory write-downs may be required and would be reflected in cost of sales on the Company's statement of operations in the period in which the determination is made.

Property and equipment are stated at cost. Cost includes expenditures necessary to make the property and equipment ready for its intended use. Expenditures to improve the asset or extend the useful life are capitalized, including interest on funds borrowed to finance the acquisition or construction of major capital additions. The Company did not record any capitalized interest in fiscal 2011, 2010 or 2009. Maintenance and repairs are expensed as incurred. When property is retired or otherwise disposed of, the related cost and accumulated depreciation are removed from the accounts and any profit or loss on disposition is credited or charged to income.

Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. If the sum of the expected future undiscounted cash flows is less than the carrying amount of long-lived assets, a loss is recognized for the difference between the fair value and the carrying value of the asset. No impairment charges for long-lived assets were recorded during fiscal 2011, 2010 and 2009.

In accordance with ASC 260, the Company calculates diluted earnings per share including the impact of the Company's potential stock equivalents. The Company has outstanding stock options and warrants at September 30, 2011, 2010 and 2009 and convertible debt at September 30, 2009, which are not included in the determination of diluted earnings per share because the impact of these potential additional shares is anti-dilutive. Had these securities been dilutive, an additional 0.1 million shares for fiscal 2011, 0.1 million shares for fiscal 2010 and 0.3 million shares for fiscal 2009 would have been included in the Company's diluted earnings per share calculation.

As of September 30, 2010, the Company had a note payable outstanding with a principal amount of $1.0 million bearing interest at 4.1% variable with Libor, payable in monthly installments of interest and principal to maturity in January. During December 2010, the Company paid off the remaining balance of the note payable and had no long-term debt outstanding at September 30, 2011.

The Company adopted the amended guidance of ASC Topic 815-40, (formerly referred to as EITF Issue No. 07-05, “Determining Whether an Instrument (or Embedded Feature) is Indexed to an Entity’s Own Stock”, on October 1, 2009. In connection with the adoption, the Company determined that its outstanding warrants as of the adoption date, which include warrants issued in May 2006, July 2006, October 2006, and December 2006, are not indexed to the Company’s own stock. Accordingly, these warrants should be treated as a liability carried at fair value, which requires separate accounting pursuant to ASC 815. The fair value of the warrants was reclassified from equity to a liability carried at fair value on October 1, 2009.

The Company is actively pursuing the development of a number of applications for the use of its carbon fibers and related products. The Company is executing several internal and collaborative developmental strategies to further the use of carbon fiber and commercial and industrial products made from carbon fiber. As a result, the Company incurs certain costs for research, development and engineering of products and manufacturing processes. These costs are expensed as incurred and totaled approximately $8.6 million, $8.2 million, and $7.6 million for fiscal years 2011, 2010, and 2009, respectively. Application and development expenses are presented as an operating item on the Company's consolidated statement of operations. Given the Company's position and strategy within the carbon fiber industry, it is expected that similar or greater levels of application and development expenses will be incurred in future periods.

The Company's Hungarian subsidiary, Zoltek Zrt., has a functional currency of the Hungarian Forint (HUF). As a result, the Company is exposed to foreign currency risks related to this investment. The consolidated balance sheet of Zoltek Zrt. was translated from HUF to US dollars, at the exchange rate in effect at the applicable balance sheet date, while its consolidated statements of operations were translated using the average exchange rates in effect for the periods presented. The related translation adjustments are reported as other comprehensive income (loss) within shareholders' equity. Gains and losses from foreign currency transactions of Zoltek Zrt. are included in the results of operations as other income (expense). The HUF weakened by 5.7% against the US dollar during fiscal 2011. Hungarian assets net of liabilities, excluding the long-term intercompany loan were approximately $126.6 million as of September 30, 2011.

The functional currency of Zoltek de Mexico was changed as of November 1, 2008, from the Mexican Peso to the US dollar. Management made this determination based on its analysis that the currency which the majority of Mexican assets, liabilities, and operations are denominated in is US dollars. The U.S. dollar-translated amounts of nonmonetary assets and liabilities at November 1, 2008 became the historical accounting basis for those assets and liabilities for all subsequent periods. As a result of this change in functional currency, exchange rate gains and losses are recognized on transactions in currencies other than the US dollar and included in operations for the period in which the exchange rates changed. The Mexican Peso weakened by 19% against the US dollar during the first month of fiscal 2009 before the functional currency of Zoltek de Mexico was changed to the US dollar.

The Company accounts for certain income and expense items differently for financial reporting and income tax purposes. Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities applying enacted statutory tax rates in effect for the year in which the differences are expected to reverse. A valuation allowance is provided against certain deferred tax assets when realization of those assets are not considered to be more likely than not. The Company classifies income tax-related interest and penalties as other expense, net.

In May 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2011-04, “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.” The amendments in this ASU generally represent clarification of Topic 820, but also include instances where a particular principle or requirement for measuring fair value or disclosing information about fair value measurements has changed. This update results in common principles and requirements for measuring fair value and for disclosing information about fair value measurements in accordance with GAAP and International Financial Reporting Standards (“IFRS”). The amendments are effective for interim and annual periods beginning after December 15, 2011 and are to be applied prospectively. Early application is not permitted. The Company does not expect the adoption of ASU 2011-04 will have a material impact on the Company’s consolidated financial statements.

In June 2011, the FASB issued ASU No. 2011-05, “Comprehensive Income (Topic 220): Presentation of Comprehensive Income.” This amends existing guidance by allowing only two options for presenting the components of net income and other comprehensive income: (1) in a single continuous financial statement (statement of comprehensive income), or (2) in two separate but consecutive financial statements (consisting of an income statement followed by a separate statement of other comprehensive income). Also, items that are reclassified from other comprehensive income to net income must be presented on the face of the financial statements. ASU No. 2011-05 requires retrospective application, and is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011, with early adoption permitted. The Company plans to adopt these provisions in the second quarter of fiscal 2012. Adoption of this provision will impact the Company’s consolidated financial statements.