UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington D.C. 20549

 

SCHEDULE 14A

 

PROXY STATEMENT PURSUANT TO SECTION 14(a) OF THE SECURITIES

EXCHANGE ACT OF 1934 (Amendment No.  )

 

Filed by the Registrant þ

 

Filed by a Party other than the Registrant o

 

Check the appropriate box:

 

þ  Preliminary Proxy Statement

o  Confidential, for Use of the Commission Only (as permitted by Rule 14a-6(e)(2))

o  Definitive Proxy Statement

o  Definitive Additional Materials

o  Soliciting Material Under Rule14a-12

 

PECO II, INC.

(Name of Registrant as Specified in its Charter)

 

(Name of Person(s) Filing Proxy Statement, if other than the Registrant)

 

Payment of Filing Fee (Check the appropriate box):

 

 

 

Common shares, without par value, of PECO II, Inc. (“Common Shares”)

 

 

2,859,826 Common Shares

 

 

The filing fee was based upon the sum of 2,859,826 Common Shares multiplied by $5.86 per share. The preceding sentence assumes that a maximum of 360 Common Shares will be issued under the Company’s 2000 Employee Stock Purchase Plan prior to the closing of the transaction. The Company does not expect any options to be exercised prior to closing of the transaction because the exercise prices per share of such options are greater than the merger consideration. In accordance with Section 14(g) of the Exchange Act of 1934, as amended, the filing fee was determined by multiplying 0.0000713 by the amount calculated in the first sentence of this paragraph.

 

 

$16,758,580.36

 

 

$1,194.89

 

 

 

 

 

 

 

 

 

 

Subject to Completion, March 4, 2010

 

PECO II, INC.
1376 STATE ROUTE 598
GALION, OHIO 44833

 

[    l    ], 2010

 

To PECO II, Inc. Shareholders:

 

The board of directors of PECO II, Inc. (PECO II) has unanimously approved our acquisition by Lineage Power Holdings, Inc. (Lineage), the parent company of Lineage Power Ohio Merger Sub, Inc. (Merger Sub). If the merger is completed, each PECO II common share issued and outstanding at the effective time of the merger (other than shares held by PECO II, Lineage, Merger Sub or a shareholder who is entitled to and who properly demands and perfects statutory appraisal rights in compliance with all of the required procedures of Ohio law) will be converted into the right to receive $5.86 in cash, without interest and less any applicable withholding tax.

 

We will hold a special meeting of PECO II shareholders at St. Joseph’s Activity Center, 135 North Liberty Street, Galion, Ohio, on [    l    ], at [    l    ] local time. At the special meeting, we will ask you to adopt the merger agreement and the merger, and approve a proposal to adjourn the special meeting, if necessary or appropriate, to solicit additional proxies in the event there are not sufficient votes at the time of the special meeting to adopt the merger agreement and the merger.

 

Completion of the merger and the other transactions contemplated by the merger agreement is subject to a number of conditions, including approval and adoption at the special meeting by our shareholders of the merger agreement and the merger.

 

Your vote is very important. We cannot complete the merger and the other transactions contemplated by the merger agreement unless this proposal is approved. The obligations of PECO II and Lineage to complete the merger are also subject to the satisfaction or waiver of various other conditions to the merger. More detailed information about the merger agreement and the merger is contained in this proxy statement.

 

Whether or not you plan to attend the special meeting in person, please submit your proxy without delay. We encourage you to read the accompanying proxy statement carefully because it explains the proposed merger, the merger agreement and the proposals which require your favorable vote.

 

The board of directors has carefully reviewed and considered the terms of the merger agreement, has consulted with its legal and financial advisors and has determined that the merger agreement, the merger and the transactions contemplated thereby are in the best interests of PECO II and its shareholders. Accordingly, the Board has unanimously approved the merger agreement, the merger and the various transactions contemplated in such agreement and unanimously recommends that you vote “FOR” the adoption of the merger agreement and the merger, and “FOR” the proposal allowing us to adjourn the special meeting, if necessary, to solicit additional proxies.

 

This proxy statement is dated [    l    ], 2010, and is first being mailed to shareholders on or about [    l    ], 2010.

 

On behalf of the directors and management of PECO II, I would like to thank you for your continued support and confidence.

 

Sincerely yours,

 

John G. Heindel

Chairman of the Board, President,
Chief Executive Officer, Chief Financial Officer and
Treasurer

PECO II, INC.
1376 STATE ROUTE 598
GALION, OHIO 44833

 

NOTICE OF SPECIAL MEETING OF SHAREHOLDERS

 

Notice is Hereby Given that a Special Meeting of Shareholders of PECO II, Inc. (“PECO II”) will be held at St. Joseph’s Activity Center, 135 North Liberty Street, Galion, Ohio, on [    l    ], 2010, at [    l    ] local time, for the following purposes:

 

1. To consider and vote upon a proposal to adopt the Agreement and Plan of Merger, dated as of February 18, 2010, by and among PECO II, Lineage Power Holdings, Inc., a Delaware corporation, and Lineage Power Ohio Merger Sub, Inc., an Ohio corporation and a wholly-owned subsidiary of Lineage, and the merger.

 

2. To consider and vote on a proposal to adjourn the special meeting, if necessary or appropriate, to solicit additional proxies in the event that there are not sufficient votes at the time of the special meeting to adopt the merger agreement and the merger.

 

3. To consider and act upon any other matters which may properly come before the special meeting or any adjournment or postponement thereof.

 

Holders of common shares of record at the close of business on [    l    ], 2010 are entitled to receive notice of and to vote at the special meeting. Shareholders may obtain directions to the annual meeting by visiting our website: www.peco2.com.

 

Your vote is important. The affirmative vote of the holders of a majority of the outstanding PECO II common shares is required to adopt the merger agreement and the merger. Even if you do not plan to attend the special meeting in person, we request that you complete, sign, date and return the enclosed proxy and thus ensure that your shares will be voted at the special meeting if you are unable to attend. You may vote over the Internet, by telephone or by submitting your proxy by mail. For specific instructions, please refer to “The Special Meeting — Required Vote” beginning on page 17 of the proxy statement and instructions on your proxy card. If you sign, date and mail your proxy card without indicating how you wish to vote, your proxy will be voted in favor of the adoption of the merger agreement and the merger and the proposal to adjourn the meeting, if necessary or appropriate, to solicit additional proxies. If you fail to return your proxy card or vote by phone or Internet, the effect will be that your shares will not be counted for purposes of determining whether a quorum is present at the special meeting and, if a quorum is present, will have the same effect as a vote against the adoption of the merger agreement and the merger. If you are a shareholder of record and you attend the special meeting and wish to vote in person, you may withdraw your proxy and vote in person. Please note, however, if your shares are held of record by a broker, bank or other nominee and you wish to vote at the meeting, you must obtain from the record holder a proxy issued in your name.

 

The PECO II board of directors unanimously recommends that shareholders vote FOR the adoption of the merger agreement and the merger at the special meeting and FOR the proposal to adjourn the meeting, if necessary or appropriate, to solicit additional proxies.

 

By Order of the Board of Directors,

 

Eugene Peden
Senior Vice President, Operations and Secretary

 

[    l     ], 2010

 

Please fill in and sign the enclosed proxy and
return the proxy in the enclosed envelope.

 

TABLE OF CONTENTS

 

 

This proxy statement contains or incorporates by reference a number of statements that involve risks and uncertainties and that constitute “forward-looking statements” within the “safe harbor” provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act, including, but not limited to, statements concerning the ability of PECO II to successfully complete the merger. These statements relate to expectations concerning matters that are not historical facts. Forward-looking statements often, although not always, include words or phrases like “will likely result,” “expect,” “will continue,” “anticipate,” “estimate,” “intend,” “plan,” “project,” “outlook,” “believe” or similar expressions. These forward-looking statements are subject to various risks, uncertainties and assumptions that could cause actual results to differ materially from those statements and are not guarantees of future performance. Many of the important factors that will determine these results and values are beyond our ability to control or predict. Other risks and uncertainties to which we are subject are discussed in our reports filed with the SEC under the caption “Risk Factors” and elsewhere, including, without limitation, our Annual Report on Form 10-K for the year ended December 31, 2008 (filed March 31, 2009); and our Quarterly Reports on Forms 10-Q for the fiscal quarter ended March 31, 2009 (filed May 15, 2009); for the fiscal quarter ended June 30, 2009 (filed August 14, 2009); and for the fiscal quarter ended September 30, 2009 (filed November 13, 2009), and the following:

 

 

Our shareholders are cautioned not to put undue reliance on any forward-looking statements. The statements made in the proxy statement represent our views as of the date of this proxy statement, and it should not be assumed that the statements made herein remain accurate as of any future date. Except as otherwise required by law, we do not assume any obligation to update any forward-looking statements.

 

SUMMARY

	•	The proposed transaction is the acquisition of PECO II by Lineage Power Holdings, Inc., a Delaware corporation, pursuant to an Agreement and Plan of Merger, dated as of February 18, 2010, among PECO II, Lineage and Merger Sub. Once the merger agreement and the merger have been adopted by our shareholders and the other closing conditions under the merger agreement have been satisfied or waived, Merger Sub, a wholly-owned subsidiary of Lineage, will merge with and into PECO II. PECO II will be the surviving corporation in the merger and will become a wholly-owned subsidiary of Lineage.
	•	Upon completion of the merger, you will be entitled to receive $5.86 in cash, without interest and less any applicable withholding tax, for each common share that you own (unless you properly demand and perfect statutory appraisal rights in compliance with all of the procedures under Ohio law).
	•	The merger agreement is attached as Appendix A to this proxy statement. You are encouraged to carefully read the merger agreement in its entirety because it is the legal document that governs the merger.

	•	We are an Ohio corporation headquartered in Galion, Ohio that provides engineering and on-site installation services and that designs, manufactures, and markets communications power systems and power distribution equipment. Additional information about us is included in documents incorporated by reference in this proxy statement. See “Where You Can Find More Information” on page 57.

	•	Lineage, a Delaware corporation and a Gores Group Company, is a provider of reliable and intelligent power conversion solutions with energy-efficient AC-DC power supplies, DC-DC board-mounted power modules, telecom energy systems, and custom power products backed by local field expertise in over 25 locations worldwide.

		Lineage Power Ohio Merger Sub, Inc. c/o The Gores Group, LLC 10877 Wilshire Blvd., 18th Floor Los Angeles, CA 90024
	•	Merger Sub is an Ohio corporation and a wholly owned subsidiary of Lineage. Merger Sub was organized solely for the purpose of entering into the merger agreement with PECO II and completing the merger and has not conducted any business operations. Merger Sub currently has no material assets or liabilities, other than its rights and obligations under the merger agreement and the related documents, and has not generated any revenues or incurred material expenses other than expenses related to the merger.

	•	The special meeting will be held at St. Joseph’s Activity Center, 135 North Liberty Street, Galion, Ohio, on [    l    ], 2010, at [    l    ] local time.
	•	You will be asked to adopt the merger agreement and the merger. The merger agreement provides that Merger Sub will be merged with and into PECO II, and each outstanding PECO II common share (other than shares held by PECO II, Lineage, or Merger Sub or dissenting shares) will be converted into the right to receive $5.86 in cash, without interest and less any applicable withholding tax.
	•	You will be also be asked to approve a proposal to adjourn the special meeting, if necessary or appropriate, to solicit additional proxies in the event there are not sufficient votes at the time of the special meeting to adopt the merger agreement and the merger and to transact such other business as may properly come before the special meeting, or any postponement or adjournment thereof.

	•	You are entitled to vote at the special meeting if you owned PECO II common shares at the close of business on [    l    ], 2010, the record date for the special meeting. You will have one vote for each PECO II common share that you owned on the record date. As of the record date, there were [    l    ] PECO II common shares outstanding and entitled to vote.
	•	A quorum of the holders of the outstanding common shares must be present for the special meeting to be held. A quorum is present if the holders of a majority of the outstanding PECO II common shares entitled to vote are present at the meeting, either in person or represented by proxy. Abstentions and broker non-votes are counted as present for the purpose of determining whether a quorum is present. A broker non-vote occurs on an item when a broker is not permitted to vote on that item without instructions from the beneficial owner of the shares and no instructions are given.

	•	For us to complete the merger, shareholders holding at least a majority of our common shares outstanding at the close of business on the record date must vote “FOR” adoption of the merger agreement and the merger.
	•	No additional vote of Lineage’s shareholders is required in connection with the merger agreement or the consummation of the merger.
	•	To be able to adjourn the meeting, if necessary, to solicit additional proxies in favor of the adoption of the merger and the merger agreement, shareholders holding at least a majority of our common shares entitled to vote thereon present in person or by proxy at the meeting must vote “FOR” the proposal to adjourn the meeting.

	•	As of the record date, the current directors and officers of PECO II beneficially owned in the aggregate [    l    ] shares (excluding options), representing approximately [    l    ]% of our outstanding common shares.

	•	Any PECO II registered shareholder (meaning a shareholder that holds stock in its own name) entitled to vote may vote over the Internet, by telephone, or by submitting the enclosed proxy card by mail, or may vote in person by appearing at the special meeting. If your shares are held in “street name” by your broker, you should instruct your broker on how to vote your shares using the instructions provided by your broker.

	•	Any PECO II registered shareholder who executes and returns a proxy card may revoke the proxy at any time before it is voted in any of three ways:

	•	by delivering a written revocation, dated after the date of the proxy that is being revoked, to the Secretary of PECO II at 1376 State Route 598, Galion, Ohio 44833;
	•	by delivering a later-dated proxy relating to the same shares to the Secretary of PECO II at the above address; or
	•	by attending the special meeting and voting in person by ballot.

	•	We are working to complete the merger as soon as possible. In the event of the adoption of the merger agreement and the merger by our shareholders, and the satisfaction or waiver of the other closing conditions provided for in the merger agreement, we anticipate completing the merger shortly following the special meeting and, in any case, by July 19, 2010, unless the parties agree to extend the time for closing the merger and the other transactions contemplated by the merger agreement.

	•	If the merger agreement and the merger are adopted by our shareholders and the other conditions to closing are satisfied, Merger Sub will be merged with and into PECO II, with PECO II being the surviving corporation. Upon completion of the merger, PECO II common shares will be converted into the right to receive $5.86 per share, without interest and less any applicable withholding tax. Following completion of the merger, our common shares will no longer be traded on the NASDAQ Capital Market (“NASDAQ”), will be deregistered under the Securities Exchange Act of 1934, as amended (the “Securities Exchange Act”), and will no longer be publicly traded. PECO II will be a wholly-owned subsidiary of Lineage, and our current shareholders will cease to have any ownership interest in PECO II and will not have any ownership rights in Lineage. Therefore, you will not participate in any future earnings or growth of PECO II and will not benefit from any appreciation in value of PECO II.

	•	After careful consideration, our board of directors has determined, by unanimous vote, that the proposed merger of Merger Sub, a wholly-owned subsidiary of Lineage, with and into PECO II, wherein each outstanding common share, except for shares owned by PECO II, Lineage, Merger Sub or dissenting shares, will be converted into the right to receive $5.86 in cash, without interest and less any applicable withholding tax, is in the best interest of PECO II and its shareholders. Our board of directors unanimously recommends that you vote “FOR” the adoption of the merger agreement and the merger.

	•	Our board of directors unanimously recommends that you vote “FOR” the proposal allowing our board of directors to adjourn the special meeting, if necessary or appropriate, to solicit additional proxies in the event that there are not sufficient votes at the time of the special meeting to adopt the merger agreement and the merger.

	•	In order to consummate the merger and the other transactions contemplated by the merger agreement, the proposal to adopt the merger agreement and the merger must first be approved by our shareholders. If there are insufficient votes at the time of the special meeting to approve such proposal, our board of directors believes it is appropriate and in the best interest of PECO II and its shareholders to adjourn the meeting and solicit additional proxies.

	•	Western Reserve Partners, LLC (“Western Reserve”), our financial advisor, delivered its opinion to our board of directors to the effect that, as of February 18, 2010, and based upon and subject to the assumptions, limitations, and qualifications contained in its written opinion, the merger consideration of $5.86 per share to be received by our shareholders pursuant to the merger agreement is fair, from a financial standpoint, to our shareholders.
	•	The full text of the written opinion of Western Reserve, which sets forth the assumptions made, procedures followed, matters considered, and qualifications and limitations on the review undertaken by Western Reserve in rendering its opinion, is attached as Appendix B to this proxy statement and incorporated herein by reference. Holders of PECO II common shares are urged to, and should, read the opinion carefully and in its entirety. Western Reserve provided its opinion for the information and assistance of PECO II’s board of directors in connection with its consideration of the merger. The Western Reserve opinion addresses only the fairness, from a financial point of view, of the merger consideration to be received by the holders of PECO II common shares. The Western Reserve opinion does not address PECO II’s underlying business decision to enter into the merger agreement or any other aspect of the proposed merger and does not constitute a recommendation as to how any holder of PECO II common shares should vote or act with respect to the merger agreement and the merger or any other matter.

	•	All outstanding PECO II stock options, as of immediately prior to the effective time of the merger, shall terminate and thereafter represent the right to receive an amount in cash, if any, less applicable tax withholding, equal to the product of:

	•	the number of our common shares previously subject to each option as of immediately prior to the effective time of the merger, multiplied by
	•	the excess, if any, of $5.86 over the exercise price per common share previously subject to such option.

	•	No holder of an outstanding PECO II stock option that has an exercise price that is equal to or greater than $5.86 shall be entitled to any payment with respect to the terminated stock option before or after the effective time of the merger.
	•	As of the date of this proxy statement, there are no outstanding PECO II stock options with an exercise price less than $5.86 per share and, thus, we do not expect to make payments to any holder of outstanding PECO II stock options upon termination of such options upon or following the merger.

	•	Our directors and executive officers may have interests in the merger that are different from, or in addition to, yours, including the following:

	•	The merger agreement provides for indemnification of our current and former directors and officers for six years following the effective time of the merger, as well as the purchase of an endorsement under PECO II’s current directors’ and officers’ insurance coverage covering his or her service to PECO II as a director or officer with “tail” coverage for six years following the effective time of the merger.
	•	All outstanding PECO II stock options held by our directors and officers will vest and be accelerated in connection with the merger; however, we do not expect to make any cash payments upon termination of such options as of immediately prior to the effective time of the merger because no such options have an exercise price that is less than $5.86 per share.
	•	If, within six months following the merger, our chief executive officer, Mr. Heindel, terminates his employment for any reason or the surviving corporation terminates his employment for any reason other than for cause, Mr. Heindel is entitled to receive two times the sum of: (1) his annual salary in effect on the date of termination, (2) the cash value of the annual restricted stock grant to Mr. Heindel, measured as of the grant date, and (3) the annual or incentive bonus earned by Mr. Heindel in the most recently completed fiscal year. In addition, upon any such termination, Mr. Heindel is entitled to the continuing payment of his family COBRA health insurance coverage for a maximum of 18 months from the date of termination, and his stock options will immediately vest 100% and may be exercised for a period of 12 months from the termination date.
	•	If, within six months following the merger, our Senior Vice President, Operations and Secretary, Eugene Peden, terminates his employment for good reason (as defined in his amended employment letter agreement), or if within twelve months following the merger, the surviving corporation terminates his employment, Mr. Peden is entitled to receive cash compensation equivalent to one year’s base pay, and his stock options and restricted stock will immediately vest 100% and may be exercised for a period of 90 days from the termination date.
	•	Two members of our board of directors, James L. Green and Matthew P. Smith (or entities or trusts controlled by them), are obligated under a voting agreement to vote their shares in favor of the merger.

	•	Our directors were aware of these interests and considered them, among other matters, in making their unanimous recommendation with respect to the merger agreement and the merger.

	•	The Green Family Trust U/A/D 03/16/1995, the Green Charitable Trust U/A/D 05/09/01, Matthew P. Smith, Linda H. Smith, Ashwood I, LLC, and Ashwood II, LLC, all of which are shareholders and beneficial owners of our common shares, have entered into a voting agreement dated February 18, 2010, a copy of which is attached as Appendix C to this proxy statement.
	•	Pursuant to the voting agreement, each such shareholder has agreed, among other things, to vote his, her or its shares in favor of the merger, the merger agreement, and the transactions contemplated by the merger agreement, and against any other transactions or proposals that would frustrate or impede the merger.
	•	These shareholders owned in the aggregate 481,926 PECO II common shares as of the record date for the special meeting, representing 16.9% of the votes entitled to be cast at the special meeting.

	•	If you are a U.S. holder of our common shares, the merger will be a taxable transaction to you. For United States federal income tax purposes, you will recognize a gain or loss measured by the difference, if any, between the cash you receive in the merger and your adjusted tax basis in your common shares. If you are a non-U.S. holder of our common stock, the merger generally will not be a taxable transaction to you under United States federal income tax laws unless you have certain connections to the United States. You should consult your own tax advisor for a full understanding of the specific tax consequences of the merger to you in light of your particular circumstances.

	•	We are unaware of any material federal, state or foreign regulatory requirements or approvals required for the execution of the merger agreement or completion of the merger.

	•	As soon as practicable after the effective time of the merger, a paying agent will mail a letter of transmittal and instructions to each registered PECO II shareholder. The letter of transmittal and instructions will tell such shareholders how to surrender their stock certificates or book-entry shares in exchange for the merger consideration. Such shareholders should not return their stock certificates with the enclosed proxy card, and should not forward their stock certificates to the paying agent without first receiving a letter of transmittal. If your shares are held in “street name” by your broker, you will not receive a letter of transmittal, but will receive instructions from your broker as to how to receive the merger consideration in exchange for your PECO II common shares through your broker, unless you have properly demanded and perfected your appraisal rights.

	•	The merger agreement restricts our ability to solicit or engage in discussions or negotiations with third parties regarding specified transactions involving PECO II. Notwithstanding these restrictions, under certain limited circumstances required for our board of directors to comply with its fiduciary duties, our board of directors may respond to a written proposal for a favorable third party proposal, change its recommendation of the merger, and terminate the merger agreement and enter into an agreement with respect to a favorable third party proposal after paying a $1,100,000 termination fee to Lineage.

	•	The consummation of the merger and the completion of the other transactions contemplated by the merger agreement depends on a number of conditions being satisfied or waived, including adoption by our shareholders of the merger agreement and the merger, no governmental entity having enacted, issued, promulgated, enforced or entered any order or applicable law that has the effect of making the merger illegal or otherwise challenging, restricting or prohibiting the consummation of the merger, and the satisfaction (or waiver) of certain obligations of each of the parties to the merger agreement.
	•	We expect to consummate the merger and the other transactions contemplated by the merger agreement during the second quarter of 2010, but we cannot be certain when or if the conditions to closing will be satisfied or waived. We may adjourn the special meeting, if necessary or appropriate, to solicit additional proxies in the event there are not sufficient votes at the time of the special meeting to approve and adopt the proposals, or we may re-circulate a new proxy statement and re-solicit the vote if material conditions to the consummation of the merger and the other transactions contemplated by the merger agreement are waived.
	•	Our shareholders must approve the proposal to adopt the merger agreement and merger for the merger and the other transactions contemplated by the merger agreement to close.

	•	the parties mutually agree to terminate;
	•	the closing has not occurred by July 19, 2010;
	•	if consummation of the merger would violate any final, non-appealable order of a governmental entity; or
	•	we fail to obtain shareholder approval of the proposals described in this proxy statement.

	•	Lineage or Merger Sub materially breaches any representation, warranty, or covenant contained in the merger agreement and such breach is not capable of being cured or is not cured within 10 days of notice of such breach;
	•	we give notice to Lineage of our intention to accept a superior proposal (as defined in the section entitled “The Merger Agreement — Board Recommendation; No Solicitation of Alternative Proposals” below); or
	•	if certain other closing conditions are not satisfied or waived.

	•	we materially breach any representation, warranty, or covenant contained in the merger agreement and such breach is not capable of being cured or is not cured within 20 business days of notice of such breach (in the case of a breach of representation or warranty) or 10 calendar days of notice of such breach (in the case of a breach of covenant); or
	•	any of the following shall have occurred:

	•	our board of directors shall for any reason withdraw or shall have modified in a manner adverse to Lineage, its approval or recommendation of the merger or the matters to be considered at the special meeting;
	•	our board of directors shall have approved or recommended a different acquisition proposal; or
	•	our board of directors fails to timely affirm (publicly if so requested) its recommendation to our shareholders to vote in favor of the adoption of the merger agreement and the merger within 10 business days after Lineage requests in writing that such recommendation be affirmed.

	•	Under the terms of the merger agreement, PECO II must pay a termination fee of $1,100,000 to Lineage under certain circumstances, including, but not limited to:

	•	if our board of directors has determined to recommend to our shareholders that they approve a different acquisition proposal; or
	•	in certain situations, if PECO II enters into a definitive agreement to consummate an acquisition proposal within 12 months after the termination of the merger agreement.

	•	Our common shares are traded on the NASDAQ Capital Market under the symbol “PIII.” On February 17, 2010, which was the last trading day before we announced the merger, PECO II’s common shares closed at $3.88 per share, compared to which the merger consideration represents a

		premium of 51%. On [    l    ], 2010, the last trading day before the date of this proxy statement, PECO II’s common shares closed at $[    l    ] per share.

 

The following questions and answers address briefly some of the questions you may have regarding the special meeting, the merger agreement, and the proposed merger. These questions and answers may not address all of your questions that may be important to you as a shareholder of PECO II. Please refer to more detailed information contained elsewhere in this proxy statement, the appendices to this proxy statement and the documents referenced in this proxy statement.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

PECO II, Inc.

1376 State Route 598

Galion, Ohio 44833

(419) 468-7600

 

We are headquartered in Galion, Ohio, and we provide engineering and on-site installation services and design, manufacture, and market communications power systems and power distribution equipment. As the largest independent full-service provider of telecommunications power systems, we provide total power quality and reliability solutions, and support the power infrastructure needs of communications service providers in the local exchange, long-distance, wireless, broadband and Internet markets. See “Where You Can Find More Information” on page 57.

 

Lineage Power Holdings, Inc.

601 Shiloh Road

Plano, Texas 75074

(972) 244-9288

 

Lineage Power Corporation, a Gores Group company, delivers reliable and intelligent power conversion solutions with energy-efficient AC-DC power supplies, DC-DC board-mounted power modules, telecom energy systems, and custom power products backed by local field expertise in over 25 locations worldwide. Designed for decades of non-stop operation, the high-availability DC power conversion solutions enable voice, video and data communications while assuring investment protection, total system efficiency, and significantly reduced total cost of ownership.

 

Founded in 1987 by Alec E. Gores, The Gores Group, LLC is a private equity firm focused on acquiring controlling interests in mature and growing businesses which can benefit from the firm’s operating experience and flexible capital base. The firm combines the operational expertise and detailed due diligence capabilities of a strategic buyer with the seasoned M&A team of a traditional financial buyer. The Gores Group, LLC has become a leading investor having demonstrated over time a reliable track record of creating substantial value in its portfolio companies alongside management. The firm’s current private equity fund has committed equity capital of $1.7 billion. Headquartered in Los Angeles, California, The Gores Group, LLC maintains offices in Boulder, Colorado and London.

 

Gores’ principal executive offices are located at 10877 Wilshire Boulevard, 18th Floor, Los Angeles, California 90024, and its telephone number is (310) 209-3010.

 

Lineage Power Ohio Merger Sub, Inc.

c/o The Gores Group, LLC

10877 Wilshire Blvd., 18th Floor

Los Angeles, California 90024

(310) 209-3010

 

Merger Sub is an Ohio corporation and a wholly owned subsidiary of Lineage. Merger Sub was organized solely for the purpose of entering into the merger agreement with PECO II and completing the merger and has not conducted any business operations. Merger Sub currently has no material assets or liabilities, other than its rights and obligations under the merger agreement and the related documents, and has not generated any revenues or incurred material expenses other than expenses related to the merger or the financing thereof. Currently, Merger Sub has no employees or operations.

 

This proxy statement is being furnished to our shareholders in connection with the solicitation of proxies by our board of directors for use at a Special Meeting of Shareholders to be held at St. Joseph’s Activity Center, 135 North Liberty Street, Galion, Ohio, on [    l    ], at [    l    ] local time, and any adjournments or postponements thereof. The purpose of the special meeting is for you to consider and vote upon the following proposals:

 

1. To consider and vote on a proposal to adopt the merger agreement and the merger.

 

2. To consider and vote on a proposal to allow the Board of Directors to adjourn the special meeting, if necessary or appropriate, to solicit additional proxies in the event that there are not sufficient votes at the time of the special meeting to adopt the merger agreement and the merger.

 

3. To transact any other business that may properly come before the special meeting or any adjournment or postponement thereof.

 

A copy of the merger agreement is attached as Appendix A to this proxy statement. This proxy statement and the enclosed form of proxy are first being mailed to our shareholders on or about [    l    ], 2010.

 

As discussed elsewhere in this proxy statement, shareholders are considering and voting on a proposal to adopt the merger agreement and the merger. For the reasons described in this proxy statement, the PECO II board of directors has unanimously approved the merger agreement, the merger and the various transactions contemplated in such agreement and unanimously recommends that you vote “FOR” the adoption of the merger agreement and the merger and “FOR” the proposal allowing us to adjourn the special meeting, if necessary or appropriate, to solicit additional proxies.

 

The holders of record of our common shares as of the close of business on the record date, which was [    l    ], 2010, are entitled to receive notice of, and to vote at, the special meeting. On the record date, there were [    l    ] of our common shares outstanding.

 

At the special meeting, in accordance with the Ohio Revised Code and our Second Amended and Restated Code of Regulations, the inspectors of election appointed by our board of directors for the special meeting will determine the presence of a quorum and will tabulate the results of shareholder voting. As provided by the Ohio Revised Code and our Second Amended and Restated Code of Regulations, the holders of shares entitling them to exercise a majority of the voting power of PECO II that were outstanding on the record date, present in person or by proxy at the special meeting, will constitute a quorum for such meeting. A quorum is necessary to hold the special meeting. Any of our common shares held in treasury by us are not considered to be outstanding for purposes of determining a quorum. In accordance with Ohio law, abstentions and properly executed broker non-votes will be counted as shares present and entitled to vote for the purposes of determining a quorum. “Broker non-votes” result when the beneficial owners of common shares do not provide specific voting instructions to their brokers. Under applicable rules, brokers are precluded from exercising their voting discretion with respect to the approval of non-routine matters such as the proposals described in this proxy statement, and, thus, absent specific instructions from the beneficial owner of those shares, brokers are not empowered to vote the shares with respect to the approval of these proposals. All votes will be tabulated by the inspectors of election appointed for the special meeting, who will separately tabulate affirmative and negative votes, abstentions and broker non-votes.

 

Each common share that was outstanding on the record date entitles the holder to one vote at the special meeting. Completion of the merger and the other transactions contemplated by the merger agreement requires the affirmative vote of the holders of a majority of our common shares. The proposal to permit the board of directors to adjourn the special meeting requires the affirmative vote of the holders of a majority of our shares of common stock voting in person or by proxy at the special meeting.

 

Pursuant to our Second Amended and Restated Code of Regulations, all other questions and matters properly brought before the special meeting will be decided, unless otherwise provided by law, by our Amended and Restated Articles of Incorporation or by our Second Amended and Restated Code of Regulations, by the vote of the holders of a majority of the shares entitled to vote thereon present in person or by proxy at the special meeting. In voting for such proposals, votes may be cast in favor, against, or abstained. Abstentions will count as present for purposes of the item on which the abstention is noted and will have the effect of a vote against. Broker non-votes, however, are not counted as present for purposes of determining whether a proposal has been approved and will have no effect on the outcome of any such proposal.

 

Record holders may vote their shares of our common stock:

 

 

Regardless of whether you plan to attend the special meeting, you should vote your shares by proxy as described above as promptly as possible.

 

If you hold your shares through a bank, brokerage firm or nominee, you must vote in accordance with the instructions on the voting instruction card that your bank, brokerage firm or nominee provides to you. You should instruct your bank, brokerage firm or nominee as to how to vote your shares, following the directions contained in such voting instruction card.

 

Under Ohio law, holders of our common shares who do not vote in favor of adopting the merger agreement and the merger will have the right to seek appraisal of the fair value of their shares as determined by the Court of Common Pleas in Crawford County, Ohio, if the merger is completed, but only if they comply with all requirements of Ohio law summarized below and set forth in Appendix D of this proxy statement. Based on the determination of the Court, the appraised fair value of our shares may be more than, less than, or equal to the value of the merger consideration. See section entitled “Appraisal Rights” beginning on page 35.

 

If you vote your PECO II common shares by signing a proxy, your shares will be voted at the special meeting as you indicate on your proxy card. If no instructions are indicated on your signed proxy card, your PECO II common shares will be voted “FOR” the adoption of the merger agreement and the merger and “FOR” the proposal to allow the board of directors to adjourn the special meeting.

 

You may revoke your proxy at any time before the proxy is voted at the special meeting. A proxy may be revoked prior to the vote at the special meeting in any of three ways:

 

 

Attendance at the special meeting will not, in itself, constitute revocation of a previously granted proxy. If you do not hold your PECO II common shares in your own name, you may revoke or change a previously

given proxy by following the instructions provided by the bank, brokerage firm, nominee or other party that is the registered owner of the shares.

 

Although it is not currently expected, the special meeting may be adjourned for the purpose of soliciting additional proxies. Any adjournment may be made without notice by announcement at the special meeting of the new date, time and place of the special meeting. At the adjourned meeting, we may transact any business that might have been transacted at the original special meeting. If the adjournment is for more than 30 days, or if after adjournment a new record date is fixed for the adjourned meeting, a notice of the adjourned meeting shall be given to each registered shareholder entitled to vote at the special meeting. Whether or not a quorum exists, holders of a majority of PECO II’s common shares present in person or represented by proxy at the special meeting and entitled to vote thereat may adjourn the special meeting. Any adjournment of the special meeting for the purpose of soliciting additional proxies will allow PECO II’s shareholders who have already sent in their proxies to revoke them at any time prior to their use at the special meeting as adjourned.

 

This solicitation is made by PECO II, and PECO II will pay the cost of this proxy solicitation. In addition to soliciting proxies by mail, directors, officers, and employees of PECO II may solicit proxies personally and by telephone, facsimile or other electronic means of communication. These persons will not receive additional or special compensation for such solicitation services. PECO II will, upon request, reimburse brokers, banks and other nominees for their expenses in sending proxy materials to their customers who are beneficial owners and obtaining their voting instructions.

 

We have retained Georgeson Inc. to assist in the solicitation. We will pay Georgeson Inc. up to $8,000 plus reasonable out-of-pocket expenses for its assistance. In addition, we will indemnify Georgeson Inc. against any losses arising out of that firm’s proxy soliciting services on our behalf.

 

PECO II does not expect that any matters other than the proposals presented in this proxy statement will be brought before the special meeting. However, if other matters incident to the conduct of the special meeting are properly presented at the special meeting or any adjournment or postponement of the special meeting, the persons named as proxies will vote in accordance with their best judgment with respect to those matters.

 

Some banks, brokers and other nominee record holders may be participating in the practice of “householding” proxy statements. This means that only one copy of this proxy statement may have been sent to multiple shareholders in your household. We will promptly deliver a separate copy of this proxy statement, including the attached appendices, to you if you write or call us at the following address or phone number: PECO II, Inc., Attn: Investor Relations, 1376 State Route 598, Galion, Ohio 44833, telephone (419) 468-7600.

 

As part of its ongoing evaluation of our business and strategic direction, over the years our board of directors evaluated from time to time our strategic alternatives and prospects. These evaluations were generally conducted during board meetings at which board members would exchange views as to industry and economic trends and strategic opportunities that might be available to us, and management would make presentations to the board of directors regarding its view with respect to strategic opportunities and its discussions with third parties regarding possible strategic transactions. On September 27, 2007, the board of directors formed a special committee consisting of Messrs. Schneeberger, Thomsen and Hottenroth (the “Special Committee”) in

preparation of the possibility that these discussions may progress past a preliminary stage; however, none of these evaluations or discussions with respect to a transaction material to PECO II progressed beyond the preliminary stage and the Special Committee remained inactive.

 

On July 24, 2008, PECO II received an unsolicited, preliminary and non-binding offer from a party, Party A, in writing to acquire PECO II for an all-cash purchase price of approximately $12.5 million, or approximately $4.51 per share on a fully diluted basis. At a meeting of the board of directors on July 29, 2008, and after discussion with its legal advisors, Porter, Wright, Morris & Arthur LLP (“Porter Wright”), including a discussion with respect to the board’s fiduciary duties, PECO II confirmed the prior appointment of the Special Committee, consisting of Messrs. Schneeberger (Chairman), Thomsen and Hottenroth. The Special Committee was delegated the responsibility to review and evaluate the offer by Party A, to negotiate with Party A the terms and conditions of the offer and to consider alternative transactions, to determine whether or not the offer was fair to and in the best interests of PECO II and its shareholders, and to recommend to the board what action, if any, should be taken. On August 6, 2008, the Special Committee agreed that the offer submitted by Party A was inadequate, but that PECO II should continue its dialogue with Party A to explore an improved offer and other possible opportunities. However, no improved offer was forthcoming.

 

Over the next several weeks, the Committee considered three investment banks to represent the Committee in connection with a possible sale of the Company. On August 20, 2008, at a meeting of the Special Committee, the Special Committee determined to engage Western Reserve as the Committee’s exclusive financial advisor upon negotiation of an engagement agreement. On August 27, 2008, the Special Committee engaged Western Reserve as the Committee’s exclusive financial advisor in connection with a possible sale of the Company. On September 30, 2008, the Special Committee met with Western Reserve and discussed potential buyers.

 

On October 7, 2008, PECO II publicly announced that it was initiating a process to explore strategic alternatives to enhance shareholder value, including, but not limited to, opportunities to acquire, merge with, or sell to similar businesses, and that Western Reserve had been retained as financial advisor.

 

From October to December 2008, Western Reserve conducted a competitive auction process for the potential sale of PECO II involving a broad group of potential strategic and financial buyers, both domestic and foreign. In November 2008, PECO II received one additional written, preliminary, non-binding offer for PECO II at a price of $2.50 per fully diluted share from a party, Party B. Due to the lack of sufficient interest and the deteriorating state of the economy and mergers and acquisitions environment, and following the Special Committee’s recommendation as determined at a meeting on November 25, 2008, the board of directors determined to suspend the sale process in late 2008.

 

From late January to March 2009, with the permission of PECO II, Western Reserve resumed informal discussions concerning a potential sale with Lineage and its private equity stockholder, The Gores Group. Several discussions and presentations were held during this time period regarding a potential combination of the two companies. On March 13, 2009, the Special Committee met to consider verbal indications of interest from Lineage; however, Lineage and PECO II were unable to reach agreement on terms at such time.

 

During the time period from April to August 2009, Western Reserve was approached by Party C, which was actively seeking acquisition opportunities. Several discussions and presentations were conducted regarding a structure, but talks never progressed past a preliminary state.

 

From August to October 2009, Western Reserve was approached by Party D, which was seeking acquisition opportunities. During this time period, discussions were also resumed with Lineage. Management presentations were held with each of Lineage and Party D.

 

On October 9, 2009, Lineage submitted a written, preliminary, non-binding offer to acquire PECO II for an all-cash purchase price of $5.00 per share on a fully diluted basis.

 

On November 2, 2009, Party D submitted to Western Reserve a written, preliminary, non-binding offer to acquire certain assets and liabilities of PECO II, exclusive of all real property assets, for $12.5 million in cash.

The offer from Party D contemplated that the tangible net worth of PECO II, exclusive of its building and real estate assets, be no less than $12.5 million, including approximately $5.8 million in cash. Further, Party D would assume no liabilities or obligations of PECO II, certain or contingent, except for trade accounts payable and accruals incurred by PECO II in the ordinary course of its business. Also, any bank debt, capital leases, closely held notes payable and other funded debt would not be assumed by Party D and would be retired by PECO II at the closing date. Finally, Party D would enter into a cost-free lease for the facilities currently utilized by PECO II in Galion, Ohio for a period not to exceed nine months. At closing, PECO II would deposit a sum mutually agreeable to the parties into an interest bearing escrow account to partially secure the indemnification obligations of PECO II under the proposed acquisition.

 

On November 3, 2009, at a regularly scheduled meeting of the PECO II board of directors, the board reviewed the proposed offers from Lineage and Party D with Western Reserve in detail. Western Reserve gave a presentation on the auction process from August 2008 to the date of the board of directors meeting and discussed the lull in the process during late 2008 and 2009, which was due in large part to the state of the economy. Porter Wright discussed with the board of directors its fiduciary duties in detail. After discussion, the board of directors also determined that there was no need to continue having a special committee to further negotiations with Lineage or Party D, and thus the board of directors resolved to dissolve the Special Committee. The board of directors discussed at length the offers and determined that while none of the written offers met the board’s expectations, the form of the Lineage offer was superior in that it was an all-cash offer for PECO II. PECO II management also discussed in detail PECO II’s current outlook and projections for 2010 and beyond. After further discussion, the board of directors authorized Western Reserve and PECO II management to continue negotiations with Lineage and Party D.

 

On November 9, 2009, Lineage submitted a revised, written, preliminary, non-binding offer to acquire PECO II for an all-cash purchase price of $5.50 per share on a fully diluted basis.

 

On November 10, 2009, Party D submitted a revised, written, preliminary, non-binding offer to acquire PECO II for an all-cash purchase price of approximately $16.7 million, or approximately $5.86 per share on a fully diluted basis. The revised Party D Offer contemplated that the tangible net worth of PECO II be no less than $15.7 million, with a mutually agreeable net working capital target to include approximately $5.8 million in cash; provided, that the Party D offer would be subject to minimum PECO II tangible net worth, cash and working capital levels.

 

On November 11, 2009, at a special meeting of the board of directors, the board of directors considered the updated Lineage and Party D offers with Western Reserve. The board of directors instructed Western Reserve to seek further clarification on the Party D offer terms.

 

On November 12, 2009, Party D submitted a revised, written, preliminary, non-binding offer to acquire PECO II for an all-cash purchase price of $5.66 per share on a fully diluted basis. The revised offer contemplated a cap of $0.20 per share for PECO II’s closing costs, and to the extent such closing costs exceeded $0.20 per share, the difference would be subtracted from the net purchase price of $5.66 per fully diluted share. This subsequent offer eliminated the minimum tangible net worth, cash and working capital level requirements that had been contained in Party D’s prior offer.

 

On November 16, 2009, Lineage submitted a revised written, preliminary, non-binding offer to acquire PECO II for an all-cash purchase price of $5.70 per share on a fully diluted basis.

 

On November 17, 2009, at a special meeting of the board of directors, the board extensively discussed both the Lineage and Party D offers, including the merits and risks of each of the offers. The board also discussed the Company’s current financial outlook for 2010. After substantial discussion, the board of directors authorized the Company to negotiate and enter into a confidentiality, exclusivity and standstill agreement with Lineage and Gores.

 

On November 17, 2009, after the board of directors meeting, Party D submitted a verbal, revised, non-binding offer to acquire PECO II for an all-cash purchase price of $5.86 per share on a fully diluted basis, exclusive of any caps. On November 18, 2009, Party D submitted written confirmation of the November 17,

2009 offer to purchase PECO II for an all-cash purchase price of $5.86 per share on a fully diluted basis, exclusive of any cap on or adjustment for PECO II closing costs.

 

On November 18, 2009, Lineage agreed to increase its offer to acquire PECO II to $5.86 per share on a fully diluted basis. PECO II, Lineage and Gores entered into the confidentiality, exclusivity and standstill agreement on the evening of November 18, 2009, which provided Lineage and Gores with the right to negotiate a definitive transaction agreement through December 31, 2009.

 

During the time period from November 19, 2009 through December 29, 2009, Lineage continued its due diligence on PECO II and respective legal counsel for both sides began to negotiate a definitive merger agreement. On December 30, 2009, the board of directors discussed the status of negotiations on the proposed definitive merger agreement with Porter Wright and Western Reserve. The board also considered the request from Lineage to conduct additional confirmatory due diligence.

 

On December 30, 2009, PECO II and Lineage entered into an amendment to the non-disclosure, standstill and exclusivity agreement to extend exclusivity until January 27, 2010, in order for Lineage to conduct additional confirmatory due diligence. As part of such amendment, Lineage reconfirmed its intent to purchase the Company at $5.86 per fully diluted share.

 

Over the next several weeks, Lineage continued its due diligence and the parties continued to negotiate a definitive merger agreement.

 

On January 26, 2010, at a regular meeting of the board of directors, Western Reserve and Porter Wright discussed the status of negotiations with respect to the merger agreement. After the board meeting, on January 26, 2010, Lineage and PECO II executed an amendment to the non-disclosure, standstill and exclusivity agreement, which extended the exclusivity period through February 5, 2010, to allow additional time for Lineage to finalize its due diligence and which confirmed Lineage’s interest in acquiring PECO II at $5.86 per fully diluted share.

 

From January 26, 2010 through February 5, 2010, PECO II, Lineage and their respective legal and financial advisors continued to negotiate the terms of a definitive merger agreement.

 

On February 5, 2010, at a special meeting of the board of directors, Western Reserve and Porter Wright discussed the status of negotiations with respect to the definitive merger agreement. After the board meeting, on February 5, 2010, Lineage and PECO II executed an amendment to the non-disclosure, standstill and exclusivity agreement, which extended the exclusivity period through February 19, 2010, to allow additional time for Lineage to complete its confirmatory due diligence and which confirmed Lineage’s interest in acquiring PECO II at $5.86 per fully diluted share.

 

From February 5, 2010 through February 17, 2010, PECO II, Lineage and their respective legal and financial advisors continued to negotiate the terms of the merger agreement. In addition, PECO II negotiated a form of amendment to Mr. Heindel’s employment agreement.

 

On the afternoon of February 17, 2010, the board held a special meeting to consider the final proposed draft of the merger agreement. Members of PECO II’s senior management and representatives of Western Reserve and Porter Wright were also present. Western Reserve rendered its oral opinion (which was subsequently delivered in writing) to the effect that as of February 17, 2010, the consideration to be received by our shareholders pursuant to the merger agreement was fair to our shareholders from a financial point of view. A representative of Porter Wright discussed with the board its fiduciary duties and proceeded to discuss the merger agreement, the voting agreement and the disclosure letter in detail, including changes to the merger agreement since the last board meeting on February 5, 2010. After discussion, the board determined to recess the meeting until the next day for further consideration of the merger agreement and the fairness opinion materials.

 

On the morning of February 18, 2010 the board of directors reconvened the special meeting from the prior day. After a discussion of a proposed amendment to Mr. Heindel’s employment agreement, and discussions among the members of the board and PECO II’s advisors regarding the proposed merger, including consideration of the factors described in “Recommendation of the Board of Directors and Reasons for the

Merger,” the board unanimously deemed it advisable and in the best interests of PECO II and its shareholders to approve the merger of Merger Sub with and into PECO II upon the terms and subject to the conditions set forth in the merger agreement, approved and declared advisable the merger agreement and the transactions contemplated thereby, including the merger, and determined that the transactions contemplated by the merger agreement, including the merger, are fair to and in the best interests of PECO II and its shareholders and recommended that PECO II’s shareholders adopt the merger agreement and the merger. The board of directors also authorized PECO II to enter into the amendment to Mr. Heindel’s employment agreement and the voting agreement.

 

On February 18, 2010, following the approval of the transaction by the respective boards of directors of PECO II and Lineage, PECO II, Lineage and Merger Sub executed the merger agreement.

 

After the closing of the regular trading session of the Nasdaq Capital Market on February 18, 2010, we and Lineage issued a joint press release announcing the execution of the merger agreement. On February 19, 2010, we filed with the Securities and Exchange Commission a current report on Form 8-K describing the material terms of the merger agreement, the amendment to Mr. Heindel’s employment agreement, the voting agreement and the other transactions contemplated by the merger agreement.

 

Our board of directors, acting with advice and assistance of its outside financial and legal advisors, unanimously approved the merger agreement and the transactions contemplated by the merger agreement, including the merger, and determined that the merger agreement and the consummation of the transactions contemplated by the merger agreement, including the merger, are advisable, fair to, and in the best interests of PECO II and its shareholders. Our board of directors recommends that you vote “FOR” adoption of the merger agreement and the merger and “FOR” the proposal to allow our Board of Directors to adjourn the special meeting to solicit additional proxies if there are not sufficient votes at the time of the special meeting to adopt the merger and the merger agreement.

 

The board of directors relied upon each of the following material reasons in reaching its decision to approve the merger agreement and the transactions contemplated in the merger agreement, including the merger:

 

 

 

Our board of directors also considered a variety of risks and other potentially negative factors concerning the merger, including the following:

 

 

In addition, the board of directors was aware of and considered the interests that our directors and certain of the executive officers may have with respect to the merger that may be considered to be different from, or

are in addition to, their interest as shareholders of PECO II, as described in “The Merger — Interests of PECO II’s Directors and Executive Officers in the Merger.”

 

The foregoing discussion summarizes the material factors considered by the board of directors in its consideration of the merger. After considering these factors, as well as others, the board of directors concluded that the positive factors related to the merger agreement and the merger significantly outweighed the potential negative factors and the merger agreement and the merger were advisable and in the best interests of PECO II and its shareholders. In view of the wide variety of factors considered by the board of directors, and the complexity of these matters, the board of directors did not find it practicable to quantify or otherwise assign relative weights to the foregoing factors. In addition, individual members of the board of directors may have assigned different weights to various factors. The board of directors unanimously recommended the merger agreement and the merger based on the totality of the information presented to and considered by it.

 

Western Reserve rendered its opinion to PECO II’s board of directors that, as of February 17, 2010, and based upon and subject to the factors and assumptions set forth in its opinion, the merger consideration of $5.86 in cash per common share of PECO II to be paid to the holders of such shares is fair from a financial point of view to such holders. The opinion of Western Reserve was necessarily based on economic, market, tax, legal and other conditions as in effect on, and the information made available to it as of February 17, 2010.

 

The full text of Western Reserve’s written opinion, dated February 17, 2010, which sets forth the assumptions made, matters considered and limitations on the review undertaken in connection with the opinion, is attached as Appendix B. Western Reserve provided its advisory services and opinion for the information and assistance of the board of directors of PECO II in connection with its consideration of the proposed merger. The opinion of Western Reserve does not constitute a recommendation as to how any shareholder should vote with respect to the proposed merger.

 

In connection with rendering its opinion, Western Reserve reviewed and analyzed, among other things, the following: (a) a draft of the merger agreement, dated February 16, 2010, which Western Reserve understood to be in substantially final form; (b) certain publicly available information concerning PECO II, including the Annual Report on Form 10-K of PECO II for fiscal year 2008, and the Quarterly Reports on Form 10-Q of PECO II for the first three fiscal quarters of 2009; (c) certain other internal information, primarily financial in nature, including financial estimates for fiscal year 2009, financial projections for fiscal year 2010 and other projections, concerning the business and operations of PECO II furnished to Western Reserve by PECO II for purposes of Western Reserve’s analyses; (d) certain publicly available information with respect to certain other companies that Western Reserve believed to be comparable to PECO II and the trading markets for certain of such other companies’ securities; (e) certain publicly available information concerning the trading of, and the trading market for, PECO II common shares; and (f) certain publicly available information concerning the nature and terms of certain other transactions that Western Reserve considered relevant to its inquiry. Additionally, Western Reserve visited PECO II’s facilities in Galion, Ohio; met or had conversations and exchanged correspondence with certain officers and employees of PECO II to discuss its business and prospects, as well as other matters Western Reserve believed relevant to its inquiry; and considered such other data and information it judged necessary or appropriate to render its opinion.

 

In rendering its opinion, Western Reserve assumed and relied upon the accuracy and completeness of all of the financial and other information provided to it or otherwise publicly available. Western Reserve also assumed the accuracy of and relied upon the representations and warranties of PECO II, Lineage and Merger Sub contained in the merger agreement. Western Reserve was not engaged to, and did not independently attempt to, verify any of such information. Western Reserve also relied upon the management of PECO II as to the reasonableness and achievability of the financial and operating projections (and the assumptions and bases for those projections) provided to it, and assumed, with the consent of the PECO II board of directors, that those projections were reasonably prepared and reflected the best available estimates and judgments of PECO II at that time. Western Reserve was not engaged to assess the reasonableness or achievability of those

projections or the assumptions on which they were based and expressed no view on those matters. Western Reserve did not conduct an appraisal of any of the assets, properties or facilities of PECO II, nor was it furnished with any evaluation or appraisal.

 

Western Reserve was not asked to, nor did it, offer any opinion as to the material terms of the merger agreement or the form of the merger transaction. Western Reserve assumed, with the consent of the PECO II board of directors, that the final executed form of the merger agreement does not differ in any material respect from the draft that Western Reserve examined in rendering its opinion. In addition, Western Reserve assumed that all governmental, regulatory or other consents and approvals necessary for the consummation of the merger will be obtained, all other conditions to the merger transaction as set forth in the merger agreement will be satisfied, and that the merger will be consummated on a timely basis in the manner contemplated by the merger agreement.

 

It should be noted that Western Reserve’s opinion is based upon economic and market conditions and other circumstances existing on, and information made available as of, the date of the opinion and does not address any matters after such date. Also, Western Reserve’s opinion is, in any event, limited to the fairness, as of the date of the opinion, from a financial point of view, of the merger consideration to be received by the holders of PECO II common stock pursuant to the merger agreement, and does not address PECO II’s underlying business decision to effect the merger or any other terms of the merger agreement. Western Reserve did not express any opinion concerning the fairness of the amount or nature of any compensation to be paid to any of the officers, directors or employees of PECO II, or to any class of such persons, relative to the compensation to be received by the holders of PECO II common shares in connection with the merger. In addition, it should be noted that, although subsequent developments may affect its opinion, Western Reserve does not have any obligation to update, revise or reaffirm its opinion.

 

The following is a brief summary of the analyses performed by Western Reserve in connection with its opinion. This summary is not intended to be an exhaustive description of the analyses performed by Western Reserve but includes all material factors considered by Western Reserve in rendering its opinion. Western Reserve drew no specific conclusions from any individual analysis, but subjectively factored its observations from all of these analyses into its qualitative assessment of the merger consideration. Except as otherwise noted, the following quantitative information, to the extent that it is based on market data, is based on market data as it existed on or before February 17, 2010, and is not necessarily indicative of current market conditions.

 

Historical Stock Trading Analyses

 

Western Reserve reviewed historical closing prices and trading volumes of PECO II common shares and noted the following:

 

 

Book Value Analysis

 

Western Reserve analyzed PECO II’s net book value and net tangible book value utilizing PECO II’s preliminary financial reports for fiscal year 2009. Western Reserve calculated PECO II’s net book value and net tangible book value to be $6.18 per common share and $5.59 per common share, respectively. The merger consideration of $5.86 per PECO II common share fell within this range.

Premiums Paid Analysis

 

To assess the share price premium offered to PECO II shareholders, Western Reserve reviewed the premiums paid for 156 selected domestic transactions that were valued between $10 million and $100 million, classified by one of 25 power generation and telecommunications equipment North American Industry Classification System (NAIC) codes, and that occurred after January 1, 2002. Western Reserve calculated the premium paid in each transaction by comparing the announced transaction value per share to the target company’s stock price one day and one week prior to the announcement of the transaction. This analysis indicated the following premiums paid:

 

 

Western Reserve utilized the high (34.3%) and low (27.6%) premiums from this analysis to calculate a range of implied prices of a PECO II common share of $4.36 to $4.62. The merger consideration of $5.86 per share of PECO II common share represented a 67.4% and 75.4% premium compared to the per share price of PECO II common shares one day and one week prior to the date of announcement of the proposed merger transaction.

 

Comparable Public Company Analysis

 

In order to assess how the public market values shares of publicly traded companies that have operating characteristics similar to those of PECO II, Western Reserve reviewed and compared the financial and operating performance of 11 publicly traded companies focused on manufacturing and marketing power supply equipment and energy systems serving end markets similar to those served by PECO II. The companies included the following:

 

 

None of the companies used in this analysis is identical or directly comparable to PECO II. Accordingly, an evaluation of the results of this analysis is not entirely mathematical. Rather, this analysis involves complex considerations and judgments concerning differences in financial and operating characteristics of the selected companies and other factors that could affect the public trading value of the selected companies.

 

Given the general lack of profitability among PECO II and its public comparable peers on a trailing 12 months basis, Western Reserve examined comparable company enterprise values as a multiple of revenue to arrive at its valuation of PECO II. For each of the selected companies, Western Reserve calculated the applicable company’s ratio of total enterprise value as of February 16, 2010, to its revenue as of the trailing

12 months period ending as of the end of the period covered by the applicable company’s most recently filed annual report on Form 10-K or quarterly report on Form 10-Q. Enterprise value (“EV”) is calculated as the market value of the company’s equity (as of February 16, 2010); plus the value of the company’s indebtedness, minority interest and preferred stock; minus the company’s cash and cash equivalents. The following table summarizes this analysis:

 

 

Western Reserve utilized the median EV / Revenue multiple of 0.65x and applied a range of discounts, from 75.0% to 65.0%, to that multiple to account for PECO II’s relatively small size, stock illiquidity, historical financial performance and strategic position relative to its peer group. The market closing price per PECO II common share on February 16, 2010 suggested an EV for PECO II of approximately 0.14x trailing 12 months’ revenue as of that date. Western Reserve applied a range of 0.16x to 0.23x EV / Revenue (trailing 12 months as of December 31, 2009), which implied a valuation range of per share values for PECO II of $5.03 to $6.00. The merger consideration of $5.86 per PECO II common share fell within this range.

 

Comparable Transactions Analysis

 

Using publicly available information, Western Reserve reviewed and compared multiples paid in the following 13 acquisitions of power electronics and telecommunications component industry companies that occurred since 2004:

 

 

None of the acquired companies used in this analysis are identical or directly comparable to PECO II. Accordingly, an evaluation of the results of this analysis was not entirely mathematical. Rather, this analysis involves complex considerations and judgments concerning these transactions and how they could be viewed relative to the proposed merger.

Given the lack of profitability among PECO II and the companies acquired in the comparable transactions, Western Reserve examined enterprise values as a multiple of revenue in conducting this analysis. Western Reserve calculated these multiples by dividing the acquired company’s enterprise value by its most recent trailing 12 months revenue prior to the transaction. The following table summarizes this analysis:

 

 

Western Reserve utilized the median EV / Revenue multiple of 0.55x and applied a range of discounts, from 65.0% to 55.0%, to that multiple to account for PECO II’s relatively small size to the comparable transactions and, since each of the selected comparable transactions were consummated prior to September 2008, market cyclicality. Western Reserve applied the discounted range of 0.19x to 0.25x EV / Revenue to PECO II’s trailing 12 months revenue as of December 31, 2009, which implied a valuation range of per share values for PECO II common shares of $5.48 to $6.31. The merger consideration of $5.86 per PECO II common share fell within this range.

 

Discounted Cash Flow Analysis

 

Based on its analysis of PECO II’s financial projections for the years ending 2010 through 2014, Western Reserve performed two discounted cash flow analyses, one that assessed PECO II’s equity value under a “status quo” scenario and one that assessed PECO II’s equity value under a “go-private” scenario. In both scenarios, Western Reserve discounted to a present value PECO II’s projected stream of free cash flows for the years 2010 through 2014 and for an estimated terminal value, each adjusted for certain projected non-cash items (such as depreciation and amortization), tax assumptions, projected capital expenditures and projected changes in net non-cash working capital. The discounted cash flow analysis was conducted based on an estimated weighted average cost of capital for PECO II of 25.0%. Western Reserve calculated the estimated terminal value of PECO II at the end of the forecast period by applying a Gordon Growth Model calculation and assuming a 3.0% perpetuity growth rate on PECO II’s 2015 free cash flow and a discount factor of 25.0%. In both scenarios, Western Reserve conducted a sensitivity analysis using a range of costs of capital (22.5% to 27.0%) and perpetuity growth rates (2.0% to 4.0%).

 

Under the “status quo” scenario, PECO II’s projected cash flows were based on the assumption that PECO II would continue to incur public company related expenses and be able to realize the full benefits of its net operating loss carryforwards (“NOLs”), estimated to be over $65.0 million and generally expiring through 2028. The “status quo” sensitivity analysis suggested a range of per share values for PECO II common stock of $5.54 to $6.42. Under the “go-private” scenario, PECO II’s projected cash flows were adjusted assuming that PECO II had sold a controlling equity position, and, as such, would no longer incur certain public company related expenses and would, under applicable tax law, be limited on an annual basis to realize only a portion of its NOLs. The “go-private” sensitivity analysis suggested a range of per share values for PECO II common shares of $5.38 to $6.17. The merger consideration of $5.86 per PECO II common share fell within the suggested range under both scenarios.

 

Leveraged Buyout Analysis

 

Western Reserve performed a leveraged acquisition analysis in order to ascertain the price at which an acquisition of PECO II would be attractive to a potential financial buyer. Western Reserve performed this analysis using PECO II’s projections and based the analysis on the following assumptions:

 

 

 

Based on these assumptions, Western Reserve generated a range of likely equity investments, which implied a leveraged acquisition price per share range for PECO II common shares of $4.53 to $4.89. The merger consideration of $5.86 per PECO II common share exceeded the implied range.

 

Miscellaneous

 

The summary set forth above describes the principal analyses performed by Western Reserve in connection with its opinion delivered to the PECO II Board of Directors on February 17, 2009. The preparation of a fairness opinion involves various determinations as to the most appropriate and relevant methods of financial analysis and the application of these methods to the particular circumstances and, therefore, the analyses underlying the opinion are not readily susceptible to summary description. Each of the analyses conducted by Western Reserve was carried out in order to provide a different perspective on the proposed merger transaction and add to the total mix of information available. Western Reserve did not form a conclusion as to whether any individual analysis, considered in isolation, supported or failed to support an opinion as to fairness from a financial point of view. Rather, in reaching its conclusion, Western Reserve considered the results of the analyses in light of each other and ultimately reached its opinion based upon the results of all analyses taken as a whole. Except as indicated above, Western Reserve did not place particular reliance or weight on any individual analysis, but instead concluded that its analyses, taken as a whole, support its determination. Accordingly, notwithstanding the separate factors summarized above, Western Reserve believes that its analyses must be considered as a whole and that selecting portions of its analysis and the factors considered by it, without considering all analyses and factors, could create an incomplete or misleading view of the evaluation process underlying its opinion. In performing its analyses, Western Reserve made numerous assumptions with respect to industry performance, business and economic conditions and other matters. The analyses performed by Western Reserve are not necessarily indicative of actual value or future results, which may be significantly more or less favorable than suggested by the analyses.

 

PECO II agreed to pay Western Reserve an aggregate fee of $395,129.42 for its services in connection with the proposed merger transaction, a portion of which was paid upon Western Reserve’s engagement as a retainer, a portion of which was payable upon the rendering of its opinion and a significant portion of which is contingent upon consummation of the merger transaction. PECO II has also agreed to reimburse Western Reserve for certain of its expenses incurred in connection with Western Reserve’s engagement and to indemnify Western Reserve against certain liabilities, including liabilities under the federal securities laws.

 

Western Reserve is actively involved in the investment banking business and regularly undertakes the valuation of investment securities in connection with public offerings, private placements, business combinations and similar transactions.

 

In the event the merger agreement is not adopted by our shareholders or if the merger is not completed for any other reason, our shareholders will not receive any payment for their PECO II common shares in connection with the merger. Instead, PECO II will remain an independent public company and its common share will continue to be listed and traded on NASDAQ. In addition, if the merger is not completed, we expect that our management will continue to operate the business and that the PECO II shareholders will continue to be subject to risks and opportunities similar to those to which they are currently subject. Accordingly, if the merger is not consummated, there can be no assurance as to the effect of these risks and opportunities on the future value of your shares. From time to time, our board of directors will evaluate and review the business

operations, properties, and capitalization of PECO II, among other things, make such changes as are deemed appropriate, and continue to seek to identify strategic alternatives to maximize shareholder value. If the merger agreement is not consummated for any other reason, there can be no assurance that any other transaction acceptable to PECO II will be offered or that the business, prospects or results of operations of PECO II will not be adversely impacted. If the merger agreement is terminated under certain circumstances, PECO II will be obligated to pay a termination fee of $1,100,000. See the section entitled “The Merger Agreement — Termination Fee” on page 49.

 

In considering the recommendation of our board of directors in favor of the merger, you should be aware that members of our board of directors and our executive officers may have interests in the merger that may be different from, or in addition to, yours. All such additional interests are described below, to the extent material. Except as described below, such persons have, to our knowledge, no material interest in the merger apart from those of shareholders generally. Our board of directors was aware of, and considered the interests of, our directors and executive officers in approving the merger agreement and the merger.

 

Indemnification and Insurance

 

Without limiting any additional rights that any officer or director may have under any written indemnification agreement, the merger agreement provides that for a period of six years from and after the effective time of the merger, the surviving corporation will indemnify and hold harmless all past and present directors, officers and employees of PECO II to the same extent such persons are indemnified as of the date of the merger agreement by PECO II pursuant to applicable law, our articles of incorporation, our code of regulations, and indemnification agreements in existence on the date of the merger agreement with any directors, officers and employees of PECO II arising out of acts or omissions in their capacity as directors, officers or employees of PECO II or any subsidiary occurring at or prior to the effective time of the merger.

 

The merger agreement provides that for a period of six years from and after the effective time of the merger agreement, the articles of incorporation and code of regulations of the surviving corporation will contain provisions no less favorable with respect to exculpation, indemnification and advancement of expenses of directors, officers and employees of PECO II for periods at or prior to the effective time of the merger than are currently set forth in our articles of incorporation and code of regulations. The indemnification agreements in existence on the date of the merger agreement with any of the directors, officers or employees of PECO II will continue in full force and effect in accordance with their terms following the effective time of the merger.

 

For six years from and after the effective time of the merger, the surviving corporation will maintain, with a reputable insurance company rated at least equally to our existing policy, for the benefit of our directors and officers, an insurance and indemnification policy that provides coverage for events occurring prior to the effective time of the merger that is substantially equivalent to and in any event not less favorable in the aggregate than our existing policy, subject to certain limitations.

 

Stock Options

 

Under the merger agreement, each outstanding PECO II stock option that remains outstanding as of immediately prior to the effective time of the merger will terminate and thereafter represent the right to receive a cash payment, if any, less applicable tax withholding, equal to the product of:

 

 

No holder of an outstanding PECO II stock option that has an exercise price per share that is equal to or greater than $5.86 shall be entitled to any payment with respect to the terminated stock option before or after the effective time of the merger. As of the date of this proxy statement, there were not any of our common shares subject to outstanding PECO II stock options with an exercise price of less than $5.86 per share, which

options were granted under our Amended 2000 Performance Plan to our current executive officers, directors and employees. Thus, we do not expect to pay out any cash upon termination of options outstanding as of immediately prior to the effective time of the merger.

 

Employment Agreements with Certain Executive Officers

 

We have an employment agreement, dated January 4, 2010, as amended February 18, 2010, with Mr. Heindel, our chief executive officer. Mr. Heindel’s employment agreement has an initial term ending on December 31, 2011. At the end of the term, including any renewal extensions thereof, the employment agreement will automatically renew for an additional one-year period, unless either party gives 90 days’ prior written notice to the other party of its intent not to renew the employment agreement.

 

The employment agreement provides that Mr. Heindel will receive an annual base salary of $300,000, which will be reviewed and may be increased from time to time by our board of directors. Provided that the agreement is in effect, Mr. Heindel is entitled to a grant of restricted stock on January 3, 2011 equal to $40,000, which will vest on December 31, 2011.

 

Mr. Heindel is eligible to participate in any cash bonus plan which is established from time to time in an amount determined by the compensation/nominating committee of our board of directors, and Mr. Heindel is eligible for awards granted under our Amended 2000 Performance Plan, at the discretion of the compensation/nominating committee.

 

Mr. Heindel is entitled to a car allowance of $750 per month during the term of the employment agreement. Under the employment agreement, we have agreed to obtain a life insurance policy for a duration of not less than the term of the employment agreement upon the life of Mr. Heindel in the amount of $1,000,000, which policy will be payable $500,000 together with gross-up of premiums to the beneficiaries of Mr. Heindel and any balance will be paid to PECO II.

 

In the event of a termination due to the death or disability (as defined in the employment agreement) of Mr. Heindel, Mr. Heindel’s employment will be deemed terminated as of the end of the month in which such death occurs or disability is determined, and we will pay to Mr. Heindel, or his beneficiary, base salary and benefits for a period of 90 days from the deemed termination date. In addition, Mr. Heindel’s stock options will immediately vest 100% upon his death or disability and may be exercised for 90 days from the deemed termination date but not later than their expiration date.

 

In the event of a termination of Mr. Heindel for cause (as defined in the employment agreement), all obligations of PECO II to Mr. Heindel will cease.

 

If a change of control (as defined in the employment agreement), such as the proposed merger, occurs at any time during the term of the employment agreement, and within six months following the date of the change of control either (i) Mr. Heindel terminates his employment for any reason or (ii) PECO II terminates Mr. Heindel’s employment for any reason other than for cause, then Mr. Heindel is entitled to the following: two times the sum of (1) Mr. Heindel’s annual salary in effect on the date of termination, (2) the cash value of the annual restricted stock grant to Mr. Heindel, measured as of the grant date, and (3) the annual or incentive bonus earned by Mr. Heindel in the most recently completed fiscal year. In addition, upon any such termination, Mr. Heindel is entitled to the continuing payment of his family COBRA health insurance coverage for a maximum of 18 months from the date of termination, and his stock options will immediately vest 100% and may be exercised for a period of 12 months from the termination date.

 

In the event of a termination of Mr. Heindel’s employment by us without cause, we are required to provide him with not less than 90 days’ advance written notice, and pay to Mr. Heindel: (i) base salary for an additional 12 months in accordance with normal payroll practices and (ii) an amount equal to any accrued cash bonuses (that are accrued at the time of termination) within three months after such termination. The Company may accelerate the effective date of the termination without cause, if PECO II increases the amount payable to Mr. Heindel to an amount equal to the amount of payments Mr. Heindel would receive following termination within six months of a change of control, as described above. In addition, Mr. Heindel’s stock

options and restricted stock will immediately vest 100% upon termination and his stock options may be exercised for 90 days from the termination date but not later than their expiration date.

 

In the event of a termination of employment by Mr. Heindel without good reason (as defined in the employment agreement), he is required to provide us with not less than 90 days’ advance written notice and we are required to pay to Mr. Heindel base salary and benefits for a period of 90 days from the date of such notice. In addition, Mr. Heindel’s stock options may be exercised for 90 days from the termination date but not later than their expiration date.

 

In the event of a termination by Mr. Heindel with good reason, PECO II will pay to Mr. Heindel an amount equal to the amount of payments Mr. Heindel would receive following termination within six months of a change of control, as described above. In addition, Mr. Heindel’s stock options and restricted stock will immediately vest 100% and his stock options may be exercised for 90 days from the termination date but not later than their expiration date.

 

Mr. Heindel’s employment agreement also contains provisions to ensure compliance with certain Internal Revenue Code sections, and to ensure any amount of certain payments determined to be nondeductible to PECO II under Section 280G of the Internal Revenue Code will be reduced to the maximum amount which would cause all of such payments to be deductible by PECO II.

 

Under the employment agreement, Mr. Heindel may not compete against PECO II for a period of one year following any termination of his employment with PECO II. In addition, the employment agreement provides that, during such one-year period, and for an additional six-month period thereafter, Mr. Heindel may not be employed or engaged by, perform any services for, invest in or become associated in any capacity with certain competitors of PECO II.

 

We also have an employment agreement, dated November 29, 2007, as amended January 27, 2010, with Eugene Peden, our Senior Vice President, Operations and Secretary. Mr. Peden’s employment agreement provided for an initial base salary of $150,000, which has been increased since the date of his hiring. The employment agreement also provides that Mr. Peden is entitled to an annual cash bonus of $50,000, subject to the achievement of annual business goals. Upon entering into his employment agreement, Mr. Peden received a signing bonus of $25,000 and an option to purchase 20,000 PECO II common shares, of which 40% vested one year after his first year of employment, 30% vested after his second year of employment, and 30% is scheduled to vest after his third year of employment. Upon entering his employment agreement, Mr. Peden was entitled to Company-provided local housing, the opportunity to earn 5,000 shares of restricted stock awarded to him based on the achievement of 2008 performance goals, participation in the Company benefits package after approximately one month of employment, 15 vacation days, and additional financial support for certain expenses not to exceed $14,000.

 

If a change of control (as defined in his employment agreement) occurs, such as the proposed merger, and the surviving corporation terminates Mr. Peden within 12 months following the change of control, Mr. Peden is entitled to receive cash compensation equivalent to one year’s base pay, and his stock options and restricted stock will immediately vest 100% and may be exercised for a period of 90 days from the termination date.

 

If, within six months following a change of control, Mr. Peden terminates his employment for good reason, Mr. Peden is entitled to receive cash compensation equivalent to one year’s base pay, and his stock options and restricted stock will immediately vest 100% and may be exercised for a period of 90 days from the termination date. Good reason is generally defined in Mr. Peden’s employment agreement to mean the occurrence of (1) any material change with respect to the diminution or reassignment of title, appointment, authority, or reporting relationship of Mr. Peden; (2) the assignment or relocation of Mr. Peden to a location outside of a 50 mile radius from PECO II’s headquarters or Mr. Peden’s residence; or (3) the failure of PECO II to pay Mr. Peden’s salary or any amounts otherwise vested or due under any plan or policy of PECO II.

The Voting Agreement

 

Simultaneous with the execution of the merger agreement, certain of our shareholders, including two members of our board of directors, James L. Green and Matthew P. Smith (and/or entities or trusts controlled by them), executed a voting agreement, under which each shareholder agreed to vote their shares in favor of the merger, the merger agreement and the transactions contemplated by the merger agreement, and against any other transaction or proposals that would frustrate or impede the merger.

 

A copy of the voting agreement is attached hereto as Appendix C and is incorporated herein by reference.

 

The following is a general discussion of certain material United States federal income tax consequences of the merger to holders of our common shares. We base this discussion on the provisions of the Internal Revenue Code of 1986, as amended (the “Code”), Treasury Regulations issued thereunder, judicial authority, and administrative rulings and practice each as in effect as of the date of this proxy statement and all of which are subject to change, possibly on a retroactive basis.

 

All shareholders are urged to consult their own tax advisors to determine their particular tax consequences, including the application and effect of any state, local, gift, or foreign income and other tax laws, of the receipt of cash upon the conversion of our common shares pursuant to the merger.

 

For purposes of this discussion, a “U.S. holder” is a beneficial owner of shares of our common stock, who or that is, for United States federal income tax purposes:

 

 

A “non-U.S. holder” is a person (other than an entity treated as a partnership for United States federal income tax purposes) that is not a U.S. holder.

 

This discussion assumes that a holder holds the common shares as a capital asset within the meaning of Section 1221 of the Code (generally, property held for investment). This discussion does not address all aspects of United States federal income tax law that may be relevant to a holder in light of its particular circumstances, or that may apply to a holder that is subject to special treatment under the United States federal income tax laws, including but not limited to, for example, insurance companies, dealers in securities or foreign currencies, shareholders subject to the alternative minimum tax, persons that have a functional currency other than the United States dollar, tax-exempt organizations, personal holding companies, regulated investment companies, real estate investment trusts, banks, financial institutions, thrifts, mutual funds, entities treated as partnerships for United States federal income tax purposes and other pass-through entities for United States federal income tax purposes, controlled foreign corporations, common trusts, passive foreign investment companies, certain expatriates, corporations that accumulate earnings to avoid United States federal income tax, corporations subject to anti-inversion rules, shareholders who hold our common shares as part of a hedge, straddle, constructive sale, conversion transaction, or other integrated instrument, holders of options or other derivative securities or shareholders who acquired our common shares through the exercise of employee stock options or other compensation arrangements. In addition, this discussion does not address any tax considerations under state, local, gift tax or foreign laws or United States federal laws other than those pertaining to the United States federal income tax that may apply to holders.

If a holder of our common shares is an entity treated as a partnership for United States federal income tax purposes, the tax treatment of a partner will generally depend on the status of the partners and the activities of the partnership. If you are a partner of a partnership holding our common stock, you should consult your tax advisors.

 

U.S. Holders

 

The receipt of cash in the merger by U.S. holders of our common shares will be a taxable transaction for United States federal income tax purposes. In general, for United States federal income tax purposes, a U.S. holder of our common shares will recognize gain or loss equal to the difference, if any, between:

 

 

If the holding period in our common shares surrendered in the merger is greater than one year as of the date of the merger, the gain or loss generally will be long-term capital gain or loss. Long-term capital gain of U.S. holders who are individuals is generally subject to United States federal income tax at a reduced rate. If an individual shareholder’s holding period in our common shares surrendered in the merger is one year or less as of the effective time of the merger, any gain or loss generally will be short-term capital gain or loss. The deductibility of a capital loss recognized on the conversion of our common shares will be subject to limitations under the Code. If a U.S. holder acquired different blocks of our common shares at different times or different prices, the U.S. holder must calculate its gain or loss and determine its adjusted tax basis and holding period separately with respect to each block of our common stock.

 

Under the Code, a U.S. holder of our common shares may be subject, under certain circumstances, to information reporting on the cash received in the merger unless such U.S. holder is a corporation or other exempt recipient. Backup withholding may also apply (currently at a rate of 28%) with respect to the payments received in connection with the merger, unless a U.S. holder provides proof of an applicable exemption or a correct tax identification number, and otherwise complies with the applicable requirements of the backup withholding rules. Backup withholding is not an additional tax and any amounts withheld under applicable withholding rules may be refunded or credited against a U.S. holder’s United States federal income tax liability, if any, provided that such U.S. holder furnishes the required information to the Internal Revenue Service in a timely manner.

 

Non-U.S. Holders

 

Any gain realized on the receipt of cash in the merger by a non-U.S. holder generally will not be subject to United States federal income tax unless:

 

 

An individual non-U.S. holder described in the first bullet point immediately above will be subject to tax on the net gain derived from the merger under regular graduated United States federal income tax rates. If a non-U.S. holder that is a foreign corporation falls under the first bullet point immediately above, it will be subject to tax on its net gain in the same manner as if it were a United States person as defined under the Code, and, in addition, may be subject to the branch profits tax equal to 30% of its after-tax effectively connected earnings and profits (reduced by any increase in its investment in its U.S. business) or at such lower rate as may be specified by an applicable income tax treaty. An individual non-U.S. holder described in the

second bullet point immediately above will be subject to a flat 30% tax (or lower income tax treaty rate) on the gain derived from the merger, which may be offset by United States source capital losses, even though the individual is not considered a resident of the United States.

 

We believe we are not, have not been and do not anticipate becoming a “United States real property holding corporation” for United States federal income tax purposes.

 

If the above rules apply, information reporting and, under certain circumstances, backup withholding (currently at a rate of 28% for non-U.S. holders under the first and third bullet points above and at a rate of 30% for non-U.S. holders under the second bullet point above) will apply to cash received in the merger, unless with respect to the non-U.S. holders under the first bullet point, the beneficial owner under penalty of perjury provides sufficient documentation to the payor. Backup withholding is not an additional tax and any amounts withheld under the backup withholding rules may be refunded or credited against a non-U.S. holder’s United States federal income tax liability, if any, provided that such non-U.S. holder furnishes the required information to the Internal Revenue Service in a timely manner.

 

U.S. holders and non-U.S. holders are urged to consult their own tax advisors to determine their particular tax consequences, including the application and effect of any state, local, gift, or foreign income and other tax laws, of the receipt of cash upon the conversion of our common stock pursuant to the merger.

 

Except for the filing of a certificate of merger in Ohio at or before the effective date of the merger, we are unaware of any material federal, state or foreign regulatory requirements or approvals required for the execution of the merger agreement or completion of the merger.

 

We expect that the merger will be accounted for by Lineage using the purchase method of accounting, in accordance with generally accepted accounting principles.

 

When the merger is completed, PECO II common shares will be delisted from NASDAQ and deregistered under the Securities Exchange Act.

 

Under Ohio law, holders of our common shares who do not vote in favor of adopting the merger agreement and the merger will have the right to seek appraisal of the fair value of their shares as determined by the Court of Common Pleas in Crawford County, Ohio, if the merger is completed, but only if they comply with the Ohio law procedures applicable to such appraisal rights. This amount could be more, the same or less than the value that our shareholders are entitled to receive under the terms of the merger agreement.

 

Section 1701.84 of the Ohio Revised Code, or ORC, provides that all of our shareholders entitled to vote on the adoption of the merger agreement may exercise appraisal rights with respect to the merger. Each shareholder who does not vote in favor of adoption of the merger agreement and who complies with all of the requirements of Section 1701.85 of the ORC will be entitled to receive the fair cash value of his, her or its shares upon perfecting their right of appraisal.

 

The following is a summary of the principal steps a shareholder must take to perfect their appraisal rights under the ORC. This summary is qualified by reference to Section 1701.85 and other provisions of the ORC. Any shareholder contemplating exercise of their appraisal rights is urged to carefully review the provisions of Section 1701.85 and to consult an attorney, since failure to follow fully and precisely the procedural requirements of the statute may result in termination or waiver of such rights. A copy of Section 1701.85 of the ORC is attached to this proxy statement as Appendix D and is incorporated herein by reference.

To perfect the right of appraisal, a dissenting shareholder must satisfy each of the following conditions and must otherwise comply with Section 1701.85:

 

 

If PECO II and any dissenting shareholder cannot agree upon the fair cash value of the common shares, then either we or the dissenting shareholder may, within three months after delivery of the dissenting shareholder’s demand for fair cash value, file a petition in the Court of Common Pleas in Crawford County, Ohio for a determination that the shareholder is entitled to exercise appraisal rights and to determine the fair cash value of our common shares. The cost of the proceeding, including reasonable compensation to the appraisers to be fixed by the court, will be assessed as the court considers equitable.

 

“Fair cash value” is the amount that a willing seller, under no compulsion to sell, would be willing to accept, and that a willing buyer, under no compulsion to purchase, would be willing to pay. In no event will the fair cash value be in excess of the amount specified in the dissenting shareholder’s demand. Fair cash value is determined as of the day before the meeting to adopt the merger agreement. The amount of the fair cash value excludes any appreciation or depreciation in market value of the shares resulting from the merger. The fair cash value of the shares may be higher, the same as, or lower than the market value of the shares on the date of the merger. Shareholders should be aware that investment banking opinions as to the fairness, from a financial point of view, of the consideration payable in a merger are not opinions as to, and do not in any way address, fair cash value under Section 1701.85 of the ORC.

Payment of the fair cash value must be made within 30 days after the later of the final determination of such value or the closing date of the merger. Such payment shall be made only upon simultaneous surrender to us of the share certificates for which such payment is made.

 

A dissenting shareholder’s rights to receive the fair cash value of their PECO II common shares will terminate if:

 

 

All rights accruing from our common shares, including voting and dividend and distribution rights, are suspended from the time a dissenting shareholder makes a demand for payment with respect to such shares until the termination or satisfaction of the rights and obligations of the dissenting shareholder and PECO II arising from such demand. During this period of suspension, any dividend or distribution paid on the common shares will be paid to the record owner as a credit upon the fair cash value thereof. If a shareholder’s appraisal rights are terminated other than by purchase by us of the dissenting shareholder’s common shares, then at the time of termination all rights will be restored and all distributions that would have been made, but for suspension, will be made.

 

The following description summarizes the material provisions of the merger agreement. Shareholders should read carefully the merger agreement, which is attached as Appendix A to this proxy statement and is incorporated herein by reference.

 

The merger agreement and the following summary have been included to provide you with information regarding the terms of the merger agreement and are not intended to provide you with any factual information about any party to the merger agreement, including any information about their condition (financial or otherwise). Specifically, although the merger agreement contains representations and warranties of each of us, Lineage, and Merger Sub, the assertions embodied in those representations and warranties were made for purposes of the merger agreement and the closing conditions under the merger agreement and are subject to qualifications and limitations agreed to by the respective parties in connection with negotiating the terms of the merger agreement, including exceptions and other information contained in the confidential disclosure letter that the parties exchanged in connection with signing the merger agreement that are not included in this document. In addition, certain representations and warranties were made as of a specific date, may be subject to a contractual standard of materiality different from what might be viewed as material to shareholders or may have been used for purposes of allocating risk between the respective parties rather than establishing matters of fact. Moreover, information concerning the subject matter of such representations and warranties may change after the date of the merger agreement, which subsequent information may or may not be fully reflected in our public disclosures. Accordingly, you should not look to or rely on such representations and warranties for information about the parties to the merger agreement. You should read the merger agreement together with the other information covering us that we publicly file in reports and statements with the SEC.

 

The merger agreement provides for the merger of Merger Sub with and into us. At that time, the separate corporate existence of Merger Sub will cease, and we will continue as the surviving corporation of the merger and as a wholly owned subsidiary of Lineage.

The merger will become effective when a certificate of merger is filed with the Ohio Secretary of State (or at a later time as specified in the certificate of merger). We will file the certificate of merger as soon as practicable on or after the closing, which will take place no later than three business days after the satisfaction or (to the extent permitted by applicable law) waiver of the parties’ conditions to completion of the merger. See “The Merger Agreement — Conditions to the Completion of the Merger.” Following the completion of the merger, our common shares will no longer be listed on NASDAQ, will be deregistered under the Securities Exchange Act, and will no longer be publicly traded, and our obligation to file reports under the Securities Exchange Act will be suspended. We will be a privately held corporation and our current shareholders will cease to have any ownership interest in us or rights as our shareholders. Therefore, our current shareholders will not participate in any future earnings or growth of PECO II and will not benefit from any appreciation in the value of PECO II.

 

The merger agreement provides that each PECO II common share issued and outstanding immediately prior to the effective time of the merger will be converted at the effective time of the merger into the right to receive $5.86 in cash, without interest and less applicable withholding taxes. All treasury shares and shares owned by us, Lineage or any of our or its subsidiaries will be cancelled at the effective time of the merger and no payment will be made for those shares. If appraisal rights for any of our shares are properly exercised by any of our shareholders, then those shares will be treated as described under “The Merger — Appraisal Rights.”

 

After the merger is effective, each holder of a certificate or book entry position formerly representing PECO II common shares will no longer have any rights as a shareholder of PECO II with respect to the shares, except for the right to receive the merger consideration.

 

See “The Merger — Effect on Awards Outstanding Under PECO II’s Stock Plans” for a description of the treatment of stock options and purchase rights under our employee stock purchase plan.

 

Effective automatically upon completion of the merger, you will have the right to receive the per share merger consideration in cash, without interest and less any applicable withholding tax. We have selected Computershare Trust Company, N.A., which is also our current transfer agent, to act as paying agent under the merger agreement. Prior to the effective time of the merger, we will enter into an agreement with the paying agent in a form reasonably acceptable to Lineage. At the effective time of the merger, Lineage will deposit to the paying agent cash in an amount sufficient to enable the paying agent to pay the aggregate merger consideration to the holders of our common shares.

 

Promptly after the effective time of the merger, the paying agent will mail to each record holder of shares a letter of transmittal and instructions for use in surrendering certificates (for certificated shares) or shares you may hold represented by book entry in exchange for the merger consideration. No shareholder should surrender any certificates until the shareholder receives the letter of transmittal and other materials for such surrender. Upon surrender of a stock certificate (for certificated shares) for cancellation to the paying agent, together with a letter of transmittal, duly completed and executed in accordance with the instructions, and such other customary documents as the paying agent may require, or upon surrender of book entry shares, the holder of such shares will be entitled to receive the merger consideration into which the number of such shares will have been converted pursuant to the merger agreement, without any interest thereon. The surrendered certificates or book entry shares will be cancelled.

 

If payment of the merger consideration is to be made to a person other than the person in whose name a surrendered certificate or instrument is registered, it will be a condition to such payment that the certificate or instrument so surrendered will be properly endorsed or will be otherwise in proper form for transfer, and that the person requesting such payment will have paid all taxes required by reason of such payment in a name other than that of the registered holder of the certificate or instrument surrendered or will have established to the satisfaction of the surviving corporation that such tax is not payable.

In the event any certificates representing our common shares have been lost, stolen or destroyed, the paying agent will issue the merger consideration to such shareholder upon the making of an affidavit of that fact by the shareholder. However, the surviving corporation of the merger may, in its discretion, require such shareholder to deliver a bond in a reasonable amount as it may direct as indemnity against any claim that may be made against the surviving corporation of the merger with respect to the certificates alleged to have been lost, stolen or destroyed.

 

You should not send your certificates now, and should send them only pursuant to instructions set forth in the letter of transmittal to be mailed to shareholders promptly after the effective time of the merger. In all cases, the merger consideration will be provided only in accordance with the procedures set forth in this proxy statement, the merger agreement and such letters of transmittal.

 

Twelve months after the effective time of the merger, the paying agent will deliver to the surviving corporation of the merger, upon demand, any funds made available to the paying agent which have not been disbursed to holders of our common shares. Any holders of our common shares who have not complied with the above-described procedures to receive payment of the merger consideration during such period may thereafter look only to the surviving corporation of the merger for payment of the merger consideration to which they are entitled. We, Lineage, Merger Sub and the paying agent will not be liable to any holder of our common shares for any amounts paid to a public official pursuant to applicable state, federal or other abandoned property, escheat or similar law. Any amounts remaining unclaimed by holders of shares of our common shares five years after the effective time of the merger, or such earlier date immediately prior to such time when the amounts would otherwise escheat to or become property of any governmental authority, will become, to the extent permitted by applicable law, the property of the surviving corporation of the merger, free and clear of any claims or interests of any person previously entitled thereto.

 

The merger agreement provides that the directors of Merger Sub immediately prior to the effective time of the merger will be the directors of the surviving corporation of the merger. The merger agreement provides that the officers of PECO II immediately prior to the effective time of the merger will be the officers of the surviving corporation of the merger.

 

Immediately prior to the effective time of the merger, each unexpired and unexercised option to purchase our common shares, under any stock option plan, including our Amended 2000 Performance Plan or any other plan, agreement or arrangement, will be cancelled, and each former holder of any such cancelled stock option will be entitled to receive a payment in cash of an amount, if any, equal to the product of (i) the total number of shares previously subject to such stock option and (ii) the excess, if any, of $5.86 per share over the exercise price per share previously subject to such stock option.

 

Immediately prior to the effective time of the merger, each unvested share of restricted stock subject to forfeiture restrictions, repurchase rights or other restrictions under any PECO II stock option plans will vest in full and all restrictions will lapse and such restricted stock will be converted into the right to receive $5.86 per share, subject to any withholding of taxes.

 

After the effective time of the merger, all of our stock option plans, including our Amended 2000 Performance Plan, will terminate and no further PECO II stock options or other rights with respect to our common shares will be granted thereunder.

 

The current offerings in progress as of the date of the merger agreement under our 2000 Employee Stock Purchase Plan will continue, and in accordance with the terms of the plan, any offering in progress as of the effective time of the merger will be shortened, and the next purchase date will be the business day immediately preceding the effective time of the merger. Each then outstanding option under the plan will be exercised automatically on such purchase date. We will terminate the plan as of or prior to the effective time of the merger.

 

The merger agreement contains representations and warranties of us as to, among other things:

 

 

For purposes of the merger agreement, a “company material adverse effect” means any change, event, development, occurrence, or effect that (1) is, or would reasonably be expected to be, materially adverse to the business, condition (financial or otherwise), assets, liabilities or results of operations of us and our subsidiaries, taken as a whole, or (2) prevents the consummation of the merger or performance by us of any of our material

obligations under the merger agreement. None of the following is considered a company material adverse effect and will not be considered in determining whether a company material adverse effect occurs:

 

 

In addition, the merger agreement contains representations and warranties by Lineage and Merger Sub as to:

 

 

The representations and warranties of each of the parties to the merger agreement will expire upon completion of the merger.

 

We have agreed in the merger agreement as to ourselves and our subsidiaries that, subject to certain exceptions or as required by applicable law, between the date of the merger agreement and the effective time of the merger, we will carry on our business in the ordinary course consistent with past practices, use commercially reasonable efforts to keep available the services of our current officers and employees, preserve the goodwill and current relationships with our customers, suppliers, and other persons with which we have significant business relations, preserve intact our current business organization, and comply with all applicable laws.

 

In addition, we have agreed that, subject to specified exceptions, neither we nor any of our subsidiaries may, without Lineage’s prior written consent, take the following actions:

 

 

 

 

 

 

 

 

We have coordinated and cooperated with Lineage in connection with the preparation of this proxy statement and will coordinate and cooperate regarding any other filings, determining whether any consents or approvals are required to be obtained from third parties, and timely taking any such actions required in connection with the proxy statement or any other filings.

 

We will provide to Lineage reasonable access to:

 

 

but may, however, withhold any information that is subject to the terms of a confidentiality agreement or information to the extent that the disclosure thereof would result in the loss of attorney-client privilege.

 

We have agreed to certain limitations on our ability to take action with respect to other acquisition transactions. Except as set forth below, we have agreed that neither we nor any of our subsidiaries will, and we will not cause any of our subsidiaries or any of our or their directors, officers, employees or representatives to, initiate solicit, or knowingly encourage the submission of any acquisition proposal or any inquiry, proposal or offer or any other efforts or attempts that constitute or that could reasonably be expected to lead to an acquisition proposal. In addition, we may not engage or participate in any discussions or negotiations with respect to any of the foregoing or furnish to any person (other than to Lineage, its representative or our representatives) any information with respect to or intended to facilitate an acquisition proposal.

 

Under the merger agreement, “acquisition proposal” means any offer or proposal from any person or group concerning any:

 

 

 

Notwithstanding these limitations, prior to the time that our shareholders adopt the merger agreement, in response to an unsolicited bona fide written acquisition proposal that did not result from a breach of our no-solicitation covenant, and if our board of directors determines in good faith, after consultation with its financial advisors and outside legal counsel, that such acquisition proposal is, or is reasonably likely to lead to, a superior proposal and that the failure to take such action would be reasonably likely to be inconsistent with its fiduciary duties under applicable law, we may:

 

 

provided that we:

 

 

Under the merger agreement, “superior proposal” means any bona fide written offer or proposal from any person or group concerning any:

 

 

which was not solicited by us and which, in the good faith judgment of our board of directors (after consultation with our financial advisor and outside counsel), taking into account the various legal, financial and regulatory aspects of the proposal:

 

 

Our board of directors has agreed to recommend to our shareholders adoption of the merger agreement and the merger, known as the company board recommendation. Our board has agreed that it will not:

 

 

 

unless our board determines in good faith, after consultation with outside legal counsel and its financial advisors, that the failure to take such action would be reasonably likely to result in a breach of its fiduciary duties under applicable law.

 

We must promptly notify Lineage within 48 hours if we receive:

 

 

We must promptly notify Lineage within 48 hours regarding the identity of any such person and a copy of such acquisition proposal, indication, inquiry or request (or, where no such copy is available, a reasonably detailed description of such acquisition proposal, indication, inquiry or request), including any modifications. We must keep Lineage reasonably informed on a current basis of the status of any acquisition proposal, indication, inquiry or request, and any material developments, discussions and negotiations, including furnishing copies of any written inquiries, correspondence and draft documentation, and written summaries of any material oral inquiries or discussions. We must promptly notify Lineage if we determine to begin providing information or to engage in discussions or negotiations concerning an acquisition proposal.

 

If we receive an acquisition proposal which our board concludes in good faith, after consultation with outside counsel and our financial advisors, constitutes a superior proposal, our board may, if it determines in good faith, after consultation with outside counsel, that such action is necessary to comply with its fiduciary duties to our shareholders of PECO II, recommend the superior proposal. Our board may not, however, withdraw, modify or amend the company board recommendation unless:

 

 

We and Lineage will use our reasonable best efforts to:

 

 

We and Lineage will promptly notify each other of, among other things:

 

 

We agreed with Lineage not to issue any press release or make any public statement with regard to the contemplated transactions without consultation with, and prior review of, the other party, except as may be required by applicable law. The parties agreed that the initial press release announcing the merger would be in agreed form.

 

For six years following the effective time of the merger, the surviving corporation will indemnify and hold harmless all past and present directors, officers and employees of PECO II to the same extent such persons are indemnified as of the date of the merger agreement by us pursuant to applicable law, our articles of incorporation, our code of regulations, indemnification agreements, and, subject to certain limitations, existing insurance policies.

 

We agreed to give Lineage the opportunity to participate in the defense or settlement of any shareholder litigation against us or any member of our board relating to the transaction contemplated by the merger agreement. We will use commercially reasonable efforts to enter into a joint defense agreement with Lineage, if requested by Lineage, with respect to such litigation.  We will not agree to any settlement of any shareholder litigation for an amount in excess of $100,000 individually or $200,000 in the aggregate without Lineage’s prior written consent.

 

We will provide reasonable cooperation in connection with the arrangement of any debt financing as may be reasonably requested by Lineage.

 

The merger agreement contains a number of other covenants, including covenants relating to transfer taxes and certain additional actions required of us.

 

Pursuant to the merger agreement, each party’s obligation to effect the merger is subject to the satisfaction or waiver (to the extent permitted by applicable law) of the following conditions:

 

 

Lineage’s and Merger Sub’s obligations to complete the merger are also subject to the following conditions or their waiver (to the extent permitted by applicable law):

 

 

 

 

Our obligation to complete the merger is also subject to the following conditions or their waiver (to the extent permitted by applicable law):

 

 

The merger agreement may be terminated and the merger abandoned at any time prior to the effective time of the merger:

 

 

 

 

 

 

We are obligated to pay Lineage a fee of $1,100,000 if the merger agreement is terminated by Lineage because:

 

 

 

We are obligated to pay Lineage a fee of $1,100,000 if the merger agreement is terminated by us because our board properly determines to accept a superior proposal.

 

We are also obligated to pay Lineage a fee of $1,100,000 if all of the following occur:

 

 

The merger agreement may be amended by the parties prior to the effective time of the merger, but after shareholder approval has been obtained, no further amendment may be made that requires further shareholder approval without obtaining such approval.

 

Prior to the effective time of the merger, the parties may:

 

 

After shareholder approval has been obtained, however, any further extension or waiver would require further shareholder approval.

 

All fees and expenses incurred by the parties will be borne solely and entirely by the party which has incurred the same, whether or not the merger is consummated.

 

The merger agreement may not be assigned by any party without the prior written consent of the other parties. Lineage or Merger Sub, however, may assign any of their respective rights and obligations to any direct or indirect wholly-owned subsidiary of Lineage or may collaterally assign their rights to any party providing debt financing, but no such assignment may relieve Lineage or Merger Sub of obligations under the merger agreement.

 

The merger agreement is governed by the laws of the State of Delaware. Each of the parties submits to the jurisdiction of any Delaware state court or Federal court sitting in Delaware. And, each party has waived any right it may have to a trial by jury for any litigation resulting from the merger agreement.

 

We have agreed that irreparable damage would occur in the event that any provision of the merger agreement were not performed in accordance with its specific terms or were otherwise breached. We will be entitled to an injunction or injunctions to prevent breaches of the merger agreement in addition to any other remedy to which we are entitled.

 

After the commencement of a tender offer or exchange offer by a third party unaffiliated with Lineage or Merger Sub that, if successful, would result in any person or group becoming a beneficial owner of 50% or more of the issued and outstanding shares of our common stock, Lineage will have the right to commence a cash tender offer for 100% of our issued and outstanding shares at a purchase price per share equal or greater to $5.86 per share, subject to additional conditions.

 

Should Lineage determine to implement a tender offer as provided above, the parties will:

 

 

Contemporaneously with the execution and delivery of the merger agreement, the Green Family Trust U/A/D 03/16/1995, the Green Charitable Trust U/A/D 05/09/01, Matthew P. Smith, Linda H. Smith, Ashwood I, LLC, and Ashwood II, LLC, all of which are shareholders and beneficial owners of our common shares, entered into a voting agreement dated February 18, 2010 with Lineage, Merger Sub, and us. Approximately 16.9% of our outstanding shares on the record date for the special meeting are subject to the voting agreement.

 

The following summary description of the voting agreement is qualified in its entirety by reference to the voting agreement, which is attached as Appendix C to this proxy statement and is incorporated herein by reference.

 

Each shareholder who entered into the voting agreement with Lineage, Merger Sub, and us agreed to appear at our special shareholder meeting in person or by proxy for the purpose of establishing a quorum and vote in person or by proxy their shares:

 

 

 

 

These shareholders also agreed to grant Lineage an irrevocable proxy and appoint Lineage as the shareholder’s attorney-in-fact with full power of substitution to vote their shares on any of the foregoing matters at the special meeting of shareholders.

 

The voting agreement contains representations and warranties of us and Lineage as to, among other things, our respective power and authority to execute the voting agreement. The voting agreement also contains representations and warranties of the shareholders as to, among other things:

 

 

These representations and warranties expire when the voting agreement terminates.

 

In anticipation of the special meeting of shareholders, each shareholder party to the voting agreement also agreed not to:

 

 

The voting agreement terminates upon the earlier of:

 

 

The voting agreement may not be assigned, except that Lineage or Merger Sub may assign all or any of their rights and obligations to Lineage or any affiliate, but no such assignment will relieve the assigning party of its obligations if such assignee does not perform such obligations. The voting agreement may only be amended by a written instrument signed by each of the parties, and the voting agreement is governed by the laws of the State of Delaware.

 

The parties agree that irreparable damage would occur in the event that any of the provisions of the voting agreement were not performed in accordance with their specific terms or were otherwise breached. The parties are entitled to an injunction or injunctions to prevent breaches of the voting agreement and to enforce specifically the terms and provisions of the voting agreement, in addition to any other remedy to which they are entitled.

 

Each party to the voting agreement has consented to submit itself to the jurisdiction of any Delaware state court or Federal court sitting in Delaware, and waives any right it may have to a trial by jury with respect to litigation arising from the voting agreement.

 

Our common shares are traded on NASDAQ under the symbol “PIII.” The following table sets forth for the periods indicated the high and low per share closing sales price of our common shares as quoted on NASDAQ:

 

 

On February 18, 2010, the last full trading day prior to the public announcement of the proposed merger, the closing price per share of our common stock, as reported on NASDAQ, was $3.99. On [    l    ], 2010, the most recent practicable date prior to the printing of this document, the closing price per share of our common stock, as reported on NASDAQ, was $[    l    ].

 

We have not paid any cash dividends on our common shares and do not anticipate paying dividends in the foreseeable future. Following the merger, there will be no further market for our common shares.

 

The number of shares beneficially owned by each shareholder is determined under rules issued by the Securities and Exchange Commission. This information is not necessarily indicative of beneficial ownership for any other purpose. Under these rules, beneficial ownership includes any shares as to which the individual or entity has sole or shared voting power or investment power as of the measurement date and any shares as to which the individual or entity has the right to acquire beneficial ownership within 60 days after such measurement date, through the exercise of any stock option or other right. Unless otherwise indicated, each person or entity named below has sole voting power and investment power with respect to the number of shares set forth opposite his, her or its respective name.

Ownership of Common Shares by Certain Beneficial Owners

 

The following table shows information regarding beneficial ownership of our common shares as of March 2, 2010, unless otherwise indicated, by each person, entity or group which is known by us to own beneficially more than 5% of our common shares.

 

 

 

 

 

Ownership of Common Shares by Management

 

The following table shows information regarding beneficial ownership of our common shares as of March 2, 2010, by each director, each of our named executive officers, and all of our directors and executive officers as a group.

 

 

 

 

Overview

 

The merger agreement provides that Merger Sub, a wholly-owned subsidiary of Lineage, will merge with and into PECO II, wherein all of the outstanding shares of our common stock, except for shares owned by PECO II, Lineage, Merger Sub, or dissenting shares, will be converted into the right to receive $5.86 in cash per share, without interest.

 

Reasons for the Proposed Merger

 

We believe the merger is in the best interests of our shareholders because of the value of the merger consideration to be paid to our shareholders, as well as the consideration is in cash, providing certainty of value, and that the merger is more favorable to the shareholders than any other alternative reasonably available to us and the shareholders.

 

Vote Required

 

The affirmative vote of the holders of a majority of the outstanding PECO II common shares is required to adopt the merger agreement and the merger.

 

Our Board of Directors Unanimously Recommends a Vote “FOR” the Proposal to Adopt the Merger Agreement and the Merger.

 

Proposal to Permit Adjournment of the Special Meeting

 

If there are insufficient votes at the time of the special meeting to adopt the merger agreement and the transactions contemplated therein, including the merger, we intend to propose to adjourn our special meeting for a period of not more than 30 days for the purpose of soliciting additional proxies in favor of the merger agreement. We do not intend to propose adjournment at our special meeting if there are sufficient votes to adopt the merger agreement.

 

Vote Required

 

If approval of the proposal to adjourn our special meeting for the purpose of soliciting additional proxies is submitted to our shareholders for approval, such approval requires the affirmative vote of a majority of the shares of our common stock represented, in person or by proxy, and entitled to vote at the special meeting.

 

Our board of directors recommends that you vote “FOR” approval of the adjournment of the meeting, if necessary, to solicit additional proxies.

 

If the merger is consummated, we will not have public shareholders and there will be no public participation in any future meetings of shareholders. However, if the merger is not completed, we expect to hold our 2010 annual meeting of shareholders. If such meeting is held, any shareholder who intends to submit a proposal at our 2010 annual meeting of shareholders and who wishes to have the proposal considered for inclusion in the proxy statement and form of proxy for that meeting in accordance with Rule 14a-8 under the Securities Exchange Act must, in addition to complying with the applicable laws and regulations governing submission of such proposals, have delivered the proposal to us for consideration no later than December 18, 2009. However, in the event that the 2010 annual meeting of shareholders is called for a date that is not within 30 calendar days before or 30 calendar days after the anniversary date of the 2009 annual meeting of shareholders, we must receive such proposals not later than the tenth day following the day on which the notice of the date of the 2010 annual meeting is mailed or the date of the 2010 annual meeting is publicly disclosed, whichever occurs first. Such proposals should have been sent to our Secretary at our corporate headquarters, 1376 State Route 598, Galion, Ohio 44833, no later than December 18, 2009.

 

Shareholder proposals not intended to be included in the proxy statement and form of proxy for the 2010 annual meeting, as well as proposed shareholder nominations for the election of directors at the 2010 annual meeting must each comply with advance notice procedures set forth in our Second Amended and Restated Code of Regulations to be properly brought before the 2010 annual meeting. In general, written notice of a shareholder proposal or a director nomination not to be included in the proxy statement and form of proxy must be delivered to our Secretary not less than 60 days nor more than 90 days prior to the first anniversary of the date on which the company first mailed our proxy materials for the prior year’s annual meeting. With regard to the 2010 Annual Meeting of Shareholders, written notice must have been received by our Secretary at the address above between January 17, 2010 and February 16, 2010. If we did not receive the notice between these dates, the notice will be considered untimely.

 

In addition to timing requirements, the advance notice provisions of our Second Amended and Restated Code of Regulations contain informational content requirements that also must be met. A copy of our Second Amended and Restated Code of Regulations may be obtained by writing to our Secretary at the address below.

 

As of the date of this proxy statement, our board of directors knows of no matters that will be presented for consideration at the special meeting other than as described in this proxy statement.

 

We file annual, quarterly and current reports, proxy statements and other information with the SEC. You may read and copy any reports, statements or other information filed by us at the SEC public reference room at 100 F Street, N.E., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the operation of the public reference rooms. Our filings with the SEC are also available to the public at the website maintained by the SEC located at www.sec.gov. Our public filings are also available free of charge on our web site at www.peco2.com. You may request a copy of these filings, at no cost, by writing to or calling us at the following address and telephone number:

 

PECO II, Inc.
1376 State Route 598
Galion, Ohio 44833
Attn: Eugene Peden
(419) 468-7600

 

If you would like to request documents, please do so by [    l    ], in order to receive them before the special meeting.

This proxy statement does not constitute an offer to sell or to buy, or a solicitation of an offer to sell or to buy, any securities, or the solicitation of a proxy, in any jurisdiction to or from any person to whom it is not lawful to make any offer or solicitation in such jurisdiction.

 

No persons have been authorized to give any information or to make any representations other than those contained in this proxy statement and, if given or made, such information or representations must not be relied upon as having been authorized by us or any other person. This proxy statement is dated [    l    ], 2010. You should not assume that the information contained in this proxy statement is accurate as of any date other than that date, and the mailing of this proxy statement to shareholders shall not create any implication to the contrary.

 

This proxy statement contains a description of representations and warranties made in the merger agreement. Representations and warranties are also set forth in contracts and other documents, including the merger agreement, that are attached or filed as appendices to this proxy or are incorporated by reference into this document. These representations and warranties were made only for the purposes of such contracts or other documents and solely for the benefit of the parties to such contracts or other documents as of specific dates, may be subject to important limitations and qualifications agreed to by the contracting parties (including PECO II, Lineage and Merger Sub), and may not be complete. Furthermore, these representations and warranties may have been made for the purposes of allocating contractual risk between the parties to such contract or other document instead of establishing these matters as facts, and may or may not have been accurate as of any specific date and do not purport to be accurate as of the date of this proxy statement. Accordingly, you should not rely upon the descriptions of representations and warranties contained in this proxy statement or the actual representations and warranties contained in such contracts and other documents, including the merger agreement, as statements of factual information.

Appendix A

 

AGREEMENT AND PLAN OF MERGER

 

TABLE OF CONTENTS

 

COMPANY DISCLOSURE LETTER

 

 

PARENT DISCLOSURE LETTER

 

AGREEMENT AND PLAN OF MERGER

 

AGREEMENT AND PLAN OF MERGER, dated as of February 18, 2010 (this “Agreement”), by and among Lineage Power Holdings, Inc., a Delaware corporation (“Parent”), Lineage Power Ohio Merger Sub, Inc., an Ohio corporation and a wholly-owned Subsidiary of Parent (“Merger Sub”), and PECO II, Inc., an Ohio corporation (the “Company”). All capitalized terms used in this Agreement shall have the meanings assigned to such terms in Section 8.4 or as otherwise defined elsewhere in this Agreement unless the context clearly indicates otherwise.

 

RECITALS

 

WHEREAS, the respective boards of directors of Parent, Merger Sub and the Company have deemed it advisable and in the best interests of their respective corporations and shareholders to consummate the merger of Merger Sub with and into the Company upon the terms and subject to the conditions set forth in this Agreement;

 

WHEREAS, in the Merger, upon the terms and subject to the conditions of this Agreement, each common share, without par value, of the Company will be converted into the right to receive the Merger Consideration;

 

WHEREAS, the respective boards of directors of Parent, Merger Sub and the Company have approved and declared advisable this Agreement and the transactions contemplated hereby, including the Merger;

 

WHEREAS, the Board of Directors of the Company (the “Company Board”) has, upon the terms and subject to the conditions set forth herein, unanimously (i) determined that the transactions contemplated by this Agreement, including the Merger, are fair to and in the best interests of the Company and its shareholders and (ii) recommended that the Company’s shareholders adopt this Agreement and the Merger (the “Company Board Recommendation”);

 

WHEREAS, as a condition to and inducement to Parent’s and Merger Sub’s willingness to enter into this Agreement, simultaneously with the execution of this Agreement, certain shareholders of the Company are entering into a voting agreement with Parent, Merger Sub and the Company (the “Voting Agreement”); and

 

WHEREAS, Parent, Merger Sub and the Company desire to make certain representations, warranties, covenants and agreements in connection with the Merger and also to prescribe various conditions to the Merger.

 

AGREEMENT

 

NOW, THEREFORE, in consideration of the mutual covenants and premises contained in this Agreement and for other good and valuable consideration, the receipt and adequacy of which are hereby acknowledged, the parties to this Agreement agree as follows:

 

ARTICLE 1

 

THE MERGER

 

1.1 The Merger.  Upon the terms and subject to satisfaction or waiver of the conditions set forth in this Agreement, and in accordance with the Ohio General Corporation Law (the “OGCL”), at the Effective Time, Merger Sub will merge with and into the Company (the “Merger”), and the separate corporate existence of Merger Sub will cease and the Company will continue as the surviving corporation of the Merger (the “Surviving Corporation”).

 

1.2 Closing.  Upon the terms and subject to the conditions set forth in this Agreement, the closing of the Merger (the “Closing”) shall take place at 10:00 a.m., Eastern time, on a date to be specified by the parties, which shall be no later than the third business day after the satisfaction or (to the extent permitted by applicable Law) waiver of the conditions set forth in Article 6 (other than those that, by their terms, cannot be satisfied until the time of the Closing), at the offices of Porter, Wright, Morris & Arthur, LLP, 41 S. High

Street, Columbus, Ohio, 43215, or at such other time, date or place agreed to in writing by Parent and the Company. The date on which the Closing occurs is referred to in this Agreement as the “Closing Date”.

 

1.3 Effective Time.  Upon the terms and conditions set forth in this Agreement, at the Closing, the parties hereto shall cause the Merger to be consummated by filing a certificate of merger (the “Certificate of Merger”) with the Secretary of State of the State of Ohio, in such form as required by, and executed in accordance with the relevant provisions of, the OGCL (the date and time of such filing, or if another date and time is specified in such filing, such specified date and time, being the “Effective Time”).

 

1.4 Effect of the Merger.  At the Effective Time, the effect of the Merger shall be as provided in the applicable provisions of the OGCL. Without limiting the generality of the foregoing, at the Effective Time, except as otherwise provided herein, all the property, rights, privileges, powers and franchises of the Company and Merger Sub shall vest in the Surviving Corporation, and all debts, liabilities and duties of the Company and Merger Sub shall become the debts, liabilities and duties of the Surviving Corporation.

 

1.5 Articles of Incorporation; Code of Regulations.  At the Effective Time, the articles of incorporation and the code of regulations of the Surviving Corporation shall be amended in their entirety to contain the provisions set forth in the articles of incorporation and the code of regulations of Merger Sub, each as in effect immediately prior to the Effective Time.

 

1.6 Directors and Officers.  The directors of Merger Sub immediately prior to the Effective Time shall be the initial directors of the Surviving Corporation, each to hold office in accordance with the Articles of Incorporation and Code of Regulations of the Surviving Corporation. The officers of the Company immediately prior to the Effective Time shall be the initial officers of the Surviving Corporation, each to hold office in accordance with the articles of incorporation and code of regulations of the Surviving Corporation until the earlier of their resignation or removal.

 

1.7 Meeting of Shareholders to Adopt this Agreement and the Merger.

 

(a) As soon as reasonably practicable after the date of this Agreement, the Company shall prepare and file with the SEC the proxy statement in preliminary form relating to the Special Meeting (defined below) (such proxy statement, as amended or supplemented from time to time, the “Proxy Statement”). In addition, the Company shall prepare and file with the SEC any Other Filings, as and when required by the SEC. The Company, after consultation with Parent, will use reasonable best efforts to respond to and resolve any comments made by the SEC with respect to the Proxy Statement or any Other Filings. The Company will use reasonable best efforts to cause the Proxy Statement to be disseminated to the holders of the Shares, as and to the extent required by applicable federal securities Laws, as soon as reasonably practicable following clearance from the SEC. The Proxy Statement will contain the Company Board Recommendation.

 

(b) Parent and Merger Sub will provide for inclusion or incorporation by reference in the Proxy Statement of all required information regarding Parent and Merger Sub. Merger Sub and its counsel shall be given the opportunity to reasonably review and reasonably comment on the Proxy Statement before it is filed with the SEC. In addition, the Company will provide Merger Sub and its counsel, in writing, with any comments, whether written or oral, that the Company or its counsel may receive from time to time from the SEC or its staff with respect to the Proxy Statement promptly after the receipt of such comments or other communications, and the opportunity to reasonably review and reasonably comment on such comments.

 

(c) Each of the Company, Parent and Merger Sub agrees to promptly (i) correct any information provided by it for use in the Proxy Statement if and to the extent that such information shall have become false or misleading in any material respect and (ii) supplement the information provided by it specifically for use in the Proxy Statement to include any information that shall become necessary in order to make the statements in the Proxy Statement, in light of the circumstances under which they were made, not misleading. The Company further agrees to cause the Proxy Statement as so corrected or supplemented to be filed with the SEC and to be disseminated to the holders of the Shares, in each case as and to the extent required by applicable federal securities Laws.

(d) Other than amendments or supplements to the Proxy Statement made in compliance with Section 5.4, no amendment or supplement to the Proxy Statement or any Other Filing will be made by the Company without the approval of Parent (which shall not be unreasonably withheld or delayed).

 

(e) Subject to the terms of this Agreement, the Company, acting through the Company Board, shall, in accordance with and subject to the requirements of applicable Law: (i) as promptly as reasonably practicable after the date hereof, in consultation with Parent, duly set a record date for, call and give notice of a special meeting of its shareholders (the “Special Meeting”) for the purpose of considering and taking action upon this Agreement; (ii) as promptly as reasonably practicable after the date hereof, file the Proxy Statement with the SEC, cause the Proxy Statement to be printed and mailed to the shareholders of the Company and convene and hold the Special Meeting; and (iii) use reasonable best efforts to solicit from its shareholders proxies in favor of the adoption of this Agreement and the Merger, and secure any approval of shareholders of the Company that is required by applicable Law to effect the Merger.

 

(f) At the Special Meeting or any postponement or adjournment thereof, Parent shall vote, or cause to be voted, all of the Shares then owned by Parent, or with respect to which Parent or Merger Sub otherwise then has, directly or indirectly, sole voting power, in favor of the adoption of this Agreement and the Merger and to deliver or provide, in its capacity as a shareholder of the Company, any other approvals that are required by applicable Law to effect the Merger.

 

ARTICLE 2

 

CONVERSION OF SECURITIES IN THE MERGER

 

2.1 Conversion of Securities.  At the Effective Time, by virtue of the Merger and without any action on the part of Parent, Merger Sub, the Company or the holders of any capital stock of Parent, Merger Sub, or the Company:

 

(a) Conversion of Company Common Stock.  Each share (“Share”) of the Company’s common shares, without par value (the “Company Common Stock”), issued and outstanding immediately prior to the Effective Time, other than Shares to be cancelled in accordance with Section 2.1(b) and other than Dissenting Shares, will be converted into the right to receive (subject to Section 2.2(e)) $5.86 per share in cash, without interest (the “Merger Consideration”).

 

(b) Cancellation of Treasury Stock and Parent-Owned Stock.  All Shares that are held in the treasury of the Company or owned of record by any Company Subsidiary, and all Shares owned by Parent, Merger Sub or any of their respective wholly-owned Subsidiaries will be cancelled and will cease to exist, with no payment being made with respect thereto.

 

(c) Merger Sub Common Stock.  Each common share, without par value, of Merger Sub (the “Merger Sub Common Stock”) issued and outstanding immediately prior to the Effective Time will be converted into and become one newly and validly issued, fully paid and nonassessable common share of the Surviving Corporation.

 

(d) Adjustments.  If, between the date of this Agreement and the Effective Time, there is a reclassification, recapitalization, stock split, stock dividend, subdivision, combination or exchange of shares with respect to, or rights issued in respect of, the Company Common Stock, the Merger Consideration shall be adjusted accordingly, without duplication, to provide the holders of the Company Common Stock the same economic effect as contemplated by this Agreement prior to such event.

 

2.2 Payment for Securities; Surrender of Certificates.

 

(a) Paying Agent.  Prior to the Effective Time, Parent shall designate a reputable bank or trust company reasonably acceptable to the Company to act as the paying agent for purposes of effecting the payment of the Merger Consideration in connection with the Merger (the “Paying Agent”). At or prior to the Effective Time, Parent shall deposit, or cause to be deposited, with the Paying Agent the aggregate Merger Consideration to which holders of Shares shall be entitled at the Effective Time pursuant to this Agreement, together with the aggregate Option Payments (the “Exchange Fund”). The Paying Agent shall invest any cash included in the

Exchange Fund, as set forth in an agreement between the Paying Agent and the Company; provided, however, that no part of any such earnings on such investments shall accrue to the benefit of holders of Shares; provided, further, that such investments shall be in obligations of or guaranteed by the United States of America or any agency or instrumentality thereof and backed by the full faith and credit of the United States of America, in commercial paper obligations rated A-1 or P-1 or better by Moody’s Investor Service, Inc. or Standard & Poor’s Corporation, respectively, in certificates of deposit, bank repurchase agreements or banker’s acceptances of commercial banks with capital exceeding $1.0 billion (based on the most recent financial statements of such banks that are then publicly available) or in money market funds that are eligible under Rule 2a-7 promulgated under the Investment Company Act of 1940, as amended.

 

(b) Procedures for Surrender.  As promptly as reasonably practicable after the Effective Time, Parent shall cause the Paying Agent to mail to each holder of record of a certificate or certificates that represented Shares (the “Certificates”), which Shares were converted into the right to receive the Merger Consideration at the Effective Time pursuant to this Agreement: (i) a letter of transmittal, which shall specify that delivery shall be effected, and risk of loss and title to the Certificates shall pass, only upon delivery of the Certificates to the Paying Agent, and shall otherwise be in such form and have such other provisions as Parent or the Paying Agent may reasonably specify, and (ii) instructions for effecting the surrender of the Certificates in exchange for payment of the Merger Consideration. Upon surrender of Certificates for cancellation to the Paying Agent or to such other agent or agents as may be appointed by Parent in accordance with the agreement between Parent and Paying Agent, and upon delivery of a letter of transmittal, duly executed and in proper form, with respect to such Certificates, the holder of such Certificates shall be entitled to receive the Merger Consideration for each Share formerly represented by such Certificates. Any Certificates so surrendered shall forthwith be cancelled. If payment of the Merger Consideration is to be made to a Person other than the Person in whose name any surrendered Certificate is registered, it shall be a condition precedent of payment that the Certificate so surrendered shall be properly endorsed or shall be otherwise in proper form for transfer, and the Person requesting such payment shall have paid any transfer and other similar Taxes required by reason of the payment of the Merger Consideration to a Person other than the registered holder of the Certificate so surrendered and shall have established to the satisfaction of the Surviving Corporation that such Taxes either have been paid or are not required to be paid. Until surrendered as contemplated hereby, each Certificate shall be deemed at any time after the Effective Time to represent only the right to receive the Merger Consideration in cash as contemplated by this Agreement, without interest thereon.

 

(c) Transfer Books; No Further Ownership Rights in Shares.  At the Effective Time, the stock transfer books of the Company shall be closed and thereafter there shall be no further registration of transfers of Shares on the records of the Company. From and after the Effective Time, the holders of Certificates outstanding immediately prior to the Effective Time shall cease to have any rights with respect to such Shares except as otherwise provided for herein or by applicable Law. If, after the Effective Time, Certificates are presented to the Surviving Corporation for any reason, they shall be cancelled and exchanged as provided in this Agreement.

 

(d) Termination of Fund; Abandoned Property; No Liability.  At any time following twelve (12) months after the Effective Time, the Surviving Corporation shall be entitled to require the Paying Agent to deliver to it any funds (including any interest received with respect thereto) made available to the Paying Agent and not disbursed to holders of Certificates, and thereafter such holders shall be entitled to look only to the Surviving Corporation (subject to abandoned property, escheat or other similar Laws) with respect to the Merger Consideration payable upon due surrender of their Certificates and compliance with the procedures in Section 2.2(b), without interest and subject to any withholding of Taxes required by applicable Law in accordance with Section 2.2(e).  If, prior to five (5) years after the Effective Time (or otherwise immediately prior to such time on which any payment in respect hereof would escheat to or become the property of any Governmental Entity pursuant to any applicable abandoned property, escheat or similar Laws), any holder of Certificates has not complied with the procedures in Section 2.2(b) to receive payment of the Merger Consideration to which such holder would otherwise be entitled, the payment in respect of such Certificates shall, to the extent permitted by applicable Law, become the property of the Surviving Corporation, free and clear of all claims or interest of any Person previously entitled thereto. Notwithstanding the foregoing, neither

the Surviving Corporation nor the Paying Agent shall be liable to any holder of a Certificate for Merger Consideration delivered to a public official pursuant to any applicable abandoned property, escheat or similar Law.

 

(e) Withholding Rights.  Parent, Merger Sub, the Surviving Corporation and the Paying Agent, as the case may be, shall be entitled to deduct and withhold from the relevant Merger Consideration, Option Payment or other consideration otherwise payable pursuant to this Agreement to any holder of Shares or Options such amounts that Parent, Merger Sub, the Surviving Corporation or the Paying Agent reasonably determines in good faith is required to deduct and withhold with respect to the making of such payment under the Code, the rules and regulations promulgated thereunder or any provision of applicable Law, including with respect to stock transfer Taxes payable by the seller. To the extent that amounts are so withheld by Parent, Merger Sub, the Surviving Corporation or the Paying Agent, such amounts shall be treated for all purposes of this Agreement as having been paid to the holder of Shares or Options in respect of which such deduction and withholding was made by Parent, Merger Sub, the Surviving Corporation or the Paying Agent.

 

(f) Lost, Stolen or Destroyed Certificates.  In the event that any Certificates shall have been lost, stolen or destroyed, the Paying Agent shall issue in exchange for such lost, stolen or destroyed Certificates, upon the making of an affidavit of that fact by the holder thereof, the Merger Consideration payable in respect thereof pursuant to Section 2.1(a) hereof; provided, however, that Parent may, in its discretion and as a condition precedent to the payment of such Merger Consideration, require the owners of such lost, stolen or destroyed Certificates to deliver a bond in such sum as it may reasonably direct as indemnity against any claim that may be made against Parent, Merger Sub, the Surviving Corporation or the Paying Agent with respect to the Certificates alleged to have been lost, stolen or destroyed.

 

2.3 Dissenting Shares.  Notwithstanding anything in this Agreement to the contrary, Shares outstanding immediately prior to the Effective Time and held by a holder who is entitled to demand and has properly demanded appraisal for such Shares in accordance with, and who complies in all respects with, Sections 1701.84 and 1701.85 of the OGCL (such Shares, the “Dissenting Shares”) shall not be converted into the right to receive the Merger Consideration, and shall instead represent the right to receive payment of the fair cash value of such Dissenting Shares in accordance with and to the extent provided by Sections 1701.84 and 1701.85 of the OGCL. If any such holder fails to perfect or otherwise waives, withdraws or loses his right to appraisal under Section 1701.85 of the OGCL or other applicable Law, then the right of such holder to be paid the fair cash value of such Dissenting Shares shall cease and such Dissenting Shares shall be deemed to have been converted, as of the Effective Time, into and shall be exchangeable solely for the right to receive the Merger Consideration, without interest and subject to any withholding of Taxes required by applicable Law in accordance with Section 2.2(e).  The Company shall give Parent prompt notice of any demands received by the Company for appraisal of Shares, attempted withdrawals of such demands and any other instruments served pursuant to the OGCL and received by the Company relating to rights to be paid the fair cash value of Dissenting Shares, and Parent shall have the right to participate in and to control all negotiations and proceedings with respect to such demands. Prior to the Effective Time, the Company shall not, except with the prior written consent of Parent, make any payment with respect to, or settle or compromise or offer to settle or compromise, any such demands, or approve any withdrawal of any such demands, or agree to do any of the foregoing.

 

2.4 Treatment of Options; Restricted Stock; Stock Plans.

 

(a) Treatment of Options.  Prior to the Effective Time, the Company Board (or, if appropriate, any committee thereof) shall adopt appropriate resolutions and take all other actions necessary and appropriate to provide that, immediately prior to the Effective Time, each unexpired and unexercised option to purchase Shares (the “Company Options”), under any stock option plan of the Company, including the Amended 2000 Performance Plan (as amended) or any other plan, agreement or arrangement (the “Company Stock Option Plans”), whether or not then exercisable or vested, shall be cancelled and, in exchange therefor, each former holder of any such cancelled Company Option shall be entitled to receive, in consideration of the cancellation of such Company Option and in settlement therefor, a payment in cash (subject to any applicable withholding or other Taxes required by applicable Law to be withheld in accordance with Section 2.2(e)) of an amount, if

any, equal to the product of (i) the total number of Shares previously subject to such Company Option and (ii) the excess, if any, of the Merger Consideration over the exercise price per Share previously subject to such Company Option (such amounts payable hereunder being referred to as the “Option Payments”). For the avoidance of doubt, in no event shall any former holder of any such cancelled Company Option be entitled to receive any such cash payment if the exercise price per Share previously subject to such Company Option is greater than the Merger Consideration. From and after the Effective Time, any such cancelled Company Option shall no longer be exercisable by the former holder thereof, but shall only entitle such holder to the payment of the Option Payment, and the Company will use its reasonable best efforts to obtain all necessary consents to ensure that former holders of Company Options will have no rights other than the right to receive the Option Payment.

 

(b) Treatment of Restricted Stock.  Immediately prior to the Effective Time, each unvested Share subject to forfeiture restrictions, repurchase rights or other restrictions under the Company Stock Option Plans (“Restricted Stock”) shall vest in full and all restrictions (including forfeiture restrictions or repurchase rights) otherwise applicable to such Restricted Stock shall lapse and the Restricted Stock shall be converted into the right to receive the Merger Consideration, without interest, as provided in Section 2.1(a), subject to any withholding of Taxes required by applicable Law in accordance with Section 2.2(e).

 

(c) Termination of Company Stock Option Plans.  After the Effective Time, all Company Stock Option Plans shall be terminated and no further Company Options or other rights with respect to Shares shall be granted thereunder.

 

(d) Treatment of Employee Stock Purchase Plan.  The current offerings in progress as of the date hereof under the Company’s 2000 Employee Stock Purchase Plan (the “ESPP”) shall continue, and the shares of Company Common Stock shall be issued to participants thereunder on the next currently scheduled purchase dates thereunder occurring after the date hereof as provided under, and subject to the terms and conditions of, the ESPP. In accordance with the terms of the ESPP, any offering in progress as of the Effective Time shall be shortened, and the next purchase date shall be the business day immediately preceding the Effective Time. Each then outstanding option under the ESPP shall be exercised automatically on such purchase date. Notwithstanding any restrictions on transfer of stock in the ESPP, the treatment in the Merger of any stock under this provision shall be in accordance with Section 2.1(a).  The Company shall terminate the ESPP as of or prior to the Effective Time. The Company shall promptly after the date hereof amend the ESPP as appropriate to avoid the commencement of any new offering of options thereunder at or after the date hereof and prior to the earlier of the termination of this Agreement or the Effective Time.

 

ARTICLE 3

 

REPRESENTATIONS AND WARRANTIES OF THE COMPANY

 

Except (A) as identified in and reasonably apparent from the Company SEC Documents filed by the Company with the SEC since December 31, 2008, and publicly available prior to the date of this Agreement (the “Filed Company SEC Documents”) and only as and to the extent disclosed therein (other than any “risk factor” disclosure, forward looking discussions, or any other disclosure that is predictive, cautionary or forward looking in nature) and, without giving effect to any change of fact or circumstances subsequent to the date on which any such Filed Company SEC Document was filed, or (B) as set forth in the letter, dated as of the date of this Agreement, from the Company to Parent and Merger Sub (the “Company Disclosure Letter”) (it being understood that any information set forth in one section or subsection of the Company Disclosure Letter shall be deemed to apply to and qualify the section or subjection of this Agreement to which it corresponds in number and each other section or subsection of this Agreement only to the extent that the relevance of such disclosure is reasonably apparent), the Company hereby represents and warrants to Parent as follows:

 

3.1 Organization and Qualification; Subsidiaries.

 

(a) The Company and each of its Subsidiaries (each a “Company Subsidiary”) is a corporation or other legal entity duly organized, validly existing and in good standing under the Laws of the jurisdiction of its incorporation or organization and has all requisite corporate or organizational, as the case may be, power and

authority to own, lease and operate its properties and assets and to carry on its business as it is now being conducted. The Company and each Company Subsidiary is duly qualified to do business and is in good standing in each jurisdiction where the ownership, leasing or operation of its properties or assets or the conduct of its business requires such qualification, except where the failure to be so qualified or in good standing, individually or in the aggregate, has not had and would not reasonably be expected to have a Company Material Adverse Effect.

 

(b) The Company has made available to Parent true and complete copies of the currently effective Amended and Restated Articles of Incorporation of the Company, as amended (the “Company Articles”) and Second Amended and Restated Code of Regulations of the Company (the “Company Code of Regulations”), and the certificate of incorporation and bylaws, or equivalent organizational or governing documents, of each Company Subsidiary.

 

(c) Section 3.1(c) of the Company Disclosure Letter sets forth a true and complete list of: (i) the Company Subsidiaries, together with the jurisdiction of organization or incorporation, as the case may be, of each Company Subsidiary, (ii) the jurisdictions in which the Company and each Company Subsidiary is qualified to do business as a foreign corporation or other legal entity and (iii) the directors and officers of the Company and each Company Subsidiary, as of the date of this Agreement.

 

3.2 Capitalization.

 

(a) The authorized capital stock of the Company consists of (i) 150,000,000 shares of Company Common Stock, of which, as of the close of business on February 12, 2010 (the “Capitalization Date”), there were 2,859,466 shares issued and outstanding and (ii) 5,000,000 shares of preferred stock, without par value (the “Company Preferred Stock”), of which no shares are issued and outstanding. All of the outstanding shares of Company Common Stock have been duly authorized and validly issued and are fully paid, nonassessable and free of preemptive rights.

 

(b) As of the Capitalization Date, the Company has no shares of Company Common Stock or Company Preferred Stock reserved for or otherwise subject to issuance, except for 269,976 shares of Company Common Stock reserved for and available for issuance under the Company Stock Option Plans, and 20,746 shares of Company Common Stock reserved for issuance under the Company’s ESPP. The Company reasonably estimates that no more than 360 shares of Company Common Stock will be issued to participants under the Company’s ESPP on the next currently scheduled purchase dates thereunder in accordance with Section 2.4(d) hereof. All shares of Company Common Stock subject to issuance under the Company Stock Option Plans and the Company’s ESPP, upon issuance prior to the Effective Time on the terms and conditions specified in the instruments pursuant to which they are issuable, will be duly authorized, validly issued, fully paid, nonassessable and free of preemptive rights. Section 3.2(b) of the Company Disclosure Letter sets forth a true and complete list of (i) each holder of Company Options, (ii) the number of Company Options held by such holder as of the date hereof, (iii) the number of shares of Company Common Stock subject to each such Company Option (i.e., the original amount less exercises and any cancellations), (iv) the exercise price, expiration date and vesting schedule of each such Company Option and (v) whether each such Company Option is intended to qualify as an “incentive stock option” within the meaning of Section 422 of the Code.

 

(c) As of the date of this Agreement, except for 18,164 shares of Restricted Stock under Company Stock Option Plans, Company Options to purchase not more than 96,000 shares of Company Common Stock, and 20,746 shares of Company Common Stock reserved for issuance under the Company’s ESPP, there are no options, warrants or other similar rights, agreements, arrangements or commitments of any character (i) relating to any Equity Interests of the Company or any Company Subsidiary or (ii) obligating the Company or any Company Subsidiary to issue, acquire or sell any Equity Interests of the Company or any Company Subsidiary. Except as set forth on Section 3.2(c) of the Company Disclosure Letter, since the close of business on December 31, 2008, the Company has not issued any shares of its capital stock or other Equity Interests (other than Company Options, Company Common Stock issued upon the exercise of Company Options, or Restricted Stock issued in the ordinary course of business consistent with past practice and shares issued pursuant to the ESPP).

(d) Except as set forth on Section 3.2(d) of the Company Disclosure Letter, there are no outstanding obligations of the Company or any Company Subsidiary (i) restricting the transfer of, (ii) affecting the voting rights of, (iii) requiring the repurchase, redemption or disposition of, or containing any right of first refusal with respect to, (iv) requiring the registration for sale of or (v) granting any preemptive or antidilutive rights with respect to, any shares of Company Common Stock or other Equity Interests in the Company or any Company Subsidiary.

 

(e) Section 3.2(e) of the Company Disclosure Letter sets forth, for each Company Subsidiary, as applicable: (i) its authorized capital stock or other Equity Interests, (ii) the number of its outstanding shares of capital stock or other Equity Interests and type(s) of such outstanding shares of capital stock or other Equity Interests and (iii) the record owner(s) thereof. The Company or another Company Subsidiary owns, directly or indirectly, all of the issued and outstanding shares of capital stock or other Equity Interests of each of the Company Subsidiaries, free and clear of any Liens, and all of such shares of capital stock or other Equity Interests have been duly authorized and validly issued and are fully paid, nonassessable and free of preemptive rights. Except for Equity Interests in the Company Subsidiaries or as set forth on Section 3.2(e) of the Company Disclosure Letter, neither the Company nor any Company Subsidiary owns directly or indirectly any Equity Interest in any Person, or has any obligation or has made any commitment to acquire any such Equity Interest, to provide funds to, or to make any investment (in the form of a loan, capital contribution or otherwise) in, any Company Subsidiary or any other Person. Since the close of business on December 31, 2008, no Company Subsidiary has issued any shares of capital stock or other Equity Interests.

 

3.3 Authority.

 

(a) The Company has all necessary corporate power and authority to execute and deliver this Agreement, to perform its obligations hereunder and, subject to the Company Shareholder Approval, to consummate the transactions contemplated hereby, including the Merger. The execution and delivery of this Agreement by the Company and the consummation by the Company of the transactions contemplated hereby, including the Merger, have been duly and validly authorized by all necessary corporate action, and no other corporate proceedings on the part of the Company and no shareholder votes are necessary to authorize this Agreement or to consummate the transactions contemplated hereby other than, with respect to the Merger, the Company Shareholder Approval. This Agreement has been duly authorized and validly executed and delivered by the Company and, assuming due authorization, execution and delivery by Parent and Merger Sub, constitutes a legal, valid and binding obligation of the Company, enforceable against the Company in accordance with its terms, except as such enforceability may be limited (i) by applicable bankruptcy, insolvency, moratorium and other similar Laws, now or hereinafter in effect, affecting creditors’ rights generally and (ii) by general principles of equity.

 

(b) The Company and its shareholders have taken all appropriate action, if any, so that the restrictions contained in Section 1701.831 and Sections 1701.01(Y) through 1701.01(CC) of the OGCL, relating to control share acquisitions will not apply with respect to or as a result of the execution of this Agreement or the Voting Agreement or the consummation of the transactions contemplated hereby or thereby, including the Merger, without any further action on the part of the Company’s shareholders or the Company Board. A true and complete copy of the Company’s Second Amended and Restated Code of Regulations has been previously provided to Parent.

 

3.4 No Conflict.  None of the execution, delivery or performance of this Agreement by the Company, the consummation by the Company of the Merger or any other transaction contemplated by this Agreement, or the Company’s compliance with any of the provisions of this Agreement will (with or without notice or lapse of time, or both): (a) subject to obtaining the Company Shareholder Approval, conflict with or violate any provision of the Company Articles or Company Code of Regulations or any equivalent organizational or governing documents of any Company Subsidiary; (b) assuming that all consents, approvals, authorizations and permits described in Section 3.5 have been obtained and all filings and notifications described in Section 3.5 have been made and any waiting periods thereunder have terminated or expired, conflict with or violate any Law applicable to the Company or any Company Subsidiary or any of their respective properties or assets; or (c) except as set forth on Section 3.4(c) to the Company Disclosure Letter, require any consent or

approval under, violate, conflict with, result in any breach of or any loss of any benefit under, or constitute a change of control or default under, or result in termination or give to others any right of termination, vesting, amendment, acceleration or cancellation of, or result in the creation of a Lien upon any of the respective properties or assets of the Company or any Company Subsidiary pursuant to, any Contract, Company Permit or other instrument or obligation to which the Company or any Company Subsidiary is a party or by which they or any of their respective properties or assets may be bound or affected; other than, in the case of clauses (b) and (c) above, any such items that, individually or in the aggregate, have not had and would not be reasonably expected to have a Company Material Adverse Effect.

 

3.5 Required Filings and Consents.  None of the execution, delivery or performance of this Agreement by the Company, the consummation by the Company of the Merger or any other transaction contemplated by this Agreement, or the Company’s compliance with any of the provisions of this Agreement will require (with or without notice or lapse of time, or both) any consent, approval, authorization or permit of, or filing or registration with or notification to, any Governmental Entity, other than (a) the filing and recordation of the Certificate of Merger as required by the OGCL, (b) the Company Shareholder Approval, (c) compliance with the applicable requirements of the Securities Exchange Act of 1934, as amended, and the rules and regulations promulgated thereunder (the “Exchange Act”), (d) filings with the SEC or any state Blue Sky Laws as may be required by the Company in connection with this Agreement and the transactions contemplated hereby, (e) such filings as may be required under the rules and regulations of NASDAQ, and (f) where the failure to obtain such consents, approvals, authorizations or permits of, or to make such filings, registrations with or notifications to any Governmental Entity or any other Person, individually or in the aggregate, has not had and would not reasonably be expected to have a Company Material Adverse Effect.

 

3.6 Permits; Compliance With Law.

 

(a) The Company and the Company Subsidiary hold all authorizations, licenses, permits, certificates, variances, exemptions, approvals, orders, registrations and clearances of any Governmental Entity material for the Company and the Company Subsidiary to carry on and operate their businesses as currently conducted (the “Company Permits”). Section 3.6(a) of the Company Disclosure Letter contains a true and complete list of the Company Permits. The Company and the Company Subsidiary possess or have applied for all Company Permits to own, lease and operate its properties and assets, except for any Company Permits for which the failure to possess, obtain or hold would not reasonably be expected to have, individually or in the aggregate a Company Material Adverse Effect. The Company and each Company Subsidiary is in compliance with the terms of the Company Permits, and all of the Company Permits are valid and in full force and effect, except where the failure to be in compliance with any Company Permits, or the failure of any Company Permits to be valid or in full force and effect, individually or in the aggregate, has not had and would not reasonably be expected to have a Company Material Adverse Effect. No suspension, modification, revocation or cancellation of any of the Company Permit is pending or, to the knowledge of the Company, threatened.

 

(b) Neither the Company nor any Company Subsidiary is or since December 31, 2008, has been in conflict with, default under or violation of, or is being or since December 31, 2008, has been investigated for, or charged by any Governmental Entity with a violation of, any Law applicable to the Company or any Company Subsidiary or by which any property or asset of the Company or any Company Subsidiary is bound or affected, except for any conflicts, defaults, violations, investigations or charges that, individually or in the aggregate, have not had and would not reasonably be expected to have a Company Material Adverse Effect. This Section 3.6(b) does not relate to matters with respect to Taxes, which are the Subject of Section 3.17, or matters with respect to Company Benefit Plans, which are the subject of Section 3.12.  There are no investigations or reviews by any Governmental Entity with respect to the Company or any Company Subsidiary pending or, to the Company’s knowledge, threatened, and no Governmental Entity has indicated an intention to conduct any such investigation or review, except for such investigations or reviews, the outcomes of which if determined adversely to the Company or any Company Subsidiary, individually or in the aggregate, have not had and would not reasonably be expected to have a Company Material Adverse Effect.

3.7 SEC Filings; Financial Statements.

 

(a) Since December 31, 2007, the Company has timely filed or otherwise furnished (as applicable) all registration statements, prospectuses, forms, reports, definitive proxy statements, schedules, statements and documents required to be filed or furnished by it under the Securities Act of 1933, as amended, and the rules and regulations promulgated thereunder (the “Securities Act”) or the Exchange Act, as the case may be, together with all certifications required pursuant to the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”) (such documents and any other documents filed by the Company or any Company Subsidiary with the SEC, as have been supplemented, modified or amended since the time of filing, collectively, the “Company SEC Documents”). As of their respective filing dates the Company SEC Documents (i) did not (or with respect to Company SEC Documents filed after the date hereof, will not) contain any untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary in order to make the statements made therein, in light of the circumstances under which they were made, not misleading and (ii) complied in all material respects with the applicable requirements of the Exchange Act or the Securities Act, as the case may be, the Sarbanes-Oxley Act and the applicable rules and regulations of the SEC thereunder. None of the Company Subsidiaries is currently required to file any forms, reports or other documents with the SEC. To the knowledge of the Company, none of the Company SEC Documents is the subject of ongoing SEC review or outstanding SEC comment. All of the audited consolidated financial statements and unaudited consolidated interim financial statements of the Company and the consolidated Company Subsidiaries included in the Company SEC Documents (collectively, the “Company Financial Statements”) (A) have been or will be, as the case may be, prepared from, are in accordance with, and accurately reflect the books and records of the Company and the consolidated Company Subsidiaries in all material respects, (B) have been or will be, as the case may be, prepared in accordance with GAAP applied on a consistent basis during the periods involved (except as may be indicated in the notes thereto or, in the case of interim financial statements, for normal and recurring year-end adjustments that are not material in amount or nature and as may be permitted by the SEC on Form 10-Q, Form 8-K or any successor or like form under the Exchange Act) and (C) fairly present in all material respects the consolidated financial position and the consolidated results of operations, cash flows and changes in shareholders’ equity of the Company and the consolidated Company Subsidiaries as of the dates and for the periods referred to therein. Neither the Company nor any of the Company Subsidiaries is a party to, or has any commitment to become a party to, any off-balance sheet joint venture or partnership (including any Contract or arrangement relating to any transaction or relationship between or among the Company or any of the Company Subsidiaries, on the one hand, and any unconsolidated affiliate, on the other hand, including any structured finance, special purpose or limited purpose entity or person) or any “off-balance sheet arrangements” as defined in Item 303(a)(4) of Regulation S-K.

 

(b) Without limiting the generality of Section 3.7(a), (i) Battelle & Battelle LLP has not resigned or been dismissed as independent public accountant of the Company as a result of or in connection with any disagreement with the Company on a matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, (ii) no executive officer of the Company has failed in any respect to make, without qualification, the certifications required of him or her under Section 302 or 906 of the Sarbanes-Oxley Act with respect to any form, report or schedule filed by the Company with the SEC since the enactment of the Sarbanes-Oxley Act and (iii) no enforcement action has been initiated or, to the knowledge of the Company, threatened against the Company by the SEC relating to disclosures contained in any Company SEC Document.

 

3.8 Internal Controls; Sarbanes-Oxley Act.

 

(a) The Company has designed and maintains a system of internal controls over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) sufficient to provide reasonable assurances regarding the reliability of financial reporting for the Company and the Company Subsidiaries. The Company (i) has designed and maintains disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act) to reasonably ensure that material information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and is accumulated and

communicated to the Company’s management as appropriate to allow timely decisions regarding required disclosure and (ii) has disclosed to the Company’s auditors and the audit committee of the Company Board (and made summaries of such disclosures available to Parent) (A) any significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting that are reasonably likely to adversely affect in any material respect the Company’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 Company’s internal controls over financial reporting. The Company is in compliance in all material respects with all effective provisions of the Sarbanes-Oxley Act.

 

(b) Neither the Company nor any Company Subsidiary nor, to the knowledge of the Company, any director, officer, auditor, accountant or representative of the Company or any Company Subsidiary has received or otherwise had or obtained knowledge of any substantive complaint, allegation, assertion or claim, whether written or oral, that the Company or any Company Subsidiary has engaged in questionable accounting or auditing practices. No current or former attorney representing the Company or any Company Subsidiary has reported evidence of a material violation of securities Laws, breach of fiduciary duty or similar violation by the Company or any Company Subsidiary, or any of their respective officers, directors, employees or agents, to the current Company Board or any committee thereof or to any current director or executive officer of the Company.

 

(c) To the knowledge of the Company, no employee of the Company or any Company Subsidiary has provided or is providing information to any law enforcement agency regarding the commission or possible commission of any crime or the violation or possible violation of any applicable legal requirements of the type described in Section 806 of the Sarbanes-Oxley Act by the Company or any Company Subsidiary. Neither the Company nor any Company Subsidiary nor, to the knowledge of the Company, any director, officer, employee, contractor, subcontractor or agent of the Company or any Company Subsidiary, has discharged, demoted, suspended, threatened, harassed or in any other manner discriminated against an employee of the Company or any Company Subsidiary in the terms and conditions of employment because of any lawful act of such employee described in Section 806 of the Sarbanes-Oxley Act.

 

3.9 Brokers.  Except for the Company’s obligations to the Company Financial Advisor, neither the Company nor any shareholder, director, officer, employee or affiliate of the Company, has incurred or will incur on behalf of the Company or any Company Subsidiary, any brokerage, finders’, financial advisory or similar fee in connection with the transactions contemplated by this Agreement, including the Merger. The Company has heretofore made available to Parent true and complete copies of all agreements between the Company and the Company Financial Advisor pursuant to which such firm would be entitled to any payment or commission relating to the Merger or any other transactions contemplated by this Agreement.

 

3.10 No Undisclosed Liabilities.  Except for those liabilities and obligations (a) specifically reserved against or provided for in the consolidated balance sheet of the Company as of December 31, 2008, or in the notes thereto, (b) incurred in the ordinary course of business consistent with past practice since December 31, 2008, (c) which, individually or in the aggregate, have not had and would not reasonably be expected to have a Company Material Adverse Effect, or (d) incurred under this Agreement or in connection with the transactions contemplated hereby, including the Merger, neither the Company nor any Company Subsidiary has incurred any liabilities or obligations of any nature, whether or not accrued, absolute, determined, determinable, fixed or contingent and whether or not required to be recorded or reflected on a balance sheet under GAAP.

 

3.11 Absence of Certain Changes or Events.  Since December 31, 2008, there has not been any Company Material Adverse Effect or any change, event, development, condition, occurrence or effect that, individually or in the aggregate, has had or would reasonably be expected to have a Company Material Adverse Effect. Except in connection with the execution and performance of this Agreement and the

consummation of the transactions contemplated hereby, and except as set forth on Section 3.11 of the Company Disclosure Letter:

 

(a) Since December 31, 2008, the Company and the Company Subsidiaries have conducted their respective businesses in all material respects in the ordinary course of business consistent with past practice.

 

(b) There has not been any action taken by the Company or any Company Subsidiary from December 31, 2008, through the date of this Agreement that, if taken during the period from the date of this Agreement through the Effective Time, would constitute a breach of subparagraphs (a), (d), (e), (f), (g), (h), (m), (o), (r), (t), or (v) of Section 5.1.

 

3.12 Employee Benefit Plans and Employee Matters.  Except as otherwise set forth on Section 3.12 of the Company Disclosure Letter:

 

(a) Section 3.12(a) of the Company Disclosure Letter lists, with respect to the Company, any Company Subsidiary and any trade or business (whether or not incorporated) which is treated as a single employer with the Company (an “ERISA Affiliate”) within the meaning of Section 414(b), (c), (m) or (o) of the Code, and with respect to which there may be any obligation or liability, (i) all “employee benefit plans” within the meaning of Section 3(3) of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), (ii) each loan to an employee in excess of $10,000 (based on the amount outstanding as of the date of this Agreement; provided, however, with respect to loans to participants under the PECO II Profit Sharing Plan and Trust, any such loan amounts disclosed will be as of the amount outstanding on December 31, 2009), (iii) all stock option, stock purchase, phantom stock, stock appreciation right, supplemental retirement, severance, sabbatical, medical, dental, vision care, disability, employee relocation, cafeteria benefit (Section 125 of the Code), dependent care (Section 129 of the Code), life insurance or accident insurance plans, programs or arrangements, (iv) all bonus, pension, profit sharing, savings, severance, retirement, deferred compensation or incentive plans, programs or arrangements, (v) all other fringe or employee benefit plans, programs or arrangements that apply to senior management and that do not generally apply to all employees, and (vi) all employment or executive compensation or severance agreements, written or otherwise, as to which unsatisfied obligations of the Company or any Company Subsidiary of greater than $10,000 remain for the benefit of, or relating to, any former employee, consultant or non-employee director of the Company or any Company Subsidiary (all of the foregoing described in clauses (i), (iii), (iv), (v) and (vi), collectively, but excluding Foreign Plans, shall mean the “Company Employee Plans”).

 

(b) The Company has furnished to Parent a true, correct and complete copy of the current version of each of the Company Employee Plans and related plan documents (including trust documents, insurance policies or Contracts, employee booklets, and summary plan descriptions). With respect to each Company Employee Plan which is subject to ERISA reporting requirements, the Company has provided to Parent true, correct and complete copies of the Form 5500 reports filed for the last three plan years. Any Company Employee Plan intended to be qualified under Section 401(a) of the Code has either obtained from the Internal Revenue Service a favorable determination letter as to its qualified status under the Code, including all amendments to the Code effected by the Tax Reform Act of 1986 and subsequent legislation, or has applied (or has time remaining in which to apply) to the Internal Revenue Service for such a determination letter prior to the expiration of the requisite period under applicable Treasury Regulations or Internal Revenue Service pronouncements in which to apply for such determination letter and to make any amendments necessary to obtain a favorable determination or has been established under a standardized prototype plan for which an Internal Revenue Service opinion letter has been obtained by the plan sponsor and is valid as to the adopting employer. The Company has also provided to Parent a true, correct and complete copy of the most recent Internal Revenue Service determination or opinion letter issued with respect to each such Company Employee Plan intended to be a qualified plan under Section 401(a) of the Code, and, to the knowledge of the Company, nothing has occurred since the issuance of each such letter which would reasonably be expected to cause the loss of the Tax-qualified status of any Company Employee Plan subject to Section 401(a) of the Code. The Company has also

provided to Parent all prospectuses prepared in connection with each Company Employee Plan. The Company has also provided to Parent a true, correct and complete copy of the following, if applicable, (i) the three most recent actuarial reports and financial statements, if any, relating to each Company Employee Plan, (ii) the three most recent nondiscrimination tests performed under the Code (including 401(k) and 401(m) tests) for each Company Employee Plan and (iii) all filings made with any Governmental Entity, including but not limited to any filings under the Voluntary Compliance Resolution or Closing Agreement Program or the Department of Labor Delinquent Filer Program. All individuals who, pursuant to the terms of any Company Employee Plan, are entitled to participate in any Company Employee Plan, are currently participating in such Company Employee Plan or have been offered an opportunity to do so. Section 3.12(b) of the Company Disclosure Letter sets forth the total number of employees of the Company or any Company Subsidiary and any person subject to any health plan of the Company or any Company Subsidiary who have made medical claims through any such health plan during the 12 months preceding December 31, 2009, and for which the Company or such Company Subsidiary is responsible, with such total number broken down as follows: (i) medical claims for more than $25,000 but less than $100,000 in the aggregate, (ii) medical claims for $100,000 or greater but less than $250,000 in the aggregate, and (iii) medical claims for $250,000 or greater, in the aggregate.

 

(c) None of the Company Employee Plans promises or provides any post-employment, retiree medical or other retiree welfare benefits to any person other than as required under the Consolidated Omnibus Budget Reconciliation Act of 1985, as amended (“COBRA”) or similar state law. There has been no “prohibited transaction” (within the meaning of Section 406 of ERISA or Section 4975 of the Code and not exempt under Section 408 of ERISA and regulatory guidance thereunder) with respect to any Company Employee Plan. In all material respects, each Company Employee Plan has been administered in accordance with its terms and in compliance with the requirements prescribed by any and all statutes, rules and regulations (including ERISA and the Code), and the Company, each Company Subsidiary and each ERISA Affiliate has performed all obligations required to be performed by it under, is not in default under or in violation of, any of the Company Employee Plans. Neither the Company nor any Company Subsidiary or ERISA Affiliate is subject to any liability or penalty under Sections 4976 through 4980 of the Code or Title I of ERISA with respect to any of the Company Employee Plans. With respect to the Company Employee Plans, no event has occurred and, to the knowledge of the Company, there exists no condition or set of circumstances in connection with which the Company could be subject to any material liability (other than for routine benefit liabilities) under the terms of, or with respect to, such Company Employee Plans, ERISA, the Code or any other applicable Law. All contributions required to be made by the Company, any Company Subsidiary or any ERISA Affiliate to any Company Employee Plan have been made on or before their due dates in all material respects and a reasonable amount has been accrued for contributions to each Company Employee Plan for the current plan years (and no further contributions will be due or will have accrued thereunder as of the Effective Time, other than contributions accrued in the ordinary course of business, consistent with past practice, after the December 31, 2008 as a result of the operations of Company and the Company Subsidiaries after the December 31, 2008). In addition, with respect to each Company Employee Plan intended to include a Code Section 401(k) arrangement, the Company, the Company Subsidiaries and ERISA Affiliates have at all times made timely deposits of employee salary reduction contributions and participant loan repayments, as determined pursuant to regulations issued by the United States Department of Labor in all material respects. No Company Employee Plan is covered by, and neither the Company nor any Company Subsidiary or ERISA Affiliate has incurred or expects to incur any liability under Title IV of ERISA or Section 412 of the Code. Each Company Employee Plan can be amended, terminated or otherwise discontinued after the Effective Time in accordance with its terms, without liability to Parent, Merger Sub, the Surviving Corporation and/or any Company Subsidiary (other than with respect to the restrictions of Section 401(k) of the Code and ordinary administrative expenses typically incurred in a termination event). With respect to each Company Employee Plan subject to ERISA as either an employee pension benefit plan within the meaning of Section 3(2) of ERISA or an employee welfare benefit plan within the meaning of Section 3(1) of ERISA, the Company has prepared in good faith and timely filed all requisite governmental reports (which were true, correct and complete as of the date filed), including any required

audit reports, and has properly and timely filed and distributed or posted all notices and reports to employees required to be filed, distributed or posted with respect to each such Company Employee Plan. No suit, administrative proceeding, action or other litigation has been brought, or to the knowledge of the Company, is threatened, against or with respect to any such Company Employee Plan, including any audit or inquiry by the Internal Revenue Service or United States Department of Labor.

 

(d) With respect to each Company Employee Plan, each of the Company and each United States Company Subsidiary has complied in all material respects with (i) the applicable health care continuation and notice provisions of COBRA and the regulations (including the COBRA provisions set forth in the American Recovery and Reinvestment Act of 2009 and any applicable proposed regulations) thereunder, (ii) the applicable requirements of the Family Medical and Leave Act of 1993 and the regulations (including proposed regulations) thereunder, (iii) the applicable requirements of the Health Insurance Portability and Accountability Act of 1996 and the regulations (including proposed regulations) thereunder, (iv) the applicable requirements of the Americans with Disabilities Act of 1990, as amended and the regulations (including proposed regulations) thereunder, (v) the Age Discrimination in Employment Act of 1967, as amended, and (vi) the applicable requirements of the Women’s Health and Cancer Rights Act of 1998 and the regulations (including proposed regulations) thereunder.

 

(e) Except as set forth in Section 3.12(e) of the Company Disclosure Letter, there has been no amendment to, written interpretation or announcement (whether or not written) by the Company, any Company Subsidiary or other ERISA Affiliate relating to, or change in participation or coverage under, any Company Employee Plan which would materially increase the expense of maintaining such Company Employee Plan above the level of expense incurred with respect to such Company Employee Plan for the most recent fiscal year included in the Company Financial Statements. No Company Employee Plan will be subject to any surrender fees or service fees upon termination other than the normal and reasonable administrative fees and normal and reasonable fair market value adjustments associated with the termination of benefit plans.

 

(f) Neither the Company nor any Company Subsidiary or current or former ERISA Affiliate currently maintains, sponsors, participates in or contributes to, or has ever maintained, established, sponsored, participated in, or contributed to, any pension plan (within the meaning of Section 3(2) of ERISA) which is subject to Part 3 of Subtitle B of Title I of ERISA, Title IV of ERISA or Section 412 of the Code.

 

(g) Neither the Company nor any Company Subsidiary or ERISA Affiliate is a party to, or has made any contribution to or otherwise incurred any obligation under, any “multiemployer plan” as such term is defined in Section 3(37) of ERISA or any “multiple employer plan” as such term is defined in Section 413(c) of the Code.

 

(h) Each compensation and benefit plan maintained or contributed to by the Company or any Company Subsidiary under the law or applicable custom or rule of the relevant jurisdiction outside of the United States (each such plan, a “Foreign Plan”) is listed in Section 3.12(h) of the Company Disclosure Letter. With respect to each Foreign Plan, (i) such Foreign Plan is in material compliance with the provisions of the Laws of each jurisdiction in which such Foreign Plan is maintained, to the extent those Laws are applicable to such Foreign Plan, (ii) in all material respects all contributions to, and payments from, such Foreign Plan which may have been required to be made in accordance with the terms of such Foreign Plan, and, when applicable, the Laws of the jurisdiction in which such Foreign Plan is maintained, have been timely made or shall be made by the Effective Time, and all such contributions to such Foreign Plan, and all payments under such Foreign Plan, for any period ending before the Closing Date that are not yet, but will be, required to be made, are reflected as an accrued liability on the audited consolidated balance sheet of the Company as of December 31, 2008, (iii) the Company, each Company Subsidiary, and each ERISA Affiliate has materially complied with all applicable reporting and notice requirements, and such Foreign Plan has obtained from the Governmental Entity having jurisdiction with respect to such Foreign Plan any required determinations, if any, that such Foreign Plan is in compliance with the Laws of the relevant jurisdiction if such determinations are required in order to give effect to

such Foreign Plan, (iv) such Foreign Plan has been administered in all material respects at all times in accordance with its terms and applicable Laws, (v) to the knowledge of the Company, there are no pending investigations by any governmental body involving such Foreign Plan, and no pending claims (except for claims for benefits payable in the normal operation of such Foreign Plan), suits or proceedings against such Foreign Plan or asserting any rights or claims to benefits under such Foreign Plan, (vi) the consummation of the transactions contemplated by this Agreement will not by itself create or otherwise result in any liability with respect to such Foreign Plan, and (vii) except as required by applicable Laws, no condition exists that would prevent the Company or any Company Subsidiary from terminating or amending any Foreign Plan at any time for any reason in accordance with the terms of each such Foreign Plan without the payment of any fees, costs or expenses (other than the payment of benefits accrued on the audited consolidated balance sheet of the Company as of December 31, 2008 and any normal and reasonable expenses typically incurred in a termination event). No Foreign Plan has unfunded Liabilities that will not be offset by insurance or that are not fully accrued on the financial statements of the Company.

 

(i) Except as set forth in Section 3.12(i) of the Company Disclosure Letter, none of the execution and delivery of this Agreement, the consummation of the Merger or any other transaction contemplated hereby or any termination of employment or service or any other event in connection therewith or subsequent thereto will, individually or together or with the occurrence of some other event, (i) result in any payment (including severance, unemployment compensation, golden parachute, bonus or otherwise) becoming due to any Person, (ii) materially increase or otherwise enhance any benefits otherwise payable by the Company or any Company Subsidiary, (iii) result in the acceleration of the time of payment or vesting of any such benefits, except as required under Section 411(d)(3) of the Code, (iv) increase the amount of compensation due to any Person, or (v) result in the forgiveness in whole or in part of any outstanding loans made by the Company or any Company Subsidiary to any Person.

 

(j) Each of the Company and each Company Subsidiary is in compliance in all material respects with all currently applicable Laws respecting employment, discrimination in employment, terms and conditions of employment, worker classification (including the proper classification of workers as independent contractors and consultants), wages, hours and occupational safety and health and employment practices, including the Immigration Reform and Control Act, and is not engaged in any unfair labor practice. In all material respects, each of the Company and each Company Subsidiary has withheld all amounts required by law or by agreement to be withheld from the wages, salaries, and other payments to employees; and is not liable for any arrears of wages, compensation, Taxes, penalties or other sums for failure to comply with any of the foregoing. In all material respects, the Company and each Company Subsidiary has paid in full to all employees, independent contractors and consultants all wages, salaries, commissions, bonuses, benefits and other compensation due to or on behalf of such employees, independent contractors and consultants. In all material respects, neither the Company nor any Company Subsidiary is liable for any payment to any trust or other fund or to any Governmental Entity, with respect to unemployment compensation benefits, social security or other benefits or obligations for employees (other than routine payments to be made in the normal course of business and consistently with past practice). There are no pending claims against the Company and/or any Company Subsidiary under any workers compensation plan or policy or for long term disability. Neither the Company nor any Company Subsidiary has any obligations under COBRA with respect to any former employees or qualifying beneficiaries thereunder, except for obligations that are not material in amount. There are no controversies pending or, to the knowledge of the Company, threatened, between the Company or any Company Subsidiary and any of their respective employees, which controversies have or would reasonably be expected to result in an action, suit, proceeding, claim, arbitration or investigation before any Governmental Entity.