(a) Business Development. The Company is a Nebraska corporation which -------------------- became incorporated on December 12, 1945. During the fiscal year ended July 31, 1993, the Company phased out remanufacturing of engines and increased its remanufacturing and sale of component automotive parts to other Ford Authorized Remanufacturers. The Company continues to market and distribute remanufactured engines. The Company's current source for such remanufactured engines is Ford Motor Company. Previously, the Company's source for such engines was other Ford Authorized Remanufacturers. The Company also distributes Ford branded parts and products to Ford dealers, including, without limitation, remanufactured diesel parts, transmissions and Ford branded car care products.

In June of 1999, the Board of Directors authorized the organization of a separate limited liability company to effect the separation of the manufacturing and distribution operations of the Company due to the substantial growth in its distribution operations. The Company filed Articles of Organization for "Universal Distribution LLC" on June 17, 1999 and the Nebraska Secretary of State's Office issued a Certificate of Organization. The Company owns a ninety-nine percent (99%) membership interest in Universal Distribution LLC and Mr. Donald D. Heupel owns the remaining one percent (1%) membership interest. The Company is also the manager of Universal Distribution LLC. Profits and losses from Universal Distribution LLC are allocated to the members based on their capital accounts and thus, the Company will receive ninety-nine percent (99%) and Mr. Heupel will receive one percent (1%) of the profits and losses.

The Company and Rainbo Oil Company of Dubuque, Iowa formed Rainbo Company LLC, a Nebraska limited liability company on September 21, 2000. Universal Distribution LLC, a 99% owned subsidiary of the Company, owns a fifty percent (50%) membership interest in Rainbo Company LLC and Rainbo Oil Company owns the remaining fifty percent (50%) membership interest. The Company is the manager of Rainbo Company LLC and has entered into a management agreement pursuant to which Rainbo Company LLC compensates the Company for its management services.

Universal Distribution and Rainbo Oil Company each made initial $100,000 capital contributions to Rainbo Company LLC. Universal Distribution LLC and Rainbo Oil Company also each loaned Rainbo Company LLC $400,000 pursuant to Promissory Notes dated September 29, 2000. Each Promissory Note is due and payable in full on October 1, 2005. The principal balance of each Promissory Note accrues interest until maturity at an annual rate of 9% and Rainbo Company LLC must pay each lender annual interest payments commencing October 1, 2001.

On September 29, 2000, Rainbo Oil Company sold its parts distribution operations to Rainbo Company LLC d/b/a Value Independent Parts ("VIP"). The acquisition of VIP has added additional markets and product lines to the Company's distribution operations including, without limitation AC Delco, a division of General Motors, and Motorcraft lines. The purchase price for VIP was approximately $5,115,000. The amount and form of consideration paid were determined through arm's length negotiations.

Financing for the transaction was provided by Firstar Bank, N.A. ("Firstar"). The Company and Rainbo Company LLC each entered into Revolving Credit Agreements with Firstar dated September 26, 2000. The Company's Revolving Credit Agreement allows the Company to borrow up to $3,000,000. Rainbo Company LLC's Revolving Credit Agreement allows Rainbo Company LLC to borrow up to $2,000,000. In order to finance the purchase price for the VIP Division, Rainbo Company LLC made an initial draw on its line of credit for approximately $1,800,000 and Universal Mfg. made an initial draw on its line of credit for the balance of the purchase price less adjustments and offsets.

The collateralized obligations of the Company and Rainbo Company LLC to Firstar under the respective Revolving Credit Agreements were evidenced by promissory notes payable to Firstar. The principal balance of each promissory note accrues interest until maturity at a variable rate equal to the prime rate announced by Firstar less 1%. Each promissory note was originally due and payable in full on September 30, 2001; however, in September 2001, the Company and Firstar agreed to extend each note for two months. Each promissory note is now due and payable in full on November 30, 2001 unless extended by Firstar. In connection with the extension of the promissory notes, Firstar amended the interest rate so that each promissory note now accrues interest until maturity at a variable rate equal to the prime rate announced by Firstar. Firstar also increased the maximum loan amount available to the Company from $3,000,000 to $4,000,000. Each party guaranteed the obligations of the other party to Firstar and Universal Distribution LLC guaranteed the obligations of both Rainbo Company LLC and the Company to Firstar.

In order to accommodate the increased inventories necessary to comply with the requirements of Ford, the Company sold the warehouse it owned in Des Moines, Iowa in April 1999. The sale of the Des Moines warehouse resulted in a significant gain for the Company totaling $177,507. The Company now leases a larger warehouse in Des Moines. The operating lease provides for monthly base rent payments of $3,732, plus an allocation of lessor operating expenses, currently $1,289 per month, through November 2001. As a result of the Ford requirements, the Company also expanded its warehouse in Peoria, Illinois to include an additional 9,000 square feet. The cost of this expansion was approximately $360,000. Effective as of October 1, 2000, the Company also leases a new building in Omaha, Nebraska. The operating lease provides for monthly base rent payments of $8,750.00, plus an allocation of lessor operating expenses, currently $1,075. The new Omaha warehouse is approximately 30,000 square feet and the term of the lease is five (5) years.

(b) Business of Issuer. The Company is engaged in the business of selling ------------------ on a wholesale basis remanufactured automotive parts for Ford, Lincoln and Mercury automobiles and trucks. It is a franchised remanufacturer for Ford Motor Company. Used automotive parts are the basic raw materials. The principal markets for the Company's products are automotive dealers, parts jobber supply houses and other Ford Authorized Distributors. The Company has refocused its distribution efforts from parts jobber supply houses to independent warehouse distributors and warehouses. In addition to its remanufacturing activities, the Company also sells, under a warehouse distributorship agreement with Ford Motor Company, clutches, pressure plates, torque converters, transmissions, engine assemblies, remanufactured diesel parts, power steering pumps, steering gears, starters, alternators, ABS modules and Ford branded car care products.

The Company purchases approximately 55% of its new (i.e., non-used) raw materials and all of its car care products from Ford Motor Company. Used parts to be remanufactured are obtained in exchange with dealers, parts jobber supply houses and other Ford Authorized Distributors, or are purchased from salvage dealers and other used parts suppliers. Approximately 75% of such used raw materials are obtained by such exchange with the remaining 25% being purchased. The Company purchases approximately 100% of its completed engine assemblies from Ford Motor Company who purchases such engine assemblies from various suppliers throughout the country.

As an authorized distributor of remanufactured products, the Company's competitive position is strongly related to that of Ford Motor Company. As of April 1, 1995, the Company entered into an Authorized Remanufactured Product Distributor Agreement with Ford Motor Company. A copy of such agreement is attached as Exhibit 10(ii) to the Form 10-KSB for the fiscal year ended July 31, 1995. Among other things, the agreement provides that a Ford dealer may purchase products from any Ford authorized remanufacturer and the agreement changed the designation of the Company's status with respect to Ford Motor Company from remanufacturer to distributor, with remanufacturing activities to be governed by a specific annexed agreement (a copy of which is attached as part of Exhibit 10(ii) to the Form 10-KSB for the fiscal year ended July 31, 1995). The Company's agreement with Ford Motor Company requires it to observe specifications for remanufacturing which are provided by the engineering department of Ford Motor Company. Under the arrangement Ford Motor Company is permitted to inspect, for quality control purposes, the plant and products of the Company. The Company attempts to maintain a rigid program of quality control to assure conformance with the specifications of Ford Motor Company. The Company's agreement with Ford Motor Company to operate as an authorized distributor of remanufactured products may be cancelled by either party upon thirty days' notice by the Company or upon five days' notice by Ford Motor Company upon the occurrence of certain events described in the agreement.

Effective October 1, 1998, the Company signed a new sales agreement with the Ford Customer Service Division of the Ford Motor Company. This sales agreement establishes the Company as a Ford Authorized Distributor and requires the Company to distribute remanufactured products, Motorcraft branded products and certain other Ford branded products to Ford Motor Company and Lincoln-Mercury dealerships in territories near the Company's distribution centers according to prescribed distribution standards.

At the present time, distribution activity represents approximately 95% of the Company's total sales. Because of Ford Motor Company's deauthorization actions, present and anticipated, the Company's distribution activities are expected to constitute a higher percentage of overall sales.

The Ford Customer Service Division of the Ford Motor Company has advised the Company of significant changes that will impact the existing sales agreement with Ford Motor Company. The Company's existing sales agreement with Ford Motor Company authorizes the distribution of Ford branded replacement engine assemblies, transmission assemblies, and other components to Ford and Lincoln-Mercury dealerships. In addition, the current sales agreement authorizes the distribution of Motorcraft branded replacement parts to Ford and Lincoln Mercury dealerships and to independent installers. The pending change will require separate sales agreements for the distribution of Ford branded assemblies and Motorcraft replacements parts, and Ford Motor Company will no longer authorize the distribution of both product lines from a single source. As a result, the Company must decide whether to distribute Ford branded assemblies or Motorcraft replacements parts and then enter into a new sales agreement.

The decision Ford Motor Company is requiring the Company to make will result in the reduction of sales volume because the Company will be forced to surrender an entire product distribution line. The Company is currently reviewing both options, considering reduced sales volume, potential future opportunities, and other factors. It is anticipated that future earnings will be affected regardless of whether Universal selects Ford branded assemblies or Motorcraft replacements parts.

Although the decision has not been finalized as of the date of this report, the Company anticipates the selection of Ford and Motorcraft Powertrain assemblies. Once this decision is finalized, the Company will take actions to realign operating expenses with the resulting level of sales. Either decision will result in a measurable loss of sales. However, the Company feels it now has enough diversity in its product lines to overcome this challenge.

The Company carries a substantial inventory of both raw materials and finished parts. Relatively large stocks of raw material parts are required because the Company remanufactures and distributes parts which may be as much as 30 years old. The Company's business also requires that a range of finished engines and other parts be maintained at each of its nine warehouse facilities in order to serve customers promptly. Each customer is entitled to return purchased items so long as the dollar amount on return items does not exceed 5% of the customer's total annual purchases. All sales are on an account receivable basis with payment due by the 10th day of the following month.

The Company faces a wide range of competitors selling both new and used engines and parts, including franchises of the other large automotive companies and numerous independent suppliers. Competition is based upon price, service, warranty terms and product performance.

The Company has a federally registered trademark (No. 2,408,393) and service mark (No. 2,440,315) for the following mark: "Universal Remanufacturing Specialists" and design.

Under the 1979 amendments to the Clean Air Act, standards have been and are being formulated which apply to automotive engines as newly manufactured. Such regulatory standards have affected and will continue to affect the Company's business by changing the design of the products which the Company remanufactures. Refer to Item 3--Legal Proceedings for information with respect to the implementation of certain remedial projects which include the separation, removal and transportation of hazardous wastes related primarily to residues from cleaning operations in response to a complaint against the Company filed by the EPA.

As of July 31, 2001, the Company had 102 full-time employees and 61 part-time employees. In May of 1993 the Company entered into a three year agreement with the United Auto Workers Union ("UAW"), which represents the Company's production employees. Effective May 5, 1996, the Company entered into a new three year agreement with the UAW. The agreement calls for 2.6% hourly wage increases of $.25, $.27 and $.29 on May 5 of each year of the agreement. By mutual consent, the agreement has been extended for one year with no changes and therefore, expired on May 5, 2001. A new one year agreement between the Company and the UAW was reached in May of 2001. This agreement provides for a 3% wage increase granted in two increments during the term of the agreement.