UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

For the Quarter ended June 30, 2004

Commission File No. 1-12911

GRANITE CONSTRUCTION INCORPORATED

Corporate Administration:

585 W. Beach Street
Watsonville, California 95076
(831) 724-1011

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

Indicate by checkmark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).   Yes    (X)   No   (  )

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of July 28, 2004.

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Index

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PART I. FINANCIAL INFORMATION

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Item 1. FINANCIAL STATEMENTS (unaudited)

Granite Construction Incorporated
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited — in thousands, except share and per share data)

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Granite Construction Incorporated

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Granite Construction Incorporated

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Granite Construction Incorporated

1.		Basis of Presentation:
		The condensed consolidated financial statements included herein have been prepared by Granite Construction Incorporated (“we”, “us”, “our” or “Granite”) without audit, pursuant to the rules and regulations of the Securities and Exchange Commission and should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2003. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted, although we believe the disclosures which are made are adequate to make the information presented not misleading. Further, the condensed consolidated financial statements reflect, in the opinion of management, all normal recurring adjustments necessary to present fairly our financial position at June 30, 2004 and the results of our operations and cash flows for the periods presented. The December 31, 2003 condensed consolidated balance sheet data was derived from audited consolidated financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America.
		Interim results are subject to significant seasonal variations and the results of operations for the three and six months ended June 30, 2004 are not necessarily indicative of the results to be expected for the full year.
2.		Newly Effective and Recently Issued Accounting Pronouncements:
		In January 2003, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 46, “Consolidation of Variable Interest Entities” which is an interpretation of Accounting Research Bulletin No. 51, “Consolidated Financial Statements” and requires that a variable interest entity (“VIE”) be consolidated by a company that is considered to be the primary beneficiary of that VIE. In December 2003, the FASB issued Interpretation No. 46 (revised December 2003), “Consolidation of Variable Interest Entities” (“FIN 46”) to address certain implementation issues.
		We were required to adopt FIN 46 no later than the end of the first interim or annual reporting period ending after March 15, 2004 for all VIEs (other than Special Purpose Entities) created prior to February 1, 2003. As is common in the construction industry, we have entered into certain construction contracts with third parties through joint ventures and we have determined that certain of these joint ventures are VIEs. As a result of our adoption of FIN 46, we have consolidated all VIEs in which we are the primary beneficiary as of January 1, 2004 (See Note 7 to these condensed consolidated financial statements). We will continue to account for all other such joint ventures in accordance with Emerging Issues Task Force Issue 00-01, “Investor Balance Sheet and Income Statement Display under the Equity Method for Investments in Certain Partnerships and Other Ventures.”
3.		Change in Accounting Estimate:
		During the three months ended March 31, 2004, we recognized increased project costs of approximately $20.0 million. The cost increases were primarily due to changes in the estimates on eight projects being performed by our Heavy Construction Division. The amount attributable to any individual project ranged from approximately $0.5 million to $4.0 million. These forecast adjustments were made in response to unanticipated changes in project conditions occurring during the three months ended March 31, 2004, resulting in changes to the estimates of the cost to complete the projects. These changes to the estimates were due to a variety of factors, including

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Granite Construction Incorporated
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

		recognition of costs associated with added scope changes, extended overhead due to owner and weather delays, design problems on design/build projects, subcontractor performance issues, changes in productivity expectations and higher than anticipated liquidated damages on two projects.
		In the quarter ended June 30, 2004, additional cost of $5.4 million related to one of these projects was recognized, primarily due to a change in the estimate of the cost to complete the work related to a key project subcontract.
4.		Inventories:
		Inventories consist primarily of quarry products valued at the lower of average cost or market.
5.		Property and Equipment:

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Granite Construction Incorporated
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

6.		Intangible Assets:
		The following intangible assets are included in other assets on our condensed consolidated balance sheets:

		Amortization expense related to intangible assets was approximately $151,000 and $296,000 for the three months and six months ended June 30, 2004, respectively and approximately $358,000 and $715,000 for the three months and six months ended June 30, 2003, respectively. Amortization expense expected to be recorded in the future is as follows: $315,000 remaining in 2004, $646,000 in 2005, $485,000 in 2006, $391,000 in 2007, $379,000 in 2008 and $1,370,000 thereafter.
7.		Variable Interest Entities:
		We have determined that certain of the construction joint ventures in which we participate are variable interest entities as defined by FIN 46. Accordingly, we have consolidated those joint ventures where we have determined that we are the primary beneficiary. Generally, each construction joint venture is formed to accomplish a specific project, is jointly controlled by the joint venture partners and is dissolved upon completion of the project. The joint venture agreements typically provide that our interests in any profits and assets, and our respective share in any losses and liabilities that may result from the performance of the contract are limited to our stated percentage interest in the project. Although the venture’s contract with the project owner typically requires joint and several liability, our agreements with our joint venture partners provide that each partner will assume and pay its full proportionate share of any losses resulting from a project. We have no significant commitments beyond completion of the contract.

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Granite Construction Incorporated
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

		The joint ventures we have consolidated are engaged in construction projects with total contract values ranging from $2.0 million to $329.7 million. Our proportionate share of the consolidated joint ventures ranges from 51.0% to 69.0%. As a result of our consolidation of these entities we have recorded assets (primarily current assets) of $91.0 million and current liabilities of $74.8 million as of January 1, 2004. There was no effect on our net income as a result of these consolidations for the three months and six months ended June 30, 2004.
		The joint ventures in which we hold a significant interest but are not the primary beneficiary are engaged in construction projects with total contract values ranging from $90.7 million to $221.4 million. Our proportionate share of these joint ventures ranges from 25.0% to 40.0%. Circumstances that could lead to a loss under these arrangements beyond our proportionate share include a partner’s inability to contribute additional funds to the venture in the event that the project incurred a loss or additional costs that we could incur should the partner fail to provide the services and resources toward project completion that had been committed to in the joint venture agreement. At June 30, 2004, approximately $290.2 million of work representing our partners’ share of proportionately consolidated joint venture contracts in progress had yet to be completed.
8.		Earnings Per Share:
		A reconciliation of shares used in calculating basic and diluted net income per share in the accompanying condensed consolidated statements of income is as follows:

Restricted stock representing approximately 417,000 shares and 363,000 shares for the three months June 30, 2004 and 2003, respectively, and approximately 321,000 shares and 441,000 shares for the six months ended June 30, 2004 and 2003, respectively, have been excluded from the calculation of diluted net income per share because their effects are anti-dilutive.

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Granite Construction Incorporated
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

9.		Comprehensive Income:
		The components of comprehensive income, net of tax, are as follows:

10.		Commitments and Contingencies:
		Our wholly-owned subsidiary, Granite Construction Company, as a member of a joint venture, Wasatch Constructors, is among a number of construction companies and the Utah Department of Transportation that were named in a lawsuit filed in the United States District Court for the District of Utah. The plaintiffs are two independent contractor truckers who filed the lawsuit on behalf of the United States under the federal False Claims Act seeking to recover damages and civil penalties in excess of $46.4 million.
		The original complaint was filed in January 1999 and the Third Amended Complaint was filed in February 2003. On May 30, 2003, Wasatch Constructors and the coordinated defendants filed their motion to dismiss the Third Amended Complaint. On December 23, 2003, the Court issued its order granting Wasatch Constructors’ and the coordinated defendants’ motion to dismiss the Third Amended Complaint but allowed the plaintiffs one last opportunity to amend their complaint. Plaintiffs’ Fourth Amended Complaint was filed on July 12, 2004.
		We are a party to a number of other legal proceedings and believe that the nature and number of these proceedings are typical for a construction firm of our size and scope. Our litigation typically involves claims regarding public liability or contract related issues. While management currently believes that the ultimate outcome of these proceedings, individually and in the aggregate, will not have a material adverse effect on our financial position or overall trends in results of operations, litigation is subject to inherent uncertainties. Were an unanticipated unfavorable ruling to occur, there exists the possibility of a material adverse impact on the results of operations for the period in which the ruling occurs.
11.		Business Segment Information:
		We have two reportable segments: the Branch Division and the Heavy Construction Division (“HCD”). The Branch Division is comprised of branch offices, including our majority owned subsidiary, Wilder Construction Company (“Wilder”), that serve local markets, while HCD pursues major infrastructure projects throughout the nation. HCD focuses on building larger heavy-civil projects with contract durations that are frequently greater than two years, while the Branch Division projects are typically smaller in size and shorter in duration. HCD has been the primary participant in our construction joint ventures.

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Granite Construction Incorporated
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

		The accounting policies of the segments are the same as those described in the summary of significant accounting policies contained in our 2003 Annual Report on Form 10-K. We evaluate performance based on operating profit or loss, which does not include gain on sales of property and equipment, income taxes, interest income, interest expense or other income (expense). Unallocated other corporate expenses principally comprise corporate general and administrative expenses.
		Information about Profit (Loss) and Assets (in thousands):

Reconciliation of Segment Profit to Consolidated Totals (in thousands):

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Granite Construction Incorporated
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

12.		Investments in Affiliates:
		In June 2003, T.I.C. Holdings, Inc. (“TIC”) repurchased 0.3 million shares of the TIC shares held by us for a cash payment of $6.0 million. We account for our investment in TIC using the cost method. This transaction reduced our ownership interest from 15.5% to 10.6% and resulted in a gain of $1.9 million, which is included in other income (expense) for the three months and six months ended June 30, 2003.
		In January 2003, the California Private Transportation Company, LP (“CPTC”), of which we are a 22.2% limited partner, closed the sale of the State Route 91 Toll Road Franchise to the Orange County Transportation Authority for $72.5 million in cash and the assumption of $135.0 million in long-term debt. We completed construction of the $60.4 million project in 1995 and have maintained an equity interest in the partnership since its inception. Included in other income (expense) for the six months ended June 30, 2003 is $18.4 million related to this sale by CPTC.
13.		Acquisitions:
		In April 2004, we purchased an additional 643,348 shares of Wilder common stock for a cash payment of $9.2 million. As a result of this transaction, our interest in Wilder increased from 60.3% to 75.0%. The acquisition was accounted for in accordance with Statement of Financial Accounting Standards No. 141, “Business Combinations”, and the excess purchase price over fair value of the net tangible and intangible assets acquired, $3.0 million, was allocated to goodwill.
14.		Sale of Assets:
		In March 2004, we sold certain assets related to our ready-mix concrete business in Utah for cash of $10.0 million and promissory notes with an estimated fair value of $8.9 million which are payable in installments through 2010. The sale transaction resulted in the recognition of a gain of approximately $10.0 million.
15.		Reclassifications:
		Certain financial statement items have been reclassified to conform to the current year’s format. These reclassifications had no impact on previously reported net income, financial position or cash flows.

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Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Disclosure

This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 regarding future events and the future results of Granite that are based on current expectations, estimates, forecasts, and projections as well as the beliefs and assumptions of Granite’s management. Words such as “outlook”, “believes”, “expects”, “appears”, “may”, “will”, “should”, “anticipates” or the negative thereof or comparable terminology, are intended to identify such forward-looking statements. These forward-looking statements are only predictions and are subject to risks, uncertainties and assumptions that are difficult to predict. Therefore actual results may differ materially and adversely from those expressed in any forward-looking statements. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in our Annual Report on Form 10-K under the section entitled “Risk Factors”. You should not place undue reliance on these forward-looking statements, which speak only as of the date of this Report. Granite undertakes no obligation to revise or update publicly any forward-looking statements for any reason.

General

We are one of the largest heavy civil contractors in the United States and are engaged in the construction of highways, dams, airports, mass transit facilities and other infrastructure-related projects. We have offices in Alaska, Arizona, California, Florida, Minnesota, Nevada, New York, Oregon, Texas, Utah and Washington. Our business involves two operating segments: the Branch Division and the Heavy Construction Division (“HCD”).

Our contracts are obtained primarily through competitive bidding in response to advertisements by federal, state and local agencies and private parties and to a lesser extent through negotiation with private parties. Our bidding activity is affected by such factors as backlog, current utilization of equipment and other resources, our ability to obtain necessary surety bonds and competitive considerations. Bidding activity, backlog and revenue resulting from the award of new contracts may vary significantly from period to period.

The two primary economic drivers of our business are (1) federal, state and local public funding levels and (2) the overall health of the economy, both nationally and locally. The level of demand for our services will have a direct correlation to these drivers. For example, a weak economy will generally result in a reduced demand for construction in the private sector. This reduced demand increases competition for fewer private sector projects and will ultimately also increase competition in the public sector as companies migrate from bidding on scarce private sector work to projects in the public sector. Greater competition can reduce revenue growth and/or increase pressure on gross profit margins. A weak economy also tends to produce less tax revenue, thereby decreasing the funds available for spending on public infrastructure improvements. There are funding sources that have been specifically earmarked for infrastructure spending, such as gasoline taxes, which are not necessarily directly impacted by a weak economy. However, even these funds can be temporarily at risk as state and local governments struggle to balance their budgets. Conversely, higher public funding and/or a robust economy will increase demand for our services and provide opportunities for revenue growth and margin improvement.

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Our general and administrative costs include salaries and related expenses, incentive compensation, discretionary profit sharing and other variable compensation, as well as other overhead costs to support our overall business. In general, these costs will increase in response to the growth and the related increased complexity of our business. These costs may also vary depending on the number of projects in process in a particular area and the corresponding level of estimating activity. For example, as large projects are completed or if the level of work slows down in a particular area, we will often re-assign employees who had been working on those projects to estimating and bidding activities until another project is ready to start, which temporarily moves their salaries and other related costs from cost of revenue to general and administrative expense. Additionally, our compensation strategy for selected management personnel is to rely heavily on a variable cash and restricted stock performance-based incentive element. The cash portion of these incentives is expensed when earned while the restricted stock portion is expensed over the vesting period of the stock (generally five years). Depending on the mix of cash and restricted stock, these incentives can have the effect of increasing general and administrative expenses in very profitable years and decreasing expenses in less profitable years.

Results of Operations

Revenue: Revenue from our Branch Division for the three and six month periods ended June 30, 2004 increased over the corresponding 2003 periods by $59.1 million, or 21.1% and $53.9 million, or 11.9%, respectively. The growth in revenue reflects increases during the quarter in both public and private sector revenue. The increased private sector revenue reflects an increased demand created by a continuing strong housing market in California and other Branch Division locations. Additionally, the Branch Division benefited from improved weather, especially in the first part of the second quarter, compared to the same period in 2003, when it experienced higher than normal rainfall in many of the areas in which it operates.

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Revenue from our Heavy Construction Division for the three and six month periods ended June 30, 2004 increased over the corresponding 2003 periods by $30.3 million, or 15.9%, and $70.3 million, or 22.0%, respectively. Included in HCD revenue during the three and six month periods ending June 30, 2004 is $25.6 million and $48.7 million, respectively, resulting from the consolidation of our partners’ share of construction joint venture revenue under FIN 46, “Consolidation of Variable Interest Entities” (“FIN 46”) (see Note 7 to the Condensed Consolidated Financial Statements). The remaining increase was due primarily to increased volume from a higher backlog at the beginning of the respective periods.

Backlog: Heavy Construction Division backlog of $1.4 billion at June 30, 2004 was $189.6 million, or 12.1%, lower than the HCD backlog at March 31, 2004 and $17.1 million, or 1.2%, lower than the HCD backlog at June 30, 2003. Included in the HCD backlog at June 30, 2004 and March 31, 2004 was $105.1 million and $122.9 million, respectively, resulting from the consolidation of our partners’ share of construction joint venture backlog under FIN 46 (see Note 7 to the Condensed Consolidated Financial Statements). The decrease in backlog over the prior periods was due primarily to a lack of new project awards in the quarter.

Branch Division backlog of $660.1 million at June 30, 2004 was $181.4 million, or 37.9%, higher than Branch Division backlog at March 31, 2004 and $123.9 million, or 23.1%, higher than Branch Division backlog at June 30, 2003. The increased backlog reflects increases in both private sector and public sector awards in the quarter ended June 30, 2004, including a $20.4 million airport expansion project in Utah, a $20.4 million pedestrian bridge project in Nevada, and a $35.7 million subdivision project in California. A sizeable percentage of Branch Division anticipated contract revenue in any year is not reflected in our backlog due to the short duration of smaller Branch Division projects that are initiated and completed during each year.

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Gross Profit: We recognize revenue only equal to cost, deferring profit recognition, until a project reaches 25% completion. Because we have a large number of projects at various stages of completion in our Branch Division, this policy generally has little impact on the Branch Division’s gross profit on a quarterly or annual basis. However, HCD has fewer projects in process at any given time and those projects tend to be much larger than Branch Division projects. As a result, HCD gross profit as a percent of revenue can vary significantly in periods where one or several very large projects reach 25% completion and the deferred profit is recognized or conversely, in periods where backlog is growing rapidly and a higher percentage of projects are in their early stages with no associated gross margin recognition.

Additionally, we do not recognize revenue from contract claims until we have a signed settlement agreement and payment is assured and we do not recognize revenue from contract change orders until the contract owner has agreed to the change order. However, we do recognize the costs related to any contract claims or pending change orders when they are incurred. As a result, our gross profit as a percent of revenue can vary during periods when a large volume of change orders or contract claims are pending resolution (reducing gross profit percent) or, conversely, during periods where large change orders or contract claims are agreed to or settled (increasing gross profit percent). Although this variability can occur in both our Branch Division and HCD, it can be much more pronounced in HCD because of the larger size and complexity of its projects.

Gross profit as a percent of revenue in the Branch Division was negatively impacted by a larger volume of work performed on jobs less than 25% complete which grew from $11.2 million to $25.3 million for the three months ended June 30, 2003 and 2004, respectively, and from $12.0 million to $26.1 million for the six months ended June 30, 2003 and 2004, respectively. Additionally, the Branch Division incurred costs in the first quarter of 2004 of approximately $1.4 million associated with the closing of certain ready-mix concrete plants in preparation for their subsequent sale during the quarter (see Note 14 to the Condensed Consolidated Financial Statements).

In the second quarter of 2004, HCD gross profit as a percent of revenue improved over the corresponding prior year period primarily due to profit recognized on three large projects that reached 25% complete during the quarter, partially offset by the recognition of approximately $5.4 million in additional costs attributable to unanticipated changes in project conditions at one project. On a year to date basis, HCD gross profit as a percent of revenue fell to 3.8% in 2004 from 9.2% in 2003 due to the recognition of increased costs of approximately $20.0 million in the first quarter of 2004 primarily related

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to changes in our cost estimates for eight large projects. The amount attributable to each project ranged from approximately $0.5 million to $4.0 million. These forecast adjustments were made in response to unanticipated changes in project conditions occurring in the quarter, including costs associated with added scope changes, extended overhead due to owner and weather delays, design problems on design/build projects, subcontractor performance issues, changes in productivity expectations and higher than anticipated liquidated damages on two projects.

Cost of revenue consists of direct costs on contracts, including labor and materials, subcontractor costs, direct overhead costs and equipment expense (primarily depreciation, maintenance and repairs and fuel).

General and Administrative Expenses: Salaries and related expenses in the three months and six months ended June 30, 2004 increased $0.6 million, or 3.2%, and $2.0 million, or 4.9%, respectively over the comparable periods in 2003 due primarily to a combination of higher payroll related benefits and normal salary increases. Incentive compensation, discretionary profit sharing and other variable compensation decreased in the six months ended June 30, 2004 compared with the comparable period in 2003 due primarily to lower profitability in the 2004 period. Other general and administrative costs include information technology, occupancy, office equipment and supplies, depreciation, travel and entertainment, outside services, advertising and marketing, training and other miscellaneous expenses, none of which individually exceeded 10% of total general and administrative expenses.

Gain on Sales of Property and Equipment: The increase in gain on sales of property and equipment in the six months ended June 30, 2004 as compared with the same period in 2003 was primarily due to a gain of approximately $10.0 million recognized on the sale of certain assets related to our ready-mix concrete business in Utah in the first quarter of 2004.

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Other Income (Expense): The increase in equity in income of affiliates in the second quarter of 2004, compared with the second quarter of 2003 was due to the recognition of $2.1 million related to the gain on sale of certain assets by a partnership in which we hold a 9.0% interest. The decrease in equity in income of affiliates in the six months ended June 30, 2004, compared with the corresponding period in 2003 was due to $18.4 million in income recorded in the first quarter of 2003 related to the sale of the State Route 91 Tollroad Franchise by the California Private Transportation Corporation, of which we are a 22.2% limited partner.

Provision for Income Tax: Our effective tax rate decreased to 33.5% in the six months ended June 30, 2004 from 36.2% in the six months ended June 30, 2003 due primarily to the effect of consolidating our partners’ share of construction joint venture income under FIN 46 (see Note 7 to the Condensed Consolidated Financial Statements). Generally, our construction joint ventures are not subject to income taxes on a stand-alone basis.

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Outlook

As we progress through our construction season, we continue to be encouraged by the economic strength in many of our markets and the opportunities provided to us by both the private and public sectors. In addition, we are paying close attention to funding issues at both the state and federal levels that will likely have an impact on our business in the future.

As the forces that drive our Branch business improve, our outlook for this area of our business is becoming more optimistic. Despite the uncertainty of both state transportation funding and the Federal highway bill, all of our branch offices in the West are very busy bidding and building work. Although some locations are experiencing stronger markets than others, most of our branches expect that this improved level of activity is sustainable through the end of the construction season. While interest rates have risen slightly, the demand for residential and commercial site development work in the private sector continues to be a primary driver for a number of branches.

The pipeline of large projects available for bidding also remains full. Over the next six months, HCD’s potential bid list includes approximately $3.0 billion in highway, bridge and transit work across the U.S. and in Canada. Many of these opportunities would require our expertise in the design-build method of project delivery.

We continue to forecast that 2004 HCD operating income will be better than in 2003. Our ability to achieve this expectation is dependent on several factors, including reaching 25 percent completion on a large HCD project late this year. Although we are currently on schedule, and expect to stay on schedule, it is possible this project could reach 25 percent in early 2005 rather than late 2004.

On the political front, the most significant funding issue we are tracking relates to the reauthorization of the federal transportation bill. Before departing for their summer recess House and Senate negotiators failed to reach a compromise over the investment level for a multi-year federal transportation bill to replace the previous legislation (the 6-year $218 billion Transportation Equity Act for the 21st Century) that expired last September. Both houses are advocating bills that include funding levels for transportation that are significantly higher than the $256 billion proposed by the Bush Administration. Prior to the scheduled recess in late July, House Republican negotiators presented a version of the bill that would provide $284 billion in guaranteed funding, $5 billion less than the Senate’s proposal. Conferees were unable to agree on a final amount before the recess thereby resulting in a fifth extension measure that allows the federal highway and transit program to continue to operate under a temporary

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authorization law. This fifth extension continues funding levels at the fiscal year 2004 levels through September 30, 2004. With the November Presidential election rapidly approaching, the upcoming challenge for Congress will be to pass legislation in the 20 legislative days that will be left when they return to work in September. For more information on the Federal Highway Bill, please visit the American Road and Transportation Builders Association website at www.artba.com.

In late July, California state legislators and Governor Schwarzenegger reached an agreement on a $105 billion state budget. As the result of the Governor’s renegotiation of certain Indian gaming compacts (Assembly Bill 687), an additional early repayment of $1.2 billion owed to transportation accounts by the general fund may occur. This additional money would be generated by a bond issue to be financed through State proceeds from the casino accords. Before the bond offering can take place, two gaming initiatives on the November ballot must be defeated. Governor Schwarzenegger is actively opposing both measures. For more information on the budget or the bond issue, please visit the state of California’s website at www.ca.gov or the Legislative Analyst Office website at www.lao.ca.gov.

As we discussed last quarter, we are subject to oil price volatility as it relates to our use of liquid asphalt in our production of asphaltic concrete and diesel fuel for our rolling stock equipment. We manage our exposure to these price changes by monitoring these commodities and pricing them into our projects and contracts accordingly. Some of our contracts include clauses for liquid asphalt escalation and de-escalation that provide protection in the event that oil product prices change significantly. Although we are exposed to price spikes in projects that do not include such clauses, this can be mitigated when prices come down. In addition, we are exposed to steel price increases and delivery delays on some of our HCD projects that are currently under construction. While we do have some exposure in these areas of our business, we have not been materially impacted to date.

Looking forward, although our long-term visibility is affected by funding legislation at the state and federal levels that has yet to be resolved, we are encouraged by the bidding opportunities we are witnessing for both divisions. We will continue to implement our strategy to grow the Company both internally and through acquisitions and focus on execution to improve our financial performance in both divisions.

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Liquidity and Capital Resources