WASHINGTON, D.C. 20549

 

FORM 10-Q

 

 

 

Commission File No. 000-50111

 

 

DAKOTA GROWERS PASTA COMPANY, INC.

(Exact name of registrant as specified in its charter)

 

North Dakota		45-0423511
(State of incorporation)		(IRS Employer Identification No.)
One Pasta Avenue, Carrington, ND 58421
(Address of principal executive offices including zip code)
(701) 652-2855
(Registrant’s telephone number, including area code)
NOT APPLICABLE
(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes ý  No  o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes o  No  ý

 

As of June 14, 2005, the Registrant had 13,169,382 shares of common stock, par value $0.01 per share, outstanding.

 

 

PART I – FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

DAKOTA GROWERS PASTA COMPANY, INC.

CONSOLIDATED BALANCE SHEETS

(In Thousands, Except Share Information)

 

		(Unaudited)
		April 30,			July 31,
		2005			2004
ASSETS
CURRENT ASSETS
Cash and cash equivalents		$	4		$	589
Trade accounts receivable, less allowance for cash discounts and doubtful accounts of $1,454 and $1,209, respectively		15,461			14,043
Due from related parties		103			703
Other receivables		41			299
Inventories		29,436			25,211
Prepaid expenses		2,285			3,994
Deferred income taxes		937			937
Total current assets		48,267			45,776
PROPERTY AND EQUIPMENT
In service		111,053			109,987
Construction in process		5,151			18
		116,204			110,005
Less accumulated depreciation		(50,979		)	(46,980		)
Net property and equipment		65,225			63,025
INVESTMENT IN JOINT VENTURE		3,802			1,746
INVESTMENT IN COOPERATIVE BANK		2,161			2,343
INTANGIBLE ASSETS		282			392
OTHER ASSETS		1,472			6,133
		$	121,209		$	119,415

 

(continued on next page)

 

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DAKOTA GROWERS PASTA COMPANY, INC.

CONSOLIDATED BALANCE SHEETS

(In Thousands, Except Share Information)

 

		(Unaudited)
		April 30,			July 31,
		2005			2004
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES
Notes payable		$	14,000		$	12,200
Current portion of long-term debt		4,771			7,176
Accounts payable		7,404			4,969
Excess outstanding checks over cash on deposit		3,241			—
Accrued liabilities		4,404			4,845
Total current liabilities		33,820			29,190
COMMITMENTS AND CONTINGENCIES		—			—
LONG-TERM DEBT, net of current portion		16,316			21,087
DEFERRED INCOME TAXES		10,764			10,363
OTHER LIABILITIES		98			136
MANDATORILY REDEEMABLE PREFERRED STOCK
Series A, 6% cumulative, $100 par value, 533 shares authorized, 100 and 200 shares issued and outstanding as of April 30, 2005 and July 31, 2004, respectively		10			20
Total liabilities		61,008			60,796
STOCKHOLDERS’ EQUITY
Series D delivery preferred stock, non-cumulative, $.01 par value, 11,340,841 shares authorized, 11,275,297 shares issued and outstanding		113			113
Common stock, $.01 par value, 75,000,000 shares authorized, 13,169,382 shares issued and outstanding		132			132
Additional paid-in capital		62,807			62,807
Accumulated deficit		(2,851		)	(4,433		)
Total stockholders’ equity		60,201			58,619
Total liabilities and stockholders’ equity		$	121,209		$	119,415

 

See Notes to Consolidated Financial Statements

 

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DAKOTA GROWERS PASTA COMPANY, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In Thousands, Except Per Share Amounts)(Unaudited)

 

		Three Months Ended April 30,
		2005			2004
Net revenues (net of discounts and allowances of $6,372 and $5,665, respectively)		$	39,157		$	37,605
Cost of goods sold		34,443			33,479
Gross profit		4,714			4,126
Marketing, general and administrative expenses		2,563			1,987
Operating income		2,151			2,139
Other income (expense)
Interest and other income (expense)		6			(309		)
Gain on disposition of property, equipment and other assets		13			14
Net income (loss) allocated from joint venture		(58		)	30
Interest expense, net		(466		)	(558		)
Income before income taxes		1,646			1,316
Income tax expense		642			513
Net income		$	1,004		$	803
Net earnings per common share
Basic		$	0.08		$	0.07
Diluted		$	0.08		$	0.07
Weighted average common shares outstanding
Basic		13,169			12,260
Diluted		13,570			12,620

 

See Notes to Consolidated Financial Statements

 

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DAKOTA GROWERS PASTA COMPANY, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In Thousands, Except Per Share Amounts)(Unaudited)

 

		Nine Months Ended April 30,
		2005			2004
Net revenues (net of discounts and allowances of $18,389 and $14,971, respectively)		$	115,807		$	110,656
Cost of goods sold		103,260			101,577
Gross profit		12,547			9,079
Marketing, general and administrative expenses		7,792			5,996
Operating income		4,755			3,083
Other income (expense)
Interest and other income		440			595
Gain on disposition of property, equipment and other assets		34			27
Net loss allocated from joint venture		(914		)	(114		)
Interest expense, net		(1,721		)	(2,090		)
Income before income taxes		2,594			1,501
Income tax expense		1,012			585
Net income		$	1,582		$	916
Net earnings per common share
Basic		$	0.12		$	0.07
Diluted		$	0.12		$	0.07
Weighted average common shares outstanding
Basic		13,169			12,260
Diluted		13,543			12,620

 

See Notes to Consolidated Financial Statements

 

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DAKOTA GROWERS PASTA COMPANY, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In Thousands)(Unaudited)

 

		Nine Months Ended April 30,
		2005			2004
OPERATING ACTIVITIES
Net income		$	1,582		$	916
Adjustments to reconcile net income to net cash from operating activities:
Depreciation and amortization		5,865			6,348
Undistributed patronage capital from cooperatives		(46		)	(51		)
Gain on disposition of property, equipment and other assets		(34		)	(27		)
Net loss allocated from joint venture		914			114
Deferred income taxes		401			585
Payments for long-term marketing costs		—			(125		)
Accrued promotional costs applied to marketing prepayments		5,142			—
Changes in assets and liabilities:
Trade receivables		(1,418		)	(3,045		)
Due from related parties		600			—
Other receivables		258			694
Inventories		(4,225		)	1,933
Prepaid expenses		179			466
Other assets		7			6
Accounts payable		2,435			1,320
Other accrued liabilities		(441		)	399
NET CASH FROM OPERATING ACTIVITIES		11,219			9,533
INVESTING ACTIVITIES
Purchases of property and equipment		(6,227		)	(1,168		)
Proceeds on sale of property, equipment and other assets		—			8
Payments for package design costs		(690		)	(258		)
Proceeds from cooperative bank equity retirements		228			60
Investments in joint venture		(2,970		)	(240		)
NET CASH USED FOR INVESTING ACTIVITIES		(9,659		)	(1,598		)
FINANCING ACTIVITIES
Net change in short-term notes payable		1,800			295
Net change in excess outstanding checks over cash on deposit		3,241			477
Principal payments on long-term debt		(7,176		)	(8,701		)
Preferred stock retirements		(10		)	(10		)
NET CASH USED FOR FINANCING ACTIVITIES		(2,145		)	(7,939		)
NET CHANGE IN CASH AND CASH EQUIVALENTS		(585		)	(4		)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD		589			5
CASH AND CASH EQUIVALENTS, END OF PERIOD		$	4		$	1
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash payments (refunds) for
Interest (net of amounts capitalized)		$	2,215		$	2,676
Income taxes		$	(76	)	$	(964	)

 

See Notes to Consolidated Financial Statements

 

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DAKOTA GROWERS PASTA COMPANY, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

The following notes should be read in conjunction with the notes to the financial statements for the year ended July 31, 2004 as filed in the Company’s Form 10-K.

 

NOTE 1 - ORGANIZATION

 

Dakota Growers Pasta Company, Inc. (“Dakota Growers” or “the Company”) is a North Dakota corporation that operates milling and pasta manufacturing facilities in Carrington, North Dakota. In addition, the Company’s wholly-owned subsidiary, Primo Piatto, Inc. (“Primo Piatto”), a Minnesota corporation, operates pasta manufacturing facilities in New Hope, Minnesota.

 

NOTE 2 – FINANCIAL STATEMENT PRESENTATION

 

The unaudited consolidated financial statements included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine month periods ended April 30, 2005 are not necessarily indicative of the results that may be expected for the year ended July 31, 2005. The unaudited consolidated financial statements included in this Form 10-Q should be read in conjunction with the consolidated financial statements and footnotes included in the Company’s Form 10-K for the year ended July 31, 2004. The information contained in the balance sheet as of July 31, 2004 was derived from the Company’s audited annual report for fiscal year 2004. Reclassifications have been made to facilitate comparability with current presentation. Such reclassifications have no effect on the net results of operations.

 

The financial information presented herein includes the consolidated balance sheets and results of operations of Dakota Growers Pasta Company, Inc. and its wholly-owned subsidiary. All significant intercompany balances and transactions have been eliminated.

 

NOTE 3 – INVENTORIES

 

Inventories are valued at lower of cost or market. Inventories as of April 30, 2005 include raw materials and packaging of $8,411,000 and finished goods of $21,025,000. Inventories at July 31, 2004 include raw materials and packaging of $6,396,000 and finished goods of $18,815,000.

 

NOTE 4 – LOAN AGREEMENTS

 

Effective February 22, 2005, the Company secured a new $25.0 million revolving credit facility with CoBank that extends through February 20, 2006. Interest on the revolving line is currently charged at a variable rate established by CoBank based on CoBank’s cost of funds, although the facility also allows for a fixed rate option. This newly-secured revolving credit facility replaced an existing revolving credit facility with CoBank. Balances outstanding under revolving line of credit arrangements totaled $14.0 million as of April 30, 2005, and $12.2 million as of July 31, 2004. The Company had $11.0 million available for borrowings under the line of credit as of April 30, 2005.

 

The Company’s various debt agreements with CoBank and certain institutional investors obligate the Company to maintain or achieve certain amounts of equity and certain financial ratios and impose certain restrictions on the Company. The Company was in compliance with these financial covenants as of April 30, 2005.

 

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NOTE 5 – EARNINGS PER SHARE

 

Basic earnings per share (EPS) is calculated by dividing net earnings on common stock by the weighted average number of common shares effective and outstanding during the period. Diluted EPS includes the effect of all potentially dilutive securities, such as stock options and convertible preferred stock.

 

Dilutive securities, consisting of stock options and convertible preferred stock, included in the calculation of diluted weighted average common shares totaled 401,000 and 360,000 for the three months ended April 30, 2005 and 2004, respectively. Dilutive securities included in the calculation of diluted weighted average common shares totaled 374,000 and 360,000 for the nine months ended April 30, 2005 and 2004, respectively. As there is currently no established public trading market for the Company’s common stock, the Company has assumed the proceeds from the exercise of stock options would reduce debt and, thus, interest expense.

 

NOTE 6 – CONTINUED DUMPING AND SUBSIDY OFFSET ACT OF 2000

 

U.S. Customs and Border Protection (“Customs”) has distributed antidumping and countervailing duties assessed on certain pasta imported from Italy and Turkey to affected domestic producers pursuant to the Continued Dumping and Subsidy Offset Act of 2000 (the “Offset Act”), which was enacted in October 2000. The Company received payments in the amount of $425,000 and $903,000 in December 2004 and 2003, respectively, under the Offset Act. $305,000 of the $903,000 was repaid to Customs in April 2004 pursuant to a reclamation request from Customs. These amounts have been classified as other income. The Company cannot reasonably estimate the potential amount, if any, that it may receive under the Offset Act in future periods as any such amount will be based upon future events over which the Company has little or no control, including, but not limited to, the amount of expenditures by domestic pasta producers and the amount of antidumping and countervailing duties collected by Customs.

 

NOTE 7 – INVESTMENT IN JOINT VENTURE

 

The Company acquired a 24% ownership interest in DNA Dreamfields Company, LLC (“DNA Dreamfields”) during fiscal year 2004. The Company accounts for the investment in DNA Dreamfields using the equity method. DNA Dreamfields was formed by the Company and other food technology, manufacturing and consumer products marketing enterprises to develop, manufacture and sell low digestible carbohydrate pasta, rice and potatoes under the Dreamfields^TM brand name. The Company met its initial $3,962,000 aggregate investment commitment in DNA Dreamfields during the fiscal quarter ended October 31, 2004.

 

On November 3, 2004, the Company and the other members of DNA Dreamfields entered into Amendment No. 3 to the DNA Dreamfields Operating Agreement. Under the terms of the Amendment, the Company contributed an additional $1,500,000 into DNA Dreamfields, which increased its economic ownership in DNA Dreamfields to 29.5%.

 

NOTE 8 – RELATED PARTY TRANSACTIONS

 

The Company has entered into a manufacturing agreement with DNA Dreamfields whereby Dakota Growers is the exclusive manufacturer of Dreamfields^TM low digestible carbohydrate pasta. The Company has also entered into a services agreement with DNA Dreamfields under which the Company provides administrative, accounting, information technology, sales, customer service and distribution services to DNA Dreamfields. Shipments of Dreamfields^TM low digestible carbohydrate pasta began in February 2004.

 

Pursuant to the services agreement with DNA Dreamfields, to the extent the Company supplies logistics services for the delivery and billing of Dreamfields^TM product, the title in and to the Dreamfields^TM product shall remain

 

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with Dakota Growers, and the risk of loss shall pass from Dakota Growers to Dakota Grower’s customers in accordance with terms and conditions set forth in purchase orders or agreements between Dakota Growers and its customers. Sales of Dreamfields^TM products are included in the Company’s net revenues. Manufacturing, distribution, and promotional costs incurred by the Company related to Dreamfields^TM products are included in the applicable line items of the Company’s income statement. On a monthly basis, the Company calculates a net amount due to DNA Dreamfields based on the total sales of Dreamfields^TM product less related Dreamfields^TM product costs, which include cash discounts, promotions and allowances, brokerage fees, bad debt write-offs, freight costs, storage and handling fees, and the transfer price established between the Company and DNA Dreamfields as outlined in the manufacturing agreement. This net amount due to DNA Dreamfields is included in the Company’s cost of goods sold and totaled $439,000 and $1,222,000 for the three months ended April 30, 2005 and 2004, respectively, and $1,575,000 and $1,222,000 for the nine months ended April 30, 2005 and 2004, respectively. Service fee revenues from DNA Dreamfields are included in the Company’s net revenues and totaled $35,000 and $51,000 for the three months ended April 30, 2005 and 2004, respectively, and $111,000 and $51,000 for the nine months ended April 30, 2005 and 2004, respectively. Net amounts due from DNA Dreamfields totaled $21,000 and $621,000 as of April 30, 2005 and July 31, 2004, respectively.

 

Amounts due from officers of the Company totaled $82,000 as of April 30, 2005 and July 31, 2004.

 

NOTE 9 – COMMITMENTS

 

The Company forward contracts for a certain portion of its future durum wheat requirements. The Company had outstanding commitments for grain purchases totaling $9,014,000 related to forward purchase contracts as of April 30, 2005. These contracts are set price contracts to deliver grain to the Company’s mill, and are not derivative in nature as they have no net settlement provision and are not transferable.

 

The Company had commitments to purchase pasta equipment totaling approximately $4.2 million as of April 30, 2005. These amounts are expected to be paid within one year.

 

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

 

This Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) should be read in conjunction with the MD&A included in the Company’s Form 10-K for the year ended July 31, 2004.

 

Forward-Looking Statements

 

The following discussion contains forward-looking statements. Such forward-looking statements include, among others, those statements including the words “expect”, “anticipate”, “believe”, “may” and similar expressions. Such statements are based on assumptions by the Company’s management, as of the date of this Quarterly Report, and are subject to risks and uncertainties, including those discussed in the Company’s Form 10-K for the year ended July 31, 2004 under “Risk Factors,” that could cause actual results to differ materially from those anticipated. The Company cautions readers not to place undue reliance on such forward-looking statements. The Company will not update any forward-looking statements in this Quarterly Report to reflect future events or developments.

 

Summary

 

Dakota Growers is the third largest pasta manufacturer in North America. The Company generates a majority of its revenues from manufacturing pasta for the retail store brand and foodservice markets, although we serve and continually look for opportunities in the entire dry pasta industry. The Company has two production plants, located in Carrington, North Dakota and New Hope, Minnesota. The Company’s cost of goods sold consists mainly of raw materials (primarily durum wheat), packaging, and manufacturing and distribution costs.

 

Net income for the quarter ended April 30, 2005 totaled $1,004,000 compared to $803,000 for the quarter ended April 30, 2004. Net income for the nine months ended April 30, 2005 totaled $1,582,000 versus $916,000 for the nine months ended April 30, 2004. Net earnings per basic common share for the quarter ended April 30, 2005 was $0.08 per share compared to $0.07 per share for the quarter ended April 30, 2004.  Net earnings per basic common share for the nine months ended April 30, 2005 was $0.12 per share compared to $0.07 per share for the nine months ended April 30, 2004.

 

The Company’s net revenues have increased 4.7% for the nine months ended April 30, 2005 when compared to the same period of last year as a result of higher pasta sales in the ingredient and foodservice markets. The Company has also been successful in implementing sales price increases, primarily associated with higher input and distribution costs, most of which became effective in the latter half of the Company’s second fiscal quarter 2005. The sales price increases were most profound in the private label retail market. The benefits of the revenue gains have been partially offset by continued higher transportation costs and costs associated with production scheduling and distribution inefficiencies experienced during new customer roll out periods.

 

The Company is currently undertaking a $15.0 million capital project at its New Hope facility to better balance its pasta production capabilities and improve operating costs. During the quarter ended April 30, 2005, the Company’s finished goods inventories increased by $3.3 million, primarily to allow for reduced pasta production volumes during the production upgrade at the New Hope facility.

 

Critical Accounting Policies

 

The accompanying discussion and analysis of our results of operations and financial condition are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. These estimates form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We base our estimates and judgments on historical experience and on various other assumptions that we believe are reasonable under the

 

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circumstances. However, future events are subject to change and the best estimates and judgments may require adjustment. For a complete description of the Company’s significant accounting policies, please see Note 1 to the consolidated financial statements included in the Company’s Form 10-K for the year ended July 31, 2004. Our critical accounting policies are those that have meaningful impact on the reporting of our financial condition and results, and that require significant management judgment and estimates. These policies include our accounting for (a) allowance for doubtful accounts, (b) inventory valuation, (c) asset impairment, and (d) income taxes.

 

Allowance for Doubtful Accounts

 

We evaluate the collectibility of our accounts receivable based on a combination of factors. In cases where we are aware of circumstances that may impair a specific customer’s ability to meet its financial obligations to us, we record a specific allowance against amounts due to us, and thereby reduce the net recognized receivable to the amount we reasonably believe will be collected. For all other customers, we recognize allowances for doubtful accounts based on the length of time the receivables are past due and our historical experience. If the financial condition of our customers would deteriorate, additional allowances may be required in the future which could have an adverse impact on our future operating results.

 

Inventory Valuation

 

Inventories are stated at the lower of cost or market, determined on a first-in, first-out (FIFO) basis, using product specific standard costs. The Company analyzes variances between actual manufacturing costs incurred and amounts absorbed at inventory standard costs. Inventory valuations are adjusted for these variances as applicable. The Company regularly evaluates its inventories and recognizes inventory allowances for discontinued and slow-moving inventories based upon these evaluations.

 

Asset Impairment

 

We are required to evaluate our long-lived assets for impairment whenever indicators of impairment exist, and write down the value of any assets if they are determined to be impaired. Evaluating the impairment of long-lived assets involves management judgment in estimating the future cash flows and fair values related to these assets. Future events could cause management to conclude that impairment indicators exist and that the value of certain long-lived assets is impaired.

 

Income Taxes

 

In determining income for financial statement purposes, management must make certain estimates and judgments in calculating tax liabilities and in determining the recoverability of certain deferred tax assets. Deferred tax assets must be reduced by a valuation allowance, if based on the weight of available evidence, it is more likely than not that some portion or all of the recorded deferred tax assets will not be realized in future periods. Management believes it is likely that the deferred tax assets as of April 30, 2005 will be realized through the generation of future taxable income and the use of appropriate tax planning strategies.

 

Results of Operations

 

Comparison of the Three Months Ended April 30, 2005 and 2004

 

Net Revenues.  Net revenues totaled $39.2 million for the three months ended April 30, 2005, an increase of $1.6 million, or 4.1%, compared to $37.6 million for the three months ended April 30, 2004. The increase resulted from higher pasta sales volumes, particularly in the ingredient market and, to a lesser extent, the foodservice market.

 

Revenues from the retail market, a portion of which includes co-pack and governmental sales, increased $0.2 million, or 0.9%, as a result of a 7.0% increase in average per unit selling prices offset by co-pack and governmental sales volume declines. Retail sales volumes of Dreamfields^TM low digestible carbohydrate pasta

 

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products, which have significantly higher per unit sales prices than the Company’s other products, were down 24.9% during the quarter ended April 30, 2005 when compared to the same quarter of last year primarily due to the impact of introductory sales in the prior year. Foodservice revenues increased $0.8 million, or 7.7%, primarily due to higher sales volumes. Increased foodservice volumes were derived from sales under the New World Pasta license agreement combined with new customer sales. The Company entered into a license agreement with New World Pasta Company in September 2004, which gave the Company the exclusive right to produce and market pasta products bearing the Ronzoni, Prince, San Giorgio and Mrs. Weiss brands in the foodservice market. Ingredient revenues increased $2.1 million, or 66.5%, mostly due to an increase in sales volume related to the addition of one customer in this market.

 

The Company markets semolina production in excess of its own requirements as well as durum wheat flour, other flour blends and by-products of the durum milling process. Revenues from semolina, by-product and other mill sales decreased $1.5 million to $2.8 million for the three months ended April 30, 2005, compared to $4.3 million for the three months ended April 30, 2004. The change primarily resulted from lower semolina sales volumes and lower average millfeed prices.

 

Cost of Goods Sold.  Cost of goods sold increased 2.9% to $34.4 million for the three months ended April 30, 2005, compared to $33.5 million for the three months ended April 30, 2004. The increase resulted mainly from higher sales volumes relative to the comparable quarter of the prior year. Gross profit as a percentage of net revenues improved to 12.0% for the three months ended April 30, 2005 from 11.0% for the three months ended April 30, 2004. Lower per unit manufacturing costs resulting from increased factory utilization contributed to the gross profit percentage improvement. However, benefits derived from operating efficiencies were partially offset by higher freight costs which continued to negatively impact gross profit.

 

Marketing, General, and Administrative (“MG&A”) Expenses.  MG&A expenses totaled $2.6 million for the three months ended April 30, 2005, an increase of 29.0% from $2.0 million for the three months ended April 30, 2004. MG&A expenses as a percentage of net revenues increased to 6.6% for the quarter ended April 30, 2005, from 5.3% for the comparable quarter of the prior year. The increase in MG&A resulted from a variety of factors, the most significant of which was increased customer marketing support associated with Dreamfields^TM pasta products. The costs associated with Dreamfields^TM are recovered from DNA Dreamfields through the services agreement, and the Company’s allocable portion is reflected in the calculation of net income (loss) allocated from joint venture.

 

Net Income (Loss) Allocated from Joint Venture.  The net loss allocated from joint venture totaled $58,000 for the three months ended April 30, 2005, compared to net income $30,000 allocated for the three months ended April 30, 2004. The amounts allocated from joint venture represent the Company’s allocable share of net income (loss) from DNA Dreamfields.

 

Interest Expense.  Interest expense for the three months ended April 30, 2005 totaled $0.5 million, down $0.1 million from $0.6 million for the three months ended April 30, 2004. The decrease was primarily due to lower average outstanding debt levels. Cash and equity patronage refunds received from CoBank totaling $114,000 and $103,000 have been netted against interest expense for the three months ended April 30, 2005 and 2004, respectively.

 

Interest and Other Income (Expense).  Interest and other income (expense) totaled $6,000 for the three months ended April 30, 2005 compared to ($309,000) for the three months ended April 30, 2004. U.S. Customs and Border Protection (“Customs”) has distributed antidumping and countervailing duties assessed on certain pasta imported from Italy and Turkey to affected domestic producers pursuant to the Continued Dumping and Subsidy Offset Act of 2000 (the “Offset Act”), which was enacted in October 2000. $0.3 million was repaid to Customs in April 2004 pursuant to a reclamation request from Customs and was classified as other income (expense). The Company cannot reasonably estimate the potential amount, if any, that it may receive under the Offset Act in future periods as any such amount will be based upon future events over which the Company has little or no control, including, but not limited to, the amount of expenditures by domestic pasta producers and the amount of antidumping and countervailing duties collected by Customs.

 

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Income Taxes.  Income tax expense totaled $0.6 million and $0.5 million for the three months ending April 30, 2005 and 2004, respectively. The income tax expense reflects an effective corporate income tax rate of approximately 39%.

 

Net Income.  Net income for the three months ended April 30, 2005 totaled $1.0 million, an increase of $0.2 million compared to net income of $0.8 million for the three months ended April 30, 2004.

 

Comparison of the Nine Months Ended April 30, 2005 and 2004

 

Net Revenues.  Net revenues increased $5.1 million, or 4.7%, to $115.8 million for the nine months ended April 30, 2005, from $110.7 million for the nine months ended April 30, 2004. The increase resulted from higher pasta sales volumes, particularly in the foodservice and ingredient markets.

 

Revenues from the retail market, a portion of which includes co-pack and governmental sales, decreased $2.2 million, or 3.7%, for the nine months ended April 30, 2005 versus the same period last year. Retail revenues decreased due to an 11.9% volume decline partially offset by an increase in average selling prices. A significant factor contributing to retail volume declines was a decrease in co-pack sales, primarily to New World Pasta Company. Sales of Dreamfields^TM low digestible carbohydrate pasta products, which have significantly higher per unit sales prices than the Company’s other products, accounted for a majority of the average sales price increase in the retail market. Foodservice revenues increased $5.0 million, or 16.7%, primarily due to sales volume growth associated with sales under the New World Pasta license agreement combined with new customer sales. Ingredient revenues incr eased $6.2 million, or 71.6%, due to sales volume increases associated with the addition of one customer in this market.

 

Revenues from semolina, by-product and other mill sales totaled $8.1 million for the nine months ended April 30, 2005, down $3.9 million from $12.0 million for the nine months ended April 30, 2004. The decrease resulted from lower semolina sales volumes as the Company utilized a larger portion of its semolina production for internal pasta production purposes.

 

Cost of Goods Sold.  Cost of goods sold increased $1.7 million, or 1.7%, to $103.3 million for the nine months ended April 30, 2005 from $101.6 million for the nine months ended April 30, 2004. Gross profit as a percentage of net revenues increased from 8.2% for the nine months ended April 30, 2004 to 10.8% for the nine months ended April 30, 2005 due to various factors including lower per unit manufacturing costs resulting from increased factory utilization. These positive factors were partially offset by the negative impacts of higher freight costs.

 

Marketing, General, and Administrative (“MG&A”) Expenses.  MG&A expenses for the nine months ended April 30, 2005 totaled $7.8 million, up 30.0% from $6.0 million for the nine months ended April 30, 2004.  MG&A expenses as a percentage of net revenues increased from 5.4% to 6.7%. The increase in MG&A resulted from a variety of factors, the most significant of which was increased customer marketing support associated with Dreamfields^TM pasta products. The costs associated with Dreamfields^TM are recovered from DNA Dreamfields through the services agreement, and the Company’s allocable portion is reflected in the calculation of net income (loss) allocated from joint venture.

 

Net Loss Allocated from Joint Venture.  The net loss allocated from joint venture totaled $0.9 million for the nine months ended April 30, 2005, compared to $0.1 million for the nine months ended April 30, 2004. The net loss allocated from joint venture represents the Company’s allocable share of net losses from DNA Dreamfields.

 

Interest Expense.  Interest expense for the nine months ended April 30, 2005 totaled $1.7 million, down $0.4 million from $2.1 million for the nine months ended April 30, 2004. The decrease was mainly due to lower average outstanding debt levels. Cash and equity patronage refunds received from CoBank totaling $114,000 and $103,000 have been netted against interest expense for the nine months ended April 30, 2005 and 2004, respectively.

 

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Interest and Other Income.  Interest and other income totaled $0.4 million for the nine months ended April 30, 2005 compared to $0.6 million for the nine months ended April 30, 2004. The Company received net payments in the amount of $0.4 million and $0.6 million in fiscal years 2005 and 2004, respectively, under the Offset Act. These amounts have been classified as other income. The Company cannot reasonably estimate the potential amount, if any, that it may receive under the Offset Act in future periods as any such amount will be based upon future events over which the Company has little or no control, including, but not limited to, the amount of expenditures by domestic pasta producers and the amount of antidumping and countervailing duties collected by Customs.

 

Income Taxes.  Income tax expense totaled $1.0 million and $0.6 million for the nine months ending April 30, 2005 and 2004, respectively. The income tax expense reflects an effective corporate income tax rate of approximately 39%.

 

Net Income.  Net income for the nine months ended April 30, 2005 totaled $1.6 million, an increase of $0.7 million compared to $0.9 million for the nine months ended April 30, 2004.

 

Liquidity and Capital Resources

 

Our primary sources of liquidity are cash provided by operations and borrowings under our credit facility with CoBank. Working capital as of April 30, 2005 totaled $14.4 million compared to $16.6 million as of July 31, 2004.

 

Effective February 22, 2005, the Company secured a $25.0 million revolving credit facility with CoBank that extends through February 20, 2006. Interest on the revolving line is currently charged at a variable rate established by CoBank based on CoBank’s cost of funds, although the facility also allows for a fixed rate option. The balance outstanding under the revolving line of credit totaled $14.0 million as of April 30, 2005, leaving $11.0 million available for borrowings as of that date.

 

The Company’s debt agreements with CoBank and certain institutional investors obligate the Company to maintain or achieve certain amounts of equity and certain financial ratios and impose certain restrictions on the Company. The Company was in compliance with these financial covenants as of April 30, 2005 and the date of this filing.

 

Net cash from operating activities totaled $11.2 million for the nine months ended April 30, 2005 compared to $9.5 million for the nine months ended April 30, 2004. The net increase is attributable to $5.1 million of accrued promotional costs being applied to marketing prepayments related to U.S. Foodservice during the nine months ended April 30, 2005, offset partially by an increase in inventories during that time period. In March 2005, the Company entered into an agreement with U.S. Foodservice which finalized the economic terms and conditions governing the purchase of dry pasta products by U.S. Foodservice from the Company. The agreement includes provisions to apply accrued promotional amounts to marketing prepayments which the Company anticipates will lessen the time to recover the unamortized portion of these marketing prepayments made to U.S. Foodservice. The agreement also eliminated the Company’s right to be the exclusive supplier of dry pasta products to U.S. Foodservice and does not provide for minimum purchase commitments by U.S. Foodservice. The increase in inventories for the nine months ended April 30, 2005 primarily related to inventory build-up during the Company’s fiscal third quarter 2005 to allow for reduced pasta production volumes while the production upgrade project at the New Hope, Minnesota manufacturing facility is in process.

 

Net cash used for investing activities totaled $9.7 million for the nine months ended April 30, 2005, compared to $1.6 million for the nine months ended April 30, 2004. The $8.1 million increase in net cash used for investing activities for the nine months ended April 30, 2005 when compared to the same period last year related to increased investments in DNA Dreamfields and increased fixed asset expenditures in conjunction with the New Hope production upgrade project. The Company is currently contemplating additional equity and/or debt investments in DNA Dreamfields, which may result in future capital requirements.

 

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The Company is currently undertaking a $15.0 million capital project at its New Hope facility to better balance its pasta production capabilities and improve operating costs. As of April 30, 2005, the Company had expended $4.7 million in conjunction with this project. The Company had entered into additional commitments to purchase pasta equipment totaling $4.2 million as of April 30, 2005, related to the New Hope project. The Company is currently funding amounts expended under this capital project from net cash provided by operations and borrowing capacity under its credit facility. The Company is currently in discussions with its lenders regarding a secured credit facility to fund the New Hope project and potential additional investments in DNA Dreamfields.

 

Net cash used for financing activities totaled $2.1 million for the nine months ended April 30, 2005, compared to $7.9 million for the nine months ended April 30, 2004. Substantially all of these amounts related to debt principal payments offset by net borrowings under the Company’s revolving credit facility and increases in excess outstanding checks over cash on deposit.

 

The following table summarizes the Company’s contractual obligations as of April 30, 2005 (in thousands):

 

					Payments			Payments			Payments			Payments
					Due in Less			Due in			Due in			Due After
Contractual Obligations		Total			Than 1 Year			1-3 Years			4-5 Years			5 Years
Long-term debt		$	21,087		$	4,771		$	14,316		$	2,000		$	—
Durum purchase obligations		9,014			9,014			—			—			—
Operating leases		2,612			1,151			1,356			105			—
		$	32,713		$	14,936		$	15,672		$	2,105		$	—

 

The Company forward contracts for a certain portion of its future durum wheat requirements. The Company had outstanding commitments for grain purchases totaling $9.0 million as of April 30, 2005 related to forward purchase contracts. These contracts are set price contracts to deliver grain to the Company’s mill, and are not derivative in nature as they have no net settlement provision and are not transferable.

 

Management believes that net cash to be provided by operating activities, its available line of credit, and anticipated additional long-term debt financing, will be sufficient to meet the Company’s expected capital and liquidity requirements for the foreseeable future.

 

Recently Issued Accounting Standards

 

The FASB issued SFAS No. 123(R), “Share-Based Payment” in December 2004. SFAS No. 123(R) is a revision of SFAS No. 123, “Accounting for Stock Based Compensation” and is effective for fiscal quarters beginning after June 15, 2005. SFAS No. 123(R) requires the cost of share-based payments to employees, including grants of employee stock options, to be measured based on grant-date fair values. That cost will be recognized over the period during which an employee is required to provide service in exchange for the award, usually the vesting period. SFAS No. 123(R) will become effective for the Company beginning with its first fiscal quarter 2006. The Company is currently evaluating the expected impact of the adoption of this Statement on its financial statements.

 

The FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB 43, Chapter 4” in November 2004. This Statement amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage) so as to require such costs to be treated as current period charges. Further, this Statement requires that the allocation of fixed overhead costs to the inventoriable production costs be based on the normal capacity of the production facilities.  The provisions of this Statement are effective for inventory costs incurred during fiscal years beginning after June 15, 2005 and will become effective for the Company beginning with its first fiscal quarter 2006. The Company is currently evaluating the expected impact, if any, of the adoption of this Statement on its financial statements.

 

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ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Market risk is the risk of loss to future earnings, to fair values or to future cash flows that may result from changes in the price of a financial instrument. The value of a financial instrument may change as a result of changes in interest rates, commodity prices, exchange rates, equity prices, and other market changes. Market risk is attributed to all market-risk sensitive financial instruments, including long-term debt.

 

The Company does not believe it is subject to any material market risk exposure with respect to interest rates, commodity prices, exchange rates, equity prices, or other market changes that would require disclosure under this item.

 

ITEM 4.  CONTROLS AND PROCEDURES

 

The Company, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that, as of April 30, 2005, the Company’s disclosure controls and procedures were effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

 

There were no changes in the Company’s internal control over financial reporting during the Company’s fiscal quarter ended April 30, 2005, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

PART II – OTHER INFORMATION

 

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

 

Exhibits

 

31.1		Certification of Chief Executive Officer required by Securities and Exchange Commission Rule 13a-14(a) or 15d-14(a).
31.2		Certification of Chief Financial Officer required by Securities and Exchange Commission Rule 13a-14(a) or 15d-14(a).
32.1		Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.
32.2		Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.

 

Reports on Form 8-K

 

None.

 

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SIGNATURES

 

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

 

			DAKOTA GROWERS PASTA COMPANY, INC.
			(Registrant)
Signature		Title			Date
/s/ Timothy J. Dodd		President and Chief Executive Officer
Timothy J. Dodd		(Principal Executive			June 14, 2005
		Officer)
/s/ Thomas P. Friezen		Chief Financial Officer
Thomas P. Friezen		(Principal Financial			June 14, 2005
		Officer)
/s/ Edward O. Irion		Vice President – Finance and
Edward O. Irion		Chief Accounting Officer			June 14, 2005
		(Principal Accounting Officer)

 

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