In addition to the other information set forth in this report, you should carefully consider the following factors, which could materially affect our business, financial condition or results of operations in future periods.  The risks described below are not the only risks facing our Company.  Additional risks not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or results of operations in future periods.

 

Risks Associated with Our Business

 

A substantial portion of our revenues are derived from the sales of our Smart Balance® buttery spreads products and our future ability to maintain and grow our revenues depends upon continued sales of these products.  Any adverse developments with respect to the sale of Smart Balance® buttery spreads products could significantly reduce revenues and have a material adverse affect on our ability to remain profitable and achieve future growth.

 

Approximately 67% of our revenues for the year ended December 31, 2009 resulted from sales of our Smart Balance® buttery spreads products, which we expect will continue to be a large percentage of sales in the future.  We cannot be certain that we will be able to continue to commercialize our products or that any of our products will continue to be accepted in their markets.  Specifically, the following factors, among others, could affect continued market acceptance and profitability of Smart Balance® buttery spreads products:

 

·

the introduction of new products by our competitors into the functional food market;

 

·

the level and effectiveness of our sales and marketing efforts;

 

·

continued or accelerating decline in the buttery spreads category;

 

·

any unfavorable publicity regarding buttery spread products or similar products;

 

·

litigation or threats of litigation with respect to these products;

 

·

the price of the product relative to other competing products;

 

·

any changes in government policies and practices;

 

·

regulatory developments affecting the manufacture, marketing or use of these products;

 

·

new products or technologies which effectively render our buttery spreads products obsolete;

 

·

new science or research which undermines the efficacy of our buttery spreads products; and

 

 

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·

adverse decisions or rulings limiting our ability to promote the benefits of our buttery spreads products and technology.

 

Any adverse developments with respect to the sale of Smart Balance® buttery spreads products could significantly reduce our revenues and have a material adverse effect on our ability to maintain profitability and achieve our business plan.

 

The loss of a significant customer or significant reduction in purchase volume by any such customer could have a material adverse affect on our revenues and net income.

 

A limited number of supermarket chains and food wholesalers account for a substantial portion of our revenues.  Smart Balance’s ten largest customers accounted for approximately 61% of sales in 2009.  Our largest customer is Wal-Mart Stores, Inc., which accounted for approximately 19% of our sales in 2009.  There can be no assurance that our customers will continue their relationships with us.  In addition, there is no assurance that our customers will not reduce our shelf space, continue to carry the same number of our products, charge us more for shelf space or shelve our new products.  A significant reduction or loss in purchase volume from Wal-Mart Stores, Inc. or other major customers could have a material adverse effect on Smart Balance’s business, results of operations and financial condition.

 

We are dependent on third-party manufacturers, and the loss of a manufacturer or the inability of a manufacturer to fulfill our orders or to maintain the quality of our products could adversely affect our ability to make timely deliveries of product or result in product recalls.

 

Smart Balance does not own or operate any manufacturing facilities and is dependent on third parties for the manufacture of its products.  The ability of any of our manufacturers to produce our products could be affected by catastrophic events.  We currently rely on and may continue to rely on two manufacturers to produce all of our spreads.  If either manufacturer were unable or unwilling to produce sufficient quantities of our products in a timely manner or renew contracts with us, we would have to identify and qualify new manufacturers, which we may be unable to do.  As we expand our operations, we may have to seek new manufacturers and suppliers or enter into new arrangements with existing ones.  However, only a limited number of manufacturers may have the ability to produce a high volume of our products, and it could take a significant period of time to locate and qualify such alternative production sources.  In addition, we may encounter difficulties or be unable to negotiate pricing or other terms as favorable as those we currently enjoy.

 

There can be no assurance that we would be able to identify and qualify new manufacturers in a timely manner or that such manufacturers could allocate sufficient capacity in order to meet our requirements, which could adversely affect our ability to make timely deliveries of product.  In addition, there can be no assurance that the capacity of our current manufacturers will be sufficient to fulfill our orders and any supply shortfall could materially and adversely affect our business, results of operations, and financial condition.   Currently, some of our products are produced by a single third party source maintaining only one facility.  The risks of interruption described above are exacerbated with respect to these single source, single facility manufacturers.

 

Shipments to and from the warehouses could be delayed for a variety of reasons, including weather conditions, strikes, and shipping delays.  Any significant delay in the shipments of product would have a material adverse effect on our business, results of operations and financial condition and could cause our sales and earnings to fluctuate during a particular period or periods.  We have from time to time experienced, and may in the future experience, delays in the production and delivery of product.

 

Our manufacturers are required to maintain the quality of our products and to comply with our codebook specifications and requirements for certain certifications. In addition, our manufacturers are required to comply with all federal, state and local laws with respect to food safety.  There can be no assurance that our manufacturers will continue to produce products that are consistent with our standards or in compliance with applicable laws.  We would have the same issue with new suppliers.  We have occasionally received, and may from time to time receive, shipments of products that fail to conform to our standards.  The failure of any manufacturer to produce products that conform to our standards could materially and adversely affect our reputation in the marketplace and result in product recalls, product liability claims and severe economic loss.

 

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Our business model relies heavily on the skill set, experience, industry knowledge and industry contacts of our executive management team.  The departure of one or more members of our executive management team would be disruptive and could have a material adverse effect on our business.

 

The business model we operate requires specialized skill sets to operate and manage both internal and external teams and operating entities in an efficient coordinated effort.  There is a limited available talent pool for these skill sets.  If we experience turnover in our executive management ranks there can be no assurance that we can smoothly transition replacements in a timely and efficient manner.  Unique skill sets and industry contacts may be difficult or in some instances impossible to duplicate.  In addition, historically a significant portion of our senior management’s compensation has consisted of stock options. The stock options previously granted to our senior management are currently significantly under water, meaning that the exercise prices of the options are greater than the current market value of our common stock.  This decreased financial incentive could cause members of management to seek employment elsewhere.  Disruption to our organization as a result of executive management turnover may have a detrimental impact on our ability to maintain our business performance on a consistent level and could have a material adverse effect on our business, financial condition, results of operations, and liquidity.

 

We rely on Acosta, Inc. to act as our sales agent and there could be significant disruption in our ability to sell products to our customers for the vast majority of our sales if our relationship was terminated

 

Acosta, Inc. is the largest sales agency in the U.S. and represents our product line to thousands of supermarkets and food stores.  Our agreement with Acosta is terminable by either us or Acosta after satisfaction of a short notice period.  The termination of our agreement would require us to seek other sales agents, likely causing significant disruption to our business, and could affect our relationships with our customers.

 

Changes in consumer preferences and discretionary spending may have a material adverse effect on our revenue, results of operations and financial condition.

 

The food processing industry in general and the functional food industry in particular are subject to changing consumer trends, demands and preferences.  Trends within the functional food industry change often and our failure to anticipate, identify or react to changes in these trends could, among other things, lead to reduced demand and price reductions, and could have a material adverse effect on our business, results of operations and financial condition.  These changes might include consumer demand for new products or formulations that include health-promoting ingredients such as nutraceuticals.  In 2009, repeated lower price promotions by competitors may have created expectations of future price declines and promotions.    There can be no assurance that these pricing actions will not result in a loss of consumers and market share.  Our success depends, in part, on our ability to anticipate the tastes and dietary habits of consumers and to offer products that appeal to their preferences on a timely and affordable basis.

 

Our business depends on our ability to protect our intellectual property effectively.  Our inability to protect our intellectual property could harm the value of our brand and adversely affect our business.

 

Our business depends substantially on the legal protection of proprietary rights in intellectual property that we own or license.  We also claim proprietary rights in various unpatented technologies, know-how, trade secrets and trademarks relating to our products and manufacturing processes.  Our ability to implement our business plan depends in part on our ability to expand brand recognition using trademarks, service marks, trade dress and other proprietary intellectual property, including our name and logos.  If existing contractual measures fail to protect our proprietary rights, or if any third party misappropriates or infringes on our intellectual property, any advantage those proprietary rights provide may be negated and the value of our brands may be harmed, which could have a material adverse effect upon our business and might prevent our brands from achieving or maintaining market acceptance.  Monitoring infringement of intellectual property rights is difficult and we cannot be certain that the precautions we have taken will prevent the unauthorized use of our intellectual property and know-how, particularly in countries where we do not have trademarks or patents at all or where the laws of such country may not protect our proprietary rights as adequately as the laws of the United States or at all.  Accordingly, other parties, including competitors, may duplicate our products using our proprietary technologies. 

 

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Pursuing legal remedies against persons infringing on our patents or otherwise improperly using our proprietary information is a costly and time-consuming process that would divert management’s attention and other resources from the conduct of our business, which could cause delays and other problems with the marketing and sales of our products, as well as delays in deliveries.  GFA has commenced legal actions against third parties infringing on the patents in the past.  There can be no assurances that we will not encounter other claims with respect to prior users of intellectual property relating to our products.  If so, this could harm our image, brand or competitive position and cause us to incur significant penalties and costs, such as having a patent invalidated or limited in its applicability.

 

We rely on a combination of common law trademark rights, U.S. federal registration rights, and trade secret laws to protect our proprietary rights.  There can be no assurance that we will be able to enforce our trademark rights for current products or register trademarks or obtain common law trademark rights using “smart balance” for any new product lines we may introduce.  The inability to have the exclusive right to use of the term “Smart Balance” in new product names could weaken our ability to create a strong “Smart Balance” brand in existing and new product categories.

 

In addition, in 2007, three parties filed Oppositions to European Patent No. 820,307 relating to increasing the HDL level and the HDL/LDL ratio in Human Serum by Balancing Saturated and Polyunsaturated Dietary Fatty Acids.  A hearing is scheduled for July of 2010.  We anticipate a decision later in the year. We believe that neither this proceeding, nor its outcome, will have any adverse effect on our current business.

 

Although we rely in part on common law trademarks to protect our proprietary rights, common law trademark rights do not provide the same level of protection as afforded by the United States federal registration of a trademark.  Common law trademark rights are limited to the geographic area in which the trademark is actually used, plus a reasonable zone of future expansion, while U.S. federal registration on the Principal Register provides the registrant with superior rights throughout the United States, subject to certain exceptions.

 

To the extent that we have registered our trademarks in foreign jurisdictions where our products are or may be sold, the protection available in such jurisdictions may not be as extensive as the protection available in the United States.  In some countries, we may be unable to register the “Smart Balance” trademark for the products that we may want to sell in that country, which could adversely affect our ability to expand into such country.

 

If we fail to meet our obligations under our principal license agreement with Brandeis University, we may lose our rights to key technologies on which our business depends.

 

Approximately 77% of our sales for the year ended December 31, 2009 were dependent upon our principal license of certain technology from Brandeis University.  The licensed technology covers all Smart Balance® spreads, cheeses, shortenings and popcorn, all Earth Balance® spreads and shortenings and Nucoa® spread.  The license agreement imposes obligations upon us, such as payment obligations and obligations to diligently pursue the development of commercial products under the licensed patents.  If the licensor believes that we have failed to meet our obligations under the license agreement, the licensor could seek to limit or terminate our license rights, which could lead to costly and time-consuming litigation and, potentially, a loss of the licensed rights.  During the period of any such litigation, our ability to continue to sell existing products and to carry out the development and commercialization of potential products or sub-license the technology could be materially adversely affected.  It is difficult to accurately quantify the economic impact on us if we defaulted under our license agreement except to conclude that our ability to continue our business could be severely adversely affected.  The license agreement is scheduled to terminate when the underlying patents in each country expire.  The license agreement in the United States will expire in April 2015. Following the expiration of the license agreement, the Company’s ability to maintain share will be largely dependent on marketing efforts.

 

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The recent economic downturn in the U.S. and abroad and related consumer sentiment could make it more difficult to sell our premium priced products and may have a material adverse impact on our third-party manufacturers, suppliers, distributors and customers, which could result in a material adverse effect on our revenue, results of operations and financial condition.

 

The recent economic downturn in the U.S. and abroad may negatively impact us in several ways.  First, high unemployment, loss of savings and retirement funds, and a dramatic decline in the housing market, have led to a lack of consumer confidence and widespread reduction of business activity generally.  Economic pressures and/or negative consumer sentiment may make it difficult to sell our premium priced products or convince shoppers to switch brands without expensive sampling programs and price promotions.  Second, one or more of our manufacturers, suppliers, distributors and customers may experience cash flow problems and, therefore, such manufacturers, suppliers, distributors and customers may be forced to reduce their output, shut down their operations or file for bankruptcy protection, which in some cases would make it difficult for us to continue production of certain products, could require us to reduce sales of our products or could result in uncollectable accounts receivable. Financial difficulties or solvency problems at these manufacturers, suppliers and distributors could materially adversely affect their ability to supply us with products, which could disrupt our operations.  It may be difficult to find a replacement for certain manufacturers, suppliers or distributors without significant delay or increase in cost.

 

We do not expect that the difficult economic conditions are likely to improve significantly in the near future.  Any negative effect on the ability of consumers to purchase our premium products, or any interruption of our manufacturing, supply chain or distribution for any reason (including but not limited to financial distress, natural disaster or production difficulties), could substantially adversely affect our financial condition and results of operations.

 

Fluctuations in various food and supply costs could adversely affect our operating results.

 

Our manufacturers obtain most of the key ingredients used in our products from third-party suppliers.  As with most food products, the availability and cost of raw materials used in our products can be significantly affected by a number of factors beyond our control, such as general economic conditions affecting growing decisions, weather conditions such as frosts, drought, and floods, and plant diseases, pests and other acts of nature.  Because we do not control the production of raw materials, we are also subject to delays caused by interruptions in production of raw materials based on conditions not within our control.  Such conditions include job actions or strikes by employees of suppliers, weather, crop conditions, transportation interruptions, natural disasters, palm oil sustainability issues and boycotts of products or other catastrophic events.  There can be no assurance that our manufacturers will be able to obtain alternative sources of raw materials at favorable prices, or at all, if any of them experience supply shortages.  In some instance, we enter into forward purchase commitments to hedge the costs of projected commodity requirements needed to produce our finished goods.  These commitments are stated at a firm price, or as a discount or premium from a future commodity price and are placed with our manufacturers.  There can be no assurance that our hedging commitments will result in the lowest available cost for the commodities used in our products.

 

The inability of our manufacturers to obtain adequate supplies of raw materials for our products at favorable prices, or at all, as a result of any of the foregoing factors or otherwise could cause an increase in our cost of sales and a corresponding decrease in gross margin, or cause our sales and earnings to fluctuate from period to period.  Such fluctuations and decrease in gross margin could have a material adverse effect on our business, results of operations and financial condition.  There is no assurance that we would be able to pass along any cost increases to our customers.

 

Our advertising is regulated for accuracy, and if our advertising is determined to be false or misleading, we may face fines or sanctions.

 

Our advertising is subject to regulation by the Federal Trade Commission under the Federal Trade Commission Act, which prohibits dissemination of false or misleading advertising.  In addition, the National Advertising Division of the Council of Better Business Bureaus, Inc., which we refer to as NAD, administers a self-regulatory program of the advertising industry to ensure truth and accuracy in national advertising.  NAD both monitors national advertising and entertains inquiries and challenges from competing companies and consumers.  Should our advertising be determined to be false or misleading, we may have to pay damages, withdraw our campaign and possibly face fines or sanctions, which could have a material adverse affect on our sales and operating results.

 

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Adverse publicity or consumer concern regarding the safety and quality of food products or health concerns, whether with our products or for food products in the same food group as our products, may result in loss of sales.

 

We are highly dependent upon consumers’ perception of the safety, quality and possible dietary benefits of our products.  As a result, substantial negative publicity concerning one or more of our products or other foods and beverages similar to or in the same food group as our products could lead to a loss of consumer confidence in our products, removal of our products from retailers’ shelves and reduced sales and prices of our products.  Product quality issues, actual or perceived, or allegations of product contamination, even when false or unfounded, could hurt the image of our brand and cause consumers to choose other products.  Further, any product recall, whether due to real or unfounded allegations, would damage our brand image and reputation.  Any of these events could have a material adverse effect on our business, results of operations and financial condition.

 

 

We have no long-term contracts with our customers which require the purchase of a minimum amount of our products.  The absence of long-term contracts could result in periods during which we must continue to pay costs and service indebtedness without current revenues or with reduced revenues.

 

As is generally the case in the retail consumer goods industry, our customers do not provide us with firm, long-term volume purchase commitments.  As a result of the absence of long-term contracts, we could have periods during which we have no or only limited orders for our products, but we will continue to have to pay our costs including costs to maintain our work force and service our indebtedness, without the benefit of current revenues or with reduced revenues.  We cannot assure that we will be able to timely find new customers to supplement periods where we experience no or limited purchase orders or that we can recover fixed costs as a result of experiencing reduced purchase orders.  Periods of no or limited purchase orders for our products could have a material adverse affect on our net income, cause us to incur losses or result in violations of the debt covenants contained in our credit agreement.

 

The Company’s performance may be adversely affected by economic and political conditions in the U.S. and abroad.

 

The Company’s performance has been in the past and may continue in the future to be impacted by economic and political conditions in the United States and abroad.  Such conditions and factors include changes in applicable laws and regulations, including changes in food and drug laws, accounting standards, taxation requirements and environmental laws.  Other factors impacting our operations include recessionary conditions, the performance of businesses in hyperinflationary environments, terrorist acts and political unrest.  Such changes could materially and adversely affect our financial results.  In addition, unfavorable general economic conditions could affect the affordability of, and consumer demand for, some of our products.  Under difficult economic conditions, consumers may seek to reduce discretionary spending by foregoing purchases of our products or by shifting away from our products to lower-priced products offered by our competitors.

 

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The market price and trading volume of our common stock may be volatile.

 

The market price of our common stock could fluctuate significantly for many reasons, including reasons not specifically related to our performance, such as industry or market trends, reports by industry analysts, investor perceptions, actions by credit rating agencies, negative announcements by our customers or competitors regarding their own performance or actions taken by our competitors, as well as general economic and industry conditions. For example, to the extent that other companies within our industry experience declines in their stock price, our stock price may decline as well.  Our common stock price is also affected by announcements we make about our business, analyst reports related to our company, changes in financial estimates by analysts, rating agency announcements about our business, and future sales of our common stock, among other factors.  Our stock price may also be affected by fluctuations in the market share of our products.  As a result of these factors, investors in our common stock may not be able to resell their shares at or above the price at which they purchase our common stock.  In addition, the stock market in general has experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of companies like us.  These broad market and industry factors may materially reduce the market price of our common stock, regardless of our operating performance.

 

Risks Related to the Food and Beverage Industries

 

Our business operations may be subject to numerous laws and governmental regulations, exposing us to potential claims and compliance costs that could adversely affect our operations.

 

Manufacturers and marketers of food and beverage products are subject to extensive regulation by the Food and Drug Administration, which we refer to as the FDA, the United States Department of Agriculture, which we refer to as the USDA, and other national, state and local authorities. For example, the Food, Drug and Cosmetic Act and its regulations govern, among other things, the manufacturing, composition and ingredients, packaging and safety of foods and beverages. Under this act, the FDA regulates manufacturing practices for foods and beverages through its current “good manufacturing practices” regulations, and imposes ingredient specifications and requirements for many foods and beverages. Additionally, the USDA has adopted regulations with respect to a national organic labeling and certification program. Food and beverage manufacturing facilities and products are also subject to periodic inspection by federal, state and local authorities.

 

 

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(in millions)		March 31, 2009				June 30, 2009				September 30, 2009				December 31, 2009				Full Year 2009
Operating income		$	3.2			$	2.5			$	3.5			$	2.6			$	11.8
Add back:
Depreciation and amortization of intangibles			1.2				1.2				1.2				1.3				4.9
Stock option expense			4.0				4.0				4.1				4.0				16.1
Cash Operating Income		$	8.4			$	7.7			$	8.8			$	7.9			$	32.8

		March 31, 2008				June 30, 2008				September 30, 2008				December 31, 2008				Full Year 2008
Operating income		$	2.0			$	(0.5	)		$	2.6			$	1.6			$	5.7
Add back:
Depreciation and amortization of intangibles			1.1				1.1				1.1				1.2				4.5
Stock option expense			3.5				3.7				3.7				4.0				14.9
Cash Operating Income		$	6.6			$	4.3			$	7.4			$	6.8			$	25.1

Smart Balance – Cash Flows

 

Year Ended December 31, 2009 Compared to the Year Ended December 31, 2008 and the Year Ended December 31, 2008 Compared to the Year Ended December 31, 2007

 

Cash provided by operating activities in 2009 was $18.2 million compared with $19.1 million in 2008.  The $0.9 million decrease was primarily due to the $5.1 million decrease in derivative liabilities from the pay down of the interest rate swap and slightly higher working capital, partially offset by higher net income of $3.5 million.

 

Cash provided by operating activities in 2008 was $19.1 million compared to $0.7 million in 2007.  This increase was largely due to lower working capital and a full year of operations in 2008, after deducting non-cash charges for stock based compensation of $14.9 million and derivative liabilities of $5.1 million.

 

Cash provided by operating activities was $0.7 million for the year ended December 31, 2007.  For the year ended December 31, 2007, we had a loss of $64.5 million, which included non-cash charges for derivative losses of $45.5 million, $6.7 million for stock based compensation expenses and $18.5 million for performance based founders’ shares released from escrow.  Higher working capital needs in 2007 largely offset the benefit of these non-cash charges including depreciation and deferred income taxes.

 

In 2009, cash used for investing activities was $1.1 million, primarily for software development costs and the purchase of equipment.  Cash used for investing activities of $2.6 million in 2008 was also mainly for software development costs and the purchase of equipment.  Cash used in investing activities totaled $388.1 million during the year ended December 31, 2007, which was primarily from our acquisition of GFA of $486.2 million less the decrease of cash held in trust of $101.1 million.

 

Cash used in financing activities was $15.1 million in 2009 primarily for the repayment of debt of $73.5 million, partially offset by new financing of $60.6 million.  Cash used for financing activities was $48.7 million in 2008 primarily for the repayment of debt of $50.0 million related to the acquisition of GFA.  Cash provided by financing activities was $424.4 million for the year ended December 31, 2007.  Cash provided by financing activities in 2007 included the proceeds from the issuance of our common and preferred stock of $107.5 million and $138.5 million, respectively, and the issuance of debt of $160.0 million, all of which was issued in conjunction with our acquisition of GFA.  In addition, in December 2007, we received $76.5 million from the exercise of public warrants, of which approximately $40 million was used to repay debt.

 

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GFA – Results of Operations

 

(in millions)		January 1 to
		May 20, 2007
Net Sales		$	72.4
Cost of Goods Sold			32.7
Gross Profit			39.7
Operating Expenses			48.7
Operating (Loss)			(9.0	)
Other (Expenses)			(0.4	)
(Loss) before Income Taxes			(9.4	)
(Benefit) for Income Tax			(3.8	)
Net (Loss)		$	(5.6	)

Results of Operations for the Period From January 1, 2007 to May 20, 2007

 

Net revenue for the period from January 1, 2007 to May 20, 2007 was $72.4 million while cost of goods sold for the period was $32.7 million resulting in a gross profit as a percentage of revenues of 54.8%.   Selling, general and administrative expenses (SG&A) were $48.7 million for the period from January 1, 2007 to May 20, 2007 and 67.2% as a percent of net revenue.  This percentage was due entirely to the inclusion of a bonus accrual of approximately $21.8 million as part of the pending merger with Boulder Specialty Brands, Inc. on May 21, 2007. Excluding this amount, SG&A as a percentage of net revenue was 37.2%. Interest expense, which also includes amortization of deferred financing costs, was $1.0 million for the period.  The $9.4 million loss before taxes, resulting tax benefit of $3.8 million and net loss of $5.6 million for the period primarily reflect the impact of the bonus accrual.

Liquidity and Capital Resources

 

Liquidity:

 

Our liquidity planning is largely dependent on our operating cash flows, which is highly sensitive to changes in demand and, to a lesser extent, pricing, for our major products. While changes in key operating costs, such as outsourced production, advertising, promotion and distribution, may adversely affect cash flows, we generate significant cash flows as demand for our products grows. Our principal liquidity requirements are to finance current operations, pay down existing indebtedness and fund future expansion.  Under our new credit agreement the Company can also repurchase common stock subject to a determination of its excess cash flow as defined in that agreement. In December, the Board approved the repurchase of up to $25 million of shares over a two year period.  Currently, our primary source of liquidity is cash generated by operations.

 

We believe that cash flows generated from operations, existing cash and cash equivalents, and borrowing capacity under the revolving credit facility should be sufficient to finance working capital requirements for our business for the next twelve months.  As of December 31, 2009, $43.4 million was available for borrowing under our revolving credit facility and we had $7.5 million of cash.  Developing and bringing to market other new brands and business opportunities may require additional outside funding, which may require us to seek out additional financing arrangements.

 

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Secured Debt Financing:

 

We contract for significant amounts of soy, palm and canola oil products to support the needs of our brands. The price and availability of these commodities directly impacts our results of operations and can be expected to impact our future results of operations. In addition, we contract for the manufacture of our products with several contract manufacturers. Two contract manufacturers produce nearly all of our Smart Balance® buttery spreads products.  Each of those manufacturers produce approximately one-half of the total production and one uses multiple facilities to service the required volume.  We are dependent on these manufacturers for the necessary production capacity in order for us to meet our customer demands.

Seasonality and Quarterly Results

 

 

 

The Board of Directors and Stockholders

Smart Balance, Inc:

 

We have audited the accompanying consolidated balance sheets of Smart Balance, Inc and subsidiary as of December 31, 2009 and 2008, and the related consolidated statements of operations, changes in stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2009.   We also have audited the Company’s internal control over financial reporting based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO Criteria”).  The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying management’s report.  Our responsibility is to express an opinion on these financial statements and the effectiveness of the Company’s internal control over financial reporting based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects.  Our audit of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation.  Our audit of internal control included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances.  We believe that our audits provide a reasonable basis for our opinions.

 

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.  A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Smart Balance Inc, and subsidiary as of December 31, 2009 and 2008, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2009 in conformity with accounting principles generally accepted in the United States of America.  Also in our opinion, Smart Balance Inc, and subsidiary maintained, in all material respects, effective internal control over financial reporting as of December 31, 2009 based on the COSO Criteria.

   

/s/    Ehrhardt Keefe Steiner & Hottman PC

Denver, Colorado

March 10, 2010

 

F-2

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SMART BALANCE, INC. AND SUBSIDIARY