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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED JULY 31, 1998
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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Commission File No. 33-99834
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DAKOTA GROWERS PASTA COMPANY
(Exact name of registrant as specified in its charter)
NORTH DAKOTA 45-0423511
(State of incorporation) (IRS Employer Identification No.)
ONE PASTA AVENUE, P.O. BOX 21, CARRINGTON, ND 58421-0021
(Address of principal executive offices including zip code)
(701) 652-2855
(Registrant's telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
NONE
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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, and (2) has been subject to such filing
requirements for the past 90 days. Yes /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. /X/
There is no established public market for the Registrant's voting stock or
equity stock. Although there is a limited, private market for shares of the
Registrant's equity stock, the Registrant does not obtain information regarding
the transfer price in transactions between its members and therefore is unable
to estimate the aggregate market value of the Registrant's shares held by
non-affiliates. As of October 29, 1998, the number of shares outstanding of the
Registrant's voting stock, par value $125.00, was shares, and its
equity stock, par value $2.50, was shares.
DOCUMENTS INCORPORATED BY REFERENCE
None.
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PART I.
ITEM 1. BUSINESS
FORWARD-LOOKING STATEMENTS
The information presented in this Annual Report on Form 10-K under
"Business," "Properties and Processing Facilities" and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" contains
forward-looking statements within the meaning of Section 21E of the Securities
Exchange Act of 1934. When used in this report, the words "believe," "expect,"
"anticipate," "will" and similar expressions are intended to identify such
forward-looking statements.
Forward-looking statements involve risks and uncertainties, including those
discussed under "Risk Factors," that could cause actual results to differ
materially from those anticipated. Because actual results may differ, readers
are cautioned not to place undue reliance on these forward-looking statements.
INTRODUCTION
The Company is a North Dakota agricultural cooperative which was
incorporated on December 16, 1991. The Company owns and operates a vertically
integrated, state-of-the-art durum wheat milling and pasta producing facility in
Carrington, North Dakota. The facility, which became fully operational in 1994,
currently has the capacity to grind approximately seven million bushels of grain
annually and to produce approximately 270 million pounds of pasta annually. In
February 1998, the Company acquired all the outstanding stock of Primo Piatto, a
Minnesota corporation engaged in pasta manufacturing. Primo Piatto, now known as
the Minnesota Division of the Company, operates two processing plants and a
distribution center in the Minneapolis, Minnesota metropolitan area. The
addition of the Minnesota Division facilities has increased the Company's total
annual pasta production capacity to about 470 million pounds.
With membership limited to agricultural producers, the Company has a total
of approximately 1,100 members whose operations are located in North Dakota,
Minnesota or Montana. Each member must enter into a Growers Agreement with the
Company. This agreement obligates the member to deliver one bushel of durum
wheat during each processing year for each share of Equity Stock owned by that
member, subject to a pro rata downward adjustment depending on the production
needs of the Company.
THE MARKETS FOR PASTA AND DURUM PRODUCTS
PASTA
American consumers have increased their consumption of pasta during the past
ten years at a growth rate of between two and three percent per annum. As a
result, production of pasta products has also increased at a significant rate
during the last decade. The Company believes that the growth in domestic
consumption of pasta products has occurred as a result of a variety of factors.
Those factors include consumer perception of pasta as a "healthy" food, ease of
preparation, low cost in comparison to other types of foods, and flexibility of
pasta products as an ingredient in salads and entrees.
In 1997, consumption in North America exceeded 5.0 billion pounds. According
to the U.S. Department of Commerce, American consumers have increased their
average consumption of pasta during the past 10 years at an annualized growth of
approximately 2% to 3%. However, based on the Company's analysis of the
marketplace and trade and industry information, the Company believes that pasta
consumption growth rates in 1998 may approximate 1% to 2%. The Company estimates
that approximately 87.5% of domestic consumption is supplied by domestic
producers, with imported pasta totaling about 12.5% of the total U.S. demand for
dry pasta. In addition to the domestic market for dry pasta, much smaller
domestic markets exist for refrigerated and frozen pasta.
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The domestic dry pasta market into which the Company sells its pasta
products consists of three basic segments, with each segment presenting
different product and sales and distribution requirements. The applicable market
segments are Retail, Ingredient and Foodservice.
RETAIL SEGMENT
The Retail segment, which includes sales to supermarkets, warehouse clubs,
discount stores, drug stores, and other consumer retail operations, represents
an estimated 37% of the total market for dry pasta in the United States. This
volume excludes dry macaroni and cheese dinners. Roughly 82% of the Retail
segment is represented by established national or regional pasta manufacturer
brands, including imports; the remaining 18% of the retail portion of the market
consists of retail sales under various private labels. The Company is focusing a
substantial portion of its marketing efforts on private label sales. A small
portion of the Retail segment consists of sales to federal and state government
entities.
INGREDIENT SEGMENT
The Ingredient segment of the dry pasta market consists of pasta use by food
processors. Those entities use dry pasta as an ingredient or component in a
further-processed or combination food product. Such food products include dry
pasta dinners, including macaroni and cheese, frozen entrees, refrigerated
salads, canned entrees, baby food, and canned and dry soups. The Ingredient
segment represents about 43% of the total domestic dry pasta market. However,
roughly three quarters of the dry pasta used in the Ingredient market is
believed to be manufactured by end-product marketers for use in their own
products. Therefore, the Company is focusing its marketing efforts on those
companies that do not also manufacture the dry pasta ingredient for their
end-products. This portion of the Ingredient market represents approximately 500
million pounds of dry pasta.
FOODSERVICE SEGMENT
The Foodservice segment consists of sales of dry pasta to food preparation
operations such as restaurants, hotels, colleges and universities, elementary
and secondary schools, airlines, in-plant and in-office cafeteria facilities,
transportation services, and many other away-from-home eating places. The
Foodservice segment represents about 10% of the total domestic dry pasta market.
Marketing dry pasta to this segment of the marketplace generally consists of
selling to a network of competitive distribution organizations and buying
groups, and selling dry pasta to individual restaurant chains and other operator
organizations. The Company believes that over half the volume of pasta sold in
this market segment consists of sales of private label pasta products. A small
portion of the Foodservice segment consists of sales to federal and state
government entities.
CO-PACK ARRANGEMENTS
A portion of each end-user market segment is supplied under "co-pack"
arrangements between pasta manufacturers. These agreements involve the sale of
dry pasta products between pasta manufacturers in order to supply short-term
volume deficiencies such manufacturers suffer from time to time in meeting
customer requirements. Opportunities for co-pack arrangements have decreased in
recent periods due to the excess production capacity in the United States pasta
production industry. As described below, the Company's business involves co-pack
arrangements, although at a lower level than earlier in the Company's
operational history.
PRODUCTION AND PRODUCTS
The Company believes that its relationship with members provides a reliable
and consistent supply of milling-quality durum wheat. Pursuant to Growers
Agreements with the Company, the Company's members are obligated to deliver
durum wheat for the Company's use. The durum wheat is used in the production of
semolina which is then used by the Company to produce the Company's dry pasta
products.
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Upon delivery, the durum wheat is sampled, weighed, precleaned and unloaded into
the mill's grain silos. From the grain silos, the durum wheat is preblended and
conveyed into the mill's final mix bins, which use electronic mass flow
controllers for precision blending and flow rate control. The wheat then
proceeds to the cleaning and tempering sections of the mill. In those sections
of the process, foreign grains and weed seeds are removed and the durum wheat is
dampened to the optimum moisture level required for milling. From the tempering
bins, the cleaned and tempered durum wheat is conveyed to the mill section of
the Company's facilities, where grinding, sifting and purifying is completed to
produce a high quality semolina. In addition to the semolina, five additional
categories of product result from the overall durum wheat milling and blending
process: granulars, first clear (higher grade) flour, second clear (lower grade)
flour, semolina/durum wheat flour blends, and millfeed. Millfeed and most second
clear flour is sold primarily for animal feed. Upon completion of the milling
process, the Company's semolina, first and second clear flour and mill feed are
conveyed into bulk storage bins.
From the semolina bulk bins, semolina is primarily conveyed to the Company's
pasta production semolina holding bins. (It may also be transferred to truck and
rail load-out bins for sale to other U.S. pasta manufacturers.) The first and
second clear flour is either blended with semolina and conveyed to pasta
production semolina holding bins or transferred to rail and truck load-out bulk
bins for sale to other users.
Pasta production is basically a mixing, extrusion and drying process.
Individual shapes are the result of extruding pasta "dough" through different
dies. Consistent monitoring and control is a key element in this process, which
begins with each production line receiving semolina from the holding bins. Each
pasta production line operates independently and produces either long or short
good items, the difference being in the way they are conveyed through the drying
operation. The long good items are conveyed while hanging on poles; the short
good items are conveyed on screens. Both processes utilize continuous ultra high
temperature dryers and coolers. The finished products are then collected in
storage silos and accumulators. The entire pasta production process is
controlled by programmable logic controllers located in control panels at the
beginning of each production line. This computer control system allows for all
of the production lines to be operated and monitored by one lead operator and an
assistant operator.
From the storage silos and accumulators, the finished dry pasta is conveyed
to various continuous box and film packaging machines. Dry pasta is packed to
meet different market segment and customer requirements. For example, macaroni
and cheese dinners are generally packed in 7 1/4 oz. boxes. All other pasta is
packed in containers ranging in size from 8 ounces to 2,000 pounds. The packaged
product is conveyed through metal detectors, check weighers and automatic case
packers. From the case packers, the case travels past jet print coders to a
palletizing and stretch wrapping operation.
The pasta products manufactured by the Company consist of over 80 different
shapes and are sold to customers in all market segments. In addition to the dry
pasta produced by the Company, the Company purchases less than 10 additional dry
pasta shapes from other manufacturers and resells them. This practice is widely
followed by many pasta manufacturers for efficiency reasons and allows
distribution of wider product lines to the Company's customers. Pasta products
purchased from other manufacturers historically has represented less than 3% of
the Company's total sales. With the acquisition of the assets comprising the
Company's Minnesota Division, outside purchases of pasta are expected to fall
below 1% of total sales.
In addition to its pasta products, the Company has in the past sold semolina
and durum wheat flour to other pasta manufacturers in bulk truckload or railcar
quantities. Such sales represented less than 4% of total net revenues in fiscal
year 1998. Given the Company's current need for all semolina it produces, the
Company does not anticipate having any semolina for sale until after completion
of the mill expansion project.
The cost of production of dry pasta is significantly impacted by changes in
durum wheat prices. The cost of milling quality durum wheat steadily increased
from the time the Company was organized and
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remained at high levels through 1996. A significant 1996 crop led to a reduction
in prices in 1997, when the 1997 crop was significantly smaller and durum wheat
prices increased. Worldwide, many durum wheat producing areas are reporting a
large crop for 1998, which has led to lower durum wheat prices. This volatility
with respect to the price of the basic raw material for the Company's products
leaves the Company subject to wide variation in its costs from year to year. As
a result, factors which impact the size and quality of the durum wheat crop and
the availability of such wheat in the United States can have significant impact
on the Company, and may have an adverse impact. Those factors include such
variables as the weather in the area in which the Company's members reside,
weather in other durum wheat production areas in both the United States and
other parts of the world, and import and export policies and regulations.
Due to the intense competition present in the market for pasta products,
pasta manufacturers have generally been unable to implement price increases for
their dry pasta products in periods when higher durum wheat prices impacted the
cost of pasta production. The Company believes that such competition results
primarily from excess production capacity in the domestic pasta industry.
Although Borden Pasta Division has closed five of its ten manufacturing
facilities in the past two years, some of those facilities have remained in
production under the ownership of other parties. Additional industry capacity
has been created through expansion programs followed by the Company and American
Italian Pasta Company and the establishment of new production facilities by
Barilla and other enterprises.
SALES, MARKETING AND CUSTOMERS
The Company markets its products through direct sales, supplemented by the
efforts of brokers retained by the Company. These brokers receive a commission
upon sale of the Company's products. Since its full operations began in 1994,
the Company's customer base for pasta products has continuously expanded. The
Company's pasta products are distributed on a broad basis throughout the U.S.
The Company does not directly export its pasta products, although several of its
customers have exported minor quantities. Within its pasta operation, the
Company has steadily reduced the level of concentration among its largest
customers. No one customer accounts for 10% or more of the Company's total
sales. The Company's top 10 customers accounted for 56% of total sales in fiscal
year 1997 and 48% in fiscal year 1998.
Sales in the Retail segment of the market represented approximately 55% of
the Company's pasta sales in fiscal year 1998, with sales to the Foodservice and
Ingredient markets representing about 25% and 20%, respectively. The current
distribution of the Company's sales reflects significant growth in the Company's
Retail segment and modest growth in the Foodservice and Ingredients segments.
GROWERS AGREEMENT; DURUM DELIVERY SYSTEM
The durum wheat purchased and used in the Company's operations is obtained
through the delivery of grain pursuant to the Growers Agreements between the
Company and its members. The contractual obligations imposed on each member
under the Growers Agreement are intended to insure the availability of
sufficient quantities of durum wheat for use in the Company's processing
operations.
The Growers Agreement is paired with ownership of the Equity Stock. For each
share of Equity Stock held, the member is obligated to delivery to the Company,
subject to adjustment as described below, one bushel of No. 1 hard amber U.S.
durum wheat. Delivery schedules have been established for three marketing
periods consisting of four months each during the fiscal year, with each member
given notice of the member's delivery obligation for the upcoming marketing
period. If a member sells or transfers Equity Stock, the member's obligations
under the Growers Agreement must also be assigned to the purchaser or
transferee. The term of the Growers Agreement is indefinite and may be
terminated by the member, effective upon the last day of a processing year, upon
not less than 18 months advance notice. The Company reserves the right to
terminate the Growers Agreement and a grower's membership if the member does not
comply with the obligations of the Agreement or if the member otherwise fails to
meet
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the criteria for membership in the Company. Upon the Company's termination of a
member's membership in the Company, the member will cease to have voting rights
and other rights of membership and the Growers Agreement will be cancelled
effective as of the following July 31. Until the effective date of cancellation
of the Growers Agreement, the member's obligation to deliver durum wheat to the
Company pursuant to the terms of the Growers Agreement executed by the member
will remain in effect.
The Company may, depending on the marketing needs of the Company, reduce on
a pro rata basis to all members the quantity of durum wheat to be delivered. For
fiscal year 1998, the delivery obligation was approximately one bushel per share
of Equity Stock owned.
Effective August 1, 1998, the durum delivery system to the Company has been
modified to include deliveries made through Northern Grains Institute (NGI) a
North Dakota non-profit company. NGI administers the delivery arrangements and
acts as each member's grain handling and delivery agent for the purposes of
satisfying that member's obligations under the Growers Agreement. NGI is
responsible for arranging the logistics of durum deliveries and handling payment
and accounting matters. Consistent with Dakota Growers' policies and the Growers
Agreement, NGI assigns each member a delivery date by lottery for each of the
three marketing periods, which are as follows:
August 1--November 30; December 1--March 31; April 1--July 31
NGI acts only as the agent for the member, and the member retains the
economic risk and legal liability for such deliveries under the Growers
Agreement. Each member must agree to be bound by the Durum Pool Agreement among
the members of Dakota Growers Pasta Company and NGI. A copy of the Durum Pool
Agreement will be provided to each member along with the Growers Agreement.
In advance of each marketing period, NGI will invoice the members for the
price of the durum to be delivered in the members' names to Dakota Growers. The
member must make payment under the invoice in the amount indicated thereon,
which shall be equal to Dakota Growers' deduction for retainage on the durum to
be delivered, plus the per bushel transaction fee. Dakota Growers' deduction for
retainage is currently 10% of the projected marketing period price (the Growers
Agreement allows for retainage as high as 20%). For the current fiscal year, NGI
will charge a per bushel transaction fee of $.03 per bushel. This fee is
refunded to the member on the final settlement date (45 days after the close of
each marketing period) if the member sells and delivers under his own contract
milling quality durum to NGI in an amount equal to or exceeding his quota.
Upon the member's payment of the invoice, NGI will make delivery for the
member and receive on behalf of the member the initial payment from Dakota
Growers. Dakota Growers will pay directly to the members the amount of the
retainage on the settlement date 45 days after the marketing period, but only to
the extent that earnings provide necessary funds to make such payments and which
allow DGPC to remain in compliance with agreements with its lenders.
Members may make delivery to the NGI durum pool by contacting NGI and
arranging for a delivery date. Payment for such durum will be made at the Dakota
Growers' spot market price within 14 days of delivery.
COMPETITION
OVERVIEW
The markets for semolina/durum wheat flour and pasta are highly competitive
in most segments and geographic regions. In all, there are an estimated 60 to 65
significant plants in the U.S. which manufacture dry pasta. The intensity of
competition varies from time to time as a result of a number of factors,
including: (1) the degree of industry capacity utilization, (2) comparative
product distribution costs, (3) ability to render distinctive service to
customers, (4) the price of raw materials, parimarily durum wheat, and (5) a
distinguishing or unique ability to provide consistent product quality in line
with customer
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specifications. The Company believes that, in a broad sense, the single most
influential factor on the intensity of competitive conditions is industry
capacity utilization. (It should be noted that detailed information regarding
pasta production is somewhat difficult to obtain, as many pasta producers are
closely-held enterprises.)
PASTA
The pasta market is highly competitive and includes several well-established
enterprises. Those competitors are both independent companies and divisions or
subsidiaries of other, larger, food products companies. In addition, according
to United States government data, the overall U.S. pasta market has experienced
rapid penetration by foreign suppliers, particularly in the last three to four
years. Those suppliers include Italian, Turkish and Mexican enterprises.
Total domestic industry capacity, excluding self-supply capabilities within
the ingredient segment, is broadly estimated at over 3.8 billion pounds of pasta
per year. The Company's top competitors in the open market include Borden,
Hershey Pasta Group Division, American Italian Pasta Company (including the
long-term contract to produce Muellers brand for Best Foods, Inc.), Philadelphia
Macaroni Co. Inc., Barilla, A. Zerega's Sons, Inc., and Gooch Foods (Archer
Daniel Midland). Together with the Company, these organizations represent in the
aggregate in excess of 50% of total industry production capacity and over 75% of
the capacity excluding self-supply. These companies market under their own
labels and also supply private label customers.
Industry changes will impact pasta market competition. In 1997, Borden
announced the closure of 5 of its 10 pasta plants and indicated that it planned
to exit the private label market, focusing on its branded label products.
Barilla, one of Italy's largest pasta marketers, is aggressively expanding its
branded label sales and is constructing a new pasta manufacturing facility in
Iowa.
Competition also comes from imported pasta, which represents approximately
12.5% of the total domestic market. The July, 1996 imposition of antidumping and
countervailing duties on certain imports from Italy and Turkey has had little
impact on pasta imports. Essentially flat from 1995 to 1996, imports were up
almost 4% in 1997 as the drop in imported pasta from Turkey was replaced by
increased imports from Mexico and Italy.
Approximately 25% of total domestic industry production capacity is
represented by the largest self-suppliers, which include Kraft, General Mills,
American Home Foods Products, Inc., Campbell Soup Co., Inc., ConAgra, Inc.,
Pillsbury and Stouffers Corp.
The Company markets in the retail area primarily as a private label
supplier. The Company's "Pasta Growers" label to date has most effectively
penetrated local area markets in the Dakotas and Minnesota, while "Zia Briosa"
is marketed through club stores on the west coast and its "Pasta Sanita" label
is sold in small niches ranging from Montana, Minnesota, Illinois and Ohio to
select markets in the northeast United States.
In the foodservice area, the Company also markets its pasta primarily as a
private label supplier, including sales to three of the largest foodservice
distributors in the country under their labels.
The Company focuses its ingredient marketing efforts on companies that do
not also manufacture the dry pasta ingredient for their end-products.
The Company sells most of its pasta under "purchase orders", whereby the
customer and the Company are not obligated for any pre-determined length of
time. Occasionally, a pricing commitment is agreed to with a term of one year or
less. In 1997, the Company and one of its major customers, U.S. Foodservice
(formerly JP Foodservice, Inc.), signed a long-term agreement including volume
and pricing commitments. The term of the agreement is through December 31, 2001.
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The pasta manufacturing industry has experienced capacity changes and
restructuring in recent years. As indicated elsewhere herein, the Company
believes that current pasta production capacity exceeds the current demand for
pasta. The Company believes that certain competitors have elected to expand
production capacity in situations where those competitors have experienced
direct demand for their finished pasta products. In addition to the impact of
excess production capacity, the Company believes that price competition among
producers of branded pasta products has led to a reduction in the average price
of branded product. To the extent that the price differential between branded
pasta products and private label pasta products is less than in the past,
private label pasta products, such as those produced by the Company, will
experience greater competition than when the price differential is greater.
SEMOLINA AND DURUM WHEAT FLOUR
Given the commodity nature of the market for semolina and durum flour, sales
volume is largely dependent on delivered price when adequate supply conditions
exist. Italgrani USA, Inc., Harvest States Cooperatives and Miller Milling all
have two or more active mills, and collectively are believed to represent more
than 60% of total domestic milling capacity; The Company's current milling
operation represents about 8% of total domestic milling capacity. Some of the
mills operated by the Company's competitors have established integrated pasta
production capabilities or have developed alliances with pasta manufacturers.
The Company believes that the integration of its milling and pasta production
facilities enables the Company to compete more effectively with those
competitors who also have integrated facilities.
GOVERNMENT REGULATION
TRADE POLICIES
The operations of the Company may be affected by governmental policies and
regulations, including those impacting the amount of durum wheat imported from
Canada and the volume of pasta imports.
Pricing policy actions by the Canadian Wheat Board may have resulted in
increased sales of Canadian durum wheat in the United States and lower durum
wheat prices. These actions have resulted in complaints from durum growers in
the United States, and a continuing dispute over possible restrictions on durum
wheat imports. If restrictions are implemented, it could impact both the milling
and pasta areas of the Company's business operations.
Lower durum wheat prices could ultimately lead to reduced pasta production
costs and provide opportunity for profit improvements for pasta manufacturers
without requiring price increases for finished pasta products, while higher
durum prices could trigger price increases or reduced margins dependent on the
industry capacity utilization and pasta import levels.
FOOD AND DRUG ADMINISTRATION REGULATION
As a producer of products intended for human consumption, the Company's
operations are subject to certain federal and state regulations, including
regulations promulgated by the United States Food and Drug Administration. The
Company believes that it is in material compliance with the applicable
regulatory requirements.
ENVIRONMENTAL REGULATION
Dakota Growers is subject to extensive federal and state environmental laws
and regulations with respect to water and air quality, solid waste disposal and
odor and noise control. The Company conducts an on-going control program
designed to meet these environmental laws and regulations. There are no pending
regulatory enforcement actions and the Company believes that it is in
substantial compliance with applicable environmental laws and regulations.
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The Company cannot predict whether future changes in environmental laws or
regulations might increase the cost of operating its facilities and conducting
its business. Any such changes could have adverse financial consequences for the
Company and its members.
INTELLECTUAL PROPERTY RIGHTS
The Company relies on a combination of trade secret, and trademark law,
nondisclosure agreements and technical measures to establish and protect its
proprietary rights to its products and processes. The Company owns the following
trademarks that have been registered with the United States Patent and Trademark
Office: the corporate logo, Dakota Growers Pasta Company-Registered Trademark-,
the design on its packaging, Pasta Growers-Registered Trademark- and Pasta
Sanita-Registered Trademark-. The Company also has a pending trademark
application for Zia Briosa-TM-.
RESEARCH AND DEVELOPMENT
The Company supports research and development programs in North Dakota which
focus on improved varieties of durum wheat, including the Durum Education
Research and Marketing Committee and the activities of NGI. The Company, as part
of its operations, maintains a modern, well-equipped laboratory facility
designed primarily to evaluate and maintain high quality standards for incoming
raw materials, ongoing product manufacturing, and development of new pasta
shapes.
EMPLOYEES
As of October 28, 1998, Dakota Growers had 496 full-time employees.
Full-time employees are provided health insurance, vacation and holiday plans
and are eligible to participate in the Company's 401(k) savings plans. The
Company considers its employee relations to be excellent. Certain hourly
employees at the recently acquired Minnesota Division facilities are covered by
collective bargaining agreements which expire June 30, 1999 and December 1,
1999.
RISK FACTORS
The following are important factors that could cause actual results to
differ materially from those expressed in any forward-looking statements made by
or on behalf of the Company.
BRIEF OPERATING HISTORY
The Company began full operations on January 1, 1994. Therefore, it has a
short operating history with respect to producing and marketing pasta.
Notwithstanding its current operations and historical financial results, there
can be no assurance that the Company will continue to operate profitably or be
effective in managing its future growth.
TAX TREATMENT
Subchapter T of the Internal Revenue Code sets forth rules for the tax
treatment of cooperatives and applies both to cooperatives exempt from tax under
Section 521 of the Internal Revenue Code and to nonexempt corporations operating
on a cooperative basis. Dakota Growers is a nonexempt cooperative. As a
cooperative, Dakota Growers is not taxed on amounts of patronage sourced income
withheld from its members in the form of qualified per-unit retains or on
amounts distributed to its members in the form of qualified written notices of
allocation. Consequently, such amounts are taxed directly to the members.
However, revenue attributable to non-patronage sourced income is taxed at the
Company level and again upon distribution to the Company's members. If the
Company were not entitled to be taxed under Subchapter T or if a significant
portion of revenues are from non-patronage sourced income, its revenues would be
taxed when earned by the Company and the members would be taxed when dividends
are distributed. From time to time, the Internal Revenue Service challenges the
tax status of cooperatives,
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taking the position that the challenged entities are not operating on a
cooperative basis and are therefore not entitled to the tax treatment described
above. Those challenges can be based on a variety of factors, including the
nature of the cooperative's business, its interaction with its members and the
portion of its business done for or with its members. The impact of most such
challenges, regardless of the factor on which the challenge is based, is that
the Internal Revenue Service seeks to assert that some or all of a cooperative's
income does not arise from a "patronage" transaction. As any income derived from
non-patronage sources is subject to taxation at the entity level, the effect of
a successful challenge is that the cooperative would be taxed as a corporation.
The Internal Revenue Service has not challenged the Company's tax status; the
Company would vigorously defend any such challenge. However, taxation at both
the Company level and the shareholder level would have a material, adverse
impact on the Company.
TECHNOLOGICAL OBSOLESCENCE
The Company believes that one of its current business advantages is that the
Company's primary processing facilities contain state of the art production
technology, benefitting the Company by providing comparatively lower costs than
production facilities based on older production technologies. To the extent that
over time other pasta producers adopt similar technology or adopt new production
technologies which provide even greater efficiencies, the Company's current
perceived advantage may be decreased or eliminated and the Company may find
itself at a technological disadvantage, with higher production costs than its
competitors.
INTENSE AND VOLATILE COMPETITION
The pasta industry is highly competitive. The Company is in direct
competition with other more established pasta manufacturers that have
substantially greater resources. The pasta industry is also characterized by
excess production capacity, with a variety of pasta producers having disclosed
that they intend to further increase production capacity by either constructing
new production facilities or by expanding the production capacity of existing
facilities by adding additional processing lines. Part of that increase in
production capacity has arisen from foreign producers establishing production
facilities in the United States. This excess capacity has given rise to intense
competition for sales, often focused on product price. A variety of discount
programs are used by industry participants seeking to sell pasta products. The
effect of such competition on the Company has been to put pressure on profit
margins and to involve the Company in vigorous competition to obtain and retain
product customers. There can be no assurance that the Company can continue to
grow and operate profitably in such an environment.
PASTA, SEMOLINA AND DURUM WHEAT PRICES
The profitability of the Company will be subject to changes in the market
prices for finished pasta products, and semolina and durum wheat, matters over
which the Company will have little or no control. The current prices for durum
wheat, the primary ingredient in pasta, are at very low levels in comparison to
recent years. The effect of those lower prices for durum wheat and the resulting
semolina, when combined with the excess production capacity situation, has
placed downward pressure on the prices for which pasta products can be sold and
has intensified the competition in the pasta industry. While the Company has
from time to time in the past sold semolina to other pasta producers, the
Company's current need for all the semolina which can be produced in the
Company's milling operations has temporarily curtailed sales of semolina to
other pasta producers.
PRODUCT CONCENTRATION
The Company competes exclusively in the dry pasta segment of the overall
pasta market. As a result, any decline in the demand or pricing for dry pasta,
any shift in consumer preferences away from dry pasta or any other factor
adversely affecting the dry pasta market could have a more significant adverse
effect on the Company's business and financial position than on pasta producers
that also produce other products.
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OBLIGATION TO DELIVER WHEAT; POSSIBLE REDUCTION OF DELIVERY OBLIGATION
All members of the Company are obligated to deliver durum wheat to the
Company in proportion to the amount of Equity Stock owned by that member. If a
member is unable to grow and deliver the durum wheat required to be delivered to
the Company pursuant to the Growers Agreement, the member must purchase the
required quantity of durum wheat from other agricultural producers or other
owners of durum wheat for delivery to the Company. As a result, a member not
able to produce durum wheat for delivery to the Company would be exposed to the
risk that the price of acquiring durum wheat for delivery to the Company would
be in excess of the price to be paid for durum wheat by the Company under the
Growers Agreement.
Under the Growers Agreement, the Company may, depending on its marketing
needs, reduce on a pro rata basis the quantity of durum wheat each member is
obligated to deliver to the Company. For fiscal year 1998, the delivery
obligation has been one bushel of durum wheat per share of Equity Stock owned.
In fiscal years 1997 and 1996 the delivery obligation was slightly less than one
bushel of durum wheat per share. There can be no assurance that the Company will
not reduce the amount of durum wheat to be delivered by members. In the event
that the Company reduces the amount of durum wheat to be delivered per share of
Equity Stock, each member would experience a proportionate reduction in the
patronage activity with the Company.
GOVERNMENT REGULATION AND TRADE POLICIES
Dakota Growers is subject to extensive federal and state environmental laws
and regulations with respect to water and air quality, solid-waste disposal and
odor and noise control. The Company conducts an on-going program designed to
comply with these laws and regulations. There are no pending regulatory
enforcement actions against the Company, and the Company believes that it
currently is and will continue to be in substantial compliance with all
applicable environmental laws and regulations.
As a producer of products intended for human consumption, the Company's
operations are subject to certain federal and state regulations, including
regulations promulgated by the U.S. Food and Drug Administration. The Company
believes that it is in material compliance with all applicable regulatory
requirements relating to food quality and safety.
The operations of the Company may be affected by governmental trade policies
and regulations, including those impacting the amount of durum wheat imported
from Canada and the volume of pasta imports. Pricing policy actions by the
Canadian Wheat Board in recent years may have resulted in increased sales of
Canadian durum wheat in the U.S. and lower durum wheat prices. These actions
have resulted in complaints from durum growers in the U.S. (including many of
the Company's grower-owners), and a continuing dispute over possible
restrictions on durum wheat imports. If restrictions are implemented, it could
impact both the milling and pasta areas of the Company's business operations.
Domestic pasta prices are also influenced by competition from foreign pasta
producers, and as such by the trade policies of both the U.S. government and
foreign governments. In 1996, a U.S. Department of Commerce investigation
determined that several Italian and Turkish pasta producers were selling pasta
at less than fair value in U.S. markets, and were benefitting from subsidies
from their respective governments. Consequently, the U.S. International Trade
Commission imposed punitive anti-dumping duties on pasta imported from both
nations, effective July, 1996. However, foreign pasta producers have also
entered the United States pasta market by establishing production facilities in
the United States, further increasing competition in the United States pasta
market.
RESTRICTIVE LOAN COVENANTS
The Company's loan agreements with the St. Paul Bank for Cooperatives (the
"Bank") obligate the Company to maintain or achieve certain amounts of equity
and working capital and achieve certain
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financial ratios. In addition to the covenants regarding financial ratios, the
various agreements require the Company to obtain the Bank's consent with respect
to certain cash distributions, including payment of cash patronage in an amount
greater than 20% of qualified patronage allocations. To the extent that the
Company is unable in the future to satisfy the various conditions specified in
the loan agreements, the Company's ability to distribute either patronage
distributions or any other dividends to its members may be restricted or the
Company may be prohibited from returning unit retains withheld from durum wheat
purchases from members. The failure to comply with the various loan covenants
may result in interest rate penalties, restrict the Company's corporate
activities or result in a default by the Company which may materially adversely
affect the Company's liquidity.
RESTRICTIONS ON TRANSFERABILITY OF SHARES; NO OBLIGATION TO REPURCHASE
SHARES
There is no established public trading market for the Membership Stock,
Equity Stock or Preferred Stock of the Company. There is a very limited private
market for the Equity Stock. The Company has no current plans with respect to
developing a general public market for its securities. Shares of Equity Stock in
the Company may be transferred only with the consent of the Company's Board of
Directors. Any transferee of the Equity Stock must (i) satisfy the membership
eligibility requirements described in the Company's Bylaws, (ii) be approved for
membership by the Board of Directors, (iii) own one share of Membership Stock
and (iv) execute a Growers Agreement. The Company has no legal obligation to
repurchase any Membership Stock or Equity Stock at any time, even if the Company
terminates a member's membership. However, the Company has consistently
repurchased shares of Membership Stock from a member desiring to transfer all of
the member's Equity Stock to a qualified third party. Consequently, investors
may be unable to sell their shares promptly or at a price equal to or above the
purchase price, or sell their shares at all.
TERMINATION OF MEMBERSHIP INTEREST
Pursuant to the Company's governing documents, a stockholder's membership in
the Company automatically terminates upon ceasing to be a producer of
agricultural products or upon failing to patronize the Company for thirteen
consecutive calendar months. In addition, the Board of Directors may terminate a
membership for cause. "Cause" includes intentional or repeated breach of the
Bylaws, rules or regulations of the Company or failure to make timely payment of
debts to the Company, breach of any contract between the member and the Company,
and other causes determined by the Board of Directors in the exercise of honest
and good faith business judgment. Whether a membership is subject to termination
for breach of a contract may be determined by the Board of Directors without
regard to the commencement or outcome of any litigation arising from the
contract.
Upon termination of membership in the Company, a member will cease to have
voting rights and other rights of membership. However, loss of membership rights
will not relieve a member's obligation to deliver durum wheat to the Company
pursuant to the terms of the member's Growers Agreement or excuse a terminated
member from performing any other obligations under a contract between the
Company and the terminated member. The Growers Agreement will remain in effect
until the July 31 next following the termination of membership. The Company has
no obligation to repurchase the Membership Stock or Equity Stock of a member
determined to be ineligible as a member.
BOARD OF DIRECTORS DISCRETION REGARDING PATRONAGE DISTRIBUTIONS
The Company conducts its patronage business on a cooperative basis. The
quantity of durum wheat delivered to the Company by any member is used in
determining that particular member's patronage business with the Company and the
member's share of the Company's net proceeds. The Board of Directors of the
Company has absolute discretion to determine the manner and amount of payment of
patronage equity credits.
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UNIT RETAINS
As a means of raising capital, an agricultural cooperative may retain a
portion of the payments otherwise due members for their crops. This is called a
"unit retain" or "unit retention capital." A qualified unit retain is not
taxable income to the cooperative under federal law, but is available for the
general business purposes of the cooperative, including debt service. The
Company's Board of Directors may determine on an annual basis the amount of unit
retains to be applied to all members on a uniform basis. Unit retains may be
retained by the Company indefinitely. To date, Dakota Growers has not withheld a
unit retain but has paid the full price of durum wheat to the growers, less
applicable transaction fees established by the Board of Directors. Although the
Board does not envision using unit retains as a method to increase the Company's
capital, there can be no assurance that the Company's Board of Directors will
not exercise its authority to withhold unit retains under certain circumstances,
including but not limited to, maintaining sufficient capital to meet the capital
requirements imposed under any agreements with its lenders.
MEMBER'S CONSENT TO TAXATION FOR QUALIFIED ALLOCATIONS OF PER-UNIT RETAINS
AND PATRONAGE EARNINGS
Each member of the Company must agree that the amount of any qualified
per-unit retain allocations and patronage dividends with respect to patronage
which are made in money, qualified written notices of allocation (as defined in
26 U.S.C. Section 1388) or other property will be deemed to be taxable income to
the member in the taxable year in which such written notices of allocation are
received by the member. Therefore, qualified per-unit retains are taxable income
to the Company's members even though the member may not receive payment for such
qualified per-unit retains for several years.
To constitute a qualified written notice of allocation of patronage
dividends under federal tax law, the Company must pay to each member at least
20% of the patronage dividend in cash or by qualified check. Therefore, in the
event that the Company issues patronage dividends in the form of qualified
written notices of allocation the entire amount of such patronage dividend is
deemed to be taxable income to the member, even though the member may receive a
cash payment of only 20% of the patronage dividend.
ITEM 2. PROPERTIES AND PROCESSING FACILITIES
Dakota Growers operates a vertically integrated, state of the art durum
milling and pasta manufacturing plant in Carrington, North Dakota. The plant,
which became fully operational in January 1994 and has been expanded in 1996,
1997 and 1998, has the capacity to grind over seven million bushels of grain
each year. It has grain silos with a capacity to hold 370,000 bushels. The plant
has seven pasta production lines, three of which are operated as long goods
lines and four of which are short goods lines. The fourth short goods line was
added in July 1998. Electronic control scales are used throughout the facility
in order to continuously track production and yields. A central computer control
room allows one operator to monitor efficiently both the milling and the pasta
operations. Total dry pasta manufacturing capacity is 270 million pounds
annually. The Company owns the physical plant, and the land on which it is
located.
In early 1998, the Company acquired physical assets consisting of two pasta
production facilities and a distribution center located in the Minneapolis
metropolitan area. Those assets are operated as the Company's Minnesota
Division. The larger of the two production facilities, located in New Hope,
Minnesota, contains six production lines, capable of producing approximately 170
million pounds of dry pasta each year. The smaller production facility, located
in Minneapolis, Minnesota, contains four production lines and is capable of
producing approximately 30 million pounds of dry pasta each year.
In order to support the expansion of its pasta manufacturing capabilities,
the Company is currently engaged in a major upgrade of its durum wheat grinding
and semolina milling facilities as well. The Company has launched an $11 million
capital improvements program for the milling portion of its Carrington, ND
plant, which is expected to be completed in February 1999. The expansion will
increase the
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Company's durum milling capacity from its current level of 20,000 bushels per
day to approximately 40,000 bushels per day. In addition, the expansion will
include construction of additional grain storage silos, raising the Company's
on-site durum storage capacity from the present level of 370,000 bushels to
620,000 bushels. The Company expects that this expanded durum milling capacity
will be sufficient to supply the future semolina needs of both the Carrington
plant and the Minnesota Division facilities. As the Minnesota Division must
presently source its semolina flour on the open market, the Company anticipates
significant cost savings as the Company's increased durum milling capacity
permits the complete vertical integration of the Minnesota Division facilities
into the Company's operations.
In addition to these production facilities, the Company leases a warehousing
and distribution center in Fargo, North Dakota, and owns the Minnesota Division
distribution center in New Hope. These facilities are supplemented by various
public warehouses where inventory is maintained and redistributed for the needs
of specific customers.
ITEM 3. LEGAL PROCEEDINGS
From time to time and in the ordinary course of its business, the Company is
named as a defendant in legal proceedings related to various issues, including
worker's compensation claims, tort claims and contractual disputes. Other than
such routine litigation, the Company is not currently involved in any material
legal proceedings. In addition, the Company is not aware of other potential
claims which could result in the commencement of legal proceedings. The Company
carries insurance which provides protection against certain types of claims, up
to the policy limits of the Company's insurance.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK
AND RELATED STOCKHOLDER MATTERS
There is no established public market for the voting Membership Stock,
Equity Stock or Preferred Stock of the Company. Ownership of Membership Stock
and Equity Stock is restricted to eligible agricultural producers with
operations in North Dakota, Minnesota or Montana. The Membership Stock, Equity
Stock and Preferred Stock may not be transferred without the consent of the
Company's Board of Directors.
As of October 29, 1998, there were approximately 1,100 holders of Membership
Stock.
Members are obligated to deliver durum wheat to Dakota Growers under the
Growers Agreement. Commencing August 1, 1998, all durum wheat deliveries by
members must be made through an agency arrangement administered by Northern
Grains Institute (NGI). NGI acts as each member's grain handling delivery agent
in connection with deliveries of durum to Dakota Growers. Members making actual
delivery of durum to NGI receive the Dakota Growers' spot market price within
fourteen (14) days of delivery.
Durum wheat delivered to Dakota Growers by its members is processed and the
resulting semolina and pasta products are marketed on a cooperative basis. Each
member is paid for the durum wheat delivered to the Company. In addition, a
member may receive a portion of the net proceeds of the Company from its value
added processing operations, based on each member's patronage with the Company
as compared to total patronage of all members. The Company may withhold a
portion of the payments owed to members for their durum delivered to the Company
in the form of unit retains and may elect not to pay the entire amount of
patronage in cash.
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A unit retain is a portion of the payment to the members for their durum
delivered to the Company, which portion is retained by the Company for use as
capital for the Company's business. Under IRS guidelines, the Company has the
option to treat the unit retains as taxable at the cooperative level or to treat
the unit retains as nontaxable by declaring the unit retains as "qualified."
Qualified unit retains are taxable to the member in the member's tax year of
notification. When a qualified per unit retain is reimbursed or "revolved" in
the form of a cash payment to the member, the member reports no additional
income, having already paid tax on the whole amount in the year of declaration.
Unit retains do not contain a minimum cash payment requirement to qualify for
this tax treatment.
The Board of Directors, in its absolute discretion, taking action pursuant
to reasonable policies of uniform application, is empowered to determine the
manner of distribution and payment of patronage which may be in cash, credits,
certificates of interest, revolving fund certificates, letters of advice,
promissory notes, or other certificates or securities of the Company or of other
associations or cooperatives, in other property, or in any combination thereof.
The Company may pay patronage dividends in the form of qualified written notices
of allocation of patronage earnings to the members, based on each member's
patronage business with the Company. If the Company pays patronage dividends in
the form of qualified written notices of allocation, the Company must pay at
least 20% of the allocation in cash in order for the patronage dividend to
constitute a qualified written notice of allocation under federal tax law. If
the written notice of allocation is "qualified", the entire amount of the
qualified patronage allocation is taxable income to the member in the year
declared, regardless of the amount distributed in cash.
The Company has no obligation, including upon its termination of a member,
to pay the members amounts retained as unit retains or patronage equity credits.
Moreover, various loan agreements between the Company and its lenders could
compel the Board to retain amounts as unit retains in order to satisfy capital
requirements under its loan agreements and could restrict the Board from paying
more than 20% of patronage as cash dividends.
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ITEM 6. SELECTED FINANCIAL DATA
The selected financial data presented below for the fiscal years ended July
31, 1994, 1995, 1996, 1997 and 1998 are derived from the financial statements of
the Company, which were audited by Eide Bailly LLP, independent accountants.
This section should be read in conjunction with the Company's financial
statements and related notes included elsewhere in this report.
FINANCIAL DATA
(IN THOUSANDS EXCEPT PER SHARE DATA AND RATIOS)
<TABLE>
<CAPTION>
FISCAL YEAR ENDED JULY 31
------------------------------------------------------
1994(1) 1995 1996 1997 1998
--------- --------- --------- --------- ----------
<S> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Net Revenue............................................. $ 20,008 $ 41,239 $ 50,494 $ 70,702 $ 119,621
Cost of Product Sold.................................... 17,954 35,789 43,318 58,357 100,229
--------- --------- --------- --------- ----------
Gross Proceeds.......................................... 2,054 5,450 7,176 12,345 19,392
Marketing, General and Administrative Expenses.......... 1,483 2,021 2,532 3,542 6,754
--------- --------- --------- --------- ----------
Operating Proceeds...................................... 571 3,429 4,644 8,803 12,638
Other Income (expense).................................. (780) (2,021) (2,022) (1,877) (3,264)
Provision for Income Taxes.............................. (2) (28) 4 0 0
--------- --------- --------- --------- ----------
Net Income (Deficit).................................... (207) 1,436 2,618 6,926 9,374
Dividends on Preferred Stock............................ 42 42 39 36 15
--------- --------- --------- --------- ----------
Earnings (loss) from Patronage and Non-Patronage
Business Available for Members........................ $ (249) $ 1,394 $ 2,579 $ 6,890 $ 9,359
--------- --------- --------- --------- ----------
--------- --------- --------- --------- ----------
Average Equity Shares Outstanding(2).................... 4,674 4,674 5,568 7,356 7,356
Earnings (loss) from Patronage and Non-Patronage
Business per Average Equity Share Outstanding(2)...... $ (.05) $ .30 $ .46 $ .94 $ 1.27
--------- --------- --------- --------- ----------
--------- --------- --------- --------- ----------
Patronage Dividends Per Share:(2)
Declared(3)........................................... -- $ .20 $ .32 $ .65
Distributed(3)........................................ -- .20 .32 .65
BALANCE SHEET DATA:
Cash.................................................... $ 1 $ 155 $ 1,448 $ 5 $ 182
Working Capital(4)...................................... 2,001 2,400 8,184 6,329 22,813
Total Assets............................................ 45,215 47,842 49,894 68,739 124,537
Long-term Debt (excluding current maturities)(4)........ 28,477 24,822 18,860 27,131 66,056
Redeemable Preferred Stock.............................. 970 970 820 453 253
Members' Investment..................................... 12,107 13,497 24,866 29,956 36,875
OPERATING DATA
Ratio of Long-Term Debt to Members' Investment.......... 2.15x 1.84x .76x .91x 1.79x
</TABLE>
- ------------------------
(1) The Company's operations commenced on January 1, 1994, so the financial
statements contain only seven months of operations for the year ended July
31, 1994. Accordingly, the financial statements for the year ended July 31,
1994 may not be comparable.
(2) Adjusted for the impact of the 3-for-2 stock split effective August 1, 1997.
(3) Qualified patronage declarations have been made by the Board of Directors in
October of each year based on the patronage earnings and average shares for
the prior fiscal year ending July 31. Payments of patronage declarations
have been made in November of each year. 1998's declaration and payment have
not yet been determined.
Amounts reflected above include only qualified patronage declarations, and
exclude non-qualified allocations to each members' account. Such
non-qualified amounts are reserved in each members' account but are not
taxable until qualified.
(4) Reflects the issuance of $27 million of senior notes on August 11, 1998, and
the retirement of term loans and seasonal loans with the proceeds of such
issuance.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
The following discussion contains forward-looking statements. Such
statements are subject to risks and uncertainties, including those discussed
under "Risk Factors" in this report, 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.
RESULTS OF OPERATIONS
COMPARISON OF FISCAL YEARS ENDED JULY 31, 1998 AND 1997
NET REVENUES. Net revenues for the fiscal year increased $48.9 million, or
69%, to $119.6 million. This increase was primarily due to increased pasta
volumes. Average unit prices of pasta were relatively unchanged in all segments
from last fiscal year.
Revenues from the retail segment increased by 69% due to higher sales
volumes. Most of the sales volume increase was due to new private label customer
business which was acquired either through the Primo purchase or due to the exit
from the private label market by Borden. A portion of the volume growth was
attributed to co-packing for other pasta manufacturers, which prior to the
purchase of Primo Piatto, Inc. ("Primo") was not available due to capacity
constraints.
Foodservice and ingredient revenues increased by 47% and 22%, respectively,
also due to higher sales volumes. Over half of the growth in foodservice sales
volumes is due to the annualization of volumes of new customers, with the
balance due to individual customer growth trends. The expansion of the Company's
participation with a major ingredient customer was the primary reason for the
increase in ingredient revenues.
While mill by-product sales volumes were up due to a 61% increase in durum
ground in the Company's milling facilities, revenues from these sales were up
only 14% as the Company utilized more of its semolina for internal pasta
production and average prices for mill feed and secondary flours declined by
over 20%.
COST OF PRODUCT SOLD. Most of the $41.9 million increase in cost of product
sold was due to increased pasta production volumes and the increase in the
proportion of retail sales. The average price of durum ground was unchanged from
last fiscal year.
MARKETING, GENERAL AND ADMINISTRATIVE ("MG&A") EXPENSES. Increased
marketing staffing and activities, including the efforts of the Company's
network of brokers, increased information technology expenditures and costs
associated with the acquisition of Primo were the primary reasons for the $3.2
million increase in MG&A expenses.
INTEREST EXPENSE. Interest expense increased $1.5 million, or 84%, to $3.3
million for the fiscal year ended July 31, 1998 due to higher debt levels
resulting from the acquisition of Primo.
NET INCOME. Net income for the fiscal year ended July 31, 1998 increased
$2.4 million to $9.4 million, a 35% increase over last year.
The Company anticipates that its earnings for the first and second quarters
of fiscal 1999 will be substantially less than its earnings for the first and
second quarters of fiscal 1998. The first and second quarters of fiscal 1998
benefited from the complete utilization of all of the Company's manufacturing
resources and low input costs relative to the market price of pasta which was
influenced by an industry shortage of capacity. The lower earnings comparison
for the first and second quarters of fiscal year 1999 is also due to the recent
competitiveness in the pasta market, temporary increases in its cost of goods
sold
17
<PAGE>
resulting from the requirement to toll mill a portion of the members' durum to
meet semolina needs, the Company's durum purchase commitments and costs
associated with a lower utilization of pasta manufacturing assets. Completion of
the mill expansion project, which is expected to occur in March 1999, will
eliminate the dependency on toll milling.
COMPARISON OF FISCAL YEARS ENDED JULY 31, 1997 AND 1996
NET REVENUES. Net revenues increased 40%, or $20.2 million, coinciding with
a 38% increase in pasta volumes sold.
Retail sales increased 67% over the same period last fiscal year and
represented 49% of total sales for the fiscal year, up from 40% in fiscal 1996.
The Company did not add any major retail customers in fiscal 1997, but the
impact of a full year of sales for three private label accounts added in fiscal
1996, significant increases at four existing private label accounts and the
development of the Company's "Zia Briosa" branded label sales provided most of
the increase. Revenues from co-packing were down $818,000 and government bid
sales decreased $600,000 from fiscal year 1996.
Representing 26% of fiscal 1997 total sales (34% in fiscal 1996),
foodservice sales volumes were up 7%. The foodservice increase was predominantly
the result of the addition of two new significant accounts late in fiscal 1996.
Several large accounts showed sales growth, but co-pack sales decreased $1.9
million.
Ingredient sales increased by 34% for the year and remained relatively
constant as a percentage of total sales at 25%. Most of the increase resulted
from a new customer added in the first quarter of fiscal 1996.
While durum grind was up 28%, sales of flour and by-products were up only
13% as the Company utilized more of its semolina for internal pasta production.
Higher prices were realized for millfeed and secondary flours, but semolina
sales prices were down coinciding with lower durum prices. The net impact of
pricing was a reduction in revenues of $350,000, while the increased volume sold
increased revenues by approximately $970,000.
COST OF PRODUCT SOLD. Increased pasta production, with its resulting
increase in durum bushels ground, contributed $12.7 million of the $15.0 million
increase in cost of product sold. Because of short-term deficiencies during the
Company's expansion, the Company purchased over 10 million pounds of pasta more
in fiscal 1997 than in fiscal 1996, adding $3.5 million to the cost of sales. A
12% decrease in average cost of durum was partially offset by higher average
prices for packaging and freight.
MARKETING, GENERAL AND ADMINISTRATIVE ("MG&A") EXPENSES. Increased
marketing staffing and activities associated with the increase in sales and
increased information technology expenditures were the primary drivers in the
$1.0 million rise in MG&A expense. As a percentage of net revenues, however,
MG&A was unchanged at 5.0% of net revenues.
INTEREST EXPENSE. Interest expense for the year decreased by $311,000. The
average outstanding debt balance was $800,000 lower in fiscal 1997 than in
fiscal 1996, and the average interest rate was down one percent. The Company
capitalized $307,000 of interest in fiscal 1997. In fiscal 1997, the Company
adjusted its fiscal 1996 estimated patronage from the St. Paul Bank as the Bank
significantly reduced its patronage refunds for the calendar year fiscal 1996
from historical levels. Such adjustment increased fiscal 1997 interest expense
by $95,000. The Company has continued to accrue estimated patronage refunds at
the reduced level for calendar year 1997--such reduction increased fiscal 1997
interest expense by $167,000 from historical patronage levels.
NET INCOME. As a result of the above, net income increased $4,308,000, or
165%, over last year.
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LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity requirements include the construction or acquisition
of manufacturing facilities and equipment and the expansion of working capital
to meet its growth requirements. The Company meets these liquidity requirements
from cash provided by operations, sales of equity and outside debt financing.
In early 1996, the Company raised $9.7 million in net proceeds through the
sale of equity stock to its existing members and other durum growers. These
proceeds, together with long-term debt financing, were used in the Company's
$20.5 million expansion of its mill and pasta manufacturing facilities in
Carrington, North Dakota. In February 1998, the Company issued $11.0 million in
new debt, assumed $13.9 million of existing debt and issued $2.3 million in
preferred stock to acquire 100% of the outstanding common stock of Primo. With
this acquisition, the Company acquired manufacturing facilities specializing in
retail production. The acquisition has allowed the Company to meet customer
product demands internally and has provided the Company with capacity for future
marketing efforts. The addition of this debt reduced the Company's equity
position as it relates to outstanding debt.
The Company has utilized outside financing on a short-term basis to fund its
operations and expansion projects until permanent financing is issued. Such
short-term financing has been provided by the St. Paul Bank for Cooperatives
("the Bank"). The Company has a short-term line of credit with the Bank of
$11,000,000. Borrowings against the line are secured by cash, receivables and
inventories.
The Company's long-term financing requirements have historically been
provided exclusively by the Bank. The Company entered into an amended loan
agreement (the "Loan Agreement") on July 23, 1998 with the Bank. The Loan
Agreement provides the Company with a total of approximately $72.8 million in
term and seasonal loans and commitments, bearing either variable or fixed
interest rates. Variable interest rates on term and seasonal loans are based on
the lender's cost of funds, and are subject to an adjustment (increase or
decrease) depending on whether the Company is in compliance with certain
financial covenants. The Company is charged a fee of .10% on the daily
outstanding balance of term loans and commitments payable on the last day of
each calendar quarter. The Company also is a charged a commitment fee of .625%
on the daily outstanding commitments payable on the last day of each calendar
quarter. The Loan Agreement also requires, among other things, that the Company
maintain a minimum current ratio, minimum net ownership ratio and minimum debt
service coverage ratio.
In August 1998, the Company issued $27.0 million in debt through a private
placement to institutional investors and used the proceeds to repay certain
outstanding long and short-term debt.
The various debt agreements with the Bank and institutional investors
obligate the Company to maintain or achieve certain amounts of equity and
certain financial ratios and impose restrictions on the Company. The Company is
required to maintain a current ratio of 1.35:1, a net ownership ratio (adjusted
to reflect a current ratio of 1.35:1) of not less than 40%, and a debt service
coverage ratio of not less than 1.25:1, measured for the previous twelve month
period ending July 31 of each year. The Company cannot, without Bank approval,
pay cash patronage greater than 20% of qualified patronage allocations, pay
dividends on capital stock in excess of minimum requirements, or revolve any
owner equity if such action will cause a noncompliance position in any financial
condition without the prior written consent of the Bank. The Company's
consolidated net worth may not be less than the sum of (a) $27,000,000 plus (b)
an aggregate amount equal to 30% of consolidated net income for each completed
fiscal year beginning with the fiscal year ended July 31, 1998. The Company's
trailing twelve month ratio of consolidated cash flow to consolidated fixed
charges may not be less than 2:1 at the end of each fiscal quarter, nor can the
ratio of consolidated funded debt to consolidated cash flow exceed 4:1 for the
period including July 31, 1999, 3.5:1 for the period ended January 31, 2000 and
3:1 thereafter. As of July 31, 1998, the Company is in compliance with its debt
agreements.
19
<PAGE>
The Company's net cash used in operating activities was $2.8 million for the
twelve months ended July 31, 1998, compared to cash provided by operating
activities of $8.0 million and $3.6 million for the years ended July 31, 1997
and 1996, respectively. The negative cash provided by operations for fiscal year
1998 was primarily due to increased inventories of $10.5 million and the
prepayment of expenses for marketing and consulting services and durum
purchases. The increase in inventories was in response to sales growth,
especially in the retail segment, and the Company's commitment to meeting its
customers' delivery requirements.
While cash provided by operating activities declined by $10.8 million from
last year, consolidated cash flow (as defined in the Company's loan agreements)
increased from $12.3 million to $18.3 million.
Cash used in investing activities are primarily for the construction and
installation of milling and pasta equipment and, in fiscal year 1998, for the
acquisition of Primo. Expenditures for the purchase of property and equipment
totaled $9.2 million, $17.8 million and $1.5 million for the twelve months ended
July 31, 1998, 1997 and 1996, respectively. Additionally, the Company expended a
net $8.0 million in cash to acquire Primo. The increase in spending in fiscal
years 1997 and 1998 was for the addition of the second mill and two additional
pasta manufacturing lines at the Company's Carrington, North Dakota facility. In
fiscal year 1998, the Company began the installation of a seventh pasta line in
Carrington, a $5.5 million project on which $4.0 million had been expended as of
July 31, 1998. In fiscal year 1998, the Company also entered into agreements for
an estimated $10.5 million mill expansion project and an estimated $1.3 million
ERP software replacement project, for which an aggregate of $1.5 million has
been expended as of July 31, 1998. The Company anticipates that the software
project will be completed by December, 1998 and that the mill expansion project
will be completed by March 1999.
Net cash provided by financing activities totaled $21.5 million and $8.6
million for the years ended July 31, 1998 and 1997, respectively, while net cash
used in financing activities was $0.7 million for the year ended July 31, 1996.
The $21.5 million was the result of the issuance of $27.2 million in long and
short-term debt. In fiscal 1997, such debt issuances totaled $10.9 million.
Patronage distributions to members of the Cooperative from profits on the grain
provided by the members totaled $4.7 million, $1.8 million and $0.9 million for
the years ended July 31, 1998, 1997 and 1996, respectively, which approximated
70% of the respective prior year's patronage earnings of the Cooperative. Such
distributions were declared in October and paid in November of each year. If the
Company's Board of Directors follows a consistent policy for the fiscal year
ended July 31, 1998, such a distribution would reduce the Company's equity
position below the 40% required under the terms of the loan agreements and would
require approval of the Company's lenders. While retention of these earnings
would maintain the equity position and reduce the Company's requirements for
additional equity, such retention would deny the members the opportunity to
assess their individual financial situation in making their investment
decisions.
On September 30, 1998 the Company filed a registration statement with the
Securities and Exchange Commission with respect to a proposed offering of up to
3,679,000 shares of Equity Stock and up to 500 shares of Membership Stock. The
shares of Equity Stock will be offered on a priority basis to members of the
Company as of December 1, 1998 at a per share price of $7.50. The shares will be
sold directly by the Company on a best effort basis without the assistance of
any underwriter or agent. The Company intends to use the net proceeds from the
proposed offering to complete the mill expansion project, replace the working
capital used in the construction of the seventh pasta line and to re-enhance its
equity position which was reduced by the issuance and assumption of debt
associated with the Primo acquisition. There is no assurance that any or all of
the shares of Equity Stock offered will be sold.
If the Company does not receive at least 50% of the maximum net proceeds (or
$13.6 million) from the proposed offering, the Company will be required to
consider other alternatives which would provide access to the capital necessary
for the Company's continued activities and growth. Those strategies could
include deferral or reduction of capital expenditures, the adoption of a program
to retain a larger portion of patronage distributions than has been the
Company's historical practice, the adoption of a longer term
20
<PAGE>
unit retain program or obtaining additional debt financing, which could be
expected to be difficult to obtain and could be expected to carry higher costs
than the Company's previous financing activities. In addition to consideration
of such interim solutions, the Board of Directors has engaged in preliminary
analysis of longer-term alternative activities and strategies which would
provide the Company with access to suitable amounts of capital; that preliminary
analysis has included consideration of a wide range of possibilities, including,
but not limited to, obtaining equity investment from institutional investors,
the use of alternate business structures, and entering into joint ventures with
either strategic or financial goals. However, the Company has not pursued any of
the short-term or long-term alternatives to date and expects to do so only to
the extent that the proposed offering and the Company's operations do not
provide the necessary resources for the Company.
YEAR 2000
Many computer and other software and hardware systems currently are not, or
will or may not be, able to read, calculate or output correctly using dates
after 1999, and such systems will require significant modification in order to
be year 2000 compliant. This issue may have a material adverse affect on the
operations and financial performance of the Company because computer and other
systems are integral parts of the Company's manufacturing and distribution
activities as well as its accounting and other information systems and because
the Company will have to divert financial resources and personnel to address
this issue.
The Company is in the process of reviewing its computer and other hardware
and software systems and has recently begun upgrading systems that it has
identified as not being year 2000 compliant. The existing systems will be
upgraded either through modification or replacement. The Company currently
anticipates that this upgrading will be completed during fiscal year 1999. The
Company has alternate plans in the event that critical systems upgrading is not
completed on time which the Company believes are sufficient to meet the
Company's internal needs.
Although the Company is not aware of any material operational impediments
associated with upgrading its computer and other hardware and software systems
to be year 2000 compliant, the Company cannot make any assurance that the
upgrade of the Company's computer systems will be free of defects or that the
Company's alternate plans will meet the Company's needs. If any such risks
materialize, the Company could experience material adverse consequences to its
operations and financial performance, substantial costs or both.
Year 2000 compliance may also adversely affect the operations and financial
performance of the Company indirectly by causing complications of, or otherwise
affecting, the operations of any one or more of the Company's suppliers and
customers. The Company has begun contacting its significant suppliers and
customers as part of its Year 2000 compliance action plan to identify any
potential year 2000 compliance issues with them. The Company is currently unable
to anticipate the magnitude of the operational or financial impact on the
Company of year 2000 compliance issues with its suppliers and customers.
The Company expects to incur up to $500,000 during fiscal year 1999 to
resolve the Company's year 2000 compliance issues. All expenses incurred in
connection with becoming year 2000 compliant will be expensed as incurred, other
than acquisitions of new software or hardware, which will be capitalized.
21
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS OF
DAKOTA GROWERS PASTA COMPANY
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Auditors...................................... 23
Consolidated Balance Sheet.......................................... 24
Consolidated Statements of Operations............................... 26
Consolidated Statements of Changes in Members' Investment........... 27
Consolidated Statements of Cash Flows............................... 28
Notes to Consolidated Financial Statements.......................... 29
</TABLE>
22
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors
Dakota Growers Pasta Company
Carrington, North Dakota
We have audited the accompanying consolidated balance sheets of Dakota
Growers Pasta Company (a North Dakota Cooperative) as of July 31, 1998, and
1997, and the related consolidated statements of operations, changes in members'
investments and cash flows for the years ended July 31, 1998, 1997, and 1996.
These consolidated financial statements are the responsibility of the company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
consolidated financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Dakota
Growers Pasta Company as of July 31, 1998, and 1997, and the results of its
operations and its cash flows for the years ended July 31, 1998, 1997, and 1996,
in conformity with generally accepted accounting principles.
/s/ Eide Bailly LLP
Fargo, North Dakota
September 3, 1998
23
<PAGE>
DAKOTA GROWERS PASTA COMPANY
CONSOLIDATED BALANCE SHEETS
JULY 31, 1998 AND 1997
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
ASSETS
<TABLE>
<CAPTION>
1998 1997
---------- ---------
<S> <C> <C>
Current assets:
Cash and cash equivalents................................................................ $ 182 $ 5
---------- ---------
Receivables:
Trade accounts receivable, less allowance for cash discounts and doubtful accounts of
$174 and $218........................................................................ 12,404 8,048
Other receivable....................................................................... 742 239
---------- ---------
Total receivables.................................................................. 13,146 8,287
---------- ---------
Inventories.............................................................................. 21,935 8,700
---------- ---------
Prepaid expenses......................................................................... 3,915 536
---------- ---------
Total current assets............................................................... 39,178 17,528
---------- ---------
Property and equipment:
In service............................................................................. 89,270 51,450
Construction in process................................................................ 5,463 5,709
Accumulated depreciation and amortization.............................................. (13,596) (8,635)
---------- ---------
Net property and equipment......................................................... 81,137 48,524
---------- ---------
Investment in St. Paul Bank for Cooperatives............................................. 2,086 1,804
---------- ---------
Other assets............................................................................. 2,136 883
---------- ---------
Total assets....................................................................... $ 124,537 $ 68,739
---------- ---------
---------- ---------
</TABLE>
See notes to consolidated financial statements
24
<PAGE>
DAKOTA GROWERS PASTA COMPANY
CONSOLIDATED BALANCE SHEETS (CONTINUED)
JULY 31, 1998 AND 1997
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
LIABILITIES AND MEMBERS' INVESTMENT
<TABLE>
<CAPTION>
1998 1997
---------- ---------
<S> <C> <C>
Current liabilities:
Notes payable and current portion of long-term debt...................................... $ 4,033 $ 2,634
Accounts payable......................................................................... 5,748 3,432
Excess outstanding checks over cash on deposit........................................... 2,336 2,457
Accrued grower payments.................................................................. 1,354 1,116
Accrued liabilities...................................................................... 2,894 1,560
---------- ---------
Total current liabilities.......................................................... 16,365 11,199
Commitments and contingencies
Long-term debt, net of current portion..................................................... 66,056 27,131
Deferred income taxes...................................................................... 4,900 --
Other liabilities.......................................................................... 88 --
---------- ---------
Total liabilities.................................................................. 87,409 38,330
---------- ---------
Preferred stock:
Redeemable preferred stock:
Series A, 6% cumulative, $100 par value, issued 1,000 and 3,000 shares in 1998 and 1997,
respectively........................................................................... 100 300
Series B, 2% non-cumulative, $100 par value, issued 1,525 shares in 1998 and 1997........ 153 153
---------- ---------
Total preferred stock.............................................................. 253 453
---------- ---------
Members' investment:
Convertible preferred stock:
Series D, 6% non-cumulative, $100 par value, issued 23,038 shares in 1998.............. 2,304 --
Membership stock, $125 par value, issued 1,101 and 1,084 shares in 1998 and 1997,
respectively........................................................................... 137 135
Equity stock, $2.50 par value, issued 7,356,059 shares in 1998 and $3.85 par value,
issued 4,904,034 shares in 1997........................................................ 18,390 18,881
Additional paid in capital............................................................... 4,101 3,610
Accumulated allocated earnings........................................................... 2,914 413
Accumulated unallocated earnings......................................................... 9,029 6,917
---------- ---------
Total members' investment............................................................ 36,875 29,956
---------- ---------
Total liabilities and members' investment.......................................... $ 124,537 $ 68,739
---------- ---------
---------- ---------
</TABLE>
See notes to consolidated financial statements
25
<PAGE>
DAKOTA GROWERS PASTA COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED JULY 31, 1998, 1997 AND 1996
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
1998 1997 1996
---------- --------- ---------
<S> <C> <C> <C>
Net revenues (net of discounts and allowances of $10,709, $7,694, and $5,452 for
1998, 1997 and 1996, respectively)............................................ $ 119,621 $ 70,702 $ 50,494
Cost of product sold............................................................ 100,229 58,357 43,318
---------- --------- ---------
Gross proceeds.................................................................. 19,392 12,345 7,176
Marketing and general and administrative expenses............................... 6,754 3,542 2,532
---------- --------- ---------
Operating proceeds.............................................................. 12,638 8,803 4,644
Other income (expense):
Interest and other income..................................................... 63 39 101
Loss on retirement of property, plant and equipment........................... -- (104) --
Interest expense, net......................................................... (3,327) (1,812) (2,123)
---------- --------- ---------
Income before income taxes...................................................... 9,374 6,926 2,622
Expense of (benefit from) income taxes.......................................... -- -- 4
---------- --------- ---------
Net income from patronage and non-patronage business............................ 9,374 6,926 2,618
Dividends on preferred stock.................................................... 15 36 39
---------- --------- ---------
Earnings from patronage and non-patronage business available for members........ $ 9,359 $ 6,890 $ 2,579
---------- --------- ---------
---------- --------- ---------
Average equity shares outstanding............................................... 7,356 7,356 5,568
Earnings from patronage and non-patronage business per average equity share
outstanding:
Basic....................................................................... $ 1.27 $ .94 $ .46
---------- --------- ---------
---------- --------- ---------
Fully diluted............................................................... $ 1.24 $ .94 $ .46
---------- --------- ---------
---------- --------- ---------
</TABLE>
See notes to consolidated financial statements.
26
<PAGE>
DAKOTA GROWERS PASTA COMPANY
CONSOLIDATED STATEMENTS OF CHANGES IN MEMBERS' INVESTMENTS
YEARS ENDED JULY 31, 1998, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
UNALLOCATED
ALLOCATED ACCUMULATED EARNINGS
SERIES D ADDITIONAL ACCUMULATED EARNINGS (DEFICIT)
PREFERRED MEMBERSHIP EQUITY PAID-IN ------------------------- ----------------------
STOCK STOCK STOCK CAPITAL QUALIFIED NON-QUALIFIED PATRONAGE NON-MEMBER TOTAL
--------- ---------- ------- ---------- --------- ------------- --------- ---------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE, JULY 31,
1995.............. $ $122 $11,997 $ 782 $ $ $ 513 $ 83 $13,497
Preferred dividends
declared.......... (39) (39)
Net membership stock
issued
(redeemed)........ 13 13
Equity stock
issued............ 6,884 2,950 9,834
Subscriptions
forfeited......... 2 2
Expenses of stock
offering.......... (124) (124)
Net income (loss)
for the year ended
July 31, 1996..... 2,635 (17) 2,618
Patronage
allocations....... 935 (935)
Patronage paid...... (935) (935)
--------- ----- ------- ---------- --------- ------ --------- ----- -------
BALANCE, JULY 31,
1996.............. 135 18,881 3,610 0 2,213 27 24,866
Preferred dividends
declared.......... (36) (36)
Net income (loss)
for the year ended
July 31, 1997..... 7,283 (357) 6,926
Patronage
allocations....... 1,800 413 (2,213)
Patronage paid...... (1,800) (1,800)
--------- ----- ------- ---------- --------- ------ --------- ----- -------
BALANCE, JULY 31,
1997.............. 135 18,881 3,610 0 413 7,247 (330) 29,956
Preferred dividends
declared.......... (15) (15)
Preferred Series D
stock issued...... 2,304 2,304
Net membership stock
issued............ 2 2
Reallocation of
additional paid-in
capital due to
three for two
equity stock
credit and
revolution of
equity stock par
value from $3.85
to $2.50 per
share............. (491) 491
Net income (loss)
for the year ended
July 31, 1998..... 9,951 (577) 9,374
Patronage
allocations....... 4,746 2,501 (7,247)
Patronage paid...... (4,746) (4,746)
--------- ----- ------- ---------- --------- ------ --------- ----- -------
BALANCE, JULY 31,
1998.............. $2,304 $137 $18,390 $4,101 $ 0 $2,914 $ 9,936 $(907) $36,875
--------- ----- ------- ---------- --------- ------ --------- ----- -------
--------- ----- ------- ---------- --------- ------ --------- ----- -------
</TABLE>
See notes to consolidated financial statements.
27
<PAGE>
DAKOTA GROWERS PASTA COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JULY 31, 1998, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Cash flows provided by (used in) operating activities:
Net income........................................................................... $ 9,374 $ 6,926 $ 2,618
Add (deduct) non-cash items:
Depreciation and amortization...................................................... 4,849 3,138 2,430
Non-cash portion of patronage dividends............................................ (282) (51) (274)
Loss on retirement of property, plant and equipment................................ -- 164 --
Changes in assets and liabilities:
Trade receivables.................................................................. (990) (3,174) (1,404)
Other receivables.................................................................. (96) 84 288
Inventories........................................................................ (10,462) (1,963) (50)
Prepaid expenses................................................................... (3,078) (386) (120)
Other assets....................................................................... (433) -- --
Accounts payable................................................................... (1,413) 543 136
Excess outstanding checks over cash on deposit..................................... (121) 2,457 --
Grower payables.................................................................... 238 (729) 262
Other accrued liabilities.......................................................... (345) 1,026 (262)
--------- --------- ---------
Net cash provided by (used in) operating activities................................ (2,759) 8,035 3,624
--------- --------- ---------
Cash flows used in investing activities:
Purchases of property and equipment................................................ (9,389) (17,837) (1,489)
Acquisition of Primo net of cash acquired.......................................... (8,011) -- --
Payments for package design costs.................................................. (1,172) (263) (140)
--------- --------- ---------
Net cash used in investing activities.............................................. (18,572) (18,100) (1,629)
--------- --------- ---------
Cash flows provided by (used in) financing activities:
Net issuance of short-term debt.................................................... 7,608 2,200 --
Issuance of long-term debt......................................................... 19,618 8,700 --
Payments on long-term debt......................................................... (759) (67) (9,195)
Retirement of preferred stock...................................................... (200) (367) (150)
Dividends paid on preferred stock.................................................. (15) (44) (147)
Membership stock issued............................................................ 2 2 14
Membership stock retired........................................................... -- (2) (1)
Equity stock issued................................................................ -- -- 9,834
Subscriptions forfeited............................................................ -- -- 2
Expenses of stock offering......................................................... -- -- (124)
Patronage distributions............................................................ (4,746) (1,800) (935)
--------- --------- ---------
Net cash provided by (used in) financing activities.................................. 21,508 8,622 (702)
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents................................. 177 (1,443) 1,293
Cash and cash equivalents, beginning of period....................................... 5 1,448 155
--------- --------- ---------
Cash and cash equivalents, end of period............................................. $ 182 $ 5 $ 1,448
--------- --------- ---------
--------- --------- ---------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash payments for:
Interest......................................................................... $ 4,411 $ 2,120 $ 2,556
--------- --------- ---------
--------- --------- ---------
Income taxes..................................................................... $ -- $ -- $ (72)
--------- --------- ---------
--------- --------- ---------
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES:
Accrued dividends on Series A preferred stock...................................... $ -- $ -- $ 8
--------- --------- ---------
--------- --------- ---------
Acquisition of Primo Piatto, Inc.
Working capital over the cash.................................................... $ 1,439
Property and equipment, net...................................................... 27,721
Deferred income tax liability.................................................... (4,900)
Other long-term liabilities...................................................... (88)
Long-term debt assumed........................................................... (13,857)
Preferred stock issued........................................................... (2,304)
---------
Cash paid to acquire Primo Piatto, Inc........................................... $ 8,011
---------
---------
</TABLE>
See notes to consolidated financial statements.
28
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION--
Dakota Growers Pasta Company ("the Company" or "the Cooperative") was formed
on December 16, 1991 and commenced operation on January 1, 1994. The Company is
organized as a farmers' cooperative for purposes of manufacturing food for human
consumption from durum and other grain products.
The ownership of membership stock, which signifies membership in the
Cooperative, is restricted to producers of agricultural products. The ownership
of equity stock is restricted to members of the Cooperative. Preferred stock may
be held by persons who are not members of the Cooperative.
Net proceeds are allocated to patrons who are members on the basis of their
participation in the cooperative. Equity requirements, as determined by the
Board of Directors, may be retained from amounts due to patrons and credited to
members' investments in the form of unit retains or undistributed allocated
patronage.
The Cooperative reserves the right to acquire any of its stock offered for
sale and the right to recall the stock of any stockholder. In the event this
right is exercised, the consideration paid for such stock shall be the fair
market value at that point in time.
The Company acquired 100% of the outstanding stock of Primo Piatto, Inc.
("Primo"), a Minnesota-based pasta manufacturer, on February 23, 1998. The
acquisition has been recorded using the purchase method of accounting.
PRINCIPLES OF CONSOLIDATION--
The accompanying consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiary. All significant intercompany
accounts and transactions have been eliminated in the preparation of the
consolidated financial statements.
ESTIMATES--
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the consolidated financial statements and reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
RECLASSIFICATIONS--
Certain amounts previously reported in the financial statements as of July
31, 1997 and for the years ended July 31, 1997 and 1996 have been reclassified
to facilitate comparability with the statements as of July 31, 1998 and for the
year ended July 31, 1998. Such reclassifications have no effect of the net
result of operations.
ADVERTISING--
Costs of advertising and promotions are expensed as incurred.
29
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CASH AND CASH EQUIVALENTS--
Cash and cash equivalents include cash on hand and in financial
institutions.
TRADE ACCOUNTS RECEIVABLE AND REVENUE--
The Cooperative grants credit to its customers located throughout the United
States. Trade accounts receivable are presented net of allowances for cash
discounts and doubtful accounts which totaled $174,000 and $218,000 as of July
31, 1998 and 1997, respectively.
Revenues are presented net of discounts and allowances of $10,709,000,
$7,694,000 and $5,452,000 for the years ended July 31, 1998, 1997 and 1996,
respectively. No customer represented greater than 10% of revenues for the years
ended July 31, 1998, 1997 and 1996.
INVENTORIES--
Finished goods, mill by-products and durum are valued at estimated net
realizable value. This is determined based on current selling price less any
remaining cost to finish, transport, warehouse and sell the product. Packaging
and ingredient inventories are valued at the lower of cost or market. Cost is
determined based on actual purchase cost on a FIFO basis, while market is
current replacement cost.
PROPERTY AND EQUIPMENT--
Property and equipment are stated at cost. Expenditures for renewals and
improvements that significantly add to the productive capacity or extend the
useful life of an asset are capitalized. Expenditures for maintenance and
repairs are charged to expense as incurred. When depreciable properties are
retired or sold, the cost and related accumulated depreciation are eliminated
from the accounts and the resultant gain or loss is reflected in income.
Interest capitalized totaled $186,000 and $307,000 for the years ended July
31, 1998 and 1997. Direct labor capitalized totaled $124,000 and $55,000 for the
years ended July 31, 1998 and 1997, respectively.
The initial acquisition of land is stated at the estimated fair value of the
land at acquisition. Subsequent land acquisitions are recorded at cost.
Depreciation is provided for over the estimated useful lives of the
individual assets using the straight-line method. The estimated useful lives
used in the computation of depreciation expense range from 3 to 39.5 years.
Depreciation expense totaled $4,497,000, $2,862,000 and $2,318,000 for the years
ended July 31, 1998, 1997 and 1996, respectively.
As a result of the purchase of Primo Piatto, Inc., the Company has an excess
of its cost of investment over the book value of net assets acquired from the
subsidiary This amount has been recorded as an increase in the value of property
and equipment and is being amortized over a 15 year period.
INVESTMENTS IN THE ST. PAUL BANK FOR COOPERATIVES (THE "BANK")--
Investments in the St. Paul Bank for Cooperatives are stated at cost, plus
unredeemed patronage refunds received in the form of capital stock. Patronage
refunds estimated to be received are shown as other receivables or other assets.
30
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ACCRUED GROWER PAYMENTS--
Accrued grower payments represent amounts due to growers for amounts
withheld from durum purchases pursuant to the growers agreement and delivery
policy.
INTEREST EXPENSE, NET--
The Company earns patronage refunds from the St. Paul Bank for Cooperatives
(the "Bank") based on its share of the net interest income earned by the Bank.
These patronage refunds received or estimated to be received are applied against
interest expense.
INCOME TAXES--
The Company is a non-exempt cooperative for federal income tax purposes.
Business conducted with its members constitutes patronage business as defined by
the Internal Revenue Code. The Company is subject to income taxes on earnings
from non-patronage sources. The provision for income taxes relates to the
results of operations from non-patronage business, state income taxes and
certain other permanent differences between financial and income tax reporting.
For the years ended July 31, 1998, 1997 and 1996, net income allocable to
patronage business totaled $9,951,000, $7,283,000 and $2,635,000, respectively.
MEMBERS' INVESTMENT--
The Cooperative is a nonprofit membership corporation, organized with
capital stock.
Accumulated unallocated earnings represents cumulative net income which has
not been allocated to members, while accumulated non-qualified allocated
earnings represents earnings which have been allocated to members based on
patronage but not distributed or qualified for income tax purposes.
The Company calculates income from patronage sources based on income derived
from bushels of durum delivered by members. Non-patronage income is derived from
the resale of wheat flour containing spring wheat flour purchased from
non-members, the resale of pasta purchased from non-members, the resale of
semolina purchased from non-members, rental income, interest income on invested
funds and any income taxes assessed on non-member business.
Cooperative organizations have 8 1/2 months after their fiscal year-end to
make patronage allocations in the form of written notices of allocation or cash.
As such, these allocations are normally reflected in the financial statements in
the period in which such allocations are declared by the Board of Directors.
Accordingly, the allocations for the fiscal year ended July 31, 1998 are not
reflected in the accompanying consolidated financial statements.
STOCK OPTIONS--
The Company has elected to follow Accounting Principles Board Opinion (APB)
No. 25, "Accounting for Stock Issued to Employees" and related interpretations
in accounting for its employee stock options. Under APB No. 25, no compensation
expense is recognized on the granting or exercise of stock options because the
exercise price is equal to or greater than the market price of the underlying
stock on the date of grant.
31
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 2. INVENTORIES
The major components of inventories as of July 31, 1998 and 1997 are as
follows (in thousands):
<TABLE>
<CAPTION>
1998 1997
--------- ---------
<S> <C> <C>
Durum.................................................................... $ 1,091 $ 1,536
Finished goods and by-products........................................... 17,815 5,896
Packaging and ingredients................................................ 3,029 1,268
--------- ---------
$ 21,935 $ 8,700
--------- ---------
--------- ---------
</TABLE>
NOTE 3. PROPERTY AND EQUIPMENT
Details relative to property and equipment are as follows (in thousands):
<TABLE>
<CAPTION>
1998 1997
---------- ---------
<S> <C> <C>
Land and improvements.................................................. $ 2,156 $ 922
Buildings.............................................................. 14,754 12,285
Equipment.............................................................. 55,139 38,243
Excess of cost over the net book value of assets acquired from the
subsidiary........................................................... 17,221
---------- ---------
Property and equipment in service.................................. 89,270 51,450
Construction in process............................................ 5,463 5,709
Accumulated depreciation and amortization............................ (13,596) (8,635)
---------- ---------
$ 81,137 $ 48,524
---------- ---------
---------- ---------
</TABLE>
NOTE 4. OTHER ASSETS
The breakdown of other assets is as follows (in thousands):
<TABLE>
<CAPTION>
1998 1997
--------- ---------
<S> <C> <C>
Syndication and trademark costs--net......................................... $ 7 $ 22
Package design costs--net.................................................... 1,471 636
Estimated patronage refunds.................................................. 369 211
Debt issuance costs.......................................................... 238
Other........................................................................ 51 14
--------- ---------
$ 2,136 $ 883
--------- ---------
--------- ---------
</TABLE>
The syndication and trademark costs are recorded at cost and are being
amortized on a straight-line basis over five years beginning at the commencement
of operations on January 1, 1994.
The Company capitalizes the initial cost incurred in the development of
packaging designs for new customers and products. These costs are amortized over
five years. Minor revisions are expensed as incurred. If a product design is
discontinued or replaced prior to the end of the amortization period, the
32
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 4. OTHER ASSETS (CONTINUED)
remaining unamortized balance is charged to expense. Package design costs are
presented net of accumulated amortization totaling $682,000 and $345,000 as of
July 31, 1998 and 1997, respectively.
Effective August 1, 1996 the Company revised the period over which it
amortizes packaging printing plates and packaging design development costs from
15 years to 5 years. Such change in accounting estimate reduced net income for
the year ended July 31, 1997 by $285,000.
The debt issuance costs relate to expenditures incurred in obtaining
long-term debt. These costs are being amortized over the life of the related
debt.
NOTE 5. SHORT-TERM DEBT
The Cooperative has a $11.0 million seasonal line of credit with the St.
Paul Bank for Cooperatives, which is secured by property and equipment and
current assets of the company.
The seasonal line of credit has a variable interest rate and matures on
January 31, 1999. For the years ended July 31, 1998 and 1997, the balances were
$9,808,000 and $2,200,000 respectively. Due to the refinancing on August 11,
1998, described in Note 6, the seasonal line of credit is presented in the long-
term debt for comparative purposes.
Maximum borrowings, average borrowing levels and average interest rates for
short-term debt for the years ended July 31, 1997, 1996 and 1995 are as follows
(in thousands, except interest rates):
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Maximum borrowings.............................................. $ 10,823 $ 4,825 $ 4,700
Average borrowing levels........................................ 5,748 2,205 1,268
Average interest rates.......................................... 7.67% 7.57% 8.89%
</TABLE>
33
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 6. LONG-TERM DEBT
Information regarding long-term debt at July 31, 1998 and 1997 is as follows
(in thousands):
<TABLE>
<CAPTION>
1998 1997
--------- ---------
<S> <C> <C>
Term loans due to St. Paul Bank for Cooperatives due in quarterly
installments of $685,000 plus interest through December 31, 2004,
interest at 8.14% to 10.22%, with first lien on substantially all
property and equipment................................................ $ 17,724 $ 18,409
Construction Term loan due to St. Paul Bank for Cooperatives due in
quarterly installments of $625,000 plus interest through December 31,
2004, interest at 8.14% to 8.76%, collateralized by property and
equipment............................................................. 14,175 8,700
Term loan due to St. Paul Bank for Cooperatives due in quarterly
installments of $1,000,000 plus interest through September 30, 2005,
variable interest, currently 8.14%, collateralized by property and
equipment............................................................. 16,000 --
Term loan from St. Paul Bank for Cooperatives due in annual principal
installments of $1,200,000 through September 30, 2008, interest at
5.71%, collateralized by property and equipment....................... 12,000 --
Seasonal loan, variable interest, currently 7.69%....................... 9,808 2,200
Term loan from the City of Carrington, due in monthly installments
through 2003, interest rate of 4%..................................... 282 336
Convertible debt from Northern Plains Cooperative, due in annual
installments through 2003, non-interest bearing....................... 50 60
Convertible debt from Dakota Central Telecommunications, due in annual
installments through 2003, non-interest bearing....................... 50 60
--------- ---------
Total long-term debt................................................ 70,089 29,765
Current maturities.................................................. (4,033) (2,634)
--------- ---------
NET LONG-TERM DEBT.................................................. $ 66,056 $ 27,131
--------- ---------
--------- ---------
</TABLE>
Aggregate future maturities required on long-term debt are as follows (in
thousands):
<TABLE>
<CAPTION>
YEARS ENDING JULY 31,
- -----------------------------------------------------------------------------------
<S> <C>
1999............................................................................... $ 4,033
2000............................................................................... 4,448
2001............................................................................... 6,521
2002............................................................................... 6,523
2003............................................................................... 6,503
Thereafter......................................................................... 42,061
---------
$ 70,089
---------
---------
</TABLE>
34
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 6. LONG-TERM DEBT (CONTINUED)
On August 11, 1998, the Cooperative issued $18.0 million 7.04% Senior
Secured Guaranteed Notes, Series A, due August 1, 2008 and $9.0 million 7.14%
Senior Secured Guaranteed Notes, Series B, due August 1, 2010. Proceeds from the
note issuance was used to retire: the $16.0 million St. Paul Bank for
Cooperatives term loan due September 30, 2005; prepay $175,000 of the St. Paul
Bank Construction Term Loan due December 31, 2004; and prepay $4.7 million of
the St. Paul Bank Term Loan due December 31, 2004. The remaining $6.1 million
was used to reduce the Cooperative's seasonal St. Paul Bank operating loan. The
Cooperative incurred debt issuance costs of approximately $238,000 which will be
amortized over the life of the notes. Future minimum principal payments required
as a result of the issuance have been reflected in the above amounts.
The Company has a $12,000,000 letter of credit commitment with the St. Paul
Bank for Cooperatives. The letter of credit commitment is subject to a
commitment fee of .625% on an annualized basis and expires December 31, 2008.
Advances on the letter of credit commitment are payable on demand.
The Company has a loan agreement with the Bank containing certain covenants
related to, among other matters, the maintenance of certain working capital,
ownership and debt service ratios. As of July 31, 1998 and 1997, the Company has
met these loan covenants.
The Company has convertible debt related to two non-interest bearing notes
with annual installments of $10,000 each. Per the loan agreements, from March 1,
1995 through February 1, 2003, the Company shall have the privilege of
converting the unpaid balance of indebtedness into series B preferred stock. The
holders of the debt do not have the option to convert this debt.
The Company incurred $4,137,000, $2,187,000, and $2,485,000 of interest on
long and short-term debt and other obligations in fiscal years 1998, 1997 and
1996, respectively. $186,000 and $307,000 of interest was capitalized in 1998
and 1997, respectively. Patronage income from the Bank of $624,000, $68,000, and
$362,000 has been netted for the years ended July 31, 1998, 1997 and 1996,
respectively.
NOTE 7. MEMBERS' INVESTMENT
On July 24, 1997, the Board of Directors voted to split the outstanding
equity stock on a three for two basis effective August 1, 1997. The Board of
Directors also voted to adjust the par value per share of equity stock to $2.50.
Each member of record as of August 31, 1997 received three shares of equity
stock, par value $2.50, in exchange for two shares, par value $3.85. At July 31,
1998 the Company had issued and outstanding 1,101 shares of membership stock and
7,356,059 shares of equity stock.
Under the terms of the Cooperative's bylaws, the Cooperative's net income,
determined in accordance with generally accepted accounting principles
consistently applied, shall be distributed annually based on the volume of
patronage business (bushels of durum delivered, which approximates one bushel of
durum per equity share). The distribution can be in the form of cash or credits
to each member-producer's patronage credit account which has been established on
the books of the cooperative. For presentation purposes only, the company has
calculated net income per share by dividing earnings from patronage and
non-patronage business available for members (net income less preferred
dividends) by the weighted average number of equity shares outstanding during
the period. The Company has reflected the effect of the three for two stock
split effective August 1, 1997 as if it were in effect during the years ended
July 31, 1997 and 1996.
35
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 7. MEMBERS' INVESTMENT (CONTINUED)
A qualified patronage allocation of $4,745,258 ($1.00 per bushel) and a
non-qualified patronage allocation of $2,500,751 ($.527 per bushel) representing
the allocation of the 1997 fiscal earnings, was authorized by the Board of
Directors in October 1997. $4,745,258 of the qualified allocation was
distributed in November 1997. A patronage allocation of $1,800,000, $.50 per
bushel, representing the allocation of 1996 fiscal earnings, was authorized by
the Board of Directors in October 1996 and was distributed in November 1996.
Additionally, $413,000 ($.115 per bushel) was allocated to the members but not
distributed or qualified for income tax purposes.
NOTE 8. PREFERRED STOCK
The Company is authorized to issue 50,000 shares of preferred stock with a
par value of $100 per share. As of July 31, 1998 the Company has 25,563 issued
and outstanding shares of preferred stock in three series. Preferred Stock
Series A and B are redeemable pursuant to agreement and Preferred Stock Series D
is convertible.
Each share of preferred series A stock entitles its holder to receive a 6%
annual dividend accrued from the date of issuance and payable upon declaration
by the Board of Directors.
Pursuant to an agreement with the holder of series A preferred stock, on
August 1, 1995, the Company paid all accrued dividends and, quarterly beginning
November 1, 1995, shall redeem 500 shares at par value of $100 per share, plus
accrued dividends. The Company, at its discretion, may increase the number of
shares redeemed at any quarterly installment. The Company may postpone quarterly
redemptions if the equity level falls below an acceptable level set by the Bank,
shortages in working capital or for unforeseen short-term business
opportunities.
As of July 31, 1998 the Company has 1,000 shares of preferred series A stock
outstanding.
Each share of preferred series B stock entitles its holder to receive an
annual cash dividend at the rate of $2.00 per share, when and as declared by the
Board of Directors. Dividends on the preferred series B stock shall not
accumulate if not declared by the board.
Two thousand two hundred fifty (2,250) shares of the preferred series B
stock may be redeemed, in whole or in part, at the option of the Company at any
time after August 1, 1997, at the redemption price of $100 per share, plus any
declared but unpaid dividends. On or after August 1, 1997, the stockholder may
require the Company to redeem all or a said portion of the shares for $100 per
share, plus any declared but unpaid dividends, if both (1) the equity exclusive
of the preferred series A and B stock is 40% or greater of the total capital as
of July 31, 1997, and (2) the Company made dividend payments on the equity stock
for the year ended July 31, 1997.
Four hundred fifty (450) shares of the preferred series B stock are governed
by a repurchase agreement obligating the Company to repurchase their shares as
of September 1, 1998, at the par value of $100 per share, plus any declared but
unpaid dividends. These shares may be redeemed by the Cooperative on or after
August 1, 1997, in agreement with the terms stated above.
One shareholder of preferred series B stock, representing one thousand one
hundred seventy-five (1,175) shares, notified the Company of its desire to
exercise its redemption rights available on August 1, 1997. By vote of the Board
of Directors, this redemption was made on July 31, 1997.
36
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 8. PREFERRED STOCK (CONTINUED)
As of July 31, 1998 the Company has 1,525 shares of preferred series B stock
outstanding.
Each share of preferred series D stock shall receive payment of
non-cumulative dividends at the rate of 6% per annum, calculated on the par
value of the preferred stock. The preferred series D stock dividends shall be
declared and paid each year prior to any patronage dividend or other dividend or
distributions being paid to the Company's membership. The preferred series D
stock dividends shall also be paid prior to any dividends paid on preferred
series B stock.
Each share of preferred series D stock is convertible into ten shares of the
Company's equity stock upon written notice to the Company at least 45 days prior
to the end of the then current trimester marketing period. The conversion ratio
shall be proportionately adjusted at any time the outstanding shares of equity
stock are increased or decreased without payment by or to the Company or the
Company's members.
As of July 31, 1998, 23,038 shares of preferred stock series D are
outstanding.
NOTE 9. EMPLOYEE BENEFIT PLANS
Dakota Growers Pasta Company and Primo Piatto, Inc. have implemented 401(k)
plans covering employees who have met age and service requirements. The plans
cover employees who have reached 21 years of age and completed six-months of
service as defined in the plan document. The amount to be contributed annually
by the companies is discretionary. Contributions totaled $135,000, $31,000 and
$28,000 for the years ended July 31, 1998, 1997 and 1996, respectively.
Primo Piatto, Inc. is also required to contribute to a multi-employer
pension plan covering certain hourly employees subject to a collective
bargaining agreement. Contributions for the period from February 23, 1998 to
July 31, 1998 totaled $49,000.
NOTE 10. INCOME TAXES
The Company is a non-exempt cooperative as defined by Section 1381(a)(2) of
the Internal Revenue Code. Accordingly, net margins from business done with
member patrons which are allocated and paid as prescribed in Section 1382 of the
code (hereafter referred to as "qualified") will be taxable to the members and
not to the Cooperative. Net margins and member allocations are determined on the
basis of accounting used for financial reporting purposes. To the extent that
net margins are not qualified as stated above or arise from business done with
non-members, the Cooperative shall have taxable income subject to corporate
income tax rates.
Tax expense in 1996 represents taxes paid to various states pursuant to
their respective tax provisions.
Certain temporary differences exist between financial statement and income
tax reporting purposes that also create a difference in the amount of patronage
income determined on either basis. As these differences are ultimately allocated
to the members through patronage allocations, no deferred taxes are provided for
these temporary differences.
A deferred income tax liability of $4.9 million was recorded in 1998 related
to timing differences associated with the excess of cost over the net book value
of the Primo Piatto, Inc. assets acquired during
37
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 10. INCOME TAXES (CONTINUED)
1998. The timing difference totaled $12.3 million. The deferred tax liability
was calculated using an income tax rate of 40%.
NOTE 11. FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair value of a financial instrument is generally defined as the amount
at which the instrument could be exchanged in a current transaction between
willing parties, other than in a forced liquidation sale. Quoted market prices
are generally not available for the Company's financial instruments.
Accordingly, fair values are based on judgements regarding anticipated cash
flows, future expected loss experience, current economic conditions, risk
characteristics of various financial instruments and other factors. These
estimates involve uncertainties and matters of judgement, and therefore cannot
be determined with precision. Changes in assumptions could significantly affect
the estimates.
The carrying amount of cash and cash equivalents, receivables, payables,
short-term debt and other current liabilities approximates fair value because of
the short maturity and/or frequent repricing of those instruments.
The Company believes it is not practical to estimate the fair value of the
securities of non-subsidiary cooperatives without incurring excessive costs
because there is no established market for these securities and it is
inappropriate to estimate future cash flows which are largely dependent on
future patronage earnings of the non-subsidiary cooperatives.
Based upon current borrowing rates with similar maturities, the fair value
of the long-term debt approximates the carrying value as of July 31, 1998.
NOTE 12. OPERATING LEASES
The Company leases various warehouse facilities in North Dakota, as well as
various items of equipment, primarily forklifts and computers.
Future obligations for the above leases for the fiscal years ended July 31
are as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDING JULY 31,
- -------------------------------------------------------------------------------------
<S> <C>
1999................................................................................. $ 694
2000................................................................................. 656
2001................................................................................. 573
2002................................................................................. 344
2003................................................................................. 7
---------
$ 2,274
---------
---------
</TABLE>
Lease expense totaled $798,000, $404,000, and $304,000 for the years ended
July 31, 1998, 1997 and 1996, respectively.
38
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 13. COMMITMENTS AND CONTINGENCIES
During fiscal 1998, the Company entered agreements for an estimated $10.5
million mill expansion project. At July 31, 1998, $881,000 has been expended.
The Company also entered agreements for an ERP
software replacement project. The total project cost, including installation
costs, is estimated at $1.3 million, of which $622,000 has been expended in the
year ended July 31, 1998.
In July 1997 the Company entered into agreements to purchase an additional
pasta line. The total estimated project cost, including mill enhancements and
packaging equipment, is expected to aggregate $5.5 million, of which $4.0
million has been expended through July 31, 1998.
On January 1, 1996, the Company became self-insured with respect to certain
employee medical costs. Terms of the plan include a stop-loss provision which
limits the Company's liability to $20,000 per claim with an aggregate stop-loss
maximum totaling approximately $466,000 for calendar year 1998. Through July 31,
1998 the Company has charged $253,000 against its 1998 maximum liability.
The Company forward contracts for a certain portion of its future durum
wheat requirements. At July 31, 1998, the Company has outstanding commitments
for grain purchases totaling $7,549,000.
In accordance with the Stock Purchase Agreement, each of the previous Primo
shareholders have the right to elect to receive a loan from Dakota Growers Pasta
Company for the payment of taxes attributable to the preferred stock portion of
the purchase price. The Company may loan in the aggregate the lesser of the
computed tax liability or $900,000. Each note will bear interest at a rate of 6%
payable annually, with all outstanding principal and interest being due three
years from the original date of the loan. Each note shall be secured by
preferred stock shares.
The Cooperative is subject to various lawsuits and claims which arise in the
ordinary course of its business. While the results of such litigation and claims
cannot be predicted with certainty, management believes the disposition of all
such proceedings, individually or in aggregate, should not have a material
adverse effect on the Company's financial position, results of operations or
cash flows.
NOTE 14. STOCK OPTION PLANS
On January 31, 1997 the Company's Compensation Committee of the Board of
Directors (the "Compensation Committee") adopted the Dakota Growers Incentive
Stock Option Plan (the "Plan"). The purpose of the Plan is to provide benefits
to participants in the form of additional compensation for services which have
been or will be rendered as an inducement for continuing as employees of the
Company. The Plan was ratified by membership at its annual meeting on January
10, 1998.
The Plan is administered by the Compensation Committee. The Compensation
Committee or the Board of Directors have the power to determine the key
management employees of the Company to receive options and the number of shares
to be optioned to each of the employees.
Options granted under the Plan are for the purchase of preferred stock at
fair market value, convertible into equity stock at the option of the employee,
under the applicable conversion ratio. The maximum number of preferred shares
which may be issued pursuant to options granted under the Plan is fifteen
thousand (15,000).
The conversion ratio is 24 shares of Equity Stock for each share of
Preferred Stock. The conversion ratio shall be proportionately adjusted if the
Company increases the outstanding shares of equity stock
39
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 14. STOCK OPTION PLANS (CONTINUED)
without the payment of consideration by the members for such additional shares
(e.g. stock split, stock dividend or other action).
5,728 options have been granted under this Plan and must be exercised within
ten years from the date such options are granted. Options are exercisable only
by the employee during the employee's lifetime. In the event of the employee's
termination with the Company, all exercisable options may be exercised within 90
days of the termination date. If not exercised, such options lapse. The employee
must sell or dispose of the preferred stock, or equity stock upon conversion,
within 15 months from the date of employment termination.
If the preferred stock is changed into another kind of capital stock or debt
as a result of any capital reorganization, reclassification or any merger or
consolidation with another entity in which the Company is not the surviving
entity, the option entitles the employee to acquire upon exercise the kind and
number of shares of stock or other securities or property to which the employee
would have been entitled if he had held the preferred stock issuable upon the
exercise of this option immediately prior to such capital reorganization,
reclassification, merger or consolidation.
As of July 31, 1998 the Company had outstanding options to purchase 5,728
preferred shares. As of July 31, 1998, 3,809 options are exercisable,
convertible into 91,416 shares of equity stock. No options have been exercised
as of July 31, 1998.
The Company did not record any compensation expense during the year ended
July 31, 1998 and July 31, 1997 related to the issuance or exercise of stock
options.
The pro forma application of Statement of Financial Accounting Standard
(SFAS) No. 123 "Accounting for Stock-Based Compensation" would not have a
material impact on net income and earnings per share.
Assumptions used to estimate the fair values of the options:
<TABLE>
<S> <C>
Risk-free interest rate........................................... 6.54%
Expected life..................................................... 10 years
Expected dividends................................................ None
</TABLE>
NOTE 15. ACQUISITION
On February 23, 1998, Dakota Growers Pasta Company acquired 100% of the
outstanding stock of Primo Piatto, Inc., a Minnesota-based pasta manufacturer,
for cash and convertible preferred stock. Primo's physical assets consist of two
pasta production facilities and a distribution center located in the
Minneapolis, Minnesota metropolitan area. The Company has accounted for the
acquisition using the purchase method. The statement of operations for the year
ended July 31, 1998 contains the operating results of Primo for the period
February 23, 1998 through July 31, 1998.
The shares of Primo were acquired for consideration consisting of a cash
payment of $11,000,000 and the issuance of 23,038 shares ($100 par) of Dakota
Grower's convertible preferred stock. 3,864 shares of the convertible preferred
stock will be held in escrow pending the resolution of certain outstanding
issues.
40
<PAGE>
DAKOTA GROWERS PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED JULY 31, 1998, 1997 AND 1996
NOTE 15. ACQUISITION (CONTINUED)
Assets and liabilities purchased were as follows:
<TABLE>
<S> <C>
Cash.............................................................. $ 2,989
Accounts receivable............................................... 3,773
Inventory......................................................... 2,772
Prepaid expenses.................................................. 301
P P & E (Historic cost)........................................... 10,500
Excess of cost over the net book value of assets acquired......... 17,221
Less liabilities assumed........................................ (24,252)
---------
Total consideration........................................... $ 13,304
---------
---------
</TABLE>
The following summary presents the pro forma consolidated results of
operations of the Company as if the business combination had occurred on August
1, 1996 (in thousands except earnings per share):
<TABLE>
<CAPTION>
YEARS ENDING JULY 31,
---------------------
1998 1997
---------- ---------
<S> <C> <C>
Revenues............................................................... $ 125,535 $ 70,702
Earnings from patronage and non-patronage business..................... 9,560 6,926
Earnings from patronage and non-patronage business per average equity
share outstanding:
Basic.............................................................. $ 1.30 $ .94
Fully diluted...................................................... 1.26 .94
</TABLE>
The above pro forma results do not necessarily represent results which would
have occurred if the business combination had taken place at the date assumed
above.
41
<PAGE>
ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
PART III.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
BOARD OF DIRECTORS
The Board of Directors consists of nine member-directors, each of whom
represents one of the nine geographic districts. Each Director is elected by
members residing in the district represented by the directors. Every three
years, the Bylaws require that the incumbent Board of Directors appoint a
redistricting committee to review the boundaries of the districts. The committee
will recommend any changes in the district boundaries necessary or appropriate
to maintain equitable representation of not more than a fifteen percent variance
of the number of members in each district. If the Board of Directors approves
the recommendations of the committee, the recommendation will be submitted to
the members for approval, rejection or modification. The next redistricting
review is scheduled to occur in calendar year 2000.
The table below sets forth certain information concerning the current
directors of the Company. The directors have been elected to serve three-year
terms expiring at the annual meeting in the calendar years indicated in the
table below.
<TABLE>
<CAPTION>
NAME AND ADDRESS AGE DISTRICT TERM EXPIRES
- ---------------------------------------- --- ------------------ ------------
<S> <C> <C> <C>
John S. Dalrymple, III(1)(2) ........... 50 Cass-Barnes 2000
P.O. Box 220 Number 4
Casselton, ND 58012
Allyn K. Hart .......................... 59 Northeast 1999
RR 1, Box 61 Number 6
Wales, ND 58281
Roger A. Kenner(3) ..................... 49 Lake Region 2001
RR 2, Box 53 Number 8
Leeds, ND 58346
James F. Link .......................... 71 Southeast 2000
1304 4th Street North Number 3
Wahpeton, ND 58075
Eugene J. Nicholas(1)(2) ............... 53 North Central 2001
RR 1 Number 7
Cando, ND 58324
John D. Rice, Jr.(3) ................... 44 Durum Triangle 2000
RR 2, Box 104 Number 9
Maddock, ND 58348
Jeffrey O. Topp ........................ 39 South Central 2001
RR 1, Box 23 Number 2
Grace City, ND 58445
Curtis R. Trulson(1)(2) ................ 46 Western 1999
RR 1, Box 62 Number 1
Ross, ND 58776
Michael E. Warner(1)(2) ................ 48 East Central 1999
RR 2, Box 119 Number 5
Hillsboro, ND 58045
</TABLE>
- ------------------------
(1) Member of Compensation Committee
(2) Member of Audit Committee
(3) Mr. Kenner and Mr. Rice are first cousins.
42
<PAGE>
JOHN S. DALRYMPLE III. Mr. Dalrymple has been chairman of the board of
directors of the Company since 1991. He has been a state representative since
1984. Mr. Dalrymple also is Chairman of the House Appropriations Committee and
Chairman of the Budget Section of the North Dakota House of Representatives. Mr.
Dalrymple also serves on the board of directors of United Spring Wheat
Processors and the U.S. Durum Growers Association. He has been a farmer in the
Casselton area since 1971. He received a bachelor of arts in American Studies
from Yale University.
ALLYN K. HART. Mr. Hart has been a director of the Company since 1991. He
has been a farmer in the Cavalier area since 1961. He is secretary and a member
of the board of directors of Cavalier County Job Development Authority. Mr. Hart
also serves on the board of directors of Maple Manor Nursing Home. Mr. Hart
received a bachelor of science from North Dakota State University.
ROGER A. KENNER. Mr. Kenner has been a director of the Company since 1991.
He is the State Chairman of the North Dakota Simmental Association. He also
serves on the board of directors of North Dakota State University President's
Advisory Council and the North Dakota Certified Seed Producer. He has been a
farmer in Leeds since 1964. Mr. Kenner received a bachelor of science in 1971
from North Dakota State University.
JAMES F. LINK. Mr. Link has been a director of the Company since 1991. Mr.
Link has served on the boards of directors of Farm Credit and Minn-Dak Farmers
Cooperative. Mr. Link served on the Pro-Gold Corn Plan Development Committee. He
has been a farmer in the Wahpeton area since 1947.
EUGENE J. NICHOLAS. Mr. Nicholas has been a director of the Company since
1991. Mr. Nicholas has been a state representative since 1974. He serves as
chairman of the North Dakota House of Representatives Agriculture Committee. Mr.
Nicholas also serves on the boards of directors of the U.S. Durum Growers
Association, Towner County Bank, Cando, and the Durum Triangle Economic
Development Committee. Mr. Nicholas received a bachelor of science in Business
Economics from North Dakota State University.
JOHN D. RICE, JR. Mr. Rice is the vice chairman of the board of directors
of the Company and has been a director of the Company since 1991. Mr. Rice
currently serves on the board of directors of the National Bank, Harvey, N.D.,
and as clerk of the Educational Trust. He also served on the boards of directors
of National Pasta Association and U.S. Durum Growers Association. Mr. Rice also
serves as a trustee for Maddock Zion Lutheran Church. He has been a farmer in
the Maddock area since 1968. Mr. Rice received an associate of science in
agricultural economics from North Dakota State University.
JEFFREY O. TOPP. Mr. Topp has been a director of the Company since 1991. He
is also president of the Eddy County Agriculture Improvement Association. He is
a partner of T-T Ranch. He has been a farmer in the Grace City area since 1978.
CURTIS R. TRULSON. Mr. Trulson has been secretary/treasurer of the Board of
Directors and a director of the Company since 1991. He serves on the board of
directors of the North Dakota Grain Growers Association and previously served on
the board of directors of the National Association of Wheat Growers. He has been
a farmer in Mountrail County, North Dakota, since 1975. Mr. Trulson received a
bachelor of science in Business Administration from the University of North
Dakota.
MICHAEL E. WARNER. Mr. Warner has been a director of the Company since
1992. Mr. Warner has been a farmer since 1967 and is currently owner/operator of
Mike Warner Farm near Hillsboro, North Dakota. Mr. Warner is chairman of the
board of directors of United Spring Wheat Processors and Northern Plains
Consortium, a regional development group. He also serves on the boards of
directors of Warner Equipment Co., and Meritcare Health Systems of Fargo, North
Dakota. Mr. Warner received a bachelor of science in pharmacy from North Dakota
State University.
43
<PAGE>
DIRECTORS COMPENSATION
The Board of Directors meets monthly. The Company provides its directors
with minimal compensation, consisting of (i) a per diem payment of $200 (except
for the Chairman who receives $250 per day) for any day on which a director
undertakes activities on the Company's behalf, including board meetings and
other Company functions, (ii) a monthly fee of $450, and (iii) reimbursement for
out-of-pocket expenses incurred on behalf of the Company.
EXECUTIVE OFFICERS
The table below lists the principal officers of the Company. Officers are
elected annually by the Board of Directors.
<TABLE>
<CAPTION>
NAME AGE POSITION
- -------------------------------- --- -------------------------------------------------------------------------
<S> <C> <C>
Timothy J. Dodd................. 43 President and General Manager
Gary E. Mackintosh.............. 46 Executive Vice President, Sales and Marketing
Susan M. Clemens................ 37 Vice President, Human Resources and Administration
James D. Cochran................ 31 Vice President, Supply Chain
Thomas P. Friezen............... 39 Vice President, Finance
Maurice D. Hanson............... 52 Vice President, Logistics
Radwan Ibrahim.................. 54 Vice President, Quality Assurance
John C. Lawrie.................. 48 Vice President, Operations (Minnesota)
David E. Tressler............... 44 Vice President, Operations (North Dakota)
</TABLE>
TIMOTHY J. DODD. Mr. Dodd is the President and General Manager of the
Company. Prior to joining the Company in December 1991, he had been since 1988
the vice president of manufacturing of the American Italian Pasta Co., a durum
milling and pasta production company located in Missouri. He received a bachelor
of science in milling science and management from Kansas State University.
GARY E. MACKINTOSH. Mr. Mackintosh has been Executive Vice President--Sales
and Marketing since August 1, 1998. Mr. Mackintosh has served as Vice
President--Sales from 1996 to 1998 and General Manager of Sales from 1991 to
1995. From 1988 to 1991 he was director of retail sales at American Italian
Pasta Co. From 1978 to 1988 he was regional sales manager for The Prince
Company, a pasta manufacturer. He received a bachelor of business in
administration from The Barney School, University of Hartford, Connecticut.
SUSAN M. CLEMENS. Ms. Clemens has been Vice President--Human Resources and
Administration since February 20, 1998. From August 1997 to February 1998, she
was Vice President of Human Resources and Administration at Primo Piatto, Inc.
Ms. Clemens was Senior Human Resources Manager at Borden Foods from January 1993
to August 1997. Ms. Clemens also is a director of U-Ship, Inc. and Faribault
Woolen Mills. Ms Clemens has a bachelor degree in business and education from
the University of Wisconsin--Stout.
JAMES D. COCHRAN. Mr. Cochran has been Vice President--Supply Chain since
February 20, 1998. From 1997 to 1998, he was Vice President of New Business
Development at Primo Piatto, Inc. Mr. Cochran held various positions with Borden
Foods from 1990 to 1996, most recently as Materials Manager. Mr. Cochran has a
bachelor of science degree in industrial engineering from Purdue University and
a masters degree in manufacturing engineering from the University of St. Thomas,
St. Paul, Minnesota.
THOMAS P. FRIEZEN. Mr. Friezen joined the Company in April 1995 as Vice
President--Finance. From September 1991 to April 1995 he was the Accounting
Supervisor at Arizona Electric Power Cooperative, an electricity generation and
transmission company. Prior to that Mr. Friezen was the Accounting Manager
44
<PAGE>
at Williston Basin Interstate Pipeline, a natural gas transmission company. He
received a bachelor of science in accounting from University of Mary, Bismarck,
North Dakota and is a certified public accountant.
MAURICE D. HANSON. Mr. Hanson has been with the Company since 1993. From
1989 to 1991, he was plant manager for American Italian Pasta Company. Before
that, Mr. Hanson worked for various food manufacturers for nine years as traffic
manager. He received his bachelor of science degree in business from Valley City
State University, North Dakota.
RADWAN IBRAHIM. Mr. Ibrahim has been Vice President--Quality Assurance
since February 20, 1998. From August 1997 to February 1998, he served as Chief
Technical Officer and Vice President of Primo Piatto, Inc. Mr. Ibrahim also was
Group Quality Control Manager at Borden Foods from 1992 to 1997. Mr. Ibrahim
received a bachelor of science degree in food science and a masters degree in
cereal technology from Alexandria University, Egypt and holds a Ph.D. degree in
cereal chemistry from North Dakota State.
JOHN C. LAWRIE. Mr. Lawrie, Vice President--Operations (Minnesota
facilities) since February 28, 1998, has over 25 years experience in the food
industry, with the last 16 years in the pasta industry. He spent 13 years as a
plant manager with Borden before organizing the management buy-out of the New
Hope and Minneapolis pasta plants from Borden in 1997. He received his bachelor
of science degree from Edinburgh University in Scotland.
DAVID E. TRESSLER. Mr. Tressler, currently Vice President--Operations
(Carrington facilities) joined the Company in February 1992 as a Project
Engineer. Prior to joining the Company, Mr. Tressler worked as a director of
engineering at American Italian Pasta Comany, where he was responsible for
monitoring the completion of the initial pasta plant. From 1977 to 1988 he was
plant engineer at International Multi-Foods, Inc. He received a bachelor of
science degree in industrial engineering from Iowa State University at Ames,
Iowa.
45
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION
The following table summarizes the amount of compensation paid to the
Company's President and General Manager and each of the Company's most
highly-compensated officers for services rendered to the Company during the
fiscal year ended July 31, 1998 and the two prior fiscal years.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
AWARDS
ANNUAL COMPENSATION ---------------
---------------------------------------- SECURITIES
FISCAL OTHER ANNUAL UNDERLYING
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION(1) OPTIONS
- ------------------------------------------------- --------- ---------- --------- ----------------- ---------------
<S> <C> <C> <C> <C> <C>
Timothy J. Dodd ................................. 1998 $ 167,692 $ 56,561 $ 5,203 506
President and General Manager 1997 145,577 1,531 1,907 3,413
1996 120,000 1,426 1,800 --
Gary E. Mackintosh .............................. 1998 133,462 16,531 2,882 338
Executive Vice President--Sales and Marketing 1997 97,153 6,720 328 760
1996 72,038 14,800 332 --
Thomas P. Friezen ............................... 1998 103,519 14,531 4,232 169
Vice President, Finance 1997 75,715 1,531 757 542
1996 77,473 1,572 60 --
David E. Tressler ............................... 1998 91,454 21,226 1,198 --
Vice President, Operations 1997 78,728 31,226 1,820 --
(North Dakota) 1996 79,560 1,126 1,564 --
John C. Lawrie(2) ............................... 1998 46,891 -- 1,934 --
Vice President, Operations 1997 -- -- -- --
(Minnesota) 1996 -- -- -- --
</TABLE>
- ------------------------
(1) Includes the Company's 401(k) matching contribution and with respect to Mr.
Dodd, Mr. Mackintosh and Mr. Friezen the taxable portion of reimbursable
business expenses.
(2) Mr. Lawrie joined the Company in February, 1998 in connection with the Primo
acquisition.
The following table sets forth certain information with respect to stock
options granted to the named executive officers during the fiscal year ended
July 31, 1998.
OPTION GRANTS IN FISCAL YEAR 1998
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE VALUE
PREFERRED AT ASSUMED ANNUAL RATES OF
SHARES PERCENT STOCK PRICE APPRECIATION
UNDERLYING OF TOTAL EXERCISE FOR OPTION TERM(1)
OPTIONS OPTIONS PRICE EXPIRATION --------------------------
NAME GRANTED GRANTED ($/SH) DATE 5% 10%
- ----------------------------------- ---------- ---------- -------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Timothy J. Dodd.................... 506 50% $150 1/1/2008 $ 48,576 $ 120,934
Gary E. Mackintosh................. 338 33% $150 1/1/2008 32,448 80,782
Thomas P. Friezen.................. 169 17% $150 1/1/2008 16,224 40,391
David E. Tressler.................. -- -- -- -- -- --
John C. Lawrie..................... -- -- -- -- -- --
</TABLE>
- ------------------------
(1) The amounts shown as potential realizable value illustrate what might be
realized upon exercise immediately prior to expiration of the option term
using the 5% and 10% appreciation rates established in SEC regulations,
compounded annually. The potential realizable value is not intended to
predict future appreciation of the price of the stock. The values shown do
not consider nontransferability or termination of the unexercisable options
upon termination of such employee's service relationship with the Company.
46
<PAGE>
The following table summarizes the total number of options held at the end
of fiscal year 1998 by the named executive officers. No options were granted or
exercised in fiscal 1998.
AGGREGATED OPTION EXERCISES IN FISCAL YEAR 1998 AND
FISCAL YEAR END OPTION VALUES
<TABLE>
<CAPTION>
VALUE OF UNEXERCISED
NUMBER OF SECURITIES IN-THE-MONEY
UNDERLYING UNEXERCISED OPTIONS AT JULY 31,
OPTIONS AT JULY 31, 1998 1998(1)
--------------------------- --------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ----------------------------------- ---------- --------------- ----------- -------------
<S> <C> <C> <C> <C>
Timothy J. Dodd.................... 2,000 1,919 $ 160,000 $ 128,220
Gary E. Mackintosh................. 1,098 -- $ 70,940 --
Thomas P. Friezen.................. 711 -- $ 48,430 --
David E. Tressler.................. -- -- -- --
John C. Lawrie..................... -- -- -- --
</TABLE>
- ------------------------
(1) There is no public trading market for the Company's securities. The values
have been calculated assuming the conversion of each preferred share into 24
shares of Equity Stock and based on the offering price of $7.50 per Share to
current members in the proposed offering less the option exercise price
(before the payment of applicable taxes.)
COMPENSATION PLANS
On January 31, 1997 the Compensation Committee of the Board of Directors
adopted the Dakota Growers Incentive Stock Option Plan (the "Plan"). The purpose
of the Plan is to provide benefits to participants in the form of additional
compensation for services which have been or will be rendered as an inducement
for continuing as employees of the Company. The Plan was ratified by the members
at the annual meeting in January 1998.
The Plan is administered by the Compensation Committee. The Compensation
Committee or the Board of Directors has the power to determine the key
management employees of the Company to receive options and the number of shares
to be optioned to each of the employees.
Options granted under the Plan are for the purchase of Series C Convertible
Preferred Stock at fair market value, convertible into Equity Stock at the
option of the employee, under the applicable conversion ratio. The maximum
number of preferred shares which may be issued pursuant to options granted under
the Plan is fifteen thousand (15,000). Each share of Series C Preferred Stock
carries a non-cumulative dividend of 6% per annum. Under the terms of the Plan,
the option price may not be less than the fair market value of the Series C
Preferred Stock at the time the option is granted. To date no options have been
exercised or converted.
The conversion ratio is 24 shares of Equity Stock for each share of Series C
Preferred Stock after adjustment for the 3-for-2 stock split declared effective
August 1, 1997. The conversion ratio is proportionately adjusted if the Company
increases the outstanding shares of Equity Stock without the payment of
consideration by the members for such additional shares (e.g. stock split, stock
dividend or other action).
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The members of the Compensation Committee are John S. Dalrymple III, Eugene
J. Nicholas and Curtis R. Trulson. None of these directors is or has been an
officer or employee of the Company. During fiscal year 1998, no executive
officer of the Company served as a director or member of the compensation
committee (or other committee serving an equivalent function) of any other
entity, one of whose executive officers served as a director of or member of the
Compensation Committee of the Company.
47
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Since the Company is a cooperative with voting rights arising from ownership
of a share of Membership Stock, each member has equal voting rights of one vote
per member. No director or officer owns beneficially more than .65% of the
Company's issued and outstanding Membership Stock; the directors as a group
beneficially own approximately 2.3% of the issued and outstanding Membership
Stock. With regard to the Equity Stock, no director or officer owns beneficially
more than 3.5% of the issued and outstanding shares. The directors, as a group,
beneficially own approximately 8.7% of the Company's issued and outstanding
Equity Stock.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Each of the Company's directors is also an agricultural producer and a
member of the Company. By virtue of their membership status and ownership of
Equity Stock, each director is obligated to deliver durum wheat to the Company.
The Company makes payments to each director for such deliveries and the payments
often exceed $60,000. However, the amount and terms of the payments received by
the directors (or the entities they represent) are made on exactly the same
basis as those received by other members of the Company for the delivery of
their durum wheat. Except for durum wheat sales, none of the directors or
executive officers of the Company have engaged in any other transactions with
the Company involving amounts in excess of $60,000.
48
<PAGE>
PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
FINANCIAL STATEMENTS
Independent Auditor's Report
Consolidated Balance Sheets as of July 31, 1998 and 1997
Consolidated Statements of Operations for the years ended July 31, 1998,
1997 and 1996
Consolidated Statements of Changes in Members' Investment for the years
ended July 31, 1998, 1997 and 1996
Consolidated Statements of Cash Flows for the years ended July 31, 1998,
1997 and 1996
Notes to Consolidated Financial Statements
FINANCIAL STATEMENT SCHEDULES
All schedules are omitted as the required information is inapplicable or the
information is presented in the consolidated financial statements or related
notes.
REPORTS ON FORM 8-K
The Company filed an amended Report on Form 8-K on May 27, 1998 to disclose
the final purchase price for the acquisition of Primo Piatto, Inc. and to file
the audited financial statements of Primo Piatto, Inc. as of and for the period
ended September 30, 1997 and the unaudited pro forma financial statements of the
Company as of and for the six months ended January 31, 1998.
EXHIBITS
<TABLE>
<C> <S>
3.1 Certified Articles of Incorporation of Dakota Growers Pasta Company. (Incorporated
by reference from the Company's Quarterly Report on Form 10-Q, File No. 33-99834,
for the quarter ended January 31, 1997.)
3.2 Bylaws of Dakota Growers Pasta Company. (Incorporated by reference from the
Company's Quarterly Report on Form 10-Q, File No. 33-99834, for the quarter ended
January 31, 1997.)
4.1 Note Purchase Agreement dated July 15, 1998. (Incorporated by reference from the
Company's Registration Statement on Form S-1, File No. 333-65071.)
10.1 Form of Growers Agreement between the Company and members of the Company. (Incorpo-
rated by reference from the Company's Quarterly Report on Form 10-Q, File No.
33-99834, for the quarter ended January 31, 1997.)
10.2 Series A Preferred Stock Purchase Agreement dated October 28, 1992 between the
Company and the State of North Dakota acting by and through North Dakota Future
Fund, Inc., including Amendment to Preferred Stock Purchase Between Dakota Growers
Pasta Company and North Dakota Future Fund dated August 26, 1995. (Incorporated by
reference to Exhibit 10.8 to the Company's Registration Statement on Form S-1, File
No. 33-99834, declared effective January 26, 1996.)
10.3 Loan Agreement in the aggregate amount of $100,000 dated February 5, 1993 between
the Company and Dakota Central Telecommunications Cooperative. (Incorporated by
reference to Exhibit 10.9 to the Company's Registration Statement on Form S-1, File
No. 33-99834, declared effective January 26, 1996.)
</TABLE>
49
<PAGE>
<TABLE>
<C> <S>
10.4 Promissory Note in the principal amount of $100,000 dated February 5, 1993 between
the Company and Dakota Central Telecommunications Cooperative. (Incorporated by
reference to Exhibit 10.10 to the Company's Registration Statement on Form S-1, File
No. 33-99834, declared effective January 26, 1996.)
10.5 Loan Agreement in the aggregate amount of $100,000 dated February 5, 1993 between
the Company and Tri-County Electric Cooperative, Inc. (Incorporated by reference to
Exhibit 10.11 to the Company's Registration Statement on Form S-1, File No.
33-99834, declared effective January 26, 1996.)
10.6 Promissory Note in the principal amount of $100,000 dated February 5, 1993 between
the Company and Tri-County Electric Cooperative, Inc. (Incorporated by reference to
Exhibit 10.12 to the Company's Registration Statement on Form S-1, File No.
33-99834, declared effective January 26, 1996.)
10.7 Indenture of Lease between RLN Leasing, Inc. and Dakota Growers Pasta Company, dated
May 1, 1997. (Incorporated by reference to Exhibit 10.10 to the Company's Annual
Report on Form 10-K for the fiscal year ended July 31, 1997, as amended on September
30, 1998, File No. 33-99834.) Confidential treatment has been requested with respect
to portions of this Exhibit.
10.8 Loan Agreement dated July 23, 1998 between the Company and St. Paul Bank for
Cooperatives and related Promissory Notes. (Incorporated by reference to Exhibit
10.5 to the Company's Registration Statement on Form S-1, File No. 333-65071.)
Confidential treatment has been requested with respect to portions of this Exhibit.
10.9 Sample Broker Agreement between Dakota Growers Pasta Company and Sinco, Inc. dated
May 1, 1995. (Incorporated by reference to Exhibit 10.15 to the Company's
Registration Statement on Form S-1, File No. 33-99834, declared effective January
26, 1996.)
10.10 Agreement between Dakota Growers Pasta Company and JP Foodservice, Inc. dated March
7, 1997. (Incorporated by reference to Exhibit 10.13 to the Company's Annual Report
on Form 10-K for the fiscal year ended July 31, 1997, as amended on September 30,
1998, File No. 33-99834.) Confidential treatment has been requested with respect to
portions of this Exhibit.
10.11 Consulting Agreement between Dakota Growers Pasta Company and Peninsula Trading Com-
pany, Inc. dated October 15, 1997. (Incorporated by reference to Exhibit 10.14 to
the Company's Annual Report on Form 10-K for the fiscal year ended July 31, 1997, as
amended on September 30, 1998, File No. 33-99834.)
10.12 Incentive Stock Plan. (Incorporated by reference to Exhibit 10.1 to the Company's
Quarterly Report on Form 10-Q, File No. 33-99834, for the quarter ended April 30,
1998.) *
27 Financial Data Schedule. (Incorporated by reference from the Company's Registration
Statement on Form S-1, File No. 333-65071.)
</TABLE>
- ------------------------
* Executive compensation plan or arrangement.
50
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
<TABLE>
<S> <C> <C>
DAKOTA GROWERS PASTA COMPANY
By: /s/ TIMOTHY J. DODD
-----------------------------------------
Timothy J. Dodd,
PRESIDENT AND GENERAL MANAGER,
AND PRINCIPAL EXECUTIVE OFFICER
</TABLE>
Dated: October 28, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ -------------------------- -------------------
<C> <S> <C>
/s/ TIMOTHY J. DODD General Manager
- ------------------------------ (Principal Executive October 28, 1998
Timothy J. Dodd Officer)
/s/ THOMAS P. FRIEZEN Vice President--Finance
- ------------------------------ (Principal Financial and October 28, 1998
Thomas P. Friezen Accounting Officer)
/s/ JOHN S. DALRYMPLE III
- ------------------------------ Director October 28, 1998
John S. Dalrymple III
/s/ JOHN D. RICE, JR.
- ------------------------------ Director October 28, 1998
John D. Rice, Jr.
/s/ CURT R. TRULSON
- ------------------------------ Director October 28, 1998
Curt R. Trulson
/s/ ALLYN K. HART
- ------------------------------ Director October 28, 1998
Allyn K. Hart
</TABLE>
51
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ -------------------------- -------------------
<C> <S> <C>
/s/ ROGER A. KENNER
- ------------------------------ Director October 28, 1998
Roger A. Kenner
/s/ JAMES F. LINK
- ------------------------------ Director October 28, 1998
James F. Link
/s/ EUGENE J. NICHOLAS
- ------------------------------ Director October 28, 1998
Eugene J. Nicholas
/s/ JEFFREY O. TOPP
- ------------------------------ Director October 28, 1998
Jeffrey O. Topp
/s/ MICHAEL E. WARNER
- ------------------------------ Director October 28, 1998
Michael E. Warner
</TABLE>
52
