e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For The Quarterly Period Ended September 30, 2008
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File Number 0-26542
CRAFT BREWERS ALLIANCE, INC.
(Exact name of registrant as specified in its charter)
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Washington
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91-1141254 |
(State or other jurisdiction of
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(I.R.S. Employer |
incorporation or organization)
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Identification No.) |
929 North Russell Street
Portland, Oregon 97227
(Address of principal executive offices)
(503) 331-7270
(Registrants telephone number, including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer or a smaller reporting company (See the definitions of larger accelerated
filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act).
Check one:
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Large accelerated filer o
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Accelerated filer o
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Non-accelerated filer o
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Smaller reporting company þ |
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(Do not check if a smaller reporting company) |
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act).Yes o No þ
The number of shares of the registrants common stock outstanding as of November 7, 2008 was 16,958,063.
CRAFT BREWERS ALLIANCE, INC.
FORM 10-Q
For The Quarterly Period Ended September 30, 2008
TABLE OF CONTENTS
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56 |
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2
PART I.
ITEM 1. Financial Statements
CRAFT BREWERS ALLIANCE, INC.
BALANCE SHEETS
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September 30, |
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December31, |
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2008 |
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2007 |
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(Unaudited) |
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ASSETS
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Current assets: |
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Cash and cash equivalents |
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$ |
252,785 |
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$ |
5,526,843 |
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Accounts receivable, net of allowance for doubtful accounts of $64,008 and $95,243 in 2008 and 2007, respectively |
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11,358,286 |
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3,892,737 |
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Trade receivable from Craft Brands |
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670,469 |
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Inventories, net |
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8,629,118 |
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2,927,518 |
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Income tax receivable |
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1,531,962 |
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Deferred income tax asset, net |
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1,485,713 |
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944,361 |
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Other |
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3,702,537 |
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1,043,034 |
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Total current assets |
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26,960,401 |
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15,004,962 |
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Property, equipment and leasehold improvements, net |
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102,696,074 |
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55,862,297 |
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Equity investments |
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6,601,449 |
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415,592 |
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Goodwill |
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22,104,958 |
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Intangible and other assets, net |
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19,881,871 |
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107,489 |
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Total assets |
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$ |
178,244,753 |
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$ |
71,390,340 |
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LIABILITIES AND COMMON STOCKHOLDERS EQUITY
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Current liabilities: |
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Accounts payable |
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$ |
16,551,040 |
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$ |
3,148,613 |
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Trade payable to Craft Brands |
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416,116 |
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Accrued salaries, wages, severance and payroll taxes |
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2,832,226 |
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1,524,240 |
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Refundable deposits |
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6,735,953 |
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3,500,200 |
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Other accrued expenses |
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2,076,179 |
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686,261 |
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Current portion of long-term debt and capital lease obligations |
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1,373,816 |
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15,498 |
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Total current liabilities |
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29,569,214 |
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9,290,928 |
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Long-term debt and capital lease obligations, net of current portion |
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28,207,273 |
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31,118 |
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Fair value of derivative financial instruments |
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428,384 |
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Deferred income tax liability, net |
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9,960,416 |
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1,762,428 |
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Other liabilities |
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265,389 |
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226,123 |
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Common stockholders equity: |
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Common stock, par value $0.005 per share, authorized, 50,000,000 shares; 16,948,063
shares in 2008 and 8,354,239 shares in 2007 issued and outstanding |
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84,741 |
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41,771 |
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Additional paid-in capital |
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122,432,736 |
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69,303,848 |
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Other comprehensive income |
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(260,891 |
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Retained earnings (deficit) |
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(12,442,509 |
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(9,265,876 |
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Total common stockholders equity |
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109,814,077 |
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60,079,743 |
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Total liabilities and common stockholders equity |
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$ |
178,244,753 |
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$ |
71,390,340 |
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The accompanying notes are an integral part of these financial statements.
3
CRAFT BREWERS ALLIANCE, INC.
STATEMENTS OF OPERATIONS
(Unaudited)
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Three Months Ended |
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Nine Months Ended |
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September 30, |
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September 30, |
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2008 |
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2007 |
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2008 |
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2007 |
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Sales |
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$ |
33,498,577 |
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$ |
12,357,004 |
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$ |
55,937,193 |
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$ |
35,383,514 |
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Less excise taxes |
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2,031,390 |
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1,285,374 |
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4,319,543 |
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3,866,318 |
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Net sales |
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31,467,187 |
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11,071,630 |
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51,617,650 |
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31,517,196 |
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Cost of sales |
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24,846,103 |
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9,653,674 |
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43,862,511 |
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27,307,237 |
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Gross profit |
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6,621,084 |
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1,417,956 |
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7,755,139 |
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4,209,959 |
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Selling, general and administrative expenses |
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7,632,298 |
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2,151,417 |
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11,984,659 |
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6,161,655 |
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Merger-related expenses |
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474,025 |
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278,404 |
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1,642,680 |
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448,335 |
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Income from equity investment in Craft Brands |
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562,210 |
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1,390,404 |
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2,210,336 |
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Operating loss |
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(1,485,239 |
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(449,655 |
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(4,481,796 |
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(189,695 |
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Income from equity investments in Kona and FSB |
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1,449 |
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1,449 |
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Interest expense |
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446,871 |
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80,875 |
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452,075 |
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246,093 |
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Other income, net |
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40,271 |
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120,589 |
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97,364 |
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404,996 |
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Loss before income taxes |
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(1,890,390 |
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(409,941 |
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(4,835,058 |
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(30,792 |
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Income tax provision (benefit) |
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(641,974 |
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(121,373 |
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(1,658,425 |
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49,252 |
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Net loss |
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$ |
(1,248,416 |
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$ |
(288,568 |
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$ |
(3,176,633 |
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$ |
(80,044 |
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Basic and diluted loss per share |
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$ |
(0.07 |
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$ |
(0.03 |
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$ |
(0.28 |
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$ |
(0.01 |
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The accompanying notes are an integral part of these financial statements.
4
CRAFT BREWERS ALLIANCE, INC.
STATEMENTS OF CASH FLOWS
(Unaudited)
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Nine Months Ended |
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September 30, |
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2008 |
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2007 |
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Operating Activities |
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Net loss |
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$ |
(3,176,633 |
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$ |
(80,044 |
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Adjustments to reconcile net loss to net cash
provided by (used in) operating activities: |
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Depreciation and amortization |
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3,235,688 |
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2,133,764 |
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Stock-based compensation |
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19,608 |
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169,400 |
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Allowance for doubtful accounts receivable |
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(31,235 |
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Reserve for obsolete inventories |
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139,714 |
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Amortization of inventory step up adjustment |
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225,981 |
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Undistributed earnings of equity investments |
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74,820 |
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11,687 |
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Deferred income taxes |
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(1,877,861 |
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11,728 |
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Loss (gain) on disposition of fixed assets |
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23,802 |
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(2,757 |
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Mark to market on financial derivatives |
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(18,118 |
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Amortization of premium on promissory notes |
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(15,804 |
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Changes in operating assets and liabilities, net of effects of acquisition of Widmer |
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(691,930 |
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(159,295 |
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Net cash provided by (used in) operating activities |
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(2,091,968 |
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2,084,483 |
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Investing Activities |
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Expenditures for fixed assets |
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(5,545,768 |
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(1,092,385 |
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Proceeds from disposition of fixed assets |
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381,780 |
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357,597 |
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Cash acquired in acquisition of Widmer, net |
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2,336,104 |
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Net cash used in investing activities |
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(2,827,884 |
) |
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(734,788 |
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Financing Activities |
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Principal payments on debt and capital lease obligations |
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(303,984 |
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(348,316 |
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Net repayments under revolving line of credit |
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(500,000 |
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Issuance of common stock |
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474,778 |
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157,410 |
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Amounts paid for debt issue costs |
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(25,000 |
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Net cash used in financing activities |
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(354,206 |
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(190,906 |
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Increase (decrease) in cash and cash equivalents |
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(5,274,058 |
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1,158,789 |
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Cash and cash equivalents: |
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Beginning of period |
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5,526,843 |
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9,435,073 |
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End of period |
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$ |
252,785 |
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$ |
10,593,862 |
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Supplemental Disclosures |
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Non-cash transactions: |
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Net assets of Widmer acquired in exchange for issuance of
common stock and assumption of debt (see Note 2) |
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$ |
82,346,274 |
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$ |
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The accompanying notes are an integral part of these financial statements.
5
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
The accompanying financial statements and related notes of the Company should be read in
conjunction with the financial statements and notes thereto included in the Companys Annual Report
on Form 10-K, as amended, for the year ended December 31, 2007. These financial statements have
been prepared pursuant to the rules and regulations of the Securities and Exchange Commission.
Accordingly, certain information and footnote disclosures normally included in financial statements
prepared in accordance with accounting principles generally accepted in the United States have been
condensed or omitted pursuant to such rules and regulations. These financial statements are
unaudited but, in the opinion of management, reflect all material adjustments necessary to present
fairly the financial position, results of operations and cash flows of the Company for the periods
presented. All such adjustments were of a normal, recurring nature. Certain reclassifications have
been made to the prior years financial statements to conform to the current year presentation. The
results of operations for such interim periods are not necessarily indicative of the results of
operations for the full year.
The financial statements as of and for the three and nine months ended September 30, 2008
reflect the July 1, 2008 merger of Widmer Brothers Brewing Company (Widmer) with and into the
Company, as more fully described in Note 2 below. These financial statements as of and for the
three and nine months ended September 30, 2008 reflect the effect of the July 1, 2008 merger on the
termination of the agreements between the Company and Craft Brands Alliance LLC (Craft Brands),
and the resulting merger of Craft Brands with and into the Company. See Note 7 for further
discussion of Craft Brands.
2. Merger with Widmer
On November 13, 2007, the Company entered into an Agreement and Plan of Merger with Widmer,
which was subsequently amended by Amendment No. 1 dated April 30, 2008 (the Merger Agreement)
with Widmer. The Merger Agreement provided, subject to customary conditions to closing, for a
merger (the Merger) of Widmer with and into the Company. A copy of the Merger Agreement was
included as an exhibit to the Companys current report on Form 8-K filed with the Securities and
Exchange Commission (SEC) on November 13, 2007. A copy of Amendment No. 1 to the Merger Agreement
was included as an exhibit to the Companys registration statement on Form S-4/A filed with the SEC
on May 2, 2008.
In
seeking to merge with Widmer, the Company believes that the combined entity will be able to
secure efficiencies, beyond those that had already been achieved by its existing relationships
with Widmer, in utilizing the two companies breweries and a national sales force, as well as by
reducing duplicate functions. Utilizing the combined breweries offers a greater opportunity to
rationalize production capacity in line with product demand. The national sales force of the
combined entity will support further promotion of the products of Widmers partners, Kona Brewery
LLC (Kona), which brews Kona malt beverage products, and Fulton Street Brewery, LLC (FSB),
which brews Goose Island malt beverage products. The Company also expects that the combined entity
may have greater access to capital markets driven by its increased size and expected growth rates.
On July 1, 2008, the Merger was consummated. Pursuant to the Merger Agreement and by operation
of law, upon the merger of Widmer with and into the Company, the Company acquired all of the
assets, rights, privileges, properties, franchises, liabilities and obligations of Widmer. Each
outstanding share of capital stock of Widmer was converted into the right to receive 2.1551 shares
of Company common stock, or 8,361,514 shares. The Merger resulted in Widmer shareholders and
existing Company shareholders each holding approximately 50% of the outstanding shares of the
Company. No Widmer shareholder exercised statutory appraisal rights in connection with the Merger.
In connection with the Merger, the name of the Company was changed from Redhook Ale Brewery,
Incorporated to Craft Brewers Alliance, Inc. The common stock of the Company continues to trade on
the Nasdaq Stock Market under the trading symbol HOOK.
Merger-Related Costs
In connection with the Merger, the Company incurred merger-related expenditures, including
legal, consulting, meeting, filing, printing and severance costs. Certain of the merger-related
expenses have been reflected in the statements of operations as selling, general and administrative
expenses. Certain of the other merger-related costs have been capitalized in accordance with
Financial Accounting Standards Boards (FASB) Statement of Financial
6
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
Accounting Standards (SFAS) No. 141, Business Combinations (SFAS 141) as discussed below.
The summary of merger-related expenditures incurred during the periods indicated is as follows:
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Three Months Ended September 30, |
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Nine Months Ended September 30, |
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2008 |
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|
2007 |
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|
2008 |
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|
2007 |
|
Merger-related expenses
reflected in statements of operations |
|
$ |
474,025 |
|
|
$ |
278,404 |
|
|
$ |
1,642,680 |
|
|
$ |
448,335 |
|
Merger-related costs
reflected in balance sheets |
|
|
128,293 |
|
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|
|
662,950 |
|
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|
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|
|
|
|
|
$ |
602,318 |
|
|
$ |
278,404 |
|
|
$ |
2,305,630 |
|
|
$ |
448,335 |
|
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As of September 30, 2008, capitalized merger costs of $817,000 were recorded as a component of
the Companys goodwill. As of December 31, 2007, capitalized merger costs of $154,000 were
presented in other current assets on the Companys balance sheet.
Merger-related expenses include severance payments to employees and officers whose employment
was or will be terminated as a result of the Merger. The Company estimates that severance benefits
totaling approximately $2.7 million will be paid in 2008 and 2009 to all affected former Redhook
employees and officers, and affected former Widmer employees. Of the total severance, $349,000 was
recognized as a merger-related expense in the Companys statement of operations during the quarter
ended September 30, 2008 in accordance with SFAS No. 146, Accounting for Costs Associated with Exit or
Disposal Activities. The Company estimates that the remaining severance cost related to affected
employees will be recognized as a merger-related expense in the statements of operations in the
following future periods: approximately $470,000 in the fourth quarter of 2008, and approximately
$112,000 in the first quarter of 2008 and $113,000 in the second quarter of 2009.
Accounting for the Acquisition of Widmer
The acquisition of Widmer has been accounted for in accordance with SFAS 141 and SFAS No. 142,
Goodwill and Intangible Assets (SFAS 142). Accordingly, the Companys balance sheet as of
September 30, 2008 reflects the acquisition of Widmer tangible and intangible assets and assumption
of Widmer liabilities. The results of operations of Widmer since July 1, 2008 are included in the
Companys statement of operations for the three months and nine months ended September 30, 2008.
Under the purchase method of accounting, the aggregate purchase price of Widmer, including
direct merger costs, was allocated to the Companys estimate of the fair value of Widmer assets
acquired and liabilities assumed on July 1, 2008, the date of acquisition, based upon estimates of
their fair value as indicated below. The excess of the purchase price over the net assets acquired
was recorded as goodwill. Revisions to the purchase price allocation in future periods are expected
to be immaterial.
The Company has estimated the aggregate purchase price of Widmer as follows:
|
|
|
|
|
Fair value of Common Stock issued |
|
$ |
52,677,538 |
|
Interest-bearing debt assumed |
|
|
29,668,736 |
|
|
|
|
|
Total purchase price |
|
$ |
82,346,274 |
|
|
|
|
|
The fair value of the common stock issued was computed by multiplying the number of shares of
common stock issued to Widmer security holders pursuant to the Merger times $6.30, the average
closing price of the common stock as reported by Nasdaq for the five trading days before and after
November 13, 2007, the date of the Merger Agreement.
7
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
The Company has allocated the purchase price as follows:
|
|
|
|
|
Widmer assets acquired and liabilities assumed: |
|
|
|
|
Current assets |
|
$ |
18,887,135 |
|
Income tax receivable |
|
|
1,490,760 |
|
Property, equipment and leasehold improvements |
|
|
45,125,562 |
|
Equity investments |
|
|
6,600,000 |
|
Trade name and trademarks |
|
|
16,300,000 |
|
Intangible assets recipes, distributor agreements, and non-compete agreements |
|
|
3,000,000 |
|
Favorable contracts |
|
|
642,831 |
|
|
|
|
|
|
|
|
|
|
Total assets acquired |
|
|
92,046,288 |
|
|
|
|
|
|
|
|
|
|
Current liabilities |
|
|
(19,821,539 |
) |
Fair value of derivative financial instrument |
|
|
(185,611 |
) |
Premium on promissory notes payable |
|
|
(685,525 |
) |
Deferred income tax liability, net and other noncurrent liabilities |
|
|
(10,392,110 |
) |
|
|
|
|
|
|
|
|
|
Total liabilities assumed |
|
|
(31,084,785 |
) |
|
|
|
|
|
|
|
|
|
Net assets acquired |
|
|
60,961,503 |
|
|
|
|
|
|
|
|
|
|
Excess of purchase price over net assets acquired |
|
|
21,384,771 |
|
|
|
|
|
|
Plus adjustments to Company assets and liabilities: |
|
|
|
|
Incremental direct merger costs incurred by the Company |
|
|
816,661 |
|
Elimination of valuation allowance for deferred tax assets |
|
|
(1,059,000 |
) |
Elimination of receivables and payables due to/from Widmer and Craft Brands |
|
|
623,203 |
|
Elimination of investment in Craft Brands |
|
|
339,323 |
|
|
|
|
|
|
|
|
|
|
|
|
|
720,187 |
|
|
|
|
|
|
|
|
|
|
Goodwill recorded |
|
$ |
22,104,958 |
|
|
|
|
|
8
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
Pro Forma Results of Operations
The unaudited pro forma combined condensed results of operations are presented below for:
|
|
|
the three-month period ended September 30, 2007 as if the Merger had been completed on
July 1, 2007; |
|
|
|
|
the nine-month period ended September 30, 2008 as if the Merger had been completed on
January 1, 2008; and |
|
|
|
|
the nine-month period ended September 30, 2007 as if the Merger had been completed on
January 1, 2007. |
The unaudited condensed results of operations for the three-month period ended September 30,
2008 as reported are presented below for comparative purposes.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Nine Months Ended |
|
|
September 30, |
|
September 30, |
|
|
2008 |
|
2007 |
|
2008 |
|
2007 |
|
|
Reported |
|
Pro forma |
|
Pro forma |
|
Pro forma |
Net sales |
|
$ |
31,467,000 |
|
|
$ |
26,801,000 |
|
|
$ |
89,510,000 |
|
|
$ |
76,565,000 |
|
Income (Loss) before income taxes |
|
$ |
(1,890,000 |
) |
|
$ |
(606,000 |
) |
|
$ |
(5,898,000 |
) |
|
$ |
641,000 |
|
Net income (loss) |
|
$ |
(1,248,000 |
) |
|
$ |
(398,000 |
) |
|
$ |
(3,875,000 |
) |
|
$ |
421,000 |
|
Basic
earnings (loss) per share |
|
$ |
(0.07 |
) |
|
$ |
(0.02 |
) |
|
$ |
(0.23 |
) |
|
$ |
0.03 |
|
Diluted
earnings (loss) per share |
|
$ |
(0.07 |
) |
|
$ |
(0.02 |
) |
|
$ |
(0.23 |
) |
|
$ |
0.02 |
|
The unaudited pro forma results of operations are not necessarily indicative of the operating
results that would have been achieved had the Merger been consummated as of the dates indicated, or
that may be achieved in the future. Rather, the unaudited pro forma combined condensed results of
operations presented above are based on estimates and assumptions that have been made solely for
the purpose of developing such pro forma results. Historical results of operations were adjusted to
give effect to pro forma events that are (1) directly attributable to the acquisition, (2)
factually supportable, and (3) expected to have a continuing impact on the combined results. These
pro forma results of operations do not give effect to any cost savings, revenue synergies or
restructuring costs which may result from the integration of Widmers operations.
3. Significant Accounting Policies
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of three months
or less to be cash equivalents. The Company maintains cash and cash equivalent balances with
financial institutions that may exceed federally insured limits. The carrying amount of cash
equivalents approximates fair value because of the short-term maturity of these instruments.
Accounts Receivable
Accounts receivable is comprised of trade receivables due from wholesalers and Anheuser-Busch,
Incorporated (A-B) for beer and promotional product sales. Because of state liquor laws and each
wholesalers agreement with A-B, the Company does not have collectability issues related to the
sale of its beer products. Accordingly, the
Company does not regularly provide an allowance for doubtful accounts for beer sales. The
Company has provided an allowance for promotional merchandise that has been invoiced to the
wholesaler, which reflects the Companys best estimate of probable losses inherent in the accounts.
The Company determines the allowance based on historical customer experience and other currently
available evidence. When a specific account is deemed uncollectible, the account is written off
against the allowance. Accounts receivable on the Companys balance sheets includes an allowance
for doubtful accounts of $64,000 and $95,000 as of September 30, 2008 and December 31, 2007,
respectively.
9
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
Inventories
Inventories are stated at the lower of cost or market. Finished goods are stated at the lower
of standard cost, which approximates the first-in, first-out method, or market.
In coordinating the operations of the merged entity, the Company has identified specific
classes of inventory items that were previously expensed by the Company, but were carried as
inventory by Widmer. Specific classes of inventory items include certain packaging items,
promotional merchandise and pub food, beverages and supplies. Generally this was due to the
significance of the item relative to the operations of the individual entities, reflecting minor
differences in the two businesses. The Company revised its policies with regard to these items as
of the beginning of the third quarter, such that, on a prospective basis, purchases of these items
are now inventoried. The Company assessed the cumulative impact of this change in accounting policy
and determined that the change is not material to the financial statements as of and for the nine
months ended September 30, 2008 or any prior period.
The Company regularly reviews its inventories for the presence of obsolete product attributed
to age, seasonality and quality. Inventories that are considered obsolete are written off or
adjusted to carrying value. The Company has established a reserve for obsolescence of $181,000 and
$109,000 for its promotional merchandise and finished goods inventories as of September 30, 2008
and December 31, 2007, respectively. The Company records as a non-current asset the cost of
inventory for which it estimates it has more than a twelve-month supply.
Investment in Subsidiaries
As a result of the merger of Craft Brands with and into the Company, the Company terminated
its agreements with Craft Brands effective July 1, 2008. Prior to this date, the Company had
assessed its investment in Craft Brands pursuant to the provisions of FASB Interpretation No. 46
Revised, Consolidation of Variable Interest Entities an Interpretation of ARB No. 51 (FIN 46R).
In applying FIN 46R, the Company did not consolidate the financial statements of Craft Brands with
the financial statements of the Company, but instead accounted for its investment in Craft Brands
under the equity method, as outlined by Accounting Principle Board (APB) Opinion No. 18, The
Equity Method of Accounting for Investments in Common Stock (APB 18). The Company recognized its
share of the net earnings of Craft Brands by an increase to its investment in Craft Brands on the
Companys balance sheet and recognized income from equity investment in the Companys statement of
operations. Any cash distributions received or the Companys share of losses reported by Craft
Brands were reflected as a decrease in investment in Craft Brands on the Companys balance sheet.
Prior to the merger, the Company did not control the amount or timing of cash distributions by
Craft Brands.
As a result of the Merger, the Company acquired a 42% equity ownership interest in FSB. The
Company accounts for this investment under the equity method in accordance with APB 18. The
Companys investment in FSB was $5,375,000 at September 30, 2008, and the Company did not have an
investment in FSB at December 31, 2007. The Companys portion of equity as reported on FSBs
financial statement was $1,824,000 as of the corresponding date. The difference between the
carrying value of the equity investment and the Companys amount of underlying equity in the net
assets of the investee is considered equity method goodwill, which is not amortized. The carrying
value of the equity investment is reviewed for impairment.
As a result of the Merger, the Company acquired a 20% equity ownership interest in Kona. The
Company accounts for this investment under the equity method in accordance with APB 18. The
Companys investment in
Kona was $1,226,000 at September 30, 2008, and the Company did not have an investment in Kona
at December 31, 2007. The Companys portion of equity as reported on Konas financial statement was
$387,000 as of the corresponding date. The difference between the carrying value of the equity
investment and the Companys amount of underlying equity in the net assets of the investee is
considered equity method goodwill, which is not amortized. The carrying value of the equity
investment is reviewed for impairment.
Property, equipment and leasehold improvements
Property, equipment and leasehold improvements are stated at cost less accumulated
depreciation and accumulated amortization. Expenditures for repairs and maintenance are expensed as
incurred; renewals and betterments are capitalized. Upon disposal of equipment and leasehold
improvements, the accounts are relieved of the costs and related accumulated depreciation or
amortization, and resulting gains or losses are reflected in operations.
Depreciation and amortization of property, equipment and leasehold improvements is provided on
the straight-line method over the following estimated useful lives:
10
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
|
|
|
|
|
Buildings |
|
31 - 40 years |
Brewery equipment |
|
10 - 25 years |
Furniture, fixtures and other equipment |
|
2 - 10 years |
Vehicles |
|
5 years |
Leasehold improvements |
|
Useful life or term of lease, whichever less |
Goodwill and other intangible assets
In accordance with SFAS 142, goodwill and other intangible assets with indefinite useful lives
are not amortized but are reviewed periodically for impairment.
The provisions of SFAS 142 require that an intangible asset that is not subject to
amortization, including goodwill, be tested for impairment annually, or more frequently if events
or changes in circumstances indicate that the asset might be impaired. The provisions also require
that a two-step test be performed to assess goodwill for impairment. First, the fair value of each
reporting unit is compared to its carrying value, including goodwill. If the fair value exceeds the
carrying value then goodwill is not impaired and no further testing is performed. If the carrying
value of a reporting unit exceeds its fair value, the second step of the goodwill impairment test
is performed to measure the amount of impairment loss, if any. The second step compares the fair
value of the reporting units goodwill with the carrying amount of the goodwill. An impairment loss
would be recognized in an amount equal to the excess of the carrying amount of goodwill over the
fair value of the goodwill.
The significant estimates and assumptions used by management in assessing the recoverability
of goodwill and other intangible assets are estimated future cash flows, present value discount
rate, and other factors. Any changes in these estimates or assumptions could result in an
impairment charge. The estimates of future cash flows, based on reasonable and supportable
assumptions and projections, require managements subjective judgment.
The Company will amortize intangible assets with finite lives over their respective finite
lives up to their estimated residual values. The Company will evaluate potential impairment of
long-lived assets in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets (SFAS 144). SFAS 144 establishes procedures for review of recoverability and
measurement of impairment, if necessary, of long-lived assets and certain identifiable intangibles.
When facts and circumstances indicate that the carrying values of long-lived assets may be
impaired, an evaluation of recoverability is performed by comparing the carrying value of the
assets to projected future undiscounted cash flows in addition to other quantitative and
qualitative analyses. Upon indication that the carrying value of such assets may not be
recoverable, the Company recognizes an impairment loss by a charge against current operations.
Acquired intangibles and their estimated remaining useful lives include:
|
|
|
|
|
Trade name and trademarks |
|
Indefinite |
Recipes |
|
Indefinite |
Distributor agreements |
|
15 years |
Non-compete agreements |
|
3 years |
Refundable Deposits on Kegs
The Company distributes its draft beer in kegs that are owned by the Company as well as in
kegs that have been leased from third parties. Kegs that are owned by the Company are reflected in
the Companys balance sheets at cost and are depreciated over the estimated useful life of the keg.
When draft beer is shipped to the wholesaler, regardless of whether the keg is owned or leased, the
Company collects a refundable deposit, presented as a current liability refundable deposits in
the Companys balance sheets. Upon return of the keg to the Company, the deposit is refunded to the
wholesaler. When a wholesaler cannot account for some of the Companys kegs for which it is
responsible, the wholesaler pays the Company, for each keg determined to be lost, a fixed fee and
also forfeits the deposit. For the nine months ended September 30, 2008 and 2007, the Company
reduced its brewery equipment by $650,000 and $528,000, respectively, associated with lost keg fees
and forfeited deposits.
Due to the significant volume of kegs handled by each wholesaler and retailer, the homogeneous
nature of kegs owned by most brewers, and the relatively small deposit collected for each keg when
compared to its market value,
11
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
the Company has experienced some loss of kegs and anticipates that some loss will occur in
future periods. The Company believes that this is an industry-wide problem and that the Companys
loss experience is not atypical. In order to estimate forfeited deposits attributable to lost kegs,
the Company periodically uses internal records, records maintained by A-B, records maintained by
other third party vendors, and historical information to estimate the physical count of kegs held
by wholesalers and A-B. These estimates affect the amount recorded as equipment and refundable
deposits as of the date of the financial statements. The actual liability for refundable deposits
could differ from estimates. For the nine months ended September 30, 2008 and 2007, the Company
decreased its refundable deposits and brewery equipment by $62,000 and $306,000, respectively.
Fair value of financial instruments
The recorded value of the Companys financial instruments is considered to approximate the fair
value of the instruments, in all material respects, because the Companys receivables and payables
are recorded at amounts expected to be realized and paid, the Companys derivative financial
instruments are carried at fair value, and the carrying value of the Companys debt obligations
that were assumed in the Merger were adjusted to their respective fair values as of the effective
date of the Merger.
The Company has adopted the provisions of SFAS No. 133, Accounting for Derivative Instruments
and Hedging Activities (SFAS 133), which requires that all derivatives be recognized at fair
value in the balance sheet, and that the corresponding gains or losses be reported either in the
statement of operations or as a component of comprehensive income, depending on whether the
instrument meets the criteria to apply hedge accounting. Derivative financial instruments are
utilized by the Company to reduce interest rate risk. The Company does not hold or issue derivative
financial instruments for trading purposes.
Comprehensive income
The Company accounts for comprehensive income under SFAS No. 130, Reporting Comprehensive
Income, which establishes standards for the reporting and presentation of elements of comprehensive
income, including deferred gains and losses on unrealized derivative hedge transactions.
Revenue recognition
Effective with the Merger, the Company recognizes revenue from product sales, net of excise
taxes, discounts and certain fees the Company must pay in connection with sales to A-B, when the
products are delivered to A-B or the wholesaler. In prior periods, it had recognized revenues from
these activities when the associated products were shipped to the customers as the time between
shipment and delivery is short, product damage claims and returns are insignificant and the volume
of shipments involved was relatively low. The Company assessed the cumulative impact of this change
in accounting policy and determined that the change is not material to the financial statements as
of and for the nine months ended September 30, 2008 or any prior period.
The Company also earns revenue in connection with two operating agreements with Kona an
alternating proprietorship agreement and a distribution agreement. Pursuant to the alternating
proprietorship agreement, Kona produces a portion of its malt beverages at the Companys brewery in
Portland, Oregon. The Company receives a facility fee from Kona based on the barrels brewed and
packaged at the Companys brewery. Fees are recognized as revenue upon completion of the brewing
process and packaging of the product. In connection with the alternating proprietorship agreement,
the Company also sells certain raw materials to Kona for use in brewing. Revenue is recognized when
the raw materials are removed from the Companys stock. Under the distribution agreement, the Company
purchases Kona-branded product from Kona, whether manufactured at Konas Hawaii brewery or the
Companys brewery, then sells and distributes the product. The
Company recognizes revenue when the product is
delivered to A-B or the wholesaler .
The Company recognizes revenue on retail sales at the time of sale. The Company recognizes
revenue from events at the time of the event.
Excise Taxes
The federal government levies excise taxes on the sale of alcoholic beverages, including beer.
For brewers producing less than two million barrels of beer per calendar year, the federal excise
tax is $7 per barrel on the first 60,000 barrels of beer removed for consumption or sale during the
calendar year, and $18 per barrel for each barrel in excess of 60,000 barrels. Individual states
also impose excise taxes on alcoholic beverages in varying amounts. As presented in the Companys
statements of operations, sales reflect the amount invoiced to A-B, wholesalers and other
12
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
customers. Excise taxes due to federal and state agencies are not collected from the Companys
customers, but rather are the responsibility of the Company. Net sales, as presented in the
Companys statements of operations, are reduced by applicable federal and state excise taxes.
Shipping and Handling Costs
Costs incurred to ship the Companys product are included in cost of sales in the Companys
statements of operations.
Income Taxes
The Company records federal and state income taxes in accordance with SFAS No. 109, Accounting
for Income Taxes (SFAS 109). Deferred income taxes or tax benefits reflect the tax effect of
temporary differences between the amounts of assets and liabilities for financial reporting
purposes and amounts as measured for tax purposes as well as for tax net operating loss and credit
carryforwards. These deferred tax assets and liabilities are measured under the provisions of the
currently enacted tax laws. The Company will establish a valuation allowance if it is more likely
than not that these items will either expire before the Company is able to realize their benefits
or that future deductibility is uncertain.
Penalties incurred in connection with tax matters are classified as general and administrative
expenses, and interest assessments incurred in connection with tax matters are classified as
interest expense.
Advertising Expenses
Advertising costs, comprised of radio, print and outdoor advertising, sponsorships and printed
product information, as well as costs to produce these media, are expensed as incurred. For the
nine months ended September 30, 2008 and 2007, advertising expenses totaling $881,000 and $283,000,
respectively, are reflected as selling, general and administrative expenses in the Companys
statements of operations.
The Company incurs costs for the promotion of its products through a variety of advertising
programs with its wholesalers and downstream retailers. These costs are included in selling,
general and administrative expenses and frequently involve the local wholesaler sharing in the cost
of the program. Reimbursements from wholesalers for advertising and promotion activities are
recorded as a reduction to selling, general and administrative expenses in the Companys statements
of operations. Reimbursements for pricing discounts to wholesalers are recorded as a reduction to
sales.
Segment Information
The Company operates in one principal business segment as a manufacturer of beer and ales
across domestic markets. The Company believes that its pub operations and brewery operations,
whether considered individually or in combination, do not constitute a separate segment under SFAS
No. 131, Disclosures about Segments of an Enterprise and Related Information. The Company believes
that its three brewery operations are functionally and financially similar. The Company operates
its three pubs as an extension of its marketing of the Companys products and views their primary
function to be promotion of the Companys products.
Stock-Based Compensation
The Company maintains several stock incentive plans under which non-qualified stock options,
incentive stock options and restricted stock have been granted to employees and non-employee
directors and accounts for these grants consistent with SFAS No. 123R, Share-Based Payment (SFAS
123R), which revises SFAS No. 123 and supersedes APB No. 25. SFAS 123R requires that all
share-based payments to employees and directors be recognized as expense in the statement of
operations based on their fair values and vesting periods. The Company is required to estimate the
fair value of share-based payment awards on the date of grant using an option-pricing model. The
value of the portion of the award that is ultimately expected to vest is recognized as expense over
the requisite service periods in the Companys statement of operations.
Earnings (Loss) per Share
The Company follows SFAS No. 128, Earnings per Share. Basic earnings (loss) per share is
calculated using the weighted average number of shares of common stock outstanding. The calculation
of adjusted weighted average shares outstanding for purposes of computing diluted earnings (loss)
per share includes the dilutive effect of all outstanding stock options for the periods when the
Company reports net income. The calculation uses the treasury stock method and the as if
converted method in determining the resulting incremental average equivalent shares outstanding as
applicable.
13
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
Use of estimates
The preparation of financial statements in conformity with accounting principles generally
accepted in the United States of America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. The Company bases its estimates on historical experience and
on various assumptions that are believed to be reasonable under the circumstances at the time.
Actual results could differ from those estimates under different assumptions or conditions.
4. Inventories
Inventories consist of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Raw materials |
|
$ |
2,981,870 |
|
|
$ |
537,695 |
|
Packaging materials |
|
|
1,765,581 |
|
|
|
487,210 |
|
Work in process |
|
|
1,335,167 |
|
|
|
922,157 |
|
Finished goods, net |
|
|
1,460,812 |
|
|
|
510,461 |
|
Promotional merchandise, net |
|
|
1,005,795 |
|
|
|
469,995 |
|
Pub food, beverages and supplies |
|
|
79,893 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
8,629,118 |
|
|
$ |
2,927,518 |
|
|
|
|
|
|
|
|
Work in process is beer held in fermentation tanks prior to the filtration and packaging
process.
5. Other Current Assets
Other current assets consist of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Deposits paid to keg lessor |
|
$ |
3,230,130 |
|
|
$ |
655,800 |
|
Merger-related costs (see Note 2) |
|
|
|
|
|
|
153,711 |
|
Prepaid employee benefits |
|
|
82,114 |
|
|
|
|
|
Prepaid insurance |
|
|
124,995 |
|
|
|
201,175 |
|
Other |
|
|
265,298 |
|
|
|
32,348 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
3,702,537 |
|
|
$ |
1,043,034 |
|
|
|
|
|
|
|
|
14
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
6. Property, Equipment and Leasehold Improvements
Property, equipment and leasehold improvements consist of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Brewery equipment |
|
$ |
73,536,690 |
|
|
$ |
47,081,696 |
|
Buildings |
|
|
50,922,492 |
|
|
|
35,846,181 |
|
Land and improvements |
|
|
7,572,908 |
|
|
|
4,604,130 |
|
Furniture, fixtures and other equipment |
|
|
4,166,917 |
|
|
|
2,337,551 |
|
Leasehold improvements |
|
|
2,747,801 |
|
|
|
1,879 |
|
Vehicles |
|
|
84,020 |
|
|
|
81,730 |
|
Construction in progress |
|
|
1,093,841 |
|
|
|
314,363 |
|
|
|
|
|
|
|
|
|
|
|
140,124,669 |
|
|
|
90,267,530 |
|
Less accumulated depreciation and amortization |
|
|
37,428,595 |
|
|
|
34,405,233 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
102,696,074 |
|
|
$ |
55,862,297 |
|
|
|
|
|
|
|
|
7. Equity Investments
Equity investments consist of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Fulton Street Brewery, LLC (FSB) |
|
$ |
5,375,499 |
|
|
$ |
|
|
Kona Brewery LLC (Kona) |
|
|
1,225,950 |
|
|
|
|
|
Craft Brands Alliance LLC (Craft Brands) |
|
|
|
|
|
|
415,592 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
6,601,449 |
|
|
$ |
415,592 |
|
|
|
|
|
|
|
|
FSB
For the three and nine months ended September 30, 2008, the Companys share of FSBs net loss
totaled $25,000. As the Company acquired its interest in FSB as a result of the Merger, it did not
have an investment in FSB at December 31, 2007, and the Company did not have a share in the
earnings for the three and nine months ended September 30, 2007. The Company has not received any
cash capital distributions associated with FSB during its ownership period. At September 30, 2008,
the Company has recorded a payable to FSB of $1,178,000 primarily for amounts owing for purchases
of Goose Island-branded product. The Company has recorded a receivable from FSB of $33,000
primarily for marketing fees associated with sales of Goose Island-branded product in the Companys
distribution area.
Kona
For the three and nine months ended September 30, 2008, the Companys share of Konas net
income totaled $26,000. As the Company acquired its interest in Kona as a result of the Merger, it
did not have an investment in
Kona at December 31, 2007, and the Company did not have a share in the earnings for the three
and nine months ended September 30, 2007. The Company has not received any cash capital
distributions associated with Kona during its ownership period. At September 30, 2008, the Company
has recorded a receivable from Kona of $3,624,000 primarily related to amounts owing under the
alternative proprietorship and distribution agreements. The Company has recorded a payable to Kona
of $2,316,000 primarily for amounts owing for purchases of Kona-branded product.
Craft Brands
On July 1, 2004, the Company entered into agreements with Widmer with respect to the operation
of a joint venture sales and marketing entity, Craft Brands. Pursuant to these agreements, and
through June 30, 2008, the Company manufactured and sold its product to Craft Brands at prices
substantially below wholesale pricing levels;
15
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
Craft Brands, in turn, advertised, marketed, sold and distributed the product to wholesale
outlets in the western United States pursuant to a distribution agreement between Craft Brands and
A-B.
In connection with the Merger, Craft Brands was also merged with and into the Company,
effective July 1, 2008. All existing agreements, including all associated future commitments and
obligations, between the Company and Craft Brands and between Craft Brands and Widmer terminated as
a result of the merger of Craft Brands.
The Operating Agreement addressed the allocation of profits and losses of Craft Brands up to
July 1, 2008. During the first six months of 2008 and all of 2007, the Company was allocated 42% of
Craft Brands profits and losses. Net cash flow, if any, was generally distributed monthly to the
Company based upon that percentage. The Company did not receive a distribution in any event where,
had the distribution been made by Craft Brands, the assets of Craft Brands would have been in
excess of its liabilities, adjusted for the liabilities to its members, or in the event that Craft
Brands had been unable to pay its debts as they became due in the ordinary course of business.
As a result of the merger with Craft Brands, the Company adjusted its residual investment in
and wrote off its net receivable from Craft Brands to the total purchase consideration, which
resulted in increases to goodwill of $339,000 and $21,000, respectively. The Company did not record
earnings in equity of Craft Brands or receive a cash distribution from Craft Brands for the three
months ended September 30, 2008. For the three months ended September 30, 2007, the Companys share
of Craft Brands net income and net cash flows totaled $562,000 and $1,185,000, respectively.
During the corresponding period, the Company received a cash distribution equal to its share of the
net cash flows.
For the nine months ended September 30, 2008 and 2007, the Companys share of Craft Brands
net income totaled $1,390,000 and $2,210,000, respectively. During the nine months ended September
30, 2008 and 2007, the Company received cash distributions of $1,467,000 and $2,222,000,
respectively, representing its share of the net cash flow of Craft Brands.
The Company recognized the following sales and shipments of the Companys products to Craft
Brands during the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
Sales to Craft Brands |
|
$ |
|
|
|
$ |
3,579,747 |
|
|
$ |
6,913,596 |
|
|
$ |
10,548,320 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
16
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
8. Intangible and Other Assets
Intangible and other assets consist of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Trademarks and loan fees |
|
$ |
16,702,903 |
|
|
$ |
377,903 |
|
Distributor agreements |
|
|
2,200,000 |
|
|
|
|
|
Recipes |
|
|
700,000 |
|
|
|
|
|
Non-compete agreements |
|
|
100,000 |
|
|
|
|
|
Favorable contracts |
|
|
642,831 |
|
|
|
|
|
Promotional merchandise |
|
|
65,638 |
|
|
|
98,581 |
|
|
|
|
|
|
|
|
|
|
|
20,411,372 |
|
|
|
476,484 |
|
|
|
|
|
|
|
|
|
|
Less accumulated amortization |
|
|
529,501 |
|
|
|
368,995 |
|
|
|
|
|
|
|
|
|
|
$ |
19,881,871 |
|
|
$ |
107,489 |
|
|
|
|
|
|
|
|
Accumulated amortization by class consists of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Trademarks and loan fees |
|
$ |
371,177 |
|
|
$ |
368,995 |
|
Distributor agreements |
|
|
36,706 |
|
|
|
|
|
Non-compete agreements |
|
|
8,326 |
|
|
|
|
|
Favorable contracts |
|
|
113,292 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
529,501 |
|
|
$ |
368,995 |
|
|
|
|
|
|
|
|
Estimated amortization expense to be recorded by class for the remainder of 2008 and the succeeding
five fiscal years are as follows;
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Estimated Amortization Expense to be recorded in succeeding periods |
|
|
|
2008 |
|
|
2009 |
|
|
2010 |
|
|
2011 |
|
|
2012 |
|
|
2013 |
|
Trademarks and loan
fees |
|
$ |
1,143 |
|
|
$ |
4,452 |
|
|
$ |
4,094 |
|
|
$ |
3,978 |
|
|
$ |
3,848 |
|
|
$ |
3,269 |
|
Distributor agreements |
|
|
36,666 |
|
|
|
146,664 |
|
|
|
146,664 |
|
|
|
146,664 |
|
|
|
146,664 |
|
|
|
146,664 |
|
Non-compete agreements |
|
|
8,334 |
|
|
|
33,336 |
|
|
|
33,336 |
|
|
|
16,668 |
|
|
|
|
|
|
|
|
|
Favorable contracts |
|
|
113,301 |
|
|
|
277,998 |
|
|
|
104,334 |
|
|
|
27,504 |
|
|
|
4,992 |
|
|
|
1,410 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
159,444 |
|
|
$ |
462,450 |
|
|
$ |
288,428 |
|
|
$ |
194,814 |
|
|
$ |
155,504 |
|
|
$ |
151,343 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
17
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
9. Debt and Capital Lease Obligations
Long-term debt and capital lease obligations consist of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Term loan payable to bank, due July 1, 2018 |
|
$ |
13,449,895 |
|
|
$ |
|
|
Line of credit payable to bank, due July 1, 2013 |
|
|
8,000,000 |
|
|
|
|
|
Promissory notes payable to individual lenders, all due July 1, 2015 |
|
|
600,000 |
|
|
|
|
|
Premium on promissory notes |
|
|
669,721 |
|
|
|
|
|
Capital lease obligations on equipment |
|
|
6,861,473 |
|
|
|
46,616 |
|
|
|
|
|
|
|
|
|
|
|
29,581,089 |
|
|
|
46,616 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less current portion, term loan |
|
|
346,901 |
|
|
|
|
|
Less current portion, capital leases |
|
|
1,026,915 |
|
|
|
15,498 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less total current portion |
|
|
1,373,816 |
|
|
|
15,498 |
|
|
|
|
|
|
|
|
Long-term portion |
|
$ |
28,207,273 |
|
|
$ |
31,118 |
|
|
|
|
|
|
|
|
As a result of the Merger, the Company assumed borrowings under Widmers outstanding credit
arrangement; however, the Company refinanced these amounts by concurrently entering into a new loan
agreement (the Loan Agreement) with Bank of America, N.A. (BofA). The Loan Agreement is
comprised of a $15.0 million revolving line of credit (Line of Credit), including provisions for
cash borrowings and up to $2.5 million notional amount of letters of credit, and a $13.5 million
term loan (Term Loan). The Company may draw upon the Line of Credit for working capital and
general corporate purposes. The Line of Credit matures on January 1, 2013 at which time the
outstanding principal balance and any accrued but unpaid interest will be due. At September 30,
2008, the Company had $8.0 million outstanding under the Line of Credit with $7.0 million of
availability for further cash borrowing.
At September 30, 2008, the Company was not in compliance with the covenants for the Loan
Agreement as it was unable to meet either of the two required financial covenants, the funded debt
to bank EBITDA ratio or the fixed charge coverage ratio, for the trailing twelve months ended
September 30, 2008. Bank EBITDA is defined as earnings before
interest, taxes, depreciation, amortization and certain other
adjustments as defined in the Loan Agreement. The Company and BofA executed a modification to the loan agreement effective
November 14, 2008 (Modification Agreement) that permanently waives the noncompliance as an
event of default at September 30, 2008. The Modification Agreement also subjects the Company to
certain terms and conditions different than under the original Loan Agreement. Those terms and
conditions as modified are summarized below.
Under the Modification Agreement, the Company may select from one of the following two
interest rate benchmarks as the basis for calculating interest on the outstanding principal balance
of the Line of Credit: the London Inter-Bank Offered Rate (LIBOR) or the Inter-Bank Offered Rate
(IBOR) (each, a Benchmark Rate). Interest accrues at an annual rate equal to the Benchmark Rate
plus a marginal rate. The Company may select different Benchmark Rates for different tranches of
its borrowings under the Line of Credit. The marginal rate is fixed at 3.50% until September 30,
2009 at which time it will vary from 1.75% to 3.50% based on the ratio of the Companys funded debt
to EBITDA, as defined. LIBOR rates may be selected for one, two, three, or six month periods, and
IBOR rates may be selected for no shorter than 14 days and no longer than six months. Under the
Modification Agreement, the Company may not draw upon the Line of Credit in increments of less than $1
million. Accrued interest for the Line of Credit is due and payable monthly. At September 30,
2008, the weighted-average interest rate for the borrowings outstanding under the Line of Credit
was 4.36%; however, as a result of the Modification Agreement, this rate is expected to increase
during the fourth quarter of 2008.
An annual fee will be payable in advance on the notional amount of each standby letter of
credit issued and outstanding multiplied by an applicable rate ranging from 1.125% to 1.500%.
Interest on the Term Loan will accrue on the outstanding principal balance in the same manner
as provided for under the Line of Credit, as established under the
LIBOR one-month Benchmark Rate.
The interest rate on the Term Loan was 4.22% as of September 30, 2008, but as a result of the
Modification Agreement, is expected to increase
18
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
during the fourth quarter of 2008. Accrued interest
for the Term Loan is due and payable monthly. At September 30, 2008, principal payments are due
monthly in accordance with an agreed-upon schedule set forth in the Loan Agreement. Any unpaid
principal balance and unpaid accrued interest will be due on July 1, 2018.
Under the Modification Agreement, a quarterly fee on the unused portion of the Line of
Credit, including the undrawn amount of the Standby Letter of Credit, will accrue at a rate of
0.50% payable quarterly. A loan fee associated with the Term Loan for $25,000 was paid during the
three months ended September 30, 2008, and a loan fee associated with the Modification Agreement
for $30,000 will be due in November 2008.
The Loan Agreement is secured by substantially all of the Companys personal property and by
the real properties located at 924 North Russell Street, Portland, Oregon and 14300 NE
145th Street, Woodinville, Washington (Collateral), which house the Oregon Brewery and
the Washington brewery, respectively.
The Modification Agreement also revised the types of financial covenants that the Company is
required to meet for each quarter through June 30, 2009. Beginning with the quarter ending
September 30, 2009 and all quarters thereafter, the Company will be required to meet the financial
covenant ratios established pursuant to the Loan Agreement, but at
levels specified by the Modification Agreement.
The following table summarizes the financial covenant ratios required pursuant to the
Modification Agreement:
Financial Covenants Required by Modification Agreement
|
|
|
|
|
Minimum EBITDA, as defined |
|
|
|
|
For the quarter ending December 31, 2008 |
|
$ |
875,000 |
|
For the quarter ending March 31, 2009 |
|
$ |
850,000 |
|
For the quarter ending June 30, 2009 |
|
$ |
2,300,000 |
|
For the quarter ending September 30,
2009 and thereafter |
|
Does not apply |
|
|
|
|
|
Asset Coverage Ratio |
|
|
|
|
For the quarter ending December 31, 2008
and thereafter |
|
|
1.50 to 1 |
|
|
|
|
|
|
Capital Expenditures |
|
|
|
|
To spend or incur
obligations less
than the following: |
|
|
|
|
For the quarter ending December 31, 2008 |
|
$ |
2,250,000 |
|
For the quarter ending March 31, 2009 (1) |
|
$ |
1,350,000 |
|
For the quarter ending June 30, 2009 (1) |
|
$ |
550,000 |
|
For the quarter ending September 30,
2009 and thereafter |
|
Does not apply |
|
|
|
(1) |
- |
Provides for carryover spending of any amount not used in the prior
quarter |
EBITDA as defined in the Modification Agreement is similar to Bank
EBITDA but includes certain adjustments specific to the Modification Agreement.
In addition, the Company is restricted in its ability to declare or pay dividends, repurchase
any outstanding common stock, acquire additional debt or enter into any agreement that would result
in a change in control of the Company. Effective September 30, 2009, the Company will be required
to meet the financial covenant ratios of funded debt to EBITDA, as defined, and fixed charge
coverage in the manner established pursuant to the original Loan Agreement, but at levels specified
by the Modification Agreement.
If
the Company is unable to generate sufficient EBITDA to meet the associated
covenant, this would result in a violation. Failure to meet the covenants is an
event of default and, at its option, BofA could deny a request for another waiver and declare the
entire outstanding loan balance immediately due and payable. In such a case, the Company would seek
to refinance the loan with one or more lenders, potentially at less desirable terms.
However, there can be no guarantee that additional financing would be available at commercially
reasonable terms, if at all.
As a result of the Merger, the Company assumed Widmers promissory notes signed in connection
with the acquisition of commercial real estate related to the Portland, Oregon brewery. These notes
were separately executed
19
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
by Widmer with three individuals, but under substantially the same terms
and conditions. Each promissory note is secured by a deed of trust on the commercial real estate.
The outstanding note balance to each lender as of September 30, 2008 was $200,000, with each note
bearing a fixed interest rate of 24% per annum, subject to a one-time adjustment on July 1, 2010 to
reflect the change in the consumer price index from the date of issue, July 1, 2005, to the date of
adjustment. The promissory notes are carried at the total of stated value plus a premium reflecting
the difference between the Companys incremental borrowing rate and the stated note rate. The
effective interest rate for each note is 6.31%. Each note matures on the earlier of the individual
lenders death or July 1, 2015, but in no event prior to July 1, 2010, with prepayment of principal
not allowed under the notes terms. Interest payments are due and payable monthly.
As a result of the Merger, the Company assumed Widmers capital equipment lease obligation to
BofA, which is secured by substantially all of the brewery equipment and restaurant furniture and
fixtures located in Portland, Oregon. The outstanding balance for the capital lease as of September
30, 2008 was $6,826,000, with monthly loan payments of $119,020 required through the maturity date
of June 30, 2014. The capital lease carries an effective interest rate of 6.56%. The capital lease
is subject to a prepayment penalty of the product of a specified percentage and the amount prepaid.
This specified percentage began at 4% and, except in the event of acceleration due to an event of
default, ratably declines 1% for every year the lease is outstanding until July 31, 2011, at which
time the capital lease is not subject to a prepayment penalty. The specified percentage is 3% as of
September 30, 2008. In the event of acceleration due to an event of default, the prepayment penalty
is restored to 4%.
The remainder of the capital lease obligations consists of agreements executed by the Company
in prior years for the use of small production equipment and machinery.
On February 15, 2008, the Company had entered into a credit arrangement with Bank of America,
N.A. pursuant to which a $5 million revolving line of credit was provided. Effective June 30, 2008,
the Company terminated this revolving line without drawing upon the line of credit at any time.
For the Companys outstanding debt obligations as of September 30, 2008, required principal
payments for the remainder of 2008 and the next five fiscal years after that are as follows;
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Required Principal Payments |
|
|
Line of |
|
Term |
|
Capital Lease |
|
|
|
|
Credit |
|
Loan |
|
Obligations |
|
Total |
Succeeding periods: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
$ |
|
|
|
$ |
103,202 |
|
|
$ |
249,155 |
|
|
$ |
352,357 |
|
2009 |
|
|
|
|
|
|
350,722 |
|
|
|
1,038,171 |
|
|
|
1,388,893 |
|
2010 |
|
|
|
|
|
|
373,904 |
|
|
|
1,101,845 |
|
|
|
1,475,749 |
|
2011 |
|
|
|
|
|
|
396,475 |
|
|
|
1,168,039 |
|
|
|
1,564,514 |
|
2012 |
|
|
|
|
|
|
420,761 |
|
|
|
1,243,144 |
|
|
|
1,663,905 |
|
2013 |
|
|
8,000,000 |
|
|
|
451,179 |
|
|
|
1,327,165 |
|
|
|
9,778,344 |
|
10. Derivative Financial Instruments
In connection with the Loan Agreement, the Company entered into a five-year interest rate swap
agreement with a total notional value of $10.1 million to hedge the variability of interest
payments associated with its variable-rate borrowings under the Term Loan. Through this swap
agreement, the Company pays interest at a fixed rate of 4.48% and receives interest at a
floating-rate of the one-month LIBOR. Since the interest rate swap hedges the variability of
interest payments on variable rate debt with similar terms, it qualifies for cash flow hedge
accounting treatment under SFAS 133. As of September 30, 2008, unrealized net losses of $261,000
were recorded in accumulated other
comprehensive loss as a result of this hedge. There was no hedge ineffectiveness for the three
or nine months ended September 30, 2008.
This interest rate swap reduces the Companys overall interest rate risk. However, due to the
remaining outstanding borrowings on the Companys Term Loan and other borrowing facilities that
continue to have variable
20
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
interest rates, management believes that interest rate risk to the
Company could be material if there are significant adverse changes in interest rates.
As a result of the Merger, the Company assumed Widmers contract with BofA for a $7.0 million
notional interest rate swap agreement. On the effective date of the Merger, the Company entered
into with BofA an equal and offsetting interest rate swap contract. Neither swap contract qualifies
for hedge accounting under SFAS 133. The assumed contract requires the Company to pay interest at a
fixed rate of 4.60% and receive interest at a floating rate of the one-month LIBOR, while the
offsetting contract requires the Company to pay interest at a floating rate of the one-month LIBOR
and receive interest at a fixed rate of 3.47%. Both contracts expire on November 1, 2010. The
Company recorded a net gain on the contracts of $18,000 for the three and nine months ended
September 30, 2008, which was recorded to other income. The Company did not have any similar
contracts outstanding during 2007, therefore there were no amounts recorded to earnings for the
three and nine months ended September 30, 2007.
All swap obligations with BofA are secured by the Collateral under the Loan Agreement.
Fair Value Measurements
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (SFAS 157). SFAS
157 defines fair value, establishes a framework for measuring fair value in accordance with GAAP,
and enhances disclosures about fair value measurements required under other accounting
pronouncements, but does not change existing guidance as to whether or not an instrument is carried
at fair value. SFAS 157 applies whenever other standards require or permit assets or liabilities to
be measured at fair value. SFAS 157 is effective for fiscal years beginning after November 15,
2007, and interim periods within those fiscal years. Early adoption of SFAS 157 was permitted. On
February 2, 2008, the FASB issued FASB Staff Position No. FAS 157-2, Effective Date of FASB
Statement No. 157 (FSP 157-2). FSP 157-2 deferred the effective date of SFAS 157 for nonfinancial
assets and nonfinancial liabilities, except for items that are recognized or disclosed at fair
value in the financial statements on a recurring basis or when an entity had previously adopted
SFAS 157, which the Company had. The Companys adoption of SFAS 157 as of December 31, 2006 did not
have a material impact on the Companys results of operations or financial condition.
SFAS 157 clarifies that fair value is an exit price, representing the amount that would be
received to sell an asset or paid to transfer a liability in an orderly transaction between market
participants. As such, fair value is a market-based measurement that should be determined based
upon assumptions that market participants would use in pricing an asset or liability. As a basis
for considering such assumptions, SFAS 157 establishes a three-tier fair value hierarchy, which
prioritizes the inputs used in measuring fair value as follows:
|
|
|
|
|
|
|
Level 1:
|
|
Observable inputs (unadjusted) in active markets for identical assets and
liabilities; |
|
|
|
|
|
|
|
Level 2:
|
|
Inputs other than quoted prices included within Level 1 that are either directly or
indirectly observable for the asset or liability, including quoted prices for similar
assets or liabilities in active markets, quoted prices for identical or similar assets or
liabilities in inactive markets and inputs other than quoted prices that are observable for
the asset or liability; |
|
|
|
|
|
|
|
Level 3:
|
|
Unobservable inputs for the asset or liability, including situations where there is
little, if any, market activity or data for the asset or liability. |
The Company has assessed its financial instruments that are measured and recorded at fair
value, its derivative financial instruments, within the above hierarchy and that assessment is as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Hierarchy Assessment |
|
|
Level 1 |
|
Level 2 |
|
Level 3 |
|
Total |
Derivative financial instruments
interest rate swaps |
|
$ |
|
|
|
$ |
448,384 |
|
|
$ |
|
|
|
$ |
448,384 |
|
21
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
11. Common Stockholders Equity
Issuance of Common Stock
In conjunction with the exercise of stock options granted under the Companys stock option
plans, the Company issued 227,750 shares of common stock and received proceeds on exercise totaling
$475,000 during the nine months ended September 30, 2008. During the nine months ended September
30, 2007, the Company issued 48,550 shares of common stock and received proceeds on exercise
totaling $157,000. See Stock-Based Compensation Expense for a discussion of the impact on the
Companys statement of operations.
On June 24, 2008, the board of directors approved, under the 2007 Stock Incentive Plan (the
2007 Plan), a grant of 1,140 shares of fully-vested common stock to each independent,
non-employee director. In conjunction with these stock grants, the Company issued 4,560 shares of
common stock. See Stock-Based Compensation Expense for a discussion of the impact on the
Companys statement of operations.
On May 22, 2007, the board of directors approved a grant of 2,300 shares of fully-vested
common stock to each independent, non-employee director, 10,000 shares of fully-vested common stock
to former Chief Executive Officer Paul Shipman, and 5,000 shares of fully-vested common stock to
then President David Mickelson under the 2007 Plan. In conjunction with these stock grants, the
Company issued 24,200 shares of common stock.
On July 1, 2008, the Company issued 8,361,514 common shares to the then shareholders of Widmer
in exchange for cancellation of the Widmer shares. See Note 2 for further discussion.
Stock Plans
The Company maintains several stock incentive plans under which non-qualified stock options,
incentive stock options and restricted stock are granted to employees and non-employee directors.
The Company issues new shares of common stock upon exercise of stock options. Under the terms of
the Companys incentive stock option plans, employees and directors may be granted options to
purchase the Companys common stock at the market price on the date the option is granted. Under
these stock option plans, stock options granted at less than the fair market value on the date of
grant are deemed to be non-qualified stock options rather than incentive stock options.
The Company maintains the 1992 Stock Incentive Plan, as amended (the 1992 Plan) and the
Amended and Restated Directors Stock Option Plan (the Directors Plan) under which non-qualified
stock options and incentive stock options were granted to employees and non-employee directors
through October 2002. Employee options were generally designated to vest over a five-year period
while director options became exercisable nine months after the grant date. Vested options are
generally exercisable for ten years from the date of grant. Although the 1992 Plan and the
Directors Plan both expired in October 2002, preventing further option grants, the provisions of
these plans remain in effect until all options terminate or are exercised.
The Companys shareholders approved the 2002 Stock Option Plan (the 2002 Plan) in May 2002.
The 2002 Plan provides for granting of non-qualified stock options and incentive stock options to
employees, non-employee directors and independent consultants or advisors. The compensation
committee of the board of directors administers the 2002 Plan, determining to whom options are to
be granted, the number of shares of common stock for which the options are exercisable, the
purchase prices of such shares, and all other terms and conditions. Options granted to employees of
the Company in 2002 under the 2002 Plan were designated to vest over a five-year period, and
options granted to the Companys directors in each year from 2002 through 2005 under the 2002 Plan
became exercisable six months after the grant date. Options were granted at an exercise price equal
to fair market value of the underlying common stock on the grant date and terminate on the tenth
anniversary of the grant date. Options granted in 2006 under the 2002 Plan were granted to the
Companys directors (excluding the A-B designated directors) at an exercise price less than the
fair market value of the underlying common stock on the grant date. These options were immediately
exercisable and each grantee exercised his option to purchase this common stock on the same day as
the grant. The maximum number of shares of common stock for which options may be granted during the
term of the 2002 Plan is 346,000. As of September 30, 2008, 100,259 options were available for
future grant under the 2002 Plan.
The 2007 Plan was adopted by the board of directors and approved by the shareholders in May
2007. The 2007 Plan provides for stock options, restricted stock, restricted stock units,
performance awards and stock appreciation rights. While incentive stock options may only be granted
to employees, awards other than incentive stock options may be granted to employees and directors.
The 2007 Plan is administered by the compensation committee of the
22
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
board of directors. A maximum of
100,000 shares of common stock are authorized for issuance under the 2007 Plan. As of September 30,
2008, 71,240 shares of common stock are available for future issuance under the 2007 Plan.
Stock-Based Compensation Expense
As discussed above, the Company granted 4,560 shares and 9,200 shares of fully-vested common
stock to its independent, non-employee directors during the second quarters of 2008 and 2007,
respectively, and 15,000 shares of fully-vested Common stock to certain of its executive officers
during the second quarter of 2007. The Company recognized stock-based compensation of $20,000 and
$169,000 in its statement of operations during the nine months ended September 30, 2008 and 2007,
respectively. The Company did not recognize any stock-based compensation expense for the three
months ended September 30, 2008 and 2007. See Issuance of Common Stock for further details.
There was no unrecognized stock-based compensation expense related to unvested stock options
during the three and nine months ended September 30, 2008 and 2007.
Stock Option Plan Activity
Presented below is a summary of the Companys stock option plan activity for the nine months
ended September 30, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
Weighted |
|
|
|
|
|
|
|
|
Average |
|
Average |
|
|
|
|
Shares |
|
Exercise |
|
Remaining |
|
|
|
|
Subject to |
|
Price per |
|
Contractual |
|
Aggregate |
|
|
Options |
|
Share |
|
Life (Yrs) |
|
Intrinsic Value |
Outstanding at January 1, 2008 |
|
|
689,140 |
|
|
$ |
2.57 |
|
|
|
3.33 |
|
|
$ |
2,809,485 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercised |
|
|
(227,750 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Canceled |
|
|
(30,600 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at September 30, 2008 |
|
|
430,790 |
|
|
$ |
2.61 |
|
|
|
2.62 |
|
|
$ |
484,035 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at September 30, 2008 |
|
|
430,790 |
|
|
$ |
2.61 |
|
|
|
2.62 |
|
|
$ |
484,035 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The aggregate intrinsic value of the outstanding stock options is calculated as the difference
between the stock closing price as reported by NASDAQ on the last day of the period and the
exercise price of the shares. The applicable stock closing prices as of September 30, 2008 and
January 1, 2008 were $3.63 and $6.65, respectively. The total intrinsic value of stock options
exercised during the nine months ended September 30, 2008 and 2007 was approximately $380,000 and
$168,000, respectively. No stock options vested during the nine months ended September 30, 2008 and
2007.
The following table summarizes information for options currently outstanding and exercisable
at September 30, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average |
|
Weighted |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number |
|
Remaining |
|
Average |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding |
|
Contractual Life |
|
Exercise |
Range of Exercise Prices |
|
|
|
& Exercisable |
|
(Yrs) |
|
Price |
$ |
1.485 |
|
|
to |
|
$ |
1.865 |
|
|
|
|
|
177,540 |
|
|
|
2.81 |
|
|
$ |
1.855 |
|
$ |
1.866 |
|
|
to |
|
$ |
3.150 |
|
|
|
|
|
121,800 |
|
|
|
4.47 |
|
|
$ |
2.243 |
|
$ |
3.151 |
|
|
to |
|
$ |
3.969 |
|
|
|
|
|
131,450 |
|
|
|
0.64 |
|
|
$ |
3.969 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
1.485 |
|
|
to |
|
$ |
3.969 |
|
|
|
|
|
430,790 |
|
|
|
2.62 |
|
|
$ |
2.610 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
23
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
12. Earnings (Loss) per Share
The following table sets forth the computation of basic and diluted earnings (loss) per common
share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
Numerator for basic and diluted net loss per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(1,248,416 |
) |
|
$ |
(288,568 |
) |
|
$ |
(3,176,633 |
) |
|
$ |
(80,044 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator for basic net loss per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding |
|
|
16,851,627 |
|
|
|
8,349,976 |
|
|
|
11,220,233 |
|
|
|
8,323,764 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted net loss per share |
|
$ |
(0.07 |
) |
|
$ |
(0.03 |
) |
|
$ |
(0.28 |
) |
|
$ |
(0.01 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Certain Company stock options were not included in the computation of diluted earnings per
share because the options exercise prices were greater than the average market price of the common
shares, or the impact of their inclusion would be antidilutive. Such stock options, with prices
ranging from $1.46 to $3.97 per share at September 30, 2008 and from $1.46 to $5.73 per share at
September 30, 2007, averaged 617,000 and 729,000 for the nine months ended September 30, 2008 and
2007, respectively.
13. Comprehensive Loss
The following table sets forth the Companys comprehensive loss for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September |
|
|
Nine Months Ended September 30, |
|
|
|
30, |
|
|
30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
Net loss |
|
$ |
(1,248,416 |
) |
|
$ |
(288,568 |
) |
|
$ |
(3,176,633 |
) |
|
$ |
(80,044 |
) |
Other comprehensive loss: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized losses
on derivative
financial
instruments |
|
|
(260,891 |
) |
|
|
|
|
|
|
(260,891 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive loss |
|
$ |
(1,509,307 |
) |
|
$ |
(288,568 |
) |
|
$ |
(3,437,524 |
) |
|
$ |
(80,044 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
24
CRAFT BREWERS ALLIANCE, INC.
NOTES TO FINANCIAL STATEMENTS (continued)
(Unaudited)
14. Income Taxes
Significant components of the Companys deferred tax liabilities are as follows:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Deferred tax liabilities: |
|
|
|
|
|
|
|
|
Fixed assets: tax-over-book
depreciation |
|
$ |
11,245,655 |
|
|
$ |
9,058,807 |
|
Intangible assets |
|
|
7,258,435 |
|
|
|
|
|
Other |
|
|
645,341 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
19,149,431 |
|
|
|
9,058,807 |
|
Deferred tax assets: |
|
|
|
|
|
|
|
|
NOL and AMT credit carryforwards |
|
|
9,836,477 |
|
|
|
8,781,504 |
|
Other |
|
|
838,251 |
|
|
|
518,558 |
|
Valuation allowance |
|
|
|
|
|
|
(1,059,322 |
) |
|
|
|
|
|
|
|
|
|
|
10,674,728 |
|
|
|
8,240,740 |
|
|
|
|
|
|
|
|
Net deferred tax liability |
|
$ |
8,474,703 |
|
|
$ |
818,067 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As Presented on the Balance Sheet: |
|
|
|
|
|
|
|
|
Long-term deferred income tax liability, net |
|
$ |
9,960,416 |
|
|
$ |
1,762,428 |
|
Current deferred income tax asset, net |
|
|
1,485,713 |
|
|
|
944,361 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net deferred tax liability |
|
$ |
8,474,703 |
|
|
$ |
818,067 |
|
|
|
|
|
|
|
|
At December 31, 2007, the Companys balance sheet includes a valuation allowance of $1,059,000
to cover certain federal and state NOLs. In connection with the Merger, the Company determined that
the valuation allowance was no longer required and recorded the release against goodwill. The
Company believes that future taxable income will fully utilize the federal and state net operating
loss carryforwards (NOLs) before they expire. Among other factors, the Company considered future
taxable income generated by projected differences between book depreciation and tax depreciation,
including the depreciation on the assets acquired in the Merger.
As of September 30, 2008, the Companys deferred tax assets were primarily comprised of
federal net operating loss carryforwards (NOLs) of
$27.6 million, or $9.4 million tax-effected;
federal and state alternative minimum tax credit carryforwards of $183,000 tax-effected; and state
NOL carryforwards of $264,000 tax-effected. In assessing the realizability of the deferred tax
assets, the Company considered both positive and negative evidence when measuring the need for a
valuation allowance. The ultimate realization of deferred tax assets is dependent upon the
existence of, or generation of, taxable income during the periods in which those temporary
differences become deductible. The Company considered the scheduled reversal of deferred tax
liabilities, projected future taxable income and other factors in making this assessment. The
Companys estimates of future taxable income take into consideration, among other items, estimates
of future taxable income related to depreciation. Based upon the available evidence, the Company
believes that the deferred tax assets will be realized. To the extent that the Company continues to
be unable to generate adequate taxable income in future periods, the Company will not be able to
recognize additional tax benefits and may be required to record a valuation allowance covering
potentially expiring NOLs.
There were no unrecognized tax benefits as of September 30, 2008 or December 31, 2007. The
Company does not anticipate significant changes to its unrecognized tax benefits within the next
twelve months.
25
ITEM 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
This quarterly report on Form 10-Q includes forward-looking statements. Generally, the words
believe, expect, intend, estimate, anticipate, project, will and similar expressions
or their negatives identify forward-looking statements, which generally are not historical in
nature. These statements are based upon assumptions and projections that Craft Brewers Alliance,
Inc. (formerly Redhook Ale Brewery, Incorporated) (the Company) believes are reasonable, but are
by their nature inherently uncertain. Many possible events or factors could affect the Companys
future financial results and performance, and could cause actual results or performance to differ
materially from those expressed, including those risks and uncertainties described in Part I, Item
1A. Risk Factors in the Companys Annual Report on Form 10-K, as amended, for the year ended
December 31, 2007, and those described from time to time in the Companys future reports filed with
the Securities and Exchange Commission. Caution should be taken not to place undue reliance on
these forward-looking statements, which speak only as of the date of this quarterly report.
The following discussion and analysis should be read in conjunction with the Financial
Statements and Notes thereto of the Company included herein, as well as the audited Financial
Statements and Notes and Managements Discussion and Analysis of Financial Condition and Results of
Operations contained in the Companys Annual Report on Form 10-K, as amended, for the fiscal year
ended December 31, 2007. The discussion and analysis includes period-to-period comparisons of the
Companys financial results. Although period-to-period comparisons may be helpful in understanding
the Companys financial results, the Company believes that they should not be relied upon as an
accurate indicator of future performance. In addition, as discussed in more detail below, the
comparability of periods is significantly affected by the July 1, 2008 merger of Widmer Brothers
Brewing Company with and into the Company.
Merger with Widmer Brothers Brewing Company
On November 13, 2007, the Company entered into an Agreement and Plan of Merger with Widmer
Brothers Brewing Company, an Oregon corporation (Widmer). On July 1, 2008, the merger of Widmer
with and into the Company was completed (the Merger). In connection with the Merger, the name of
the Company was changed from Redhook Ale Brewery, Incorporated to Craft Brewers Alliance, Inc. The
common stock of the Company continues to trade on the Nasdaq Stock Market under the trading symbol
HOOK.
In
seeking to merge with Widmer, the Company believes that the combined entity will be able to
secure efficiencies, beyond those that had already been achieved by its existing relationships
with Widmer, utilizing the two companies breweries and a national sales force, as well as by
reducing duplicate functions. Utilizing the combined breweries offers a greater opportunity to
rationalize production capacity in line with product demand. The national sales force of the
combined entity will support further promotion of the products of Widmers partners, Kona Brewery
LLC (Kona), which brews Kona malt beverage products, and Fulton Street Brewery, LLC (FSB),
which brews Goose Island malt beverage products. The Company also expects that the combined entity
may have greater access to capital markets driven by its increased size and expected growth rates.
Overview
Since its formation, the Company has focused its business activities on the brewing, marketing
and selling of craft beers in the United States. The Company reported gross sales and a net loss of
$55,937,000 and $3,177,000, respectively, for the nine months ended September 30, 2008, compared to
gross sales and a net loss of $35,384,000 and $80,000, respectively, for the same period in 2007.
The Companys sales volume (shipments) totaled 292,400 barrels in the first nine months of 2008 as
compared to 241,100 barrels in the first nine months of 2007. However, comparability of the
Companys 2008 third quarter and nine-month results relative to the results for the same 2007
periods is significantly impacted by the July 1, 2008 Merger.
Since July 1, 2008, the Company has produced its specialty bottled and draft Redhook-branded
and Widmer-branded products in its three Company-owned breweries, one in the Seattle suburb of
Woodinville, Washington (the Washington Brewery), another in Portsmouth, New Hampshire (the New
Hampshire Brewery), and a third in Portland, Oregon (the Oregon Brewery). The Company sells
these products predominantly to Anheuser-Busch, Incorporated (A-B) and its network of wholesalers
pursuant to the July 1, 2004 Master Distributor Agreement (the A-B Distribution Agreement), as
amended. These products are available in 48 states.
26
In addition to the sale of Redhook-branded and Widmer-branded beer, the Company also earns
revenue in connection with two operating agreements with Kona an alternating proprietorship
agreement and a distribution agreement. Pursuant to the alternating proprietorship agreement, Kona
produces a portion of its malt beverages at the Oregon Brewery. Kona purchases raw materials from
the Company prior to production beginning and pays a facility leasing fee based on the barrels
brewed and packaged at the Companys brewery. All sales and fees are reflected as revenue in the
Companys statements of operations. Under the distribution agreement, the Company purchases and
distributes product manufactured by Kona and then markets, sells and distributes the Kona-branded
products pursuant to the A-B Distribution Agreement. As Konas distributor, the Company also
markets, sells and distributes any Kona-branded products manufactured at the Companys Oregon
Brewery.
The Company also derives other revenues from sources including the sale of retail beer, food,
apparel and other retail items in its three brewery pubs.
In conjunction with the Merger, the Company acquired from Widmer a 20% equity ownership in
Kona and a 42% equity ownership in FSB, brewer of Goose Island-branded products. Both investments
are accounted for under the equity method, as outlined by Accounting Principle Board Opinion
(APB) No. 18, The Equity Method of Accounting for Investments in Common Stock (APB 18).
From July 1, 2004 through June 30, 2008, the Company produced its specialty bottled and draft
Redhook-branded products in its two Company-owned breweries, the Washington Brewery and the New
Hampshire Brewery. The Company distributed these products in the midwest and eastern U.S. pursuant
to the July 1, 2004 A-B Distribution Agreement and in the western U.S. through Craft Brands
Alliance LLC (Craft Brands). In addition to the sale of Redhook-branded beer, the Company also
brewed, marketed and sold Widmer Hefeweizen in the midwest and eastern U.S. in conjunction with a
2003 licensing agreement with Widmer and brewed Widmer-branded products for Widmer in connection
with contract brewing arrangements. The Company derived other revenues from sources including the
sale of retail beer, food, apparel and other retail items in its two brewery pubs.
Craft Brands was a joint venture sales and marketing entity formed by the Company and Widmer
in July 2004. The Company and Widmer manufactured and sold their product to Craft Brands at a price
substantially below wholesale pricing levels; Craft Brands, in turn, advertised, marketed, sold and
distributed the product to wholesale outlets in the western United States through a distribution
agreement between Craft Brands and A-B. (Due to state liquor regulations, the Company sold its
product in Washington state directly to third-party beer distributors and returned a portion of the
revenue to Craft Brands based upon a contractually determined formula.) Profits and losses of Craft
Brands were generally shared between the Company and Widmer based on the cash flow percentages of
42% and 58%, respectively. In connection with the Merger, Craft Brands was merged with and into the
Company, effective July 1, 2008. All existing agreements between the Company and Craft Brands and
between Craft Brands and Widmer terminated as a result of the merger of Craft Brands with and into
the Company.
For additional information regarding Craft Brands and the A-B Distribution Agreement, see Part
1, Item 1, Business Product Distribution, Relationship with Anheuser-Busch, Incorporated
and Relationship with Craft Brands Alliance LLC of the Companys Annual Report on Form 10-K, as
amended, for the fiscal year ended December 31, 2007.
The Companys sales are affected by several factors, including consumer demand, price
discounting and competitive considerations. The Company competes in the highly competitive craft
brewing market as well as in the much larger beer, wine, spirits and flavored alcohol markets,
which encompass producers of import beers, major national brewers that produce fuller-flavored
products, large spirit companies, and national brewers that produce flavored alcohol beverages. The
craft beer segment is highly competitive due to the proliferation of small craft brewers, including
contract brewers, and the large number of products offered by such brewers. Certain national
domestic brewers have also sought to appeal to this growing demand for craft beers by producing
their own fuller-flavored products. The wine and spirits market has also experienced significant
growth in the past several years, attributable to competitive pricing, increased merchandising, and
increased consumer interest in wine and spirits. In recent years, the specialty segment has seen
the introduction of flavored alcohol beverages, the consumers of which, industry sources generally
believe, correlate closely with the consumers of the import and craft beer products. Sales of these
flavored alcohol beverages were initially very strong, but growth rates have slowed in recent
years. While there appear to be fewer participants in the flavored alcohol category than at its
peak, there is still significant volume associated with these beverages. Because the number of
participants and number of different products offered in this segment have increased significantly
in the past ten years, the competition for bottled and draft product placements has intensified.
27
Sales in the craft beer industry generally reflect a degree of seasonality, with the first and
fourth quarters historically being the slowest and the rest of the year typically demonstrating
stronger sales. The Company has historically operated with little or no backlog, and its ability to
predict sales for future periods is limited.
The Company is required to pay federal excise taxes on the sale of beer. As a brewer of less
than two million barrels annually, the Company is eligible for a small brewers federal excise tax
exemption, which provides that the Company pay federal excise taxes at a reduced rate of $7 per
barrel, rather than the full rate of $18 per barrel, on the first 60,000 barrels sold each year.
Accordingly, as annual shipments increase, federal excise taxes will increase as a percentage of
net sales.
Management monitors the working capacity and maximum designed capacity of each brewery in
connection with production and resource planning. Because an industry standard for defining brewery
capacity does not exist, there are numerous variables that can be considered in arriving at an
estimate of working capacity and maximum designed capacity. Following the Merger, management
reviewed each facility, scrutinized the factors important to the Company in arriving at a practical
definition of capacity, and recomputed the working capacity and maximum designed capacity of each
brewery. Among the factors that management considered in estimating working capacity and maximum
designed capacity are:
|
|
|
Brewhouse capacity, fermentation capacity, and packaging capacity; |
|
|
|
|
A normal production year; |
|
|
|
|
The product mix and product cycle times; and |
|
|
|
|
Brewing losses and packaging losses. |
Because the conditions under which each brewery operates (such as age of equipment, local
environment, product mix) are slightly different, the impact that these factors have on the
estimate of capacity also vary by brewery. For example, while the New Hampshire Brewery and the
Oregon Brewery are constrained by the volume of beer that each can ferment (each brewery can brew
more beer than it can ferment), the Washington Brewery is constrained by the size of its brewhouse
(the brewery has adequate capacity to ferment all product that is brewed).
Management did not consider the impact that seasonality clearly has on the capacity
calculation. Rather, management assumed that each brewery produces beer at 100% of working capacity
throughout a 50 week year. But because seasonality is a notable factor affecting the Companys
sales, the Company expects that the breweries capacity will be more efficiently utilized during
periods when the Companys sales are strongest and there likely will be periods where the
breweries capacity utilization will be lower.
Management estimates that the working capacity and maximum designed capacity after the Merger
were:
|
|
|
|
|
|
|
|
|
|
|
As of July 1, 2008 |
|
|
|
|
|
|
Annual |
|
|
Annual |
|
Maximum |
|
|
Working |
|
Designed |
|
|
Capacity |
|
Capacity |
|
|
(in barrels) |
Oregon Brewery |
|
|
377,000 |
|
|
|
491,000 |
|
Washington Brewery |
|
|
230,000 |
|
|
|
230,000 |
|
New Hampshire Brewery |
|
|
146,700 |
|
|
|
231,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
753,700 |
|
|
|
952,000 |
|
|
|
|
|
|
|
|
|
|
In order to accommodate volume growth in the markets served by the New Hampshire Brewery, the
Company has expanded fermentation capacity several times during the last several years. In May
2007, the Company completed process control automation upgrades to the brewery and added one 70,000
pound grain silo. In June 2007, the Company completed the installation of four additional
400-barrel fermenters. Installation cost for this expansion
totaled $1.3 million and added approximately 21,700 barrels of capacity to the New Hampshire
Brewery, bringing the brewerys annual working capacity to approximately 146,700 barrels. The
Companys 2008 capital projects include another expansion of brewing and fermentation capacity at
the New Hampshire Brewery. The project includes a $3.3 million addition of eight 400-barrel
fermenters and four bright tanks, and a $1.8 million upgrade to the incoming water filtration and
water treatment systems. The expansion will increase working capacity by approximately 43,300
28
barrels. The Company anticipates that the expansion will be completed during the fourth quarter of
2008 and the improvements to the water systems will be completed in the first quarter of 2009.
Further expansion of fermentation capacity and improvements to the refrigeration facility at the
New Hampshire Brewery, which were originally slated for 2008, have been delayed until 2009 or
later.
With the completion of the 2008 expansion, the New Hampshire Brewerys annual working capacity
will be approximately 190,000 barrels and the Companys total annual working capacity will be
approximately 797,000 barrels.
The Companys capacity utilization has a significant impact on gross profit. Generally, when
facilities are operating at their working capacities, profitability is favorably affected because
fixed and semi-variable operating costs, such as depreciation and production salaries, are spread
over a larger sales base. Because current period production levels have been below the Companys
working capacity, gross margins have been negatively impacted. If the Company is unable to achieve
significant sales growth, the resulting excess capacity and unabsorbed overhead of the Company will
have an adverse effect on the Companys gross margins, operating cash flows and overall financial
performance.
In addition to capacity utilization, other factors that could affect cost of sales and gross
margin include changes in freight charges, the availability and prices of raw materials and
packaging materials, the mix between draft and bottled product sales, the sales mix of various
bottled product packages, and fees related to the A-B Distribution Agreement. Prior to July 1,
2008, sales to Craft Brands at a price substantially below wholesale pricing levels and sales of
contract beer at a pre-determined contract price could also have affected cost of sales and gross
margins.
Redhook Brand Trend
Beginning in 2004, Craft Brands initiated a five-year plan to strengthen the Redhook brand by
improving the volume trend through targeted distribution growth, systematic pricing increases to
enhance perceived value and bolster brand profitability, and focused marketing programs to attract
and retain consumers of Redhook-branded products. In select western U.S. markets, the Company had
historically elected to price its products below the market leaders. Over the past four years,
Craft Brands had systematically raised Redhooks in-market pricing to levels comparable to the
market leaders. This strategy is intended to strengthen the perceived value of the Redhook brand
over the long term. However, in the short term, it is expected that the Redhook brand may continue
to experience volume declines in certain markets. In addition to strengthening the perceived value
of the Redhook brand, management has focused on enhancing value through re-branding efforts and
these efforts are showing some positive results. The initiative to re-brand Redhook IPA into Long
Hammer IPA has resulted in positive momentum for the Companys fastest growing national brand.
Since these efforts were initiated, the Redhook brand sales trends in the western U.S. have
shown a slowing in the rate of decline and some modest growth during some periods, driven primarily
by a reversal of the negative trend in Washington state. For the 2008 third quarter, overall
shipments of Redhook-branded products declined approximately 4.9%.
Widmer Brand Trend
The Widmer brand has experienced significant growth in recent years, led by the popular
consumer response to the Hefeweizen category within the craft beer segment and the role that Widmer
Hefeweizen has enjoyed in being a leader in this category. This category continues to experience
positive trends nationally, but has more recently seen a significant increase in competitive
products from other craft brewers as well as offerings from large domestic brewers attempting to
participate in the same category. As a result of the Merger, the Company will begin to promote
other Widmer-branded products in the midwest and eastern U.S. Except for a limited amount of
Widmer-branded products brewed and shipped under the contract brewing arrangements and Widmer
Hefeweizen shipped under the licensing agreement, sales and shipments for Widmer-branded product
were not reflected in the Companys statements of operations prior to the Merger.
Kona Brand Trend
The Kona brand has experienced strong growth since forming its relationship with Widmer and
Craft Brands in 2004. Kona is a relatively new product and was recently introduced into a number of
new markets in the continental
United States. Kona-branded products have experienced the rapid growth of a new brand that
benefits from growing distribution and new trial from consumers. Sales and shipments for
Kona-branded product were not reflected in the Companys statements of operations prior to the
Merger.
29
See Item 1A, Risk Factors for additional matters which
could materially affect the Companys business, financial condition or future results.
Results of Operations
The following table sets forth, for the periods indicated, certain items from the Companys
Statements of Operations expressed as a percentage of net sales:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
Sales |
|
|
106.5 |
% |
|
|
111.6 |
% |
|
|
108.4 |
% |
|
|
112.3 |
% |
Less excise taxes |
|
|
6.5 |
|
|
|
11.6 |
|
|
|
8.4 |
|
|
|
12.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
|
100.0 |
|
|
|
100.0 |
|
|
|
100.0 |
|
|
|
100.0 |
|
Cost of sales |
|
|
79.0 |
|
|
|
87.2 |
|
|
|
85.0 |
|
|
|
86.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
21.0 |
|
|
|
12.8 |
|
|
|
15.0 |
|
|
|
13.4 |
|
Selling, general and
administrative expenses |
|
|
24.3 |
|
|
|
19.4 |
|
|
|
23.2 |
|
|
|
19.6 |
|
Merger-related expenses |
|
|
1.5 |
|
|
|
2.5 |
|
|
|
3.2 |
|
|
|
1.4 |
|
Income from equity investment
in Craft Brands |
|
|
|
|
|
|
5.1 |
|
|
|
2.7 |
|
|
|
7.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating loss |
|
|
(4.8 |
) |
|
|
(4.0 |
) |
|
|
(8.7 |
) |
|
|
(0.6 |
) |
Income from equity
investments in Kona & FSB |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
1.3 |
|
|
|
0.8 |
|
|
|
0.9 |
|
|
|
0.8 |
|
Other income, net |
|
|
0.1 |
|
|
|
1.1 |
|
|
|
0.2 |
|
|
|
1.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes |
|
|
(6.0 |
) |
|
|
(3.7 |
) |
|
|
(9.4 |
) |
|
|
(0.1 |
) |
Income tax provision (benefit) |
|
|
(2.0 |
) |
|
|
(1.1 |
) |
|
|
(3.2 |
) |
|
|
0.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
|
(4.0) |
% |
|
|
(2.6) |
% |
|
|
(6.2) |
% |
|
|
(0.3) |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
30
Three Months Ended September 30, 2008 Compared to Three Months Ended September 30, 2007
The following table sets forth, for the periods indicated, a comparison of certain items from
the Companys Statements of Operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
|
|
September 30, |
|
|
Increase / |
|
|
% |
|
|
|
2008 |
|
|
2007 |
|
|
(Decrease) |
|
|
Change |
|
Sales |
|
$ |
33,498,577 |
|
|
$ |
12,357,004 |
|
|
$ |
21,141,573 |
|
|
|
171.1 |
% |
Less excise taxes |
|
|
2,031,390 |
|
|
|
1,285,374 |
|
|
|
746,016 |
|
|
|
58.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
|
31,467,187 |
|
|
|
11,071,630 |
|
|
|
20,395,557 |
|
|
|
184.2 |
|
Cost of sales |
|
|
24,846,103 |
|
|
|
9,653,674 |
|
|
|
15,192,429 |
|
|
|
157.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
6,621,084 |
|
|
|
1,417,956 |
|
|
|
5,203,128 |
|
|
|
366.9 |
|
Selling, general and administrative
expenses |
|
|
7,632,298 |
|
|
|
2,151,417 |
|
|
|
5,480,881 |
|
|
|
254.8 |
|
Merger-related expenses |
|
|
474,025 |
|
|
|
278,404 |
|
|
|
195,621 |
|
|
|
70.3 |
|
Income from equity investment
in Craft Brands |
|
|
|
|
|
|
562,210 |
|
|
|
(562,210 |
) |
|
|
100.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating loss |
|
|
(1,485,239 |
) |
|
|
(449,655 |
) |
|
|
(1,035,584 |
) |
|
|
230.3 |
|
Income from equity investments in Kona and FSB |
|
|
1,449 |
|
|
|
|
|
|
|
1,449 |
|
|
|
|
|
Interest expense |
|
|
446,871 |
|
|
|
80,875 |
|
|
|
365,996 |
|
|
|
452.5 |
|
Other income, net |
|
|
40,271 |
|
|
|
120,589 |
|
|
|
(80,318 |
) |
|
|
66.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes |
|
|
(1,890,390 |
) |
|
|
(409,941 |
) |
|
|
(1,480,449 |
) |
|
|
361.1 |
|
Income tax provision (benefit) |
|
|
(641,974 |
) |
|
|
(121,373 |
) |
|
|
(520,601 |
) |
|
|
428.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(1,248,416 |
) |
|
$ |
(288,568 |
) |
|
$ |
(959,848 |
) |
|
|
332.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table sets forth a comparison of sales (in dollars) for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
|
|
September 30, |
|
|
Increase / |
|
|
% |
|
|
|
2008 |
|
|
2007 |
|
|
(Decrease) |
|
|
Change |
|
A-B |
|
$ |
27,247,393 |
|
|
$ |
4,831,622 |
|
|
$ |
22,415,771 |
|
|
|
463.9 |
% |
Craft Brands |
|
|
|
|
|
|
3,579,747 |
|
|
|
(3,579,747 |
) |
|
|
(100.0 |
) |
Contract brewing |
|
|
|
|
|
|
1,776,899 |
|
|
|
(1,776,899 |
) |
|
|
(100.0 |
) |
Alternating proprietorship |
|
|
3,362,477 |
|
|
|
|
|
|
|
3,362,477 |
|
|
|
|
|
Pubs and other (1) |
|
|
2,888,707 |
|
|
|
2,168,736 |
|
|
|
719,971 |
|
|
|
33.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total sales |
|
$ |
33,498,577 |
|
|
$ |
12,357,004 |
|
|
$ |
21,141,573 |
|
|
|
171.1 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Other includes international, non-wholesalers and other |
Sales. Total sales increased $21,142,000 in the third quarter of 2008 compared to the
third quarter of 2007. Comparability of sales reported for the 2008 and 2007 quarters is
significantly impacted by the July 1, 2008 Merger, including the following factors that contributed
most to the significant change:
|
|
An 85% increase in overall shipments, driven by shipments of Widmer-branded products
acquired in the Merger and shipments of Kona-branded products pursuant to a distribution
arrangement with Kona; |
|
|
|
An increase in overall pricing, driven by the sale of all wholesale beer to A-B at
wholesaler pricing levels; |
|
|
|
The elimination of shipments to Craft Brands and shipments of beer brewed on a contract
basis, both of which were at prices that were substantially below wholesale prices; |
31
|
|
Additional revenue generated by the alternating proprietorship arrangement with Kona, an
arrangement performed by Widmer prior to the Merger; |
|
|
|
An increase of 33% in pub and other sales, primarily driven by the addition of a third pub
pursuant to the Merger. |
Shipments Brand. The following table sets forth a comparison of shipments by brand (in barrels)
for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
|
|
|
2008 |
|
2007 |
|
|
|
|
|
|
Draft |
|
Bottle |
|
Total |
|
Draft |
|
Bottle |
|
Total |
|
Increase / |
|
% |
|
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
(Decrease) |
|
Change |
Redhook brand |
|
|
15,800 |
|
|
|
34,600 |
|
|
|
50,400 |
|
|
|
17,500 |
|
|
|
35,500 |
|
|
|
53,000 |
|
|
|
(2,600 |
) |
|
|
(4.9 |
)% |
Widmer brand (1) |
|
|
40,700 |
|
|
|
29,300 |
|
|
|
70,000 |
|
|
|
14,800 |
|
|
|
12,200 |
|
|
|
27,000 |
|
|
|
43,000 |
|
|
|
159.3 |
|
Kona brand |
|
|
11,100 |
|
|
|
16,300 |
|
|
|
27,400 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
27,400 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shipped |
|
|
67,600 |
|
|
|
80,200 |
|
|
|
147,800 |
|
|
|
32,300 |
|
|
|
47,700 |
|
|
|
80,000 |
|
|
|
67,800 |
|
|
|
84.8 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Shipments of Widmer-branded product in 2007 represent only those products brewed and shipped
by the Company and do not include Widmer-branded products shipped by Widmer or Craft Brands. These
shipments were made in connection with a licensing agreement and contract brewing arrangements with
Widmer. |
Total Company shipments increased 84.8% to 147,800 barrels in the third quarter of 2008 as
compared to 80,000 barrels in the same quarter of 2007, primarily driven by shipments of
Widmer-branded products acquired in the Merger and shipments of Kona-branded products pursuant to a
distribution arrangement with Kona.
Although the Company has brewed and distributed Redhook-branded beer since the creation of the
brand, the Company first began to expand its brand portfolio in 2003 when it entered into a
licensing arrangement with Widmer. Under the licensing agreement, the Company brewed Widmer
Hefeweizen in the New Hampshire Brewery and sold it in the midwest and in eastern markets. In 2004
following the formation of Craft Brands, the Company further expanded its production of
Widmer-branded products when it entered into two contract brewing arrangements with Widmer. In
2007, the Company brewed and shipped approximately 7,900 barrels of Widmer Hefeweizen in the
midwest and eastern U.S. pursuant to the licensing agreement and another 19,100 barrels of
Widmer-branded products in conjunction with the contract brewing arrangements. Although the
licensing agreement and the contract brewing arrangements were terminated when the Merger was
consummated, those brewing activities still continue and are only a portion of total Widmer-branded
shipments. Although the Company plans to expand the distribution of other Widmer-branded products
in the midwest and eastern U.S., shipments in these states in the third quarter of 2008 were
limited to Widmer Hefeweizen and totaled approximately 6,000 barrels.
Shipments of bottled beer have steadily increased as a percentage of total shipments since the
mid-1990s. During the three months ended September 30, 2008, 68.7% of Redhook-branded shipments
were shipments of bottled beer versus 67.0% in the three months ended September 30, 2007. Although
the sales mix of Kona-branded beer is still weighted toward bottled product, it is somewhat less
that Redhook-branded beer with 59.5% of Kona-branded shipments being bottled beer. The sales mix of
Widmer-branded products contrasts significantly from that of the Redhook and Kona brands with 41.9%
of Widmer-branded products being bottled beer in the third quarter of 2008. Although the average
revenue per barrel for sales of bottled beer is generally 40% to 50% higher than that of draft
beer, the cost per barrel is also higher, resulting in a gross margin that may be only slightly
higher than that of draft beer sales.
32
Shipments Customer. The following table sets forth a comparison of shipments by customer
(in barrels) for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
|
|
|
2008 |
|
2007 |
|
|
|
|
|
|
Draft |
|
Bottle |
|
Total |
|
Draft |
|
Bottle |
|
Total |
|
Increase / |
|
% |
|
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
(Decrease) |
|
Change |
A-B |
|
|
64,800 |
|
|
|
79,400 |
|
|
|
144,200 |
|
|
|
12,000 |
|
|
|
15,900 |
|
|
|
27,900 |
|
|
|
116,300 |
|
|
|
416.8 |
% |
Craft Brands |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9,400 |
|
|
|
21,900 |
|
|
|
31,300 |
|
|
|
(31,300 |
) |
|
|
(100.0 |
) |
Contract brewing |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9,600 |
|
|
|
9,500 |
|
|
|
19,100 |
|
|
|
(19,100 |
) |
|
|
(100.0 |
) |
Pubs and other (1) |
|
|
2,700 |
|
|
|
900 |
|
|
|
3,600 |
|
|
|
1,300 |
|
|
|
400 |
|
|
|
1,700 |
|
|
|
1,900 |
|
|
|
111.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shipped |
|
|
67,500 |
|
|
|
80,300 |
|
|
|
147,800 |
|
|
|
32,300 |
|
|
|
47,700 |
|
|
|
80,000 |
|
|
|
67,800 |
|
|
|
84.8 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
International, non-wholesalers, pubs and other |
Prior to July 1, 2008, the Companys products were shipped to wholesalers, both through A-B in
the midwest and eastern U.S. and through Craft Brands in the west. In connection with the Merger,
Craft Brands was merged with and into the Company and all shipments to wholesalers in the western
U.S. began to be sold through A-B.
Pricing and Fees. Average revenue per barrel on shipments of beer for the third quarter of
2008 was approximately 45% higher than average revenue per barrel for the third quarter of 2007.
Comparison of the quarters results was significantly impacted by the Merger. During the three
months ended September 30, 2008, the Company sold approximately 98% of its beer through A-B at
wholesale pricing levels throughout the U.S. During the three months ended September 30, 2007, the
Company sold approximately 35% of its product at wholesale pricing levels in the midwest and
eastern U.S., another 39% at lower than wholesale pricing levels to Craft Brands in the western
U.S., and 24% at agreed-upon pricing levels for beer brewed on a contract basis.
Management believes that most, if not all, craft brewers are reviewing their pricing
strategies in response to recent increases in the costs of raw materials. Pricing changes
implemented by the Company have generally followed pricing changes initiated by large domestic or
import brewing companies. While the Company has implemented modest price increases during the past
few years, some of the benefit has been offset by competitive promotions and discounting. The
Company may experience a decline in sales in certain regions following a price increase.
In connection with all sales through the July 1, 2004 A-B Distribution Agreement, as amended,
the Company pays a Margin fee to A-B. The Margin does not apply to sales from the Companys retail
operations or to dock sales. The Margin also did not apply to the Companys sales to Craft Brands
during the 2007 quarter because Craft Brands paid a comparable fee to A-B on its resale of the
product. The A-B Distribution Agreement also provides that the Company shall pay the Additional
Margin on shipments of Redhook-, Widmer-, and Kona-branded product that exceed shipments in the
same territory during the same periods in fiscal 2003. During the quarter ended September 30, 2008,
the Margin was paid to A-B on shipments totaling 144,200 barrels. During the quarter ended
September 30, 2007, the Margin was paid to A-B on shipments totaling 27,900 barrels. Because 2008
third quarter shipments in the U.S. exceeded 2003 third quarter shipments in the same territory,
the Company paid A-B the Additional Margin on 38,300 barrels. Because 2007 third quarter shipments
in the midwest and eastern U.S. exceeded 2003 third quarter shipments in the same territory, the
Company paid A-B the Additional Margin on 8,100 barrels. For the quarters ended September 30, 2008
and 2007, the Company paid a total of $1,378,000 and $268,000, respectively, to A-B related to the
Margin and Additional Margin. The Margin and Additional Margin are reflected as a reduction of
sales in the Companys statements of operations.
As of September 30, 2008, the net amount due to A-B under all Company agreements with A-B
totaled $5.3 million. In connection with the sale of beer pursuant to the A-B Distribution
Agreement, the Companys accounts receivable reflect significant balances due from A-B, and the
refundable deposits and accrued expenses reflect significant balances due to A-B. Although the
Company considers these balances to be due to or from A-B, the final
destination of the Companys products is an A-B wholesaler and payments by the wholesaler are
settled through A-B. In connection with separate arrangements with A-B, the Company purchases
packaging and other materials and also leases kegs; balances due to A-B under these arrangements
are reflected in accounts payable and accrued expenses.
Alternating Proprietorship. In conjunction with an alternating proprietorship agreement, Kona
produces a portion of its malt beverages at the Oregon Brewery under a brewery leasing arrangement.
Kona pays a leasing fee based on the barrels brewed and packaged at the Companys brewery and also
pays a fee for any raw materials that it purchases
33
from the Company. Fees for the quarter ended
September 30, 2008 totaled $3,362,000 and are reflected as sales in the Companys statements of
operations.
Retail Operations and Other Sales. Sales through the Companys retail operations and other
sales increased $720,000 to $2,889,000 in the 2008 third quarter from $2,169,000 in the 2007 third
quarter, primarily as the result of the addition of a third pub pursuant to the Merger.
Excise Taxes. Excise taxes for the quarter ended September 30, 2008 increased
$746,000, or 58.9%, but decreased as a percentage of net sales and on a per barrel basis when
compared to the three months ended September 30, 2007. Although the Company continues to be
responsible for federal and state excise taxes for shipments of Redhook- and Widmer-branded
products, comparability of the 2008 and 2007 quarters is impacted by the Merger and the Companys
new distribution relationship with Kona. Because Kona brews its products at the Oregon Brewery
under the alternating proprietorship arrangement and then sells these products to the Company
pursuant to a distribution arrangement, Kona is responsible for payment of excise taxes on its
products. The comparability of excise taxes as a percentage of net sales is also impacted by:
average revenue per barrel; the mix of sales in the midwest and eastern United States, sales to
Craft Brands, sales of beer brewed on a contract basis, and pub sales; and the estimated annual
average federal and state excise tax rates.
Cost of Sales. Cost of sales increased 157% to $24,846,000 in the third quarter of
2008 from $9,654,000 in the same 2007 quarter and increased on a per barrel basis. In contrast,
cost of sales decreased as a percentage of net sales to 79.0% from 87.2% because of the significant
change in product mix and pricing attributable to the Merger. Comparability of the periods was
significantly affected by the Merger and the resulting change in operations, including an 85%
increase in shipments, the addition of a third brewery, a change in the mix of products shipped,
the addition of the alternating proprietorship relationship, a third pub and the elimination of the
licensing agreement and contract brewing arrangements.
Cost of sales for the 2008 third quarter includes the cost to produce all Widmer-branded
products. Although the Company had historically brewed some limited volume of Widmer-branded
products pursuant to the licensing agreement and the contract brewing arrangements, the 2008 third
quarter includes brewing of Widmer-branded products historically brewed by Widmer in addition to
Widmer-branded products historically brewed by the Company. The increase in direct costs to produce
this incremental volume was slightly offset by the elimination of licensing fees paid to Widmer in
connection with the licensing agreement that terminated upon consummation of the Merger. The 2007
third quarter includes $131,000 for licensing fees paid to Widmer in connection with the Companys
shipment of 7,900 barrels of Widmer Hefeweizen in the midwest and eastern U.S.
The annual working capacity of the Oregon Brewery acquired in the Merger is approximately
377,000 barrels, nearly the same as the combined annual working capacity of the Companys
Washington and New Hampshire Breweries prior to the Merger. As expected, cost of sales increased
significantly as a result the Oregon Brewerys fixed and semi-variable costs, including
depreciation, utilities, labor, rent, and property taxes. For example, depreciation expense for the
quarter ended September 30, 2008 increased approximately 118%, or $816,000, over depreciation
expense for the third quarter of 2007. While the fixed and semi-variable costs other than
depreciation have not increased to the same degree as depreciation, the increases in these costs
were substantial.
Based upon the Companys combined working capacity of 188,000 barrels and 94,000 barrels for
the third quarters of 2008 and 2007, the utilization rate was 78% and 85%, respectively. Capacity
utilization rates are calculated by dividing the Companys total shipments by the working capacity.
Cost of sales for the 2008 quarter includes cost associated with two distinct Kona revenue
streams: (i) direct and indirect costs related to the alternating proprietorship arrangement with
Kona and (ii) the cost paid to Kona for the Kona-branded finished goods that are marketed and sold
by the Company to wholesalers through the A-B Distribution Agreement.
Inventories acquired pursuant to the Merger were recorded at their estimated fair values as of
July 1, 2008, resulting in an increase over the cost at which these
inventories were stated on the June
30, 2008 Widmer balance sheet (the Step Up Adjustment).
The Step Up Adjustment at July 1, 2008 totaled approximately
$1,040,000 for raw materials acquired and $118,000 for work in process and finished goods acquired.
During the quarter ended September 30, 2008, approximately $226,000 of the Step Up Adjustment was
expensed to cost of sales in connection with normal production and sales.
According to industry and media sources, the cost of barley, wheat and hops, all primary
ingredients in the Companys products, has increased significantly in the last two years. Media
sources estimate that the cost of barley
34
increased 48% from August 2006 through June 2007, largely
driven by a lower supply of barley as farmers shift their focus to growing corn, a key component of
biofuels. The beer industry appears to also be experiencing a decline in the supply of hops driven
by a number of factors: excess supply in the 1990s led some growers to switch to more lucrative
crops, resulting in an estimated 40% decrease in worldwide hop-growing acreage; poor weather in
eastern Europe and Germany caused substantial hops crop losses in 2007; hops crop production in
England has declined approximately 85% since the mid-1970s; and 2007 U.S., New Zealand, and
Australia hops crop yields were only average. Wheat exports have increased by 30% because of the
weak U.S. dollar and poor worldwide harvests, leading to U.S. supplies of wheat that are at the
lowest levels in 60 years.
While the Company has experienced an increase in the cost of barley over the past year, the
Companys fixed price contracts had limited that increase through August 2007 to less than 10%. The
Companys existing barley purchase contracts expired during the third quarter of 2007, and the
Companys new barley supply contracts reflect pricing that is significantly higher than the pricing
in the expired contracts. These new barley supply contracts provide a substantial portion of the
Companys malted barley requirements for 2008. In 2007 and early 2008, the Company entered into
fixed price purchase contracts for its specialty hops, both to assure that the Company will have
the necessary supply for current and future production needs and to obtain favorable pricing.
The Company believes that these contracts will provide a significant portion of its requirements
for these hops for the next five years. While the cost of these hops is higher in some cases that
the Companys cost in prior years, management believes that securing an adequate supply is crucial
in the current environment.
The Company will continue to seek opportunities to secure favorable pricing for its key
materials. If the Company experiences difficulty in securing its key raw materials or continues to
experience increases in the cost of these materials, it will have a material negative impact on the
Companys gross margins and results of operations.
Merger-related expenses. In connection with the Merger, the Company incurred
merger-related expenditures, including legal, consulting, meeting, filing, printing and severance
costs. These expenditures have been reflected in the Companys financial statements in accordance
with SFAS No. 141, Business Combinations. During the
quarters ended September 30, 2008 and 2007,
merger-related expenses totaling $474,000 and $278,000, respectively, were recorded as selling,
general and administrative expenses in the Companys statements of operations. During the quarter
ended September 30, 2008, other merger-related costs totaling $128,000 were capitalized as a
component of goodwill on the balance sheet; no costs were capitalized
during the 2007 third
quarter.
Merger-related expenses include severance payments to employees and officers whose employment
was or will be terminated as a result of the Merger. The Company estimates that severance benefits
totaling approximately $2.7 million will be paid in 2008 and 2009 to all affected former Redhook
employees and officers, and affected former Widmer employees. Of the total severance, $349,000 was
recognized as a merger-related expense in the Companys statement of operations during the quarter
ended September 30, 2008 in accordance with Financial Accounting Standards Board (FASB) Statement
of Financial Accounting Standards (SFAS) No. 146, Accounting for Costs Associated with Exit or
Disposal Activities. The Company estimates that the remaining severance cost related to affected
employees will be recognized as a merger-related expense in the statements of operations in the
following future periods: approximately $470,000 in the fourth quarter of 2008, $112,000 in the
first quarter of 2009 and $113,000 in the second quarter of 2009.
Selling, General and Administrative Expenses. Selling, general and administrative
expenses for the three months ended September 30, 2008 increased $5,481,000 to $7,632,000 from
expenses of $2,151,000 for the same period in 2007. Comparability of the two quarters is difficult
because the Merger resulted in a significant increase in sales, marketing and administrative
functions:
|
|
|
Prior to July 1, 2008, selling, general and administrative expense in the Companys
statement of operations reflected the sales and marketing efforts only for the midwest and
eastern U.S. because Craft Brands performed these functions for the western U.S. In the third
quarter of 2008, all promotion, marketing and sales efforts for the entire U.S. for Redhook-,
Widmer- and Kona-branded products are reflected in the Companys statement of operations. |
|
|
|
|
Finance, accounting and information technology functions performed in Woodinville,
Washington prior to the Merger were transferred to staff in the Portland, Oregon office
following the Merger. Because the transition of these functions was not complete until the end
of the third quarter of 2008, selling, general and administrative expenses for the 2008 third
quarter include salaries and related administrative costs for both offices. |
The
Company incurs costs for the promotion of its products through a variety of advertising programs with its
wholesalers and downstream retailers. These costs are included in
selling, general and administrative expenses and frequently involve
the local wholesaler sharing in the cost of the program.
35
Reimbursements from
wholesalers for advertising and promotion activities are recorded as a reduction to selling,
general and administrative expenses in the Companys statements of operations. Reimbursements for
pricing discounts to wholesalers are recorded as a reduction to sales. The wholesalers
contribution toward these activities was an immaterial percentage of net sales for the 2008 third
quarter. Depending on the industry and market conditions, the Company may adjust its advertising
and promotional efforts in a wholesalers market if a change occurs in a cost-sharing arrangement.
Income from Equity Investment in Craft Brands. Because Craft Brands was merged with
and into the Company in connection with the Merger, the Company did not recognize income from its
investment in Craft Brands after June 30, 2008. For the quarter ended September 30, 2007, the
Companys share of Craft Brands net income totaled $562,000.
Income from Equity Investments in Kona and FSB. In conjunction with the Merger, the
Company acquired from Widmer a 20% equity ownership in Kona and a 42% equity ownership in Fulton
Street Brewery, LLC. Both investments are accounted for under the equity method, as outlined by APB
18. For the quarter ended September 30, 2008, the Companys share of Konas net income totaled
$26,000 and the Companys share of FSBs net loss totaled $25,000.
Interest Expense. Interest expense increased approximately $366,000 to $447,000 in
the third quarter of 2008 from $81,000 in the third quarter of 2007, due to a higher level of debt
outstanding during the current period. In connection with the Merger, the Company assumed greater
leverage such that its average outstanding debt during the third quarter of 2008 was $28.0 million
as compared with the average outstanding debt of $4.5 million during the third quarter of 2007.
Other Income, net. Other income, net decreased by $80,000 to $40,000 for the third
quarter of 2008 from $121,000 for the same period of 2007, primarily attributable to a $91,000
decrease in interest income earned on interest-bearing deposits.
Income Taxes. The Companys provision for income taxes was a benefit of $642,000 for
the third quarter of 2008 compared with a benefit of $121,000 for the third quarter of 2007. The
tax provision is driven by pre-tax results relative to other components of the tax provision
calculation, such as the exclusion of a portion of meals and entertainment expenses from tax return
deductions. Both periods include a provision for current state taxes. Realization of an income tax
benefit is dependent on the Companys ability to generate future U.S. taxable income. To the extent
that the Company is unable to generate adequate taxable income in future periods, the Company may
not be able to recognize additional tax benefits and may be required to record a valuation
allowance covering potentially expiring net operating loss carryforwards (NOLs).
At December 31, 2007, the Companys balance sheet included a valuation allowance of $1,059,000
to cover certain federal and state NOLs. In connection with the Merger, the Company determined that
the valuation allowance was no longer required and recorded the release against goodwill. The
Company believes that future taxable income will fully utilize the federal and state NOLs before
they expire. Among other factors, the Company considered future taxable income generated by
projected differences between book depreciation and tax depreciation, including the depreciation on
the assets acquired in the Merger.
36
Nine Months Ended September 30, 2008 Compared to Nine Months Ended September 30, 2007
The following table sets forth, for the periods indicated, a comparison of certain items from
the Companys Statements of Operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
|
|
September 30, |
|
|
Increase / |
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
(Decrease) |
|
|
% Change |
|
Sales |
|
$ |
55,937,193 |
|
|
$ |
35,383,514 |
|
|
$ |
20,553,679 |
|
|
|
58.1 |
% |
Less excise taxes |
|
|
4,319,543 |
|
|
|
3,866,318 |
|
|
|
453,225 |
|
|
|
11.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
|
51,617,650 |
|
|
|
31,517,196 |
|
|
|
20,100,454 |
|
|
|
63.8 |
|
Cost of sales |
|
|
43,862,511 |
|
|
|
27,307,237 |
|
|
|
16,555,274 |
|
|
|
60.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
7,755,139 |
|
|
|
4,209,959 |
|
|
|
3,545,180 |
|
|
|
84.2 |
|
Selling, general and administrative expenses |
|
|
11,984,659 |
|
|
|
6,161,655 |
|
|
|
5,823,004 |
|
|
|
94.5 |
|
Merger-related expenses |
|
|
1,642,680 |
|
|
|
448,335 |
|
|
|
1,194,345 |
|
|
|
266.4 |
|
Income from
equity investment in Craft Brands |
|
|
1,390,404 |
|
|
|
2,210,336 |
|
|
|
(819,932 |
) |
|
|
37.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating loss |
|
|
(4,481,796 |
) |
|
|
(189,695 |
) |
|
|
(4,292,101 |
) |
|
|
2,262.6 |
|
Income from
equity investments in Kona and FSB |
|
|
1,449 |
|
|
|
|
|
|
|
1,449 |
|
|
|
|
|
Interest expense |
|
|
452,075 |
|
|
|
246,093 |
|
|
|
205,982 |
|
|
|
83.7 |
|
Other income, net |
|
|
97,364 |
|
|
|
404,996 |
|
|
|
(307,632 |
) |
|
|
76.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes |
|
|
(4,835,058 |
) |
|
|
(30,792 |
) |
|
|
(4,804,266 |
) |
|
|
15,602.6 |
|
Income tax provision (benefit) |
|
|
(1,658,425 |
) |
|
|
49,252 |
|
|
|
(1,707,677 |
) |
|
|
3,467.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(3,176,633 |
) |
|
$ |
(80,044 |
) |
|
$ |
(3,096,589 |
) |
|
|
3,868.8 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table sets forth a comparison of sales (in dollars) for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
|
|
September 30, |
|
|
Increase / |
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
(Decrease) |
|
|
% Change |
|
A-B |
|
$ |
36,774,399 |
|
|
$ |
14,394,768 |
|
|
$ |
22,379,631 |
|
|
|
155.5 |
% |
Craft Brands |
|
|
6,913,596 |
|
|
|
10,548,320 |
|
|
|
(3,634,724 |
) |
|
|
(34.5 |
) |
Contract brewing |
|
|
2,956,468 |
|
|
|
5,491,428 |
|
|
|
(2,534,960 |
) |
|
|
(46.2 |
) |
Alternating proprietorship |
|
|
3,362,477 |
|
|
|
|
|
|
|
3,362,477 |
|
|
|
|
|
Pubs and other (1) |
|
|
5,930,253 |
|
|
|
4,948,998 |
|
|
|
981,255 |
|
|
|
19.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total sales |
|
$ |
55,937,193 |
|
|
$ |
35,383,514 |
|
|
$ |
20,553,679 |
|
|
|
58.1 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Other includes international, non-wholesalers and other |
Sales. Total sales increased $20,554,000 in the first nine months of 2008 compared to
the first nine months of 2007. Comparability of sales reported for the 2008 and 2007 periods is
significantly impacted by the July 1, 2008 Merger, including the following factors that most
contributed to the significant change:
|
|
An 21% increase in overall shipments, driven by third quarter 2008 shipments of
Widmer-branded products acquired in the Merger and third quarter 2008 shipments of
Kona-branded products pursuant to a distribution arrangement with Kona; |
37
|
|
An increase in overall pricing, driven by the sale of all wholesale beer to A-B at
wholesaler pricing levels beginning in the third quarter of 2008 as compared to prior periods
in which shipments to Craft Brands and shipments of beer brewed on a contract basis were at
prices that were substantially below wholesale prices; |
|
|
|
Additional revenue generated by the alternating proprietorship arrangement with Kona, an
arrangement performed by Widmer prior to the Merger; |
|
|
|
An increase of 19.8% in pub and other sales, primarily driven by the third quarter 2008
addition of a third pub pursuant to the Merger. |
Shipments Brand. The following table sets forth a comparison of shipments by brand (in barrels)
for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
2008 |
|
2007 |
|
|
|
|
|
|
Draft |
|
Bottle |
|
Total |
|
Draft |
|
Bottle |
|
Total |
|
Increase / |
|
% |
|
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
(Decrease) |
|
Change |
Redhook brand |
|
|
48,200 |
|
|
|
103,300 |
|
|
|
151,500 |
|
|
|
51,500 |
|
|
|
104,800 |
|
|
|
156,300 |
|
|
|
(4,800 |
) |
|
|
(3.1 |
)% |
Widmer brand (1) |
|
|
65,200 |
|
|
|
48,300 |
|
|
|
113,500 |
|
|
|
52,600 |
|
|
|
32,200 |
|
|
|
84,800 |
|
|
|
28,700 |
|
|
|
33.8 |
|
Kona brand |
|
|
11,100 |
|
|
|
16,300 |
|
|
|
27,400 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
27,400 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shipped |
|
|
124,500 |
|
|
|
167,900 |
|
|
|
292,400 |
|
|
|
104,100 |
|
|
|
137,000 |
|
|
|
241,100 |
|
|
|
51,300 |
|
|
|
21.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Shipments of Widmer-branded product in 2007 represent only those products brewed and shipped
by the Company and do not include
Widmer-branded products shipped by Widmer or Craft Brands. These shipments were made in
connection with a licensing agreement and
contract brewing arrangements with Widmer. |
Total Company shipments increased 21.3% to 292,400 barrels in the first nine months of 2008 as
compared to 241,100 barrels in the first nine months of 2007, primarily driven by shipments of
Widmer-branded products acquired in the Merger and shipments of Kona-branded products pursuant to a
distribution arrangement with Kona.
In the first nine months of 2007, the Company brewed and shipped approximately 23,200 barrels
of Widmer Hefeweizen in the midwest and eastern U.S. pursuant to the licensing agreement and
another 61,600 barrels of Widmer-branded products in conjunction with the contract brewing
arrangements. Although the licensing agreement and the contract brewing arrangements were
terminated when the Merger was consummated, those brewing activities still continue in the second
half of 2008 and are only a portion of total Widmer-branded shipments. Although the Company plans
to expand the distribution of other Widmer-branded products in the midwest and eastern U.S.,
shipments in these states in the third quarter of 2008 were limited to Widmer Hefeweizen and
totaled approximately 6,000 barrels.
Shipments of bottled beer have steadily increased as a percentage of total shipments since the
mid-1990s. During the nine months ended September 30, 2008, 68.2% of Redhook-branded shipments
were shipments of bottled beer versus 67.1% in the nine months ended September 30, 2007. Although
the sales mix of Kona-branded beer is still weighted toward bottled product, it is somewhat less
that Redhook-branded beer with 59.5% of Kona-branded shipments being bottled beer. The sales mix of
Widmer-branded products contrasts significantly from that of the Redhook and Kona brands with 42.6%
of Widmer-branded products being bottled beer in the first nine months of 2008. Although the
average revenue per barrel for sales of bottled beer is generally 40% to 50% higher than that of
draft beer, the cost per barrel is also higher, resulting in a gross margin that may only be
slightly higher than that of draft beer sales.
Although the Merger significantly impedes comparability of shipments for the company as a
whole or for the Widmer or Kona brands, comparability of shipments of Redhook-branded products is
unaffected. Shipments of Redhook-branded products in the first nine months of 2008 declined
approximately 3.1% as a result of multiple factors, including: an increase in national competition;
a softening of the U.S. economy; price increases made in response to an increase in the cost of
commodities; and transition issues surrounding the Merger.
38
Shipments Customer. The following table sets forth a comparison of shipments by customer
(in barrels) for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
|
|
2008 |
|
2007 |
|
|
|
|
|
|
Draft |
|
Bottle |
|
Total |
|
Draft |
|
Bottle |
|
Total |
|
Increase / |
|
% |
|
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
Shipments |
|
(Decrease) |
|
Change |
A-B |
|
|
87,000 |
|
|
|
109,900 |
|
|
|
196,900 |
|
|
|
35,700 |
|
|
|
47,000 |
|
|
|
82,700 |
|
|
|
114,200 |
|
|
|
138.1 |
% |
Craft Brands |
|
|
16,300 |
|
|
|
41,800 |
|
|
|
58,100 |
|
|
|
27,900 |
|
|
|
64,800 |
|
|
|
92,700 |
|
|
|
(34,600 |
) |
|
|
(37.3 |
) |
Contract brewing |
|
|
16,500 |
|
|
|
14,500 |
|
|
|
31,000 |
|
|
|
37,400 |
|
|
|
24,200 |
|
|
|
61,600 |
|
|
|
(30,600 |
) |
|
|
(49.7 |
) |
Pubs and other (1) |
|
|
4,700 |
|
|
|
1,700 |
|
|
|
6,400 |
|
|
|
3,200 |
|
|
|
900 |
|
|
|
4,100 |
|
|
|
2,300 |
|
|
|
56.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shipped |
|
|
124,500 |
|
|
|
167,900 |
|
|
|
292,400 |
|
|
|
104,200 |
|
|
|
136,900 |
|
|
|
241,100 |
|
|
|
51,300 |
|
|
|
21.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
International, non-wholesalers, pubs and other |
Prior to July 1, 2008, the Companys products were shipped to wholesalers, both through A-B in
the midwest and eastern U.S. and through Craft Brands in the west. In connection with the Merger,
Craft Brands was merged with and into the Company and all shipments to wholesalers in the western
U.S. began to be sold through A-B.
Pricing and Fees. Average revenue per barrel on shipments of beer for the first nine months
of 2008 was approximately 26% higher than average revenue per barrel for the first nine months of
2007. Comparison of the nine months results was significantly impacted by the Merger and the
resulting change in the sales structure since July 1, 2008. During the nine months ended September
30, 2008, the Company sold approximately 67% of its beer at wholesale pricing levels through A-B
and 30% at prices that were lower than wholesale prices to either Craft Brands for sales in the
western U.S. or to Widmer for contract brewing. During the nine months ended September 30, 2007,
the Company sold 34% of its product at wholesale pricing levels in the midwest and eastern U.S.,
another 38% at lower than wholesale pricing levels to Craft Brands in the western U.S., and 26% at
agreed-upon pricing levels for beer brewed on a contract basis.
During the nine months ended September 30, 2008, the Margin was paid to A-B on shipments
totaling 196,900 barrels. During the nine months ended September 30, 2007, the Margin was paid to
A-B on shipments totaling 82,700 barrels. Because 2008 year-to-date shipments in the U.S. exceeded
2003 year-to-date shipments in the same territory, the Company paid A-B the Additional Margin on
52,700 barrels. Because 2007 year-to-date shipments in the midwest and eastern U.S. exceeded 2003
year-to-date shipments in the same territory, the Company paid A-B the Additional Margin on 23,500
barrels. For the nine months ended September 30, 2008 and 2007, the Company paid a total of
$1,879,000 and $789,000, respectively, to A-B related to the Margin and Additional Margin. The
Margin and Additional Margin are reflected as a reduction of sales in the Companys statements of
operations.
Alternating Proprietorship. Fees received from Kona under the alternating proprietorship
arrangement for the nine months ended September 30, 2008 totaled $3,362,000 and are reflected as
sales in the Companys statements of operations.
Retail Operations and Other Sales. Sales through the Companys retail operations and other
sales increased $981,000 to $5,930,000 in the 2008 nine-month period from $4,949,000 in the 2007
nine-month period, primarily as the result of the addition of a third pub pursuant to the Merger
and increases in food and beer sales at the pubs located at the Washington and New Hampshire
Breweries.
Excise Taxes. Excise taxes for the nine months ended September 30, 2008 increased
$453,000, or 11.7%, but decreased as a percentage of net sales and on a per barrel basis when
compared to the nine months ended September 30, 2007.
Cost of Sales. Cost of sales increased 61% to $43,863,000 for the first nine months
of 2008 from $27,307,000 in the same 2007 period and increased on a per barrel basis. In contrast,
cost of sales decreased as a percentage of net sales to 85.0% from 86.6% because of the significant
change in product mix and pricing caused by the Merger. Comparability of the periods was significantly affected by the Merger and the resulting third
quarter 2008 change in operations, including a 21% increase in shipments, the addition of a third
brewery, a change in the mix of products shipped, the addition of the alternating proprietorship
relationship, a third pub and the elimination of the licensing agreement and contract brewing
arrangements.
39
Cost of sales for the first nine months of 2008 includes third quarter of 2008 costs to
produce Widmer-branded products that were brewed by Widmer prior to the Merger. These
Widmer-branded products are in addition to those produced by the Company prior to the Merger
pursuant to the licensing agreement and the contract brewing arrangements. The increase in direct
costs to produce these Widmer-branded products was slightly offset by the elimination of licensing
fees paid to Widmer in connection with the licensing agreement that terminated upon consummation of
the Merger. The first nine months of 2007 includes $339,000 for licensing fees paid to Widmer in
connection with the Companys shipment of 23,200 barrels of Widmer Hefeweizen in the midwest and
eastern U.S.
The annual working capacity of the Oregon Brewery acquired in the Merger is approximately
377,000 barrels, nearly the same as the combined annual working capacity of the Companys
Washington and New Hampshire Breweries prior to the Merger. As expected, cost of sales increased
significantly as a result the Oregon Brewerys fixed and semi-variable costs, including
depreciation, utilities, labor, rent, and property taxes. For example, depreciation expense for the
nine months ended September 30, 2008 increased approximately 40%, or $835,000, over depreciation
expense for the first nine months of 2007. While the fixed and semi-variable costs other than
depreciation have not increased to the same degree as depreciation, the increases in these costs
were substantial.
Based upon the Companys combined working capacity of 377,000 barrels and 272,000 barrels for
the first nine months of 2008 and 2007, the utilization rate was 78% and 89%, respectively.
Capacity utilization rates are calculated by dividing the Companys total shipments by the working
capacity.
Cost of sales for the first nine months of 2008 includes third quarter 2008 costs associated
with two distinct Kona revenue streams: (i) direct and indirect costs related to the alternating
proprietorship arrangement with Kona and (ii) the cost paid to Kona for the Kona-branded finished
goods that are marketed and sold by the Company to wholesalers through the A-B Distribution
Agreement.
Inventories acquired pursuant to the Merger were recorded at their estimated fair values as of
July 1, 2008, resulting in an increase (the Step Up Adjustment) over the cost at which these
inventories were stated on the June 30, 2008 Widmer balance sheet. The July 1, 2008 Step Up
Adjustment totaled approximately $1,040,000 for raw materials acquired and $118,000 for work in
process and finished goods acquired. During the quarter ended September 30, 2008, approximately
$226,000 of the Step Up Adjustment was expensed to cost of sales in connection with normal
production and sales.
Cost of sales and gross margin were negatively impacted by an increase in the cost of some raw
materials and packaging materials.
Merger-related expenses. In connection with the Merger, the Company incurred
merger-related expenditures, including legal, consulting, meeting, filing, printing and severance
costs. These expenditures have been reflected in the Companys financial statements in accordance
with SFAS 141. During the nine months ended September 30, 2008 and 2007, merger-related expenses
totaling $1,643,000 and $448,000, respectively, were recorded as selling, general and
administrative expenses in the Companys statements of operations. During the nine months ended
September 30, 2008, other merger-related costs totaling $663,000 were capitalized as a component of
goodwill on the balance sheet; no costs were capitalized during the 2007 nine-month period.
Merger-related expenses include severance payments to employees and officers whose employment
was or will be terminated as a result of the Merger. The Company estimates that severance benefits
totaling approximately $1.74 million will be paid in 2008 and 2009 to all affected former Redhook
employees and officers, and affected former Widmer employees. Of the total severance, $1.4 million
was recognized as a merger-related expense in the Companys statement of operations during the nine
months ended September 30, 2008.
Selling, General and Administrative Expenses. Selling, general and administrative
expenses for the nine months ended September 30, 2008 increased $5,823,000 to $11,985,000 from
expenses of $6,162,000 for the same period in 2007. Comparability of the two periods is difficult
because the Merger resulted in a significant increase in sales, marketing and administrative
functions, particularly in the third quarter of 2008:
|
|
Prior to July 1, 2008, selling, general and administrative expense in the Companys
statement of operations reflected the sales and marketing efforts only for the midwest and
eastern U.S. because Craft Brands performed these functions for the western U.S. In the third
quarter of 2008, all promotion, marketing and sales efforts for the
entire U.S. for Redhook-, Widmer- and Kona-branded products are reflected in the Companys
statement of operations. |
|
|
Finance, accounting and information technology functions performed in Woodinville,
Washington prior to the Merger were transferred to staff in the Portland, Oregon office
following the Merger. Because the transition of |
40
|
|
these functions was not complete until the end
of the third quarter of 2008, selling, general and administrative expenses for the 2008 third
quarter include salaries and related administrative costs for both offices. |
Income from Equity Investment in Craft Brands. Because Craft Brands was merged with
and into the Company in connection with the Merger, the Company did not recognize income from its
investment in Craft Brands after June 30, 2008. For the nine months ended September 30, 2008, the
Companys share of Craft Brands net income totaled $1,390,000 compared to $2,210,000 for the same
period in 2007.
Income
from Equity Investments in Kona and FSB. In conjunction with the Merger, the Company
acquired from Widmer a 20% equity ownership in Kona and a 42% equity ownership in Fulton Street
Brewery, LLC. Both investments are accounted for under the equity method, as outlined by APB 18.
For the nine months ended September 30, 2008, the Companys share of Konas net income totaled
$26,000 and the Companys share of FSBs net loss totaled $25,000.
Interest Expense. Interest expense increased approximately $206,000 to $452,000 in
the first nine months of 2008 from $246,000 in the first nine months of 2007, due to a higher level
of debt outstanding during the current period. In connection with the Merger, the Company increased
its leverage, such that average outstanding debt for the first nine months of 2008 was $9.4 million as
compared with average outstanding debt of $4.6 million for the first nine months of 2007.
Other Income, net. Other income, net decreased by $308,000 to $97,000 for the first
nine months of 2008 from $405,000 for the same period of 2007, primarily attributable to a $208,000
decrease in interest income earned on interest-bearing deposits. The Companys interest-bearing deposits were
significantly lower than 2007 deposits as a result of the repayment of the $4.3 million term loan
in December 2007 and the acquisition of additional debt in connection with the Merger.
Income Taxes. The Companys provision for income taxes was a benefit of $1,658,000
for the first nine months of 2008, as compared with an expense of $49,000 for the first nine months
of 2007. The tax provision is driven by pre-tax results relative to other components of the tax
provision calculation, such as the exclusion of a portion of meals and entertainment expenses from
tax return deductions. Realization of an income tax benefit is dependent on the Companys ability
to generate future U.S. taxable income. To the extent that the Company is unable to generate
adequate taxable income in future periods, the Company may not be able to recognize additional tax
benefits and may be required to record a valuation allowance covering potentially expiring NOLs.
At December 31, 2007, the Companys balance sheet included a valuation allowance of $1,059,000
to cover certain federal and state NOLs. In connection with the Merger, the Company determined that
the valuation allowance was no longer required and recorded the release against goodwill. The
Company believes that future taxable income will fully utilize the federal and state NOLs before
they expire. Among other factors, the Company considered future taxable income generated by
projected differences between book depreciation and tax depreciation, including the depreciation on
the assets acquired in the Merger.
Liquidity and Capital Resources
The Company has required capital principally for the construction and development of its
production facilities. Historically, the Company has financed its capital requirements through cash
flow from operations, bank borrowings and the sale of common and preferred stock. The Company
expects to meet its future financing needs and working capital and capital expenditure requirements
through cash on hand, operating cash flow and bank borrowings, and to the extent required and
available, offerings of debt or equity securities. However, the Company was not in compliance with
financial covenants associated with its loan agreement at September 30, 2008. The Company and its
lender, Bank of America, N.A. executed a loan modification to its loan agreement effective November
14, 2008, under which BofA permanently waived the noncompliance effective September 30, 2008,
restoring the Companys borrowing capacity pursuant to the loan
agreement. The terms of the modified loan agreement are discussed in more detail below.
The Company had $253,000 and $5,527,000 of cash and cash equivalents at September 30, 2008 and
December 31, 2007, respectively. At September 30, 2008, the Company had a working capital deficit
of $2,609,000. The Companys debt as a percentage of total capitalization (total debt and common
stockholders equity) was 21.2% at September 30, 2008 and 0.1% at December 31, 2007. Cash used by
operating activities totaled $2,092,000 for the
nine months ended September 30, 2008 as compared with cash provided by operating activities of
$2,084,000 for the nine months ended September 30, 2007.
Planned capital expenditures for fiscal year 2008 are expected to total approximately $7.6
million, of which the Company has already expended $5.5 million through September 30, 2008. Major
2008 projects include a $3.3 million
41
expansion of brewing and fermentation capacity at the New
Hampshire Brewery, $1.8 million in improvements to the water treatment system at the New Hampshire
Brewery, and $2.1 million for the purchase of additional kegs. The Companys capital expenditures
to date include the New Hampshire Brewery fermentation expansion project and the water treatment
system totaling $3.4 million and kegs totaling $1.3 million. Capital expenditures will be funded
with operating cash flows and debt. Although the Company is subject
to limits on its capital expenditures
due to the modification of its loan agreement, the Company expects that all planned projects will
be able to be completed within the revised covenants.
As a result of the Merger, the Company assumed borrowings under Widmers outstanding credit
arrangement; however, the Company refinanced these amounts by concurrently entering into a new loan
agreement (the Loan Agreement) with BofA. The Loan Agreement is comprised of a $15.0 million
revolving line of credit (Line of Credit), including provisions for cash borrowings and up to
$2.5 million notional amount of letters of credit, and a $13.5 million term loan (Term Loan). The
Company may draw upon the Line of Credit for working capital and general corporate purposes. The
Line of Credit matures on January 1, 2013 at which time the outstanding principal balance and any
accrued but unpaid interest will be due. At September 30, 2008, the Company had $8.0 million
outstanding under the Line of Credit with $7.0 million of availability for further cash borrowing.
At October 31, 2008, the Company had $13.0 million
outstanding under the Line of Credit, a higher level than needed due in
part to preserving the Companys liquidity while the negotiations with BofA were on-going.
At September 30, 2008, the Company was not in compliance with the covenants for the Loan
Agreement as it was unable to meet either of the two required financial covenants, the funded debt
to bank EBITDA ratio or the fixed charge coverage, for the trailing
twelve months ended September 30, 2008. Bank EBITDA is defined
as Earnings before interest, taxes, depreciation, amortization and
certain other adjustments as defined in the Loan Agreement. The Company and BofA executed a modification to the loan
agreement effective November 14, 2008 (Modification Agreement) that permanently waives the noncompliance as an event of
default at September 30, 2008. The Modification Agreement also subjects the Company to certain
terms and conditions different than under the original Loan Agreement. Those terms and conditions
as modified are summarized below.
Under the Modification Agreement, the Company may select from one of the following two
interest rate benchmarks as the basis for calculating interest on the outstanding principal balance
of the Line of Credit: the London Inter-Bank Offered Rate (LIBOR) or the Inter-Bank Offered Rate
(IBOR) (each, a Benchmark Rate). Interest accrues at an annual rate equal to the Benchmark Rate
plus a marginal rate. The Company may select different Benchmark Rates for different tranches of
its borrowings under the Line of Credit. The marginal rate is fixed at 3.50% until September 30,
2009 at which time it will vary from 1.75% to 3.50% based on the ratio of the Companys funded debt
to EBITDA, as defined. LIBOR rates may be selected for one, two, three, or six month periods, and
IBOR rates may be selected for no shorter than 14 days and no longer than six months. Under the
Modification Agreement, the Company may not draw upon the Line of Credit in increments of less than $1
million. Accrued interest for the Line of Credit is due and payable monthly. At September 30,
2008, the weighted-average interest rate for the borrowings outstanding under the Line of Credit
was 4.36%; however, as a result of the Modification Agreement, this rate is expected to increase
moderately during the fourth quarter of 2008.
Interest on the Term Loan will accrue on the outstanding principal balance in the same manner
as provided for under the Line of Credit, as established under the LIBOR one-month Benchmark Rate.
The interest rate on the Term Loan was 4.22% as of September 30, 2008, but as a result of the
Modification Agreement, is expected to increase during the fourth quarter of 2008. Accrued interest
for the Term Loan is due and payable monthly. At September 30, 2008, principal payments are due
monthly in accordance with an agreed-upon schedule set forth in the Loan Agreement. Any unpaid
principal balance and unpaid accrued interest will be due on July 1, 2018.
The Loan Agreement is secured by substantially all of the Companys personal property and by
the real properties located at 924 North Russell Street, Portland, Oregon and 14300 NE
145th Street, Woodinville, Washington (Collateral), which house the Oregon Brewery and
the Washington Brewery, respectively.
The Modification Agreement also revises the types of financial covenants that the Company is
required to meet for each quarter through June 30, 2009. Beginning with the quarter ending
September 30, 2009 and all quarters thereafter, the Company will be required to meet the financial
covenant ratios established pursuant to the Loan Agreement, but at
levels specified by the Modification Agreement.
42
The following table summarizes the financial covenant ratios required pursuant to the
Modification Agreement:
Financial Covenants Required by Modification Agreement
|
|
|
|
|
Minimum EBITDA, as defined |
|
|
|
|
For the quarter ending December 31, 2008 |
|
$ |
875,000 |
|
For the quarter ending March 31, 2009 |
|
$ |
850,000 |
|
For the quarter ending June 30, 2009 |
|
$ |
2,300,000 |
|
For the quarter ending September 30, 2009 and thereafter |
|
Does not apply |
|
|
|
|
|
|
|
|
|
|
Asset Coverage Ratio |
|
|
|
|
For the quarter ending December 31, 2008 and thereafter |
|
|
1.50 to 1 |
|
|
|
|
|
|
Capital Expenditures |
|
|
|
|
To spend or incur obligations less than the following: |
|
|
|
|
For the quarter ending December 31, 2008 |
|
$ |
2,250,000 |
|
For the quarter ending March 31, 2009 (1) |
|
$ |
1,350,000 |
|
For the quarter ending June 30, 2009 (1) |
|
$ |
550,000 |
|
For the quarter ending September 30, 2009 and thereafter |
|
Does not apply |
|
|
|
|
|
|
|
|
(1) |
|
- Provides for carryover spending of any amount not used in the prior quarter |
EBITDA
as defined in the Modification Agreement is similar to Bank EBITDA
but includes certain adjustments specific to the Modification
Agreement.
In addition, the Company is restricted in its ability to declare or pay dividends, repurchase
any outstanding common stock, acquire additional debt or enter into any agreement that would result
in a change in control of the Company.
If
the Company is unable to generate sufficient EBITDA to meet the
associated covenant, this would result in a violation. Failure to meet the covenants is an
event of default and, at its option, BofA could deny a request for another waiver and declare the
entire outstanding loan balance immediately due and payable. In such a case, the Company would seek
to refinance the loan with one or more lenders, potentially at less desirable terms. However, there
can be no guaranty that additional financing would be available at commercially reasonable terms,
if at all.
As a result of the Merger, the Company assumed Widmers promissory notes signed in connection
with the acquisition of commercial real estate related to the Portland, Oregon brewery. These notes
were separately executed by Widmer with three individuals, but under substantially the same terms
and conditions. Each promissory note is secured by a deed of trust on the commercial real estate.
The outstanding note balance to each lender as of September 30, 2008 was $200,000, with each note
bearing a fixed interest rate of 24% per annum, subject to a one-time adjustment on July 1, 2010 to
reflect the change in the consumer price index from the date of issue, July 1, 2005, to the date of
adjustment. The promissory notes are carried at the total of stated value plus a premium reflecting
the difference between the Companys incremental borrowing rate and the stated note rate. The
effective interest rate for each note is 6.31%. Each note matures on the earlier of the individual
lenders death or July 1, 2015, but in no event prior to July 1, 2010, with prepayment of principal
not allowed under the notes terms. Interest payments are due and payable monthly.
As a result of the Merger, the Company assumed Widmers capital equipment lease obligation to
BofA, which is secured by substantially all of the brewery equipment and restaurant furniture and
fixtures located in Portland, Oregon. The outstanding balance for the capital lease as of September
30, 2008 was $6,826,000, with monthly loan payments of $119,020 required through the maturity date
of June 30, 2014. The capital lease carries an effective interest rate of 6.56%. The capital lease
is subject to a prepayment penalty of the product of a specified percentage and the amount prepaid.
This specified percentage began at 4% and, except in the event of acceleration due to an event of
default, ratably declines 1% for every year the lease is outstanding until July 31, 2011, at which
time the capital lease is not subject to a prepayment penalty. The specified percentage is 3% as of
September 30, 2008. In the event of acceleration due to an event of default, the prepayment penalty
is restored to 4%.
43
Trend
Since
July 1, 2008, the Company has experienced a $5.5 million decline in working capital. The
2008 third quarter decline is partially attributable to $2.9 million in capital expenditures, $0.6
million in merger-related costs and $1.2 million in debt and interest payments. These declines in
working capital have impacted the Companys financial position, including the Companys ability to
comply with the financial covenants required by its loan agreement.
The
Company recognizes the need to evaluate and improve its operating
cost structure.
Management has focused aggressively on identifying areas within the Company that can yield
significant cost savings, whether driven by the synergies of the Merger and integration or
generated by general cost-reduction programs, and executing appropriate measures to secure these
savings. The Company has been and will continue to implement these
cost savings initiatives during the third and fourth quarters of 2008. Management
believes that the Company can meet its normal cash flow requirements and comply with the terms of
its bank loan, but there is no assurance that it can do so. The failure to meet the working capital
requirements could have a material adverse effect on the Companys future operations and growth.
Critical Accounting Policies and Estimates
The Companys financial statements are based upon the selection and application of significant
accounting policies that require management to make significant estimates and assumptions.
Management believes that the following are some of the more critical judgment areas in the
application of the Companys accounting policies that currently affect its financial condition and
results of operations. Judgments and uncertainties affecting the application of these policies may
result in materially different amounts being reported under different conditions or using different
assumptions.
Income Taxes. The Company records federal and state income taxes in accordance with
FASB SFAS No. 109, Accounting for Income Taxes. Deferred income taxes or tax benefits reflect the
tax effect of temporary differences between the amounts of assets and liabilities for financial
reporting purposes and amounts as measured for tax purposes as well as for tax net operating loss
and credit carryforwards.
At December 31, 2007, the Companys balance sheet included a valuation allowance of $1,059,000
to cover certain federal and state NOLs. In connection with the Merger, the Company determined that
the valuation allowance was no longer required and recorded the release against goodwill. The
Company believes that future taxable income will fully utilize the federal and state net operating
loss carryforwards before they expire. Among other factors, the Company considered future taxable
income generated by projected differences between book depreciation and tax depreciation, including
the depreciation on the assets acquired in the Merger.
As of September 30, 2008, the Companys deferred tax assets were primarily comprised of
federal NOLs of $27.6 million, or $9.4 million tax-effected; federal and state alternative minimum
tax credit carryforwards of $183,000 tax-effected; and state NOL
carryforwards of $264,000
tax-effected. In assessing the realizability of the deferred tax assets, the Company considered
both positive and negative evidence when measuring the need for a valuation allowance. The ultimate
realization of deferred tax assets is dependent upon the existence of, or generation of, taxable
income during the periods in which those temporary differences become deductible. The Company
considered the scheduled reversal of deferred tax liabilities, projected future taxable income and
other factors in making this assessment. The Companys estimates of future taxable income take into
consideration, among other items, estimates of future taxable income related to depreciation. Based
upon the available evidence, the Company believes that the deferred tax assets will be realized. To
the extent that the Company continues to be unable to generate adequate taxable income in future
periods, the Company will not be able to recognize additional tax benefits and may be required to
record a valuation allowance to cover potentially expiring NOLs.
There were no unrecognized tax benefits as of September 30, 2008 or December 31, 2007. The
Company does not anticipate significant changes to its unrecognized tax benefits within the next
twelve months.
Goodwill, other intangible assets and long-lived assets. In accordance with SFAS No.
142, Goodwill and Other Intangible Assets (SFAS 142), goodwill and other intangible assets with
indefinite useful lives are not amortized but are reviewed periodically for impairment.
The provisions of SFAS 142 require that an intangible asset that is not subject to
amortization, including goodwill, be tested for impairment annually, or more frequently if events
or changes in circumstances indicate that the asset might be impaired. The provisions also require
that a two-step test be performed to assess goodwill for impairment. First, the fair value of each
reporting unit is compared to its carrying value, including goodwill. If the fair value
44
exceeds the
carrying value then goodwill is not impaired and no further testing is performed. If the carrying
value of a reporting unit exceeds its fair value, the second step of the goodwill impairment test
is performed to measure the amount of impairment loss, if any. The second step compares the fair
value of the reporting units goodwill with the carrying amount of the goodwill. An impairment loss
would be recognized in an amount equal to the excess of the carrying amount of goodwill over the
fair value of the goodwill.
The significant estimates and assumptions used by management in assessing the recoverability
of goodwill and other intangible assets are estimated future cash flows, present value discount
rate, and other factors. Any changes in these estimates or assumptions could result in an
impairment charge. The estimates of future cash flows, based on reasonable and supportable
assumptions and projections, require managements subjective judgment.
The Company will amortize intangible assets with finite lives over their respective finite
lives up to their estimated residual values. The Company will evaluate potential impairment of
long-lived assets in accordance with SFAS 144, Accounting for the Impairment or Disposal of
Long-Lived Assets (SFAS 144). SFAS 144 establishes procedures for review of recoverability and
measurement of impairment, if necessary, of long-lived assets and certain identifiable intangibles.
When facts and circumstances indicate that the carrying values of long-lived assets may be
impaired, an evaluation of recoverability is performed by comparing the carrying value of the
assets to projected future undiscounted cash flows in addition to other quantitative and
qualitative analyses. Upon indication that the carrying value of such assets may not be
recoverable, the Company recognizes an impairment loss by a charge against current operations.
Refundable Deposits on Kegs. The Company distributes its draft beer in kegs that are
owned by the Company as well as in kegs that have been leased from third parties. Kegs that are
owned by the Company are reflected in the Companys balance sheets at cost and are depreciated over
the estimated useful life of the keg. When draft beer is shipped to the wholesaler, regardless of
whether the keg is owned or leased, the Company collects a refundable deposit, reflected as a
current liability in the Companys balance sheets. Upon return of the keg to the Company, the
deposit is refunded to the wholesaler. When a wholesaler cannot account for some of the Companys
kegs for which it is responsible, the wholesaler pays the Company, for each keg determined to be
lost, a fixed fee and also forfeits the deposit. During the nine months ended September 30, 2008
and 2007, the Company reduced its brewery equipment by $650,000 and $528,000, respectively,
comprised of lost keg fees and forfeited deposits.
Because of the significant volume of kegs handled by each wholesaler and retailer, the
similarities between kegs owned by most brewers, and the relatively low deposit collected on each
keg when compared to the market value of the keg, the Company has experienced some loss of kegs and
anticipates that some loss will occur in future periods. The Company believes that this is an
industry-wide problem and the Companys loss experience is typical of the industry. In order to
estimate forfeited deposits attributable to lost kegs, the Company periodically uses internal
records, A-B records, other third party records, and historical information to estimate the
physical count of kegs held by wholesalers and A-B. These estimates affect the amount recorded as
brewery equipment and refundable deposits as of the date of the financial statements. The actual
liability for refundable deposits could differ from estimates. For the nine months ended September
30, 2008 and 2007, the Company decreased its refundable deposits and brewery equipment by $62,000
and $306,000, respectively. As of September 30, 2008 and December 31, 2007, the Companys balance
sheets include $6,271,000 and $3,114,000, respectively, in refundable deposits on kegs and
$5,485,000 and $655,000 in keg equipment, net of accumulated depreciation.
Revenue Recognition. Effective with the Merger, the Company recognizes revenue from
product sales, net of excise taxes, discounts and certain fees the Company must pay in connection
with sales to A-B, when the products are delivered to A-B or the wholesaler. In prior periods, it
had recognized revenues from these activities when the associated products were shipped to the
customers as the time between shipment and delivery is short, product damage claims and returns are
insignificant and the volume of shipments involved was relatively low. The Company assessed the
cumulative impact of this change in accounting policy and determined that the change is not
material to the consolidated financial statements as of and for the nine months ended September 30,
2008 or any prior period.
The Company also earns revenue in connection with two operating agreements with Kona an
alternating proprietorship agreement and a distribution agreement. Pursuant to the alternating
proprietorship agreement, Kona produces a portion of its malt beverages at the Oregon Brewery. The
Company receives a facility fee from Kona based on the barrels brewed and packaged at the Companys
brewery. Fees are recognized as revenue upon
completion of the brewing process and packaging of the product. In connection with the
alternating proprietorship agreement, the Company also sells certain raw materials to Kona for use
in brewing. Revenue is recognized when the raw materials are removed the Companys stock. Under the
distribution agreement, the Company purchases Kona-
45
branded product from Kona, whether manufactured
at Konas Hawaii brewery or the Companys brewery, then sells and distributes the product,
recognizing revenue when the product is delivered to A-B or the wholesaler.
The Company recognizes revenue on retail sales at the time of sale. The Company recognizes
revenue from events at the time of the event.
Fair value of financial instruments. The recorded value of the Companys financial
instruments is considered to approximate the fair value of the instruments, in all material
respects, because the Companys receivables and payables are recorded at amounts expected to be
realized and paid, the Companys derivative financial instruments are carried at fair value, and
the carrying value of the Companys debt obligations that were assumed in the Merger were adjusted
to their respective fair values as of the effective date of the Merger.
The Company has adopted the provisions of SFAS No. 133, Accounting for Derivative Instruments
and Hedging Activities, which requires that all derivatives be recognized at fair value in the
balance sheet, and that the corresponding gains or losses be reported either in the statement of
operations or as a component of comprehensive income, depending on whether the instrument meets the
criteria to apply hedge accounting. Derivative financial instruments are utilized by the Company to
reduce interest rate risk. The counterparties to derivative transactions are major financial
institutions, which the Company believes to be of low credit risk. The Company does not hold or
issue derivative financial instruments for trading purposes.
Recent Accounting Pronouncements
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and
Financial LiabilitiesIncluding an Amendment of FASB Statement No. 115 (SFAS 159). SFAS 159
permits entities to choose to measure many financial instruments and certain other items at fair
value. The objective is to provide entities with the opportunity to mitigate volatility in reported
earnings caused by measuring related assets and liabilities differently without having to apply
complex hedge accounting provisions. SFAS 159 is expected to expand the use of fair value
measurement, which is consistent with the FASBs long-term measurement objectives for accounting
for financial instruments. SFAS 159 is effective for fiscal years beginning after November 15, 2007
but early adoption is permitted. Although the Company adopted SFAS 159 as of January 1, 2008, the
Company did not elect the fair value option for any items permitted under SFAS 159.
In December 2007, the Emerging Issues Task Force (EITF) of the FASB reached a consensus on
issue No. 07-1, Accounting for Collaborative Arrangements (EITF 07-1). The EITF defines a
collaborative arrangement and concludes that revenues and costs incurred with third parties in
connection with collaborative arrangements would be presented gross or net based on the criteria in
EITF No. 99-19 and other accounting literature. Based on the nature of the arrangement, payments to
or from collaborators would be evaluated and its terms, the nature of the entitys business, and
whether those payments are within the scope of other accounting literature would be presented.
Companies are also required to disclose the nature and purpose of collaborative arrangements along
with the accounting policies and the classification and amounts of significant financial statement
balances related to the arrangements. Activities in the arrangement conducted in a separate legal
entity should be accounted for under other accounting literature; however required disclosure under
EITF 07-1 applies to the entire collaborative agreement. EITF 07-1 is effective for financial
statements issued for fiscal years beginning after December 15, 2008, and interim periods within
those fiscal years, and is to be applied retrospectively to all periods presented for all
collaborative arrangements existing as of the effective date. The Company is currently evaluating
the impact that EITF 07-1 will have on the Companys financial statements.
In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and
Hedging Activities An Amendment of FASB Statement No. 133 (SFAS 161). SFAS 161 requires
enhanced disclosures about an entitys derivative and hedging activities in order to improve the
transparency of financial reporting. SFAS 161 amends and expands the disclosure requirements of
SFAS 133 to provide users of financial statements with an enhanced understanding of (i) how and why
an entity uses derivative instruments; (ii) how derivative instruments and related hedged items are
accounted for under SFAS 133 and its related interpretations, and (iii) how derivative instruments
and related hedged items affect an entitys financial position, results of operations, and cash
flows. SFAS 161 requires (i) qualitative disclosures about objectives for using derivatives by
primary underlying risk exposure, (ii) information about the volume of derivative activity, (iii)
tabular disclosures about balance sheet location and gross fair value amounts of derivative
instruments, income statement, and other comprehensive income location and
amounts of gains and losses on derivative instruments by type of contract, and (iv)
disclosures about credit-risk-related contingent features in derivative agreements. SFAS 161 is
effective for financial statements issued for fiscal years and interim periods beginning after
November 15, 2008. SFAS 161 encourages, but does not require,
46
comparative disclosures for earlier
periods at initial adoption. The Company is currently evaluating the impact that SFAS No. 161 will
have on its financial statement disclosures, but does not expect SFAS 161 to have a material impact
on the Companys financial statements.
In April 2008, the FASB issued FASB Staff Position (FSP) No. 142-3, Determination of the
Useful Life of Intangible Assets (FSP FAS 142-3). FSP FAS 142-3 amends the factors that should be
considered in developing renewal or extension assumptions used to determine the useful life of a
recognized intangible asset under SFAS 142. The intent of FSP FAS 142-3 is to improve the
consistency between the useful life of a recognized intangible asset under SFAS 142 and the period
of expected cash flows used to measure the fair value of the asset under SFAS No. 141R, Business
Combinations, and other pronouncements. FSP FAS 142-3 is effective for financial statements issued
for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years.
Early adoption is prohibited. The Company is currently evaluating the impact that FSP FAS 142-3
will have on the Companys financial statements.
On October 10, 2008, the FASB issued FAS No. 157-3, Determining the Fair Value of a Financial
Asset When the Market for That Asset is Not Active (FSP FAS 157-3), which clarifies the
application of SFAS No. 157, Fair Value Measurement, in an inactive market. FSP FAS 157-3 addresses
application issues such as how managements internal assumptions should be considered when
measuring fair value when relevant observable data do not exist; how observable market information
in a market that is not active should be considered when measuring fair value and how the use of
market quotes should be considered when assessing the relevance of observable and unobservable data
available to measure fair value. FSP FAS 157-3 was effective upon issuance. Our adoption of FSP
FAS 157-3 had no material effect on our financial condition or results of operations.
47
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk
The Company has assessed its vulnerability to certain market risks, including interest rate
risk associated with financial instruments included in cash and cash equivalents and long-term
debt. To mitigate this risk, the Company entered into a five-year interest rate swap agreement to
hedge the variability of interest payments associated with its variable-rate borrowings. Through
this swap agreement, the Company pays interest at a fixed rate of 4.48% and receives interest at a
floating-rate of the one-month LIBOR. Since the interest rate swap hedges the variability of
interest payments on variable rate debt with similar terms, it qualifies for cash flow hedge
accounting treatment under SFAS 133.
This interest rate swap reduces the Companys overall interest rate risk. However, due to the
remaining outstanding borrowings that continue to have variable interest rates, management believes
that interest rate risk to the Company could be material if prevailing interest rates increase
materially.
ITEM 4T. Controls and Procedures
Disclosure Controls and Procedures
The Company has carried out an evaluation of the effectiveness of the design and operation of
the Companys disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e) or
15d-15(e)) as of the end of the period covered by this quarterly report on Form 10-Q. Based upon
that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the
Companys disclosure controls and procedures are effective at the reasonable assurance level.
The Company maintains disclosure controls and procedures that are designed to ensure that
information required to be disclosed in the reports filed or submitted under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified in the SECs rules
and forms and that such information is accumulated and communicated to management, including the
Chief Executive Officer and the Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure. Management believes that key controls are in place and the
disclosure controls are functioning effectively at the reasonable assurance level as of September
30, 2008.
While reasonable assurance is a high level of assurance, it does not mean absolute assurance.
Disclosure controls and internal control over financial reporting cannot prevent or detect all
errors, misstatements or fraud. In addition, the design of a control system must recognize that
there are resource constraints, and the costs associated with controls must be proportionate to
their costs. Notwithstanding these limitations, the Companys management believes that its
disclosure controls and procedures provide reasonable assurance that the objectives of its control
system are being met.
Changes in Internal Control over Financial Reporting
As of December 31, 2007, management conducted an evaluation of the Companys internal control
over financial reporting based on the framework and criteria issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Based on this evaluation, management concluded
that the Companys internal control over financial reporting was effective as of December 31, 2007.
In connection with the Merger, the accounting, finance and information technology functions of the
Company were transferred to former Widmer staff in Portland, Oregon effective July 1, 2008. In
addition, as of July 1, 2008, the Company began using financial, accounting and reporting systems
that were previously utilized by Widmer but not by the Company. Consequently, the Companys
internal controls over financial reporting were significantly redesigned. Management believes that
it has redesigned and implemented a system of internal control over financial reporting that is
appropriate and effective for the post-Merger environment. However, there is no assurance that all
controls, once tested, will be effective as of December 31, 2008.
Except as described above, there have been no changes in our internal control over financial
reporting during the third quarter of 2008 that have materially affected, or are reasonably likely
to materially affect, the Companys internal control over financial reporting.
48
PART II. Other Information
ITEM 1. Legal Proceedings
The Company is involved from time to time in claims, proceedings and litigation arising in the
normal course of business. The Company believes that, to the extent that it exists, any pending or
threatened litigation involving the Company or its properties will not likely have a material
adverse effect on the Companys financial condition or results of operations.
ITEM 1A. Risk Factors
The risks described below, together with all of the other information included in this report,
should be carefully considered in evaluating our business and prospects. The risks and
uncertainties described herein are not the only ones facing us. We operate in a market environment
that is difficult to predict and that involves significant risks, many of which are beyond our
control. If any of the events, contingencies, circumstances or conditions described in the
following risks actually occur, our business, financial condition or results of operations could be
seriously harmed. If that happens, the trading price of our common stock could decline and you may
lose part or all of the value of any shares held by you. Solely for purposes of the risk factors in
this Item 1A., the terms we, our and us refer to Craft Brewers Alliance, Inc.
The market price of our common stock may decline as a result of the Merger. The market price
of our common stock may decline as a result of the Merger for a number of reasons, including if:
|
|
we do not achieve the perceived benefits of the Merger as rapidly or to the extent
anticipated by financial or industry analysts; |
|
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the effect of the Merger on our business and prospects is not consistent with the
expectations of financial or industry analysts; or |
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investors react negatively to the effect of the Merger on our business and prospects. |
The expiration of lock-up agreements entered into with certain Widmer shareholders in
connection with the Merger could cause the market price of our common stock to decline. As a
condition to the closing of the Merger, certain shareholders of Widmer executed lock-up agreements
pursuant to which these holders generally agreed that, from the closing date of the Merger to the
first anniversary of the closing, they will not directly or indirectly sell or otherwise transfer
any shares of our common stock then held or thereafter acquired without the consent of our board of
directors. These Widmer shareholders received 4,002,343 shares of our common stock pursuant to the
Merger, which represents approximately 23.6% of the outstanding shares as of September 30, 2008.
Upon the expiration of the lock-up agreements, all of these shares will be available for sale in
the public market, subject (in the case of shares held by any of these shareholders who are
affiliates of the Company) to volume, manner of sale and other limitations under Rule 144. Such
sales in the public market after the lock-up agreements expire, or the perception that such sales
could occur, could cause the market price of our common stock to decline.
Our shareholders may not realize a benefit from the Merger commensurate with the ownership
dilution they will experience in connection with the Merger. If we are unable to realize the
strategic and financial benefits currently anticipated from the Merger, our shareholders will have
experienced substantial dilution of their ownership interests in their respective companies without
receiving any commensurate benefit.
We may be unable to successfully integrate our operations and realize all of the anticipated
benefits of the Merger. The Merger involves the integration of two companies that previously had
operated independently. The integration has been a complex, costly and time-consuming process. The
difficulties of combining the two companies operations include, among other things:
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implementing operational, financial and management controls, reporting systems and
procedures; |
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coordinating geographically disparate organizations, systems and facilities; |
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integrating personnel with diverse business backgrounds; |
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integrating distinct corporate cultures; |
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consolidating corporate and administrative functions; |
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consolidating operations; |
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retaining key employees; and |
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preserving both companies collaboration, distribution and other important relationships. |
49
Although we have worked on the integration for much of 2008, the integration is not yet
complete. The process of integrating operations could cause an interruption of, or loss of momentum
in, our business and the loss of key personnel. The diversion of managements attention and any
delays or difficulties encountered in connection with the integration of the two companies
operations could harm our business, results of operations, financial condition or prospects. Among
the factors that we considered in connection with our approval of the Merger agreement were the
opportunities for synergies in expanding the breweries and efficiently utilizing the available
production capacity, implementing a national sales strategy and reducing costs associated with
duplicate functions. There can be no assurance that these synergies will be realized within the
time periods contemplated or that they will be realized at all. There also can be no assurance that
our integration with Widmer will be successful or will result in the realization of the full
benefits anticipated by us.
If we fail to implement and maintain proper and effective internal controls, our ability to
produce accurate financial statements could be impaired, which could adversely affect our business
and investors views of us. Ensuring that we have adequate internal financial and accounting
controls and procedures in place to produce accurate financial statements on a timely basis is a
costly and time-consuming effort that needs to be reevaluated frequently. Implementing appropriate
changes to our internal controls may distract us and may entail substantial costs in order to
complete. These efforts may not, however, be effective in maintaining the adequacy of our internal
controls, and any failure to maintain that adequacy, or consequent inability to produce accurate
financial statements on a timely basis, could adversely affect our operating results and could
materially impair our ability to operate our business. In addition, investors perceptions that our
internal controls are inadequate or that we are unable to produce accurate financial statements may
adversely affect our stock price.
The integration of Widmer may result in significant expenses and accounting charges that
adversely affect our operating results. In accordance with generally accepted accounting
principles, the acquisition of Widmer was accounted for using the purchase method of accounting.
Our financial results have been and may continue to be adversely affected by the resulting
accounting charges incurred in connection with the Merger, including restructuring and integration
costs. We may incur additional costs associated with combining the operations of the two companies.
Additional costs may include: relocation and retention of employees, including salary increases or
bonuses; severance payments; reorganization or closure of facilities; taxes; advisor and
professional fees and termination of contracts that provide redundant or conflicting services. Some
of these costs have been and may continue to be accounted for as expenses that will increase our
net loss and loss per share for the periods in which those adjustments are made. The price of our
common stock could decline to the extent that our financial results are materially affected by the
foregoing charges and costs, or if the foregoing charges and costs are larger than anticipated.
We are dependent upon the services of our key personnel. If we lose the services of any
members of senior management or key personnel for any reason, we may be unable to replace them with
qualified personnel, which could have a material adverse effect on the companys operations.
Additionally, the loss of Terry Michaelson as our chief executive officer, and the failure to find
a replacement satisfactory to A-B, would be a default under the A-B distribution agreement. We do
not carry key person life insurance on any of the executive officers.
We are partially capitalized with long-term debt. As of September 30, 2008, we have
approximately $29.6 million in outstanding borrowed debt,
principally financed by one lender. The terms of the
loan agreement require that we meet certain financial covenants. Although we were not in compliance
with these financial covenants as of September 30, 2008, the lender provided a waiver of this
violation and agreed to modify the terms of the covenants through the quarter ended June 30, 2009.
These modifications to the financial covenants have reduced the likelihood that a violation of the
covenants will occur in the future. Accordingly, we believe that we will be in compliance with
these financial covenants for the next twelve months. However, if we do not generate financial
results sufficient to meet the financial covenant measurements, we will be in violation of the loan
agreement. Failure to meet the covenants required by the loan agreement is an event of default
and, at its option, the lender could deny a request for another waiver and declare the entire outstanding
loan balance immediately due and payable. In such a case, we would seek to refinance the loan with
one or more lenders, potentially at less desirable terms. Moreover, there can be no guarantee that
additional financing would be available at commercially reasonable terms, if at all.
We are dependent upon our continuing relationship with A-B. Substantially all of our products
are sold and distributed through A-B. If our relationship with A-B deteriorates, distribution of
our products will suffer significant disruption and such event will have a long-term severe
negative impact on our sales and results of operations, as it would be extremely difficult to
rebuild a distribution network. In such an event, we would be faced with finding another national
distribution partner similar to A-B, and entering into a complex distribution and investment
arrangement with that entity, or negotiating separate distribution agreements with individual
distributors throughout
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the U.S. Currently, we distribute our product through a network of more than 560 independent
wholesale distributors, most of whom are geographically contiguous and independently owned and
operated, and 13 branches owned and operated by A-B. If we had to negotiate separate agreements
with individual distributors, such an undertaking would require a significant amount of time to
complete, during which our products would not be distributed. It would also be extremely difficult
for us to build a distribution network as seamless and contiguous as the one we currently enjoy
through A-B. Additionally, we would need to raise significant capital to fund the development of a
new distribution network and continue operations. There can be no guarantee that financing would be
available when needed, or that any such financing would be on commercially reasonable terms. Given
the difficulty that we would face if we needed to rebuild our distribution network, if the current
distribution arrangement with A-B were to be terminated, it is unlikely we would be able to
continue as a going concern. We believe that the benefits of the relationship that we have enjoyed
with A-B, in particular distribution and material cost efficiencies, have offset the costs
associated with the relationship. However, there can be no assurance that these costs will not have
a negative impact on our sales revenues and results of operations. A-B may introduce new products or form
relationships with other companies whose products will compete with our products. Introduction of
and support by A-B of these competing products could reduce wholesaler attention and financial
resources committed to our products. There is no assurance that we will be able to successfully
compete in the marketplace against other A-B supported products. Such an increase in competition
could cause our sales and results of operations to be adversely affected.
Our agreements with A-B contain limitations on our ability to engage in or reject certain
transactions, including acquisitions and changes of control. The exchange and recapitalization
agreement with A-B requires us to obtain the consent of A-B prior to taking certain actions, or to
offer to A-B a right of first refusal, including the following:
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issuance of equity securities; |
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acquisition or sale of assets or stock; |
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amendment of our articles of incorporation or bylaws; |
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grant of board representation rights; |
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entering into certain transactions with affiliates; |
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distributing our products in the U.S. other than through A-B or as provided in the amended
distribution agreement with A-B; |
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distributing or licensing the production of any malt beverage product in any country
outside of the U.S.; or |
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voluntarily delisting or terminating our listing on the Nasdaq Stock Market. |
Additionally, A-B has the right to terminate the distribution agreement if any competitor of
A-B acquires more than 10% of our outstanding common stock.
Further, if the amended distribution agreement with A-B is terminated, A-B has the right to
solicit and negotiate offers from third parties to purchase all or substantially all of our assets
or securities or to enter into a merger or consolidation transaction with us and the right to cause
the board of directors to consider any such offer. The practical effect of the foregoing
restrictions is to grant A-B the ability to veto certain transactions that management may believe
to be in the best interest of our shareholders, including our expansion through acquisitions of
other craft brewers or new brands, mergers with other brewing companies or our distribution of our
products outside the U.S. As a result, our results of operations and the trading price of our
common stock may be adversely affected.
A-B has significant control and influence over us. As of September 30, 2008, A-B owns
approximately 35.8% of our outstanding common stock and, under the exchange and recapitalization
agreement and the distribution agreement, has the right to appoint two designees to our board of
directors. As a result, A-B will be able to exercise significant control and influence over us and
matters requiring approval of our shareholders, including the election of directors and approval of
significant corporate transactions, such as a merger or other sale of our assets. This could limit
the ability of other shareholders to influence corporate matters and may have the effect of
delaying or preventing a third party from acquiring control us. In addition, A-B may have actual or
potential interests that diverge from the rest of our shareholders. The securities markets may also
react unfavorably to A-Bs ability to influence certain matters involving us, which could have a
negative impact on the trading price of our common stock.
We do not know what impact, if any, the combination of Anheuser-Busch and InBev will have on
our business. On July 13, 2008, A-B and InBev of Belgium jointly announced that InBev will acquire
A-B. As of September 30, 2008, A-B owned 6,069,047 shares, or
approximately 35.8% of the total number of
shares of our common stock. We do not know what impact, if any, the acquisition of A-B by InBev
will have on our distribution or ownership relationships with A-B.
51
We are dependent on our distributors for the sale of our products. Although substantially all
of our products are sold and distributed through A-B, we continue to rely heavily on distributors,
most of which are independent wholesalers, for the sale of our products to retailers. A disruption
of our ability or the ability of the wholesalers or A-B to distribute products efficiently due to
any significant operational problems, such as wide-spread labor union strikes, the loss of a major
wholesaler as a customer or the termination of the distribution relationship with A-B, could hinder
our ability to get our products to retailers and could have a material adverse impact on our sales
and results of operations.
Increased competition could adversely affect sales and results of operations. We compete in
the highly competitive craft brewing market as well as in the much larger specialty beer market,
which encompasses producers of import beers, major national brewers that produce fuller-flavored
products, and large spirit companies and national brewers that produce flavored alcohol beverages.
Beyond the beer market, craft brewers have also faced competition from producers of wines and
spirits. Increasing competition could cause our future sales and results of operations to be
adversely affected. We have historically operated with little or no backlog and, therefore,
predicting sales for future periods is limited.
Future price promotions to generate demand for our products may be unsuccessful. The prices
that we charge in the future for our products may decrease from historical levels, depending on
competitive factors in various markets. In order to stimulate demand for our products, we
participate in price promotions with wholesalers and retail customers in most markets. The number
of markets in which we choose to participate in price promotions and the frequency of such
promotions may increase in the future. There can be no assurance, however, that these price
promotions will be successful in increasing demand for our products.
Due to our concentration of sales in the Pacific Northwest and California, our results of
operations and financial condition may be subject to fluctuations in regional economic conditions.
A significant portion of our sales have been in the Pacific Northwest and California and,
consequently, business may be adversely affected by changes in economic and business conditions
nationally and, particularly, within the western region. In 2007, 33% of beer shipped by Redhook
and Widmer was to wholesalers in Oregon and Washington. In addition, shipments by both companies to
wholesalers in California contributed another 28% of total shipments, resulting in a total
concentration of 62% in these three western states. We also believe this region is one of the most
competitive craft beer markets in the U.S., both in terms of number of market participants and
consumer awareness. The Pacific Northwest, and Washington state in particular, offer significant
competition to our products, not only from other craft brewers but also from the growing wine
market and from flavored alcohol beverages. This intense competition is magnified because the
Redhook brand is viewed as being relatively mature.
The craft beer business is seasonal in nature, and we are likely to experience fluctuations in
results of operations and financial condition. Sales of craft beer products are somewhat seasonal,
with the first and fourth quarters historically being the slowest and the rest of the year
generating stronger sales. As well, our sales volume may also be affected by weather conditions.
Therefore, the results for any quarter may not be indicative of the results that may be achieved
for the full fiscal year. If an adverse event such as a regional economic downturn or poor weather
conditions should occur during the second and third quarters, the adverse impact to our revenues
would likely be greater as a result of the seasonal business.
Changes in consumer preferences or public attitudes about our products could reduce demand.
If consumers were unwilling to accept our products or if general consumer trends caused a decrease
in the demand for beer, including craft beer, it would adversely impact our sales and results of
operations. If the flavored alcohol beverage market, the wine market, or the spirits market
continues to grow, this could draw consumers away from our products and have an adverse effect on
sales and results of operations. Further, the alcoholic beverage industry has become the subject of
considerable societal and political attention in recent years due to increasing public concern over
alcohol-related social problems, including drunk driving, underage drinking and health consequences
from the misuse of alcohol. If beer consumption in general were to come into disfavor among
domestic consumers, or if the domestic beer industry were subjected to significant additional
governmental regulation, our operations could be adversely affected.
Our gross margin may fluctuate. Future gross margin may fluctuate and even decline as a result
of many factors, including the level of fixed and semi variable operating costs, level of
production at our breweries in relation to current production capacity, availability and prices of
raw materials and packaging materials, sales mix between draft and bottled product sales, sales mix
of various bottled product packages, and rates charged for freight and federal or state excise
taxes. Our high level of fixed and semi variable operating costs causes our gross margin to be
especially sensitive to relatively small increases or decreases in sales volume.
52
Operating breweries at production levels substantially below their current and maximum
designed capacities could negatively impact overall profit margins. At September 30, 2008, the
annual working capacity of our breweries totaled approximately 754,000 barrels. Following
completion of the expansion of brewing and fermentation capacity at the New Hampshire Brewery in
the fourth quarter of 2008, the annual working capacity of our breweries will total approximately
797,000 barrels. Because of many factors, including seasonality, production schedules of various
draft products and bottled products and packages, and losses attributable to filtering, bottling
and keg filling, actual production capacity will always be less than working capacity. Although
there is a significant difference between third quarter 2008 shipments and the working capacity of
the breweries, we believe that capacity utilization of the breweries will fluctuate throughout the
year. Although we expect that the breweries capacity will be efficiently utilized during periods
when our sales are strongest, there likely will be periods when the breweries capacity utilization
will be lower. If we are unable to achieve significant sales growth, our resulting excess capacity
and unabsorbed overhead will have an adverse effect our gross margins, operating cash flows and
overall financial performance. We will periodically evaluate whether we expect to recover the costs
of our production facilities over the course of their useful lives. If facts and circumstances
indicate that the carrying value of these long-lived assets may be impaired, an evaluation of
recoverability will be performed in accordance with SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, by comparing the carrying value of the assets to projected future
undiscounted cash flows in addition to other quantitative and qualitative analyses. If we believe
that the carrying value of such assets may not be recoverable, we will recognize an impairment loss
by a charge against current operations.
We are subject to governmental regulations affecting our breweries and pubs; the costs of
complying with governmental regulations, or our failure to comply with such regulations, could
affect our financial condition and results of operations. Our breweries and pubs are subject to
licensing and regulation by a number of governmental authorities, including the TTB, the U.S.
Department of Agriculture, the U.S. Food and Drug Administration, state alcohol regulatory agencies
in the states in which we sell our products, and state and local health, sanitation, safety, fire
and environmental agencies. Failure to comply with applicable federal, state or local regulations
could result in limitations on our ability to conduct business. TTB permits can be revoked for
failure to pay taxes, to keep proper accounts, to pay fees, to bond premises, or to abide by
federal alcoholic beverage production and distribution regulations, or if holders of 10% or more of
our equity securities are found to be of questionable character. TTB permits are also required in
connection with establishing a commercial brewery, expanding or modifying existing brewing
operations, entering into a contract brewing arrangement, and entering into an alternating proprietorship
agreement, such as our arrangement with Kona. Other permits or licenses could be revoked if we fail
to comply with the terms of such permits or licenses, and additional permits or licenses could be
required in the future for existing or expanded operations. Because our sales objective and growth
plans may rely on any one of these approaches, if licenses, permits or approvals necessary for our
brewery or pub operations were unavailable or unduly delayed, or if any such permits or licenses
were revoked, our ability to conduct business could be substantially and adversely affected. Our
brewery operations will also be subject to environmental regulations and local permitting
requirements and agreements regarding, among other things, air emissions, water discharges, and the
handling and disposal of wastes. While we have no reason to believe the operations of our
facilities violate any such regulation or requirement, if such a violation were to occur, or if
environmental regulations were to become more stringent in the future, our business could be
adversely affected. We are also subject to dram shop laws, which generally provide a person
injured by an intoxicated person the right to recover damages from an establishment that wrongfully
served alcoholic beverages to the intoxicated person. Our pubs have addressed this concern by
establishing early closing hours and regularly scheduled employee training. However, large
uninsured damage awards against us could adversely affect our financial condition.
An increase in excise taxes could adversely affect our financial condition or results of
operations. The U.S. federal government currently imposes an excise tax of $18 per barrel on beer
sold for consumption in the U.S. However, any brewer with annual production under two million
barrels instead pays federal excise tax in the amount of $7 per barrel on sales of the first 60,000
barrels. While we are not aware of any plans by the federal government to reduce or eliminate this
benefit to small brewers, any such reduction in a material amount could have an adverse effect on
our financial condition and results of operations. In addition, we would lose the benefit of this
rate structure if we exceed the two million barrel production threshold. Individual states also
impose excise taxes on alcoholic beverages in varying amounts, which have also been subject to
change. It is possible that excise taxes will be increased in the future by both federal and state
governments. In addition, increased excise taxes on alcoholic beverages have in the past been
considered in connection with various governmental budget-balancing or funding proposals. Any such
increases in excise taxes, if enacted, could adversely affect our financial condition or results of
operations.
53
Changes in state laws regarding distribution arrangements may adversely impact our operations.
In 2006, the Washington state legislature passed a bill removing the long-standing requirement
that small producers of wine and beer distribute their products through wholesale distributors,
thus permitting these small producers to distribute their products directly to retailers. The law
further provides that any in-state or out-of-state brewery that produces more than 2,500 barrels
annually may distribute its products directly to retailers if it does so from a facility located in
the state that is physically separate and distinct from its production facilities. The legislation
stipulates that prices charged by a brewery must be uniform to all distributors and retailers, but
does not restrict prices retailers may charge consumers. In 2007, our shipments to Washington
wholesalers totaled approximately 18% of total shipments on a pro forma basis. Although not all of
these shipments were attributable to beer produced in Washington state, our operations will
continue to be substantially impacted by the Washington state regulatory environment. While it is
difficult to predict what impact, if any, this law will have on our operations, the beer and wine
market may experience an increase in competition that could cause future sales and results of
operations to be adversely affected. This law may also impact the financial stability of Washington
state wholesalers on which we rely.
We may experience a shortage in kegs necessary to distribute draft beer. We distribute our
draft beer in kegs that are owned by us as well as leased from A-B and a third-party vendor. During
periods when we experience stronger sales, we may need to rely on kegs leased from A-B and the
third-party vendor to address the additional demand. If shipments of draft beer increase, we may
experience a shortage of available kegs to fill sales orders. If we cannot meet our keg
requirements through either lease or purchase, we may be required to delay some draft shipments.
Such delays could have an adverse impact on sales and relationships with wholesalers and A-B. As
well, we may decide to pursue other alternatives for leasing or purchasing kegs. There is no
assurance, though, that we will be successful in securing additional kegs.
Our key raw materials may become significantly more costly and adequate supplies may be
difficult to secure. According to industry and media sources, the cost of barley, wheat and hops,
all primary ingredients in our products, have increased significantly in the last two years. Media
sources explain that the cost of barley increased 48% from August 2006 through June 2007, largely
driven by a lower supply of barley as farmers shifted their focus to growing corn, a key component
of biofuels. The beer industry appears to also be experiencing a decline in the supply of hops,
driven by a number of factors: excess supply in the 1990s led some growers to switch to more
lucrative crops, resulting in an estimated 40% decrease in worldwide hop-growing acreage; poor
weather in eastern Europe and Germany caused substantial hops crop losses in 2007; hops crop
production in England has declined approximately 85% since the mid-1970s; and 2007 U.S., New
Zealand, and Australia hops crop yields were only average. Wheat exports have increased by 30%
because of the weak U.S. dollar and poor worldwide harvests, leading to U.S. supplies of wheat that
are at the lowest levels in 60 years. While we have historically utilized fixed price contracts to
secure adequate supplies of key raw materials, including barley, wheat and hops, recent fixed price
contracts reflect current market pricing that is significantly higher than historical pricing. If
we experience difficulty in securing its key raw materials or continue to experience increases in
the cost of these materials, it will have a material adverse impact on our gross margins and
results of operations.
Loss of income tax benefits could negatively impact results of operations. As of September
30, 2008, our deferred tax assets were primarily comprised of federal
NOLs of $27.6 million, or
$9.4 million tax-effected; federal and state alternative minimum tax credit carryforwards of
$183,000; and state NOL carryforwards of $264,000 tax-effected. The ultimate realization of
deferred tax assets is dependent upon the existence of, or generation of, taxable income during the
periods in which those temporary differences become deductible. To the extent that we are unable to
generate adequate taxable income in future periods, we will be unable to utilize the NOLs and may
also be unable to recognize additional tax benefits. In addition, we may be required to record a
valuation allowance covering potentially expiring NOLs. In conjunction with the Merger, we reviewed
Section 382 of the Internal Revenue Code, which can limit the use of NOLs in instances where there
has been a change in ownership of greater than 50% of the stock owned by one or more shareholders
holding five percent or more of the outstanding stock, and do not believe that Section
382 impacts our ability to utilize the NOLs in the future. While we are not aware of any plans by
the federal or state governments to amend the rules regarding utilization of NOLs, any such
modification could have an adverse effect on our financial condition and results of operations.
Our relationships with Kona and FSB may not provide anticipated benefits. As a result of the
Merger, we have a 20% equity interest in Kona. In addition, we also earn revenue in connection with
two operating agreements with Kona an alternating proprietorship agreement and a distribution
agreement. We also have a 42% equity interest in FSB, an operating agreement whereby we promote
FSBs products, and distribute these products through our distribution agreement with A-B. If the
sales or operations of Kona or FSB experience a substantial decline, our results of operations may
be negatively impacted.
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Our stock price may be volatile. The market price of our common stock is subject to
significant fluctuations. Some of the factors that may cause the market price of our common stock
to fluctuate include:
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the entry into, or termination of, key agreements; |
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the loss of key employees; |
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the introduction of new products by our competitors; |
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changes in estimates or recommendations by securities analysts, if any, who cover our
business; |
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future sales of our common stock; and |
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period-to-period fluctuations in our financial results. |
Moreover, the stock markets in general have experienced substantial volatility that has often
been unrelated to the operating performance of individual companies. These broad market
fluctuations may also adversely affect the trading price of our common stock. In the past,
following periods of volatility in the market price of a companys securities, shareholders have
often instituted class action securities litigation against that company. Such litigation against
us, if instituted, could result in substantial costs and diversion of our attention and resources,
which could significantly harm our profitability and reputation.
We do not anticipate paying cash dividends and, accordingly, shareholders must rely on stock
appreciation for any return on their investment in us. We anticipate that we will retain our
earnings, if any, for future growth and therefore we do not anticipate paying cash dividends in the
future. As a result, only appreciation of the price of our common stock will provide a return to
shareholders. Investors seeking cash dividends should not invest in our common stock.
We may require additional capital in the future to finance construction or expansion of
production facilities, and financing may not be available on acceptable terms, if at all. We may
have to raise additional capital in order to construct or expand production capacity. Additional
financing may not be available on terms that are favorable to us, or at all. A failure to obtain
additional financing could impair our ability to grow sales. Any inability to raise adequate funds
to support our growth plans will materially adversely affect our business.
ITEM 6. Exhibits
The following exhibits are filed as part of this report.
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10.1
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Loan Modification Agreement dated
November 14, 2008 to Loan Agreement dated July 1, 2008 between Craft
Brewers Alliance, Inc. and Bank of America, N.A. |
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31.1
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Certification of Chief Executive Officer of Craft Brewers
Alliance, Inc. pursuant to Exchange Act Rule 13a-14(a) |
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31.2
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Certification of Chief Financial Officer of Craft Brewers Alliance,
Inc. pursuant to Exchange Act Rule 13a-14(a) |
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32.1
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Certification of Chief Executive Officer of Craft Brewers
Alliance, Inc. pursuant to Exchange Act Rule 13a-14(b) and 18 U.S.C.
Section 1350 |
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32.2
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Certification of Chief Financial Officer of Craft Brewers Alliance,
Inc. pursuant to Exchange Act Rule 13a-14(b) and 18 U.S.C. Section
1350 |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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CRAFT BREWERS ALLIANCE, INC. |
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November 14, 2008 |
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BY: /s/ Joseph K. OBrien |
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Joseph K. OBrien |
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Controller and Chief Accounting Officer |
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