##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 
 FORM 10-Q
 (Mark One)
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended October 31, 2005
 OR
 o
    
    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: 000-51439
 DIAMOND FOODS, INC.
 (Exact name of registrant as specified in its charter)
 Delaware
(State of Incorporation)
    
    20-2556965
(IRS Employer Identification No.)
 1050 South Diamond Street
Stockton, California
(Address of Principal Executive Offices)
    
    95205-7087
(Zip Code)209-467-6000
(Telephone No.)
 þ o
 o þ
 o þ




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TABLE OF CONTENTS
 PagePart I. Financial Information
    
    
    3Item 1. Financial Statements
    
    
    3Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    9Item 3. Quantitative and Qualitative Disclosure About Market Risk
    
    
    18Item 4. Controls and Procedures
    
    
    18Part IIOther Information
    
    
    18Item 1. Legal Proceedings
    
    
    18Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    18Item 3. Defaults Upon Senior Securities
    
    
    18Item 4. Submission of Matters to a Vote of Security Holders
    
    
    18Item 5. Other Information
    
    
    18Item 6. Exhibits
    
    
    19SIGNATURES
    
    
    19EXHIBIT 31.01EXHIBIT 31.02EXHIBIT 32.01
  CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
   2




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##### Table of Contents



PART I  FINANCIAL INFORMATION
 
 ITEM 1. FINANCIAL STATEMENTS
 DIAMOND FOODS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
(unaudited)
 October 31,
    
    
    July 31,2005
    
    
    2005ASSETSCurrent assets:Cash and cash equivalents
    
    $
    24,981
    
    
    $
    49,035Trade receivables, less allowance for doubtful accounts of $566 and $515, respectively
    
    
    98,523
    
    
    
    42,246Inventories
    
    
    206,827
    
    
    
    111,270Deferred income taxes
    
    
    1,487
    
    
    
    2,726Prepaid expenses and other current assets
    
    
    6,679
    
    
    
    5,169Total current assets
    
    
    338,497
    
    
    
    210,446Property, plant and equipment, net
    
    
    28,717
    
    
    
    27,658Investment in CoBank
    
    
    2,269
    
    
    
    2,269Deferred income taxes
    
    
    3,656
    
    
    
    5,133Other assets
    
    
    5,736
    
    
    
    6,522Total
    
    $
    378,875
    
    
    $
    252,028LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Notes payable  members
    
    $
    1,550
    
    
    $
    2,119Payable to members for membership interest
    
    
    
    
    
    
    17,329Accounts payable and accrued liabilities
    
    
    55,311
    
    
    
    29,422Payable to growers
    
    
    186,207
    
    
    
    72,554Total current liabilities
    
    
    243,068
    
    
    
    121,424Long-term obligations
    
    
    20,000
    
    
    
    20,000Other liabilities
    
    
    10,849
    
    
    
    11,142Commitments and contingenciesStockholders equity:Common stock, $0.001 par value; Authorized:100,000,000
shares; 15,555,506 shares issued and outstanding
    
    
    16
    
    
    
    16Additional paid-in capital
    
    
    89,913
    
    
    
    88,491Retained earnings
    
    
    15,029
    
    
    
    10,955Total stockholders equity
    
    
    104,958
    
    
    
    99,462Total
    
    $
    378,875
    
    
    $
    252,028
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DIAMOND FOODS, INC.
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (2005)/
CONDENSED CONSOLIDATED STATEMENT OF NET PROCEEDS (2004)

(In thousands, except per share amounts)
(unaudited)
 Statement ofOperations
    
    
    
    
    Statement ofNet ProceedsQuarter ended October 31,2005
    
    
    
    
    2004Net sales and other revenues
    
    $
    178,060
    
    
    
    
    $
    172,758Patronage inventory at beginning of period
    
    
    
    
    
    
    
    
    (101,403
    )Patronage inventory at end of period
    
    
    
    
    
    
    
    
    203,846Net sales (2005)/Gross marketing pool proceeds (2004)
    
    
    178,060
    
    
    
    
    
    275,201Cost of sales
    
    
    152,479
    
    
    
    
    
    65,976Cost of sales-NRV amount
    
    
    2,770
    
    
    
    
    
    Total cost of sales
    
    
    155,249
    
    
    
    
    
    65,976Gross margin (2005)/Proceeds before operating expenses (2004)
    
    
    22,811
    
    
    
    
    
    209,225Operating expenses:Selling, general and administrative (includes $782 of stock-based compensation in 2005)
    
    
    9,190
    
    
    
    
    
    7,984Advertising
    
    
    6,594
    
    
    
    
    
    9,655Total operating expenses
    
    
    15,784
    
    
    
    
    
    17,639Income from operations (2005)/ Operating proceeds (2004)
    
    
    7,027
    
    
    
    
    
    191,586Interest, net
    
    
    24
    
    
    
    
    
    1,041Conversion costs
    
    
    
    
    
    
    
    
    26Other
    
    
    213
    
    
    
    
    
    Income before income tax expense (2005)/Proceeds before income tax expense (2004)
    
    
    6,790
    
    
    
    
    
    190,519Income tax expense (benefit)
    
    
    2,716
    
    
    
    
    
    (774
    )Net income (2005)/ Net proceeds (2004)
    
    $
    4,074
    
    
    
    
    $
    191,293Earnings per share:Basic
    
    $
    0.26Fully-diluted
    
    $
    0.26Shares used to compute earnings per share:Basic
    
    
    15,556Fully-diluted
    
    
    15,634
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DIAMOND FOODS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(unaudited)
 Quarter ended October 31,2005
    
    
    2004CASH FLOWS FROM OPERATING ACTIVITIES:Net income (2005) /Net proceeds (2004)
    
    $
    4,074
    
    
    $
    191,293Adjustments
to reconcile net income (2005)/net proceeds (2004) to net cash
used in operating activities:Depreciation and amortization
    
    
    1,117
    
    
    
    1,089Deferred income taxes
    
    
    2,716
    
    
    
    (772
    )Stock based compensation
    
    
    782
    
    
    
    Changes in assets and liabilities:Trade receivables
    
    
    (56,277
    )
    
    
    (70,223
    )Inventories
    
    
    (95,557
    )
    
    
    (101,603
    )Prepaid expenses and other current assets
    
    
    (1,510
    )
    
    
    (1,515
    )Other assets
    
    
    786
    
    
    
    (1
    )Accounts payable and accrued liabilities
    
    
    25,889
    
    
    
    32,678Payable to growers
    
    
    113,653
    
    
    
    Other liabilities
    
    
    347
    
    
    
    125Adjustment
to current member account for change in prepaid inventory costs
    
    
    
    
    
    
    4,045Cash payments to members
    
    
    
    
    
    
    (65,604
    )Net cash used in operating activities
    
    
    (3,980
    )
    
    
    (10,488
    )CASH FLOWS FROM INVESTING ACTIVITIES:Purchases of property, plant and equipment
    
    
    (2,176
    )
    
    
    (1,556
    )CASH FLOWS FROM FINANCING ACTIVITIES:Notes payable borrowings (repayments), net
    
    
    (569
    )
    
    
    12,243Net proceeds from initial public offering paid to members
    
    
    (17,329
    )
    
    
    Net cash provided by (used in) financing activities
    
    
    (17,898
    )
    
    
    12,243Net increase (decrease) in cash and cash equivalents
    
    
    (24,054
    )
    
    
    199Cash and cash equivalents:Beginning of period
    
    
    49,035
    
    
    
    780End of period
    
    $
    24,981
    
    
    $
    979Supplemental disclosures of cash flow information:Cash paid (received) during the period for:Interest
    
    $
    110
    
    
    $
    884Income taxes
    
    
    15
    
    
    
    (106
    )
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DIAMOND FOODS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the quarters ended October 31, 2005 and 2004
(In thousands, except share information)
 (1) Organization and Basis of Presentation
      (2) Stock Plan Information
 Accounting for Stock Issued to
Employees Accounting for Stock-Based Compensation-Transition and Disclosure, an amendment of FASB Statement
No. 123
 Accounting for Stock-Based Compensation
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Quarter ended October 31, 2005Net income, as reported
    
    $
    4,074Total stock-based compensation recorded in the statement of operations, net of related tax effects
    
    
    469Total stock-based compensation expense determined under fair value based method for awards,
net of related tax effects
    
    
    (722
    )Pro forma net income
    
    $
    3,821Net income per common equivalent share:Basic  as reported
    
    $
    0.26Basic  pro forma
    
    $
    0.25Diluted  as reported
    
    $
    0.26Diluted  pro forma
    
    $
    0.24
 Share-Based Payment, Accounting for
Stock-Based Compensation Accounting for Stock Issued
to Employees
 (3) Earnings Per Share
  (4) Balance
sheet items
  October 31,
    
    
    July 31,2005
    
    
    2005Raw materials and supplies
    
    $
    140,912
    
    
    $
    33,949Work in process
    
    
    19,658
    
    
    
    30,732Finished goods
    
    
    46,257
    
    
    
    46,589Total
    
    $
    206,827
    
    
    $
    111,270
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October 31,
    
    
    July 31,2005
    
    
    2005Accounts payable
    
    $
    40,496
    
    
    $
    15,677Accrued salaries and benefits
    
    
    5,845
    
    
    
    3,686Accrued promotion
    
    
    4,320
    
    
    
    5,241Accrued other
    
    
    4,650
    
    
    
    4,818Total
    
    $
    55,311
    
    
    $
    29,422
 Accounting for Inventory Costs
 (5) Foreign Currency Hedging
 Derivative Financial Instruments and Hedging.
 (6) Credit Facilities
     (7) Retirement Plans
   Pension Benefits
    
    
    Other Benefits2005
    
    
    2004
    
    
    2005
    
    
    2004Service cost
    
    $
    590
    
    
    $
    464
    
    
    $
    63
    
    
    $
    69Interest cost
    
    
    449
    
    
    
    438
    
    
    
    136
    
    
    
    148Expected return on plan assets
    
    
    (580
    )
    
    
    (571
    )
    
    
    
    
    
    
    Amortization of prior service
cost
    
    
    (72
    )
    
    
    (72
    )
    
    
    
    
    
    
    Amortization of net loss
    
    
    219
    
    
    
    154
    
    
    
    5
    
    
    
    8Net periodic benefit cost
    
    $
    606
    
    
    $
    413
    
    
    $
    204
    
    
    $
    225
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Defined
Contribution Plan
 (8) Contingencies
  
 Item 2. Managements Discussion and Analysis of Financial Condition and
Results of Operations
 Overview
      Critical
Accounting Policies
  Revenue Recognition.
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Inventories.
  Impairment of Long-Lived Assets.
 Employee Benefits.
 Income Taxes. Accounting for Income
Taxes,
 Supplemental and Non-GAAP Financial Information
   
    
    is unable to determine retroactively what it would have paid for walnuts in prior years
had it not been a cooperative;
    
    is unable to determine whether what it would have paid for walnuts would approximate
amounts paid to other growers by other processors as reflected in the CASS statistics;
    
    is limited by the level of detail provided by the CASS statistics; and
    
    cannot ensure that the cost of sales amounts implied by the CASS statistics are
representative of future cost of sales amounts.
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Quarter ended October 31,2005
    
    
    2004(non-GAAP)
    
    
    (supplemental)(in thousands)
    
    (unaudited)Net sales and other revenues
    
    $
    178,060
    
    
    $
    172,758Cost of sales
    
    
    152,479
    
    
    
    148,035Gross margin
    
    
    25,581
    
    
    
    24,723Operating expenses:Selling, general and administrative
    
    
    9,190
    
    
    
    7,984Advertising
    
    
    6,594
    
    
    
    9,655Total operating expenses
    
    
    15,784
    
    
    
    17,639Operating income
    
    
    9,797
    
    
    
    7,084Interest expense
    
    
    24
    
    
    
    1,041Other
    
    
    213
    
    
    
    26Income before income tax expense
    
    $
    9,560
    
    
    $
    6,017
  Quarter ended October 31,2005
    
    
    2004GAAP cost of sales
    
    $
    155,249
    
    
    $
    65,976Adjustment to remove one time impact of accounting for certain inventories on NRV basis
    
    
    (2,770
    )Adjustment to convert walnut inventories from crop year pool and NRV
accounting to cost basis accounting and to record estimated walnut cost of
goods sold.
    
    
    
    
    
    
    82,059Non-GAAP/supplemental cost of sales
    
    $
    152,479
    
    
    $
    148,035GAAP income before income tax expense
    
    $
    6,790Adjustment to remove one time impact of accounting for certain inventories on NRV basis
    
    
    2,770Non-GAAP income before income tax expense
    
    
    9,560Non-GAAP income tax expense
    
    
    3,824Non-GAAP net income
    
    $
    5,736Non-GAAP earnings per share-fully diluted
    
    $
    0.37Shares used in computing non-GAAP earnings per share-fully diluted
    
    
    15,634
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Results
of Operations
   PercentageChange2005
    
    
    2004
    
    
    2004 to 2005North American Retail (1)
    
    $
    107,330
    
    
    $
    89,193
    
    
    
    20.3
    %International
    
    
    45,008
    
    
    
    53,687
    
    
    
    (16.2
    )North American Ingredient/Food Service
    
    
    24,536
    
    
    
    29,016
    
    
    
    (15.4
    )Other
    
    
    1,186
    
    
    
    862
    
    
    
    37.6Total
    
    $
    178,060
    
    
    $
    172,758
    
    
    
    3.1
    %
 
 (1)
    
    North American Retail represents sales of our culinary, snack and
in-shell nuts in North America.   2005
    
    
    2004Walnuts
    
    
    67.7
    %
    
    
    72.8
    %Other nuts
    
    
    32.3
    
    
    
    27.2Total
    
    
    100.0
    %
    
    
    100.0
    %
  Gross margin.
 Selling, General and Administrative.
 Advertising.
 Interest.
 Income Taxes.
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Liquidity
and Capital Resources
         Contractual
Obligations and Commitments
  Payments Due by Fiscal2006
    
    
    2007-
    
    
    2009-
    
    
    There-Total
    
    
    (c)
    
    
    2008
    
    
    2010
    
    
    afterLong-term obligations (a)
    
    $
    20.0
    
    
    $
    
    
    
    $
    
    
    
    $
    4.0
    
    
    $
    16.0Interest on long-term obligations
    
    
    8.4
    
    
    
    1.1
    
    
    
    2.9
    
    
    
    2.6
    
    
    
    1.8Operating leases
    
    
    2.6
    
    
    
    0.6
    
    
    
    1.2
    
    
    
    0.8
    
    
    
    Purchase commitments (b)
    
    
    2.3
    
    
    
    2.3
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    $
    33.3
    
    
    $
    4.0
    
    
    $
    4.1
    
    
    $
    7.4
    
    
    $
    17.8
 
 (a)
    
    Excludes $2.0 million in total letters of credit outstanding related to normal business transactions.(b)
    
    Commitments to purchase equipment.(c)
    
    Represents obligations and commitments for the remaining nine months of fiscal 2006. 13




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Effects
of Inflation
  Recent
Accounting Pronouncements
 Share-Based Payment
 Accounting for Inventory Costs
 RISK FACTORS
  We could be required to conduct product recalls; concerns with the safety and quality of food
products could harm our sales or cause consumers to avoid our products.
  Our raw materials are subject to fluctuations in availability and price.
   We face intense competition from national and regional competitors and snack food industry
competitors that could negatively affect our results of operations.
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The impact of the conversion and initial public offering on our business is difficult to predict;
it could disrupt existing relationships and harm our financial results.
  Sales to our top four customers represent over 25% of our net sales. As a result, the loss of any
of these customers could adversely impact our business.
  Because we experience seasonal fluctuations in our sales, our quarterly results will fluctuate and
our annual performance will depend largely on results from two quarters.
  Changes in the food industry, including changing dietary trends and consumer preferences, could
reduce demand for our products.
  Developments in the walnut industry could threaten our position in the industry.
  We depend on our key personnel and if we lose the services of any of these individuals, or fail to
attract and retain additional key personnel, we will not be able to implement our business strategy
or operate our business effectively.
  The Public Health Security and Bioterrorism Preparedness and Response Act of 2002 could disrupt our
supply of imported nuts.
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Government regulation could increase our costs of production and increase our legal and regulatory
expenditures.
  We are subject to risks of doing business internationally.
  
    
    local economic and political conditions, including disruptions in trading
markets;
    
    restrictive foreign governmental actions, including restrictions on transfers
of funds and trade protection measures, including export duties and quotas and customs
duties and tariffs;
    
    changes in legal or regulatory requirements affecting foreign investment,
loans, taxes, imports, and exports;
    
    currency exchange rate fluctuations which, depending upon the nature of the
changes, may make our finished products more expensive compared to foreign grown products
or may increase our cost of obtaining foreign-sourced raw materials; and
    
    earthquakes, tsunamis, floods or other major disasters may limit the supply of
nuts that we purchase abroad.
  Increased costs associated with product processing and transportation, such as water, electricity,
natural gas and fuel, could increase our expenses and reduce our profitability.
  A disruption at any of our production facilities would significantly decrease production, which
could increase our cost of sales and reduce our income from operations.
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The acquisition of other businesses would pose risks to our profitability.
  Our business could be negatively impacted if we fail to maintain satisfactory labor relations.
  17




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Item 3. Quantitative and Qualitative Disclosures About Market Risk
  
 Item 4. Controls and Procedures
    
 PART
II  OTHER INFORMATION
 
 Item 1. Legal Proceedings
  
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
     
 Item 3. Defaults Upon Senior Securities
  
 Item 4. Submission of Matters to a Vote of Security Holders
  
 Item 5. Other Information
  18




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Item 6. Exhibits
  Filed with this
    
    Incorporated by referenceNumber
    
    Exhibit Title
    
    10-Q
    
    Form
    
    File No.
    
    Date Filed10.01
    
    Diamond Foods, Inc. Annual Bonus Program
    
    
    
    8-K
    
    000-51439
    
    October 25, 200531.01
    
    Certification of Chief Executive
Officer pursuant to Exchange Act Rules
13a-14(a) and 15d-14(a), as adopted
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
    
    X31.02
    
    Certification of Chief Financial
Officer pursuant to Exchange Act Rules
13a-14(a) and 15d-14(a), as adopted
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
    
    X32.01
    
    Certifications of Chief Executive
Officer and Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
    
    X
 
 SIGNATURES
  DIAMOND FOODS, INC.Date: December  6 , 2005By:
    
    /s/ Seth HalioSeth HalioChief Financial Officer and dulyauthorized officer
 19