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**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

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**FORM 10-K**

 

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**x  Annualreport pursuant to Section 13 or 15(d) of the Securities Exchange Actof 1934.**

 

**For the fiscal year endedOctober 31, 2009**

** **

**o  Transitionreport pursuant to Section 13 or 15(d) of the Securities Exchange Actof 1934.**

 

**Commission file number 000-53588**

** **

**HIGHWATERETHANOL, LLC**

(Exact name of registrant as specified in its charter)

 

| **Minnesota**                                                   | ** ** | **20-4798531**                       |
|-----------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (I.R.S. Employer Identification No.) |

 

| **24500  U.S. Highway 14, Lamberton, Minnesota** | ** ** | **56152**  |
|--------------------------------------------------|------------|------------|
| (Address of principal executive offices)         |       | (Zip Code) |

 

**(507) 752-6160**

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) ofthe Act:

**None**

 

Securities registered pursuant to Section 12(g) ofthe Act:

**Class A Membership Units**

** **

Indicateby check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405of the Securities Act.  o Yes x No

 

Indicateby check mark if the registrant is not required to file reports pursuant to Section 13or Section 15(d) of the Act.  o Yes x No

 

Indicateby check mark whether the registrant:  (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days.  x Yes o No

 

Indicateby check mark whether the registrant has submitted electronically and posted onits corporate Website, if any, every Interactive Data File required to besubmitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 ofthis chapter) during the preceding 12 months (or for such shorter period thatthe registrant was required to submit and post such files).  oYes o No

 

Indicate bycheck mark if disclosure of delinquent filers pursuant to Item 405 ofRegulation S-K (§229.405 of this chapter) is not contained herein, and will notbe contained, to the best of registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form 10-Kor any amendment to this Form 10-K.  x

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer, or a smaller reportingcompany.  See the definitions of “largeaccelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act.

 

| Large  accelerated filer o                                             |   | Accelerated  filer o        |
|------------------------------------------------------------------------|--------|-----------------------------|
|                                                                   |   |                        |
| Non-accelerated filer o  (Do not check if a smaller reporting company) |   | Smaller Reporting Company x |

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule 12b-2of the Act).  o Yes x No

 

Asof January 22, 2010, the aggregate market value of the membership unitsheld by non-affiliates (computed by reference to the most recent offering priceof such membership units) was $47,350,000. The Company is a limited liability company whose outstanding commonequity is subject to significant restrictions on transfer under its MemberControl Agreement.  No public market forcommon equity of Highwater Ethanol, LLC is established and it is unlikely inthe foreseeable future that a public market for its common equity will develop.

 

Asof January 22, 2010, there were 4,953 membership units outstanding.

 

DOCUMENTS INCORPORATED BYREFERENCE

 

Theregistrant has incorporated by reference into Part III of this AnnualReport on Form 10-K portions of its definitive proxy statement to be filedwith the Securities and Exchange Commission within 120 days after the close ofthe fiscal year covered by this Annual Report.

 

 

 

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**INDEX**

 
| ** **                                                                                                                  | **Page No.** |
|-----------------------------------------------------------------------------------------------------------------------------|-------------------|
| ** **                                                                                                                  |              |
| **PART I**                                                                                                             | **4**             |
| ** **                                                                                                                  |              |
| ITEM 1. BUSINESS                                                                                                            | 4                 |
| ITEM 1A. RISK FACTORS                                                                                                       | 14                |
| ITEM 2. PROPERTIES                                                                                                          | 20                |
| ITEM 3. LEGAL  PROCEEDINGS                                                                                                  | 20                |
| ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                                                | 20                |
|                                                                                                                        |              |
| **PART II**                                                                                                            | **20**            |
| ** **                                                                                                                  |              |
| ITEM 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER  PURCHASES OF EQUITY SECURITIES | 20                |
| ITEM 6. SELECTED  FINANCIAL DATA                                                                                            | 21                |
| ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF  FINANCIAL CONDITION AND RESULTS OF OPERATIONS                         | 21                |
| ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                                                        | 29                |
| ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA                                                                        | 29                |
| ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL  DISCLOSURE                              | 48                |
| ITEM 9A(T). CONTROLS  AND PROCEDURES                                                                                        | 48                |
| ITEM 9B. OTHER  INFORMATION                                                                                                 | 50                |
|                                                                                                                        |              |
| **PART III**                                                                                                           | **50**            |
| ** **                                                                                                                  |              |
| ITEM 10.  DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE                                                            | 50                |
| ITEM 11.  EXECUTIVE COMPENSATION                                                                                            | 50                |
| ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED  STOCKHOLDER MATTERS                   | 50                |
| ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE                                         | 50                |
| ITEM 14.  PRINCIPAL ACCOUNTING FEES AND SERVICES                                                                            | 50                |
|                                                                                                                        |              |
| **PART IV**                                                                                                            | **51**            |
| ** **                                                                                                                  |              |
| ITEM 15.  EXHIBITS, FINANCIAL STATEMENT SCHEDULES                                                                           | 51                |
|                                                                                                                        |              |
| **SIGNATURES**                                                                                                              | **52**            |

 

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**CAUTIONARY STATEMENTS REGARDINGFORWARD-LOOKING STATEMENTS**

 

This annual reportcontains historical information, as well as forward-looking statements thatinvolve known and unknown risks and relate to future events, our futurefinancial performance, or our expected future operations and actions.  In some cases, you can identifyforward-looking statements by terminology such as “may,” “will,” “should,” “expect,”“plan,” “anticipate,” “believe,” “estimate,” “future,” “intend,” “could,”“hope,” “predict,” “target,”“potential,” or “continue” or the negative of these terms or other similarexpressions.  These forward-lookingstatements are only our predictions based on current information and involvenumerous assumptions, risks and uncertainties. Our actual results or actions may differ materially from theseforward-looking statements for many reasons, including the reasons described inthis report.  While it is impossible to identify all suchfactors, factors that could cause actual results to differ materially fromthose estimated by us include:

 

·      Changesin the availability and price of corn and natural gas;

 

·      Volatilecommodity and financial markets;

 

·      Ourability to comply with the financial covenants contained in our creditagreements with our lender;

 

·                  Our ability to profitably operate the ethanol plantand maintain a positive spread between the selling price of our products andour raw material costs;

 

·      Resultsof our hedging activities and other risk management strategies;

 

·      Ethanolsupply exceeding demand and corresponding ethanol price reductions;

 

·      Ourability to generate free cash flow to invest in our business and service ourdebt;

 

·                  Changes in the environmental regulations that apply toour plant operations and changes in our ability to comply with suchregulations;

 

·      Changesin our business strategy, capital improvements or development plans;

 

·       Changesin plant production capacity or technical difficulties in operating the plant;

 

·                  Changes in general economic conditions or theoccurrence of certain events causing an economic impact in the agriculture, oilor automobile industries;

 

·      Lackof transportation, storage and blending infrastructure preventing ethanol fromreaching high demand markets;

 

·                  Changes in federal and/or state laws or policiesimpacting the ethanol industry (including the elimination of any federal and/orstate ethanol tax incentives);

 

·      Changes andadvances in ethanol production technology;

 

·      Competitionfrom alternative fuel additives;

 

·      Changesin interest rates and lending conditions; and

 

·      Ourability to retain key employees and maintain labor relations.

 

Thecautionary statements referred to in this section also should be considered inconnection with any subsequent written or oral forward-looking statements thatmay be issued by us or any persons acting on our behalf.  We undertake no duty to update theseforward-looking statements, even though our situation may change in the future.Furthermore, we cannot guarantee future results, events, levels of activity, performance,or achievements.  We caution you not toput undue reliance on any forward-looking statements, which speak only as ofthe date of this report.  You should read this report and the documentsthat we reference in this report and have filed as exhibits, 

 

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completely and with theunderstanding that our actual future results may be materially different fromwhat we currently expect.  We qualify all of our forward-lookingstatements by these cautionary statements.

 

**AVAILABLE INFORMATION**

 

Informationabout us is also available at our website at*www.highwaterethanol.com*, under “SEC Compliance,” which includeslinks to reports we have filed with the Securities and Exchange Commission. Thecontents of our website are not incorporated by reference in this Annual Reporton Form 10-K.  The Securities andExchange Commission also maintains an Internet site (*http://www.sec.gov*)through which the public can access our reports.

 

**PART I.**

 

**ITEM 1.  BUSINESS.**

 

**Business Development**

 

HighwaterEthanol, LLC (“we,” “our,” “Highwater Ethanol” or the “Company”) is a Minnesotalimited liability company organized on May 2, 2006, for the purpose ofdeveloping, constructing, owning and operating a 50 million gallon peryear ethanol plant near Lamberton, Minnesota. We commenced production of ethanol and distillers grains on August 14,2009.

 

We are subject toindustry-wide factors that affect our operating and financial performance.  These factors include, but are not limitedto, the available supply and cost of corn from which our ethanol and distillersgrains are processed; the cost of natural gas, which we use in the productionprocess; dependence on our ethanol marketer and distillers grains marketer tomarket and distribute our products; the intensely competitive nature of theethanol industry; possible legislation at the federal, state and/or locallevel; changes in federal ethanol tax incentives and the cost of complying withextensive environmental laws that regulate our industry; and negative impactsthat our hedging activities may have on our operations.

 

**Financial Information**

 

Please refer to “**Item 7 — Management’sDiscussion and Analysis of Financial Condition and Results of Operations”** for information about our revenue, profit and loss measurementsand total assets and liabilities and “**Item 8- Financial Statements and Supplementary Data**” for our financialstatements and supplementary data.

 

**Principal Products**

 

The principal products we produce at theethanol plant are ethanol and distillers grains.  Raw carbon dioxide is another co-product ofthe ethanol production process.  Wecurrently have no agreement to capture or market carbon dioxide gas.

 

*Ethanol*

 

Our primary product is ethanol.  Ethanol is ethyl alcohol, a fuel componentmade primarily from corn and various other grains, which can be used as: (i) anoctane enhancer in fuels; (ii) an oxygenated fuel additive for the purposeof reducing ozone and carbon monoxide vehicle emissions; and (iii) anon-petroleum-based gasoline substitute. According to the Renewable Fuels Association, approximately 85 percentof the ethanol in the United States today is produced from corn, andapproximately 90 percent of ethanol is produced from a corn and other inputmix.  The ethanol we produce ismanufactured from corn.  Although theethanol industry continues to explore production technologies employing variousfeedstocks, such as biomass, corn-based production technologies remain the mostpractical and provide the lowest operating risks.  Ethanol produced in the United States isprimarily used for blending with unleaded gasoline and other fuelproducts.  The principal purchasers ofethanol are generally wholesale gasoline marketers or blenders.  The principal markets for our ethanol arepetroleum terminals in the continental United States.

 

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Approximately 89% of our total revenue wasderived from the sale of ethanol during our fiscal year ended October 31,2009.

 

*Distillers Grains*

 

The principal co-product of the ethanolproduction process is distillers grains, a high protein, high-energy animal feedsupplement primarily marketed to the dairy, poultry, swine and beefindustries.  Distillers grains containby-pass protein that is superior to other protein supplements such ascottonseed meal and soybean meal. By-pass proteins are more digestible to the animal, thus generatinggreater lactation in milk cows and greater weight gain in beef cattle.  Dry mill ethanol processing creates threeforms of distiller grains: Distillers Wet Grains with Solubles (“DWS”),Distillers Modified Wet Grains with Solubles (“DMWS”) and Distillers DriedGrains with Solubles (“DDGS”).  DWS isprocessed corn mash that contains approximately 70% moisture.  DWS has a shelf life of approximately threedays and can be sold only to farms within the immediate vicinity of an ethanolplant.  DMWS is DWS that has been driedto approximately 50% moisture.  DMWS hasa slightly longer shelf life of approximately ten days and is often sold tonearby markets.  DDGS is DWS that hasbeen dried to 10% to 12% moisture.  DDGShas an almost indefinite shelf life and may be sold and shipped to any marketregardless of its vicinity to an ethanol plant.

 

Approximately 11% of our total revenue wasderived from the sale of distillers grains during our fiscal year ended October 31,2009.

 

**Principal Product Markets**

 

Asdescribed below in “*Distribution Methods*”,we market and distribute all of our ethanol and distillers grains throughprofessional third party marketers.  Ourethanol and distillers grains marketers make all decisions with regard to whereour products are marketed.  Local ethanolmarkets will be limited and must be evaluated on a case-by-case basis.  Although local markets will be the easiest toservice, they may be oversold.  Oversoldmarkets depress ethanol prices.

 

Typicallya regional market is one that is outside of the local market, yet within theneighboring states.  We believe ourregional market is within a 450-mile radius of our plant and will be servicedby rail.  We have constructed a side railtrack for our ethanol plant so that we may load unit trains allowing us to moreeffectively reach regional and national markets.  Because ethanol use results in less airpollution than regular gasoline, regional markets typically include largecities that are subject to anti-smog measures such as either carbon monoxide orozone non-attainment areas.

 

Whilewe believe that the nationally mandated usage of renewable fuels is currentlydriving demand, we believe that an increase in voluntary usage will benecessary for the industry to continue its growth trend.  We expect that voluntary usage by blenderswill occur only if the price of ethanol makes increased blendingeconomical.  In addition, we believe thatheightened consumer awareness and consumer demand for ethanol-blended gasolinemay play an important role in growing overall ethanol demand and voluntaryusage by blenders.  If blenders do notvoluntarily increase the amount of ethanol blended into gasoline and consumerawareness does not increase, it is possible that additional ethanol supply willoutpace demand and further depress ethanol prices.

 

We expect our ethanol and distillers grains marketersto explore all markets for our products, including export markets.  However, due to high transportation costs,and the fact that we are not located near a major international shipping port,we expect a majority of our products to be marketed and sold domestically.

 

**Distribution Methods**

 

Our ethanolplant is located near Lamberton, Minnesota in Redwood County.  We selected the site because of its locationto existing ethanol consumption and accessibility to road and railtransportation.  Our site is in closeproximity to rail and major highways that connect to major population centerssuch as Minneapolis, Minnesota, Detroit, Michigan and Chicago, Illinois.

 

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***Ethanol Distribution***

 

We have anethanol marketing agreement with Renewable Products Marketing Group, LLC (“RPMG”)pursuant to which RPMG will be our exclusive ethanol marketer.  RPMG uses its best efforts to market andobtain the best price for the ethanol we produce in exchange for a percentageof the price we receive for each gallon of ethanol sold.  The initial term of the RPMG agreement is 24months and shall be automatically extended for 12 months unless either partygives the other prior written notice. The RPMG agreement can be terminated for any uncured breach of the termsof the agreement.  In the event theagreement is not renewed, Highwater may assume certain rail car leasescurrently controlled by RPMG.

 

***Distillers Grain Distribution***

 

We enteredinto a distillers grains marketing agreement with CHS, Inc. to market allour distillers grains we produce at the plant. CHS, Inc. is a diversified energy, grains and food company owned byfarmers, ranchers and cooperatives.  CHS, Inc.provides products and services ranging from grain marketing to food processingto meet the needs of its customers around the world.  Under the agreement, CHS, Inc. will payto us a price equal to 98% of the FOB plant price actually received by CHS, Inc.for all dried distillers grains removed by CHS, Inc. from our plant and aprice equal to 96% of the FOB plant price actually received by CHS, Inc.for all of our wet distillers grains. The term of our agreement with CHS, Inc. is for one year commencingas of the completion and start-up of the ethanol plant.  Thereafter, the agreement will remain ineffect unless otherwise terminated by either party with 120 days notice.  Under the agreement, CHS, Inc. will beresponsible for all transportation arrangements for the distribution of ourdistillers grains.

 

**New Products andServices**

 

We have notintroduced any new products or services during this fiscal year.

 

**Sources andAvailability of Raw Materials**

 

*Corn Feedstock Supply*

 

The major raw material required for ourethanol plant to produce ethanol and distillers grains is corn.  To produce 50 million gallons of ethanol peryear, our ethanol plant needs approximately 18.5 million bushels of corn peryear, or approximately 50,000 bushels of corn per day, as the feedstock for itsdry milling process.  We primarilypurchase the corn supply for our ethanol plant from local markets, but may berequired to purchase some of the corn we need from other markets and transportit to our plant via truck or rail in the future.  Traditionally, corn grown in the area of theethanol plant site has been fed locally to livestock or exported for feeding orprocessing and/or overseas export sales.

 

We have entered into a grain procurementagreement with Meadowland Farmers Co-op (“Meadowland”).  Meadowland has the exclusive right andresponsibility to provide us with our daily requirements of corn meetingquality specifications set forth in the grain procurement agreement.  Under the agreement, we will purchase corn atthe local market price delivered to the plant plus a fixed fee per bushel ofcorn purchased.  We will provideMeadowland with an estimate of our usage at the beginning of each fiscalquarter and Meadowland agrees to at all times maintain the minimum of 7 dayscorn usage at our ethanol plant.  Theinitial term of the agreement is for 7 years from the time we request our firstdelivery of corn, which was in July 2009.

 

Althoughthe area surrounding the plant produces a significant amount of corn and we donot anticipate encountering problems sourcing corn, a shortage of corn coulddevelop, particularly if there were an extended drought or other productionproblem.  We recently experienced increased corn prices due in part topoor weather conditions that significantly delayed the harvest in theMidwest.  Poor weather can be a majorfactor in increasing corn prices.  If theUnited States were to endure an entire growing season with poor weatherconditions, it could result in significant and prolonged high corn prices.  Corn prices depend on several factors,including world supply and demand and the price of other commodities.  United States production of corn can bevolatile as a result of a number of factors, the most important of which areweather, current and anticipated stocks, domestic and export prices andsupports and the government’s current and anticipated agricultural policy.  The price of corn was volatile 

 

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duringour 2009 fiscal year and we anticipate that it will continue to be volatile inthe future.  Increases in the price ofcorn significantly increase our cost of goods sold.  If these increases in cost of goods sold arenot offset by corresponding increases in the prices we receive from the sale ofour products, these increases in cost of goods sold can have a significantnegative impact on our financial performance.

 

Despitepoor planting conditions, a cool, wet growing season and a slow harvest,American farmers set new records for both yield per acre and totalproduction.  In the January CropProduction report, a summary of the 2009 season that was issued January 12,2010, the United States Department of Agriculture estimated that farmersaveraged 165.2 bushels of corn per acre, up from its previous estimate of 162.9and surpassing the previous record of 160.4 in 2004.  This record yield helped produce the largestU.S. corn crop ever — 13.2 billion bushels. Despite this historical corn crop, we expect continued volatility in theprice of corn, which could significantly impact our cost of goods sold.

 

Inan attempt to minimize the effects of the volatility of corn costs on operatingprofits, we may take hedging positions in corn futures markets.  Hedging means protecting the price at whichwe buy corn and the price at which we sell our products in the future.  It is a way to attempt to reduce the riskcaused by price fluctuation.  Theeffectiveness of hedging activities is dependent upon, among other things, thecost of corn and our ability to sell sufficient amounts of ethanol anddistillers grains to utilize all of the corn subject to the futurescontracts.  Hedging activities can resultin costs to us because price movements in grain contracts are highly volatileand are influenced by many factors beyond our control.  These costs may be significant.

 

*RiskManagement Services*

 

Weentered into a Risk Management Agreement with John Stewart &Associates (“JS&A”) under which JS&A provides risk management andrelated services pertaining to grain hedging, grain pricing information, aid inpurchase of grain, and assistance in risk management as it pertains to ethanoland our co-products.  In exchange forJS&A’s risk management services, we pay JS&A a fee of $2,500 permonth.  The term of the agreement is forone year and will continue on a month to month basis thereafter.  The agreement may be terminated by eitherparty at any time upon written notice.

 

*Natural Gas*

 

Natural gas is an important input to ourmanufacturing process.  We use naturalgas to dry our distillers grains products to moisture contents at which theycan be stored for longer periods of time. This allows the distillers grains we produce to be transported greaterdistances to serve broader livestock markets. We estimate that our annual natural gas usage will be approximately1,600,000 Million British Thermal Units and will constitute 10% to 15% of ourannual total production costs.

 

We have access to an existing NorthernNatural Gas interstate natural gas pipeline located approximately one half milefrom our ethanol plant.  We entered intoa natural gas service agreement with CenterPoint Energy Resources Corp., d.b.a.CenterPoint Energy Minnesota Gas (“CenterPoint Energy”).  CenterPoint constructed a pipeline fromNorthern Natural Gas Company (“Northern”) Town Border Station for Highwater (“HighwaterTBS”) terminating at Highwater’s selected location.  In addition, we purchase all of our naturalgas requirements from CenterPoint’s pipeline. This agreement will continue until October 31, 2019.

 

We also entered into an energy managementagreement with U.S. Energy Services, Inc. (“US Energy”) pursuant to whichUS Energy is providing us with the necessary natural gas managementservices.  Some of their services mayinclude an economic comparison of distribution service options, negotiation andminimization of interconnect costs, submission of the necessary pipeline “tap”request, supplying the plant with and/or negotiating the procurement of naturalgas, development and implementation of a price risk management plan targeted atmitigating natural gas price volatility and maintaining profitability,providing consolidated monthly invoices that reflect all natural gascosts.  In addition, US Energy isresponsible for reviewing and reconciling all invoices.  In exchange for these services, we pay USEnergy a monthly retainer fee of $3,050 for an initial contract term of 12months.  If we decide to utilize USEnergy’s hedging services in the future, we will have to pay an additional$0.01 per MMBTu administrative fee for physical or financial natural gashedging.  Additional fees may apply foradditional services and for time and travel.

 

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*Electricity*

 

We require a significant amount ofelectrical power to operate the ethanol plant. On June 28, 2007, we entered into an agreement for electric servicewith Redwood Electric Cooperative, Inc., (“Redwood”) for the sale anddelivery of electric power and energy necessary to operate our ethanolplant.  In exchange for its services, wepay Redwood an annual facilities charge of approximately $12,000 plus Redwood’sstandard electrical rates.  In addition,we agreed that in the event our ethanol plant does not continue to beoperational for the entire term of the contract, we will reimburse Redwood forits expenses related to the installation of the facilities necessary to supplyour electrical needs.  Pursuant to theagreement the contract rate will be guaranteed for up to five years.  Upon execution of the agreement, we became amember of Redwood and are bound by its articles of incorporation andbylaws.  This agreement will remain ineffect for ten years following the initial billing period.  In the event we wish to continue receivingelectrical service from Redwood beyond the ten year period, we will need toenter into a new agreement with Redwood at least one year prior to theexpiration of the initial ten year period. If the agreement is terminated by either party for any reason prior tothe expiration of the initial ten year period, we will be required to pay forthe entire amount of the facility charge for the remainder of the initial tenyear period.  Also, pursuant to thisagreement, Highwater provided Redwood with a letter of credit in the amount of$700,000 at the expense of Highwater for the entire period of construction andcontinuing for a period of one year of commercial operation.  In the event that the Company does not remainsolvent after one year of commercial operation, the letter of credit willremain in effect; provided, however, Redwood agrees to review the Company’sfinancing situation after each subsequent one year period has passed and if theCompany establishes that it is solvent at any of those review dates, the letterof credit will be released.

 

*Water*

 

We require a significant supply ofwater.  We obtain water from a highcapacity well.  We acquired all of thenecessary permits required for our water usage. Engineering specifications show our plant water requirements to beapproximately 384 gallons per minute. That is approximately 553,000 gallons per day.

 

Much of the water used in an ethanol plantis recycled back into the process.  Thereare, however, certain areas of production where fresh water is needed.  Those areas include the boiler makeup waterand cooling tower water.  Boiler makeupwater is treated on-site to minimize all elements that will harm the boiler andrecycled water cannot be used for this process. Cooling tower water is deemed non-contact water because it does not comein contact with the mash, and, therefore, can be regenerated back into thecooling tower process.  The makeup waterrequirements for the cooling tower are primarily a result of evaporation.  Much of our water can be recycled back intothe process, which minimizes the discharge water.  We expect this will have the long-term effectof lowering wastewater treatment costs.

 

**Research and Development**

 

We do not currently conduct any researchand development activities associated with the development of new technologiesfor use in producing ethanol and distillers grains.

 

**Patents, Trademarks, Licenses, Franchises andConcessions**

 

We do not currently hold any patents,trademarks, franchises or concessions. We were granted a license by ICM to use certain ethanol productiontechnology necessary to operate our ethanol plant.  The cost of the license granted by ICM wasincluded in the amount we paid to Fagen, Inc. to design and build ourethanol plant.

 

**Seasonality of Ethanol Sales**

 

We experience some seasonality of demandfor our ethanol.  Since ethanol ispredominantly blended with conventional gasoline for use in automobiles,ethanol demand tends to shift in relation to gasoline demand.  As a result, we experience some seasonalityof demand for ethanol in the summer months related to increased driving.  In addition, we experience some increasedethanol demand during holiday seasons related to increased gasoline demand.

 

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**Working Capital**

 

We primarily use our working capital forpurchases of raw materials necessary to operate the ethanol plant.  Our primary source of working capital isincome from our operations as well as our line of credit with our primarylender First National Bank of Omaha.  Ourrevolving line of credit provides available funds of up to $5,000,000.  As of October 31, 2009, we hadapproximately $1,000,000 outstanding on the line of credit.  Pursuant to the close of our fiscal year on October 31,2009, our line of credit currently has no balance as we made payments of$500,000 in each November and December 2009.  Our line of credit requires monthly interestpayments and matures on February 28, 2010.

 

**Dependence on One or a Few Major Customers**

 

As discussed above, we have marketingagreements with RPMG for the purposes of marketing and distributing our ethanoland have engaged CHS, Inc. for the purpose of marketing and distributingour distillers grains.  We expect to relyon RPMG for the sale and distribution of our ethanol and CHS, Inc. for thesale and distribution of our distillers grains. Therefore, although there are other marketers in the industry, we expectto be highly dependent on RPMG and CHS, Inc. for the successful marketingof our products.  Any loss of RPMG or CHS, Inc.as our marketing agent for our ethanol and distillers grains, respectively,could have a significant negative impact on our revenues.

 

**Competition**

 

Weare in direct competition with numerous ethanol producers, many of whom havegreater resources than we do.  Followingthe significant growth in the ethanol industry during 2005 and 2006, theethanol industry has grown at a much slower pace.  Management attributes the rapid growth during2005 and 2006 with a very favorable spread between the price of ethanol and thecost of the raw materials to produce ethanol during that time period.  Management believes that currently, ethanolsupply capacity exceeds ethanol demand. This has resulted in some ethanol producers reducing production ofethanol or ceasing operations altogether. As of January 7, 2010, the Renewable Fuels Association estimatedthat approximately 9% of the ethanol production capacity in the United Stateswas idled.  This is down from earlier in2009 when the idled capacity may have been as high as 20%.  As a result of this overcapacity, the ethanolindustry has become increasingly competitive. Since ethanol is a commodity product, competition in the industry ispredominantly based on price.  Largerethanol producers may be able to realize economies of scale in their operationsthat we are unable to realize.  Thiscould put us at a competitive disadvantage to other ethanol producers.  Management anticipates that without anincrease in the amount of ethanol that can be blended into gasoline for use inconventional automobiles, ethanol demand may not significantly increase whichmay result in ethanol supply capacity exceeding ethanol demand for theforeseeable future and which may have a negative impact on the price ofethanol.

 

Recently,the United States Environmental Protection Agency has been researchingincreasing the amount of ethanol that can be blended for use in conventionalautomobiles from 10% to 15%.  However,the EPA has delayed a decision until later in 2010 with respect to a 15%blend.  Management believes thatincreasing ethanol blends to 15% for use in conventional automobiles willincrease demand for ethanol and would likely positively impact ethanolprices.  However, this will also likelyresult in companies building new ethanol plants or expanding their currentethanol plants.  This could lead tofurther overcapacity in the ethanol industry if supply capacity continues toeclipse demand.  In addition, based oncomments made by the EPA, some in the ethanol industry believe the EPA isconsidering allowing the use of a 15% ethanol blend only for vehicles producedin the model year 2001 and later.  Manybelieve that such a restriction would lead to gasoline retailers deciding notto carry a 15% ethanol blend because many of their customers would not bepermitted to use the 15% blend.  If thiswere to occur, it would significantly reduce any ethanol demand increases thatcould result from a 15% blend.

 

We also anticipateincreased competition from renewable fuels that do not use corn as thefeedstock.  Many of the current ethanolproduction incentives are designed to encourage the production of renewablefuels using raw materials other than corn. One type of ethanol production feedstock that is being explored iscellulose.  Cellulose is the maincomponent of plant cell walls and is the most common organic compound onearth.  Cellulose is found in wood chips,corn stalks, rice straw, amongst other common plants.  Cellulosic ethanol is ethanol produced fromcellulose.  Currently, cellulosic ethanolproduction technology is not sufficiently advanced to produce cellulosic 

 

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ethanol on a commercialscale.  However, due to these newgovernment incentives, we anticipate that commercially viable cellulosicethanol technology will be developed in the future.  Several companies and researchers havecommenced pilot projects to study the feasibility of commercially producingcellulosic ethanol.  If this technologycan be profitably employed on a commercial scale, it could potentially lead toethanol that is less expensive to produce than corn based ethanol, especiallyif corn prices remain high.  Cellulosicethanol may also capture more government subsidies and assistance than cornbased ethanol.  This could decreasedemand for our product or result in competitive disadvantages for our ethanolproduction process.

 

We may also facecompetition from larger ethanol producers which may be able to compete moreeffectively than us.  At the end of 2008,VeraSun Energy, one of the largest ethanol producers in the United States atthe time, filed for Chapter 11 Bankruptcy due in part to significant losses itexperienced as a result of its raw material derivative positions.  VeraSun’s ethanol plants were auctionedduring the Chapter 11 Bankruptcy process and a significant number of theseplants were purchased by Valero Renewable Fuels.  Valero is a subsidiary of the first major oilcompany to take a large stake in ethanol production infrastructure.  Valero now controls its own supply of ethanolthat can be blended at its gasoline refineries. Should other oil companies become involved in the ethanol industry, itmay be increasingly difficult for us to compete.  While we believe that we are a lower costproducer of ethanol, increased competition in the ethanol industry may make itmore difficult to operate the ethanol plant profitably.

 

Accordingto the Renewable Fuels Association, as of January 7, 2010, the most recentdata available, the ethanol industry has grown to 200 production facilities inthe United States. There are approximately 9 new plants currently underconstruction along with approximately 5 plant expansions.  The Renewable Fuels Association currentlyestimates that the United States ethanol industry has capacity to produce morethan 13 billion gallons of ethanol per year. The new ethanol plants under construction along with the plantexpansions under construction could push domestic production of fuel ethanol inthe near future to nearly 14.5 billion gallons per year.  The largest ethanol producers include ArcherDaniels Midland, Green Plains Renewable Energy, Hawkeye Energy Holdings, POET,and Valero Renewable Fuels each of which are capable of producing significantlymore ethanol than we produce.  However,Hawkeye Renewables LLC filed for Chapter 11 bankruptcy on December 21,2009.  Hawkeye Renewables owns twoethanol plants and is a subsidiary of Hawkeye Energy Holdings.  While Hawkeye Renewables plans to exitChapter 11 bankruptcy in 60 to 90 days and does not anticipate ceasing itsoperations, this plan may not be realized. If the ethanol plants owned by Hawkeye Renewables are sold, it may leadto further consolidation of the ethanol industry.

 

Thefollowing table identifies the majority of the largest ethanol producers in theUnited States along with their production capacities.

 

**U.S. FUELETHANOL PRODUCTION CAPACITY BY TOP PRODUCERS**

**Producers of Approximately 400million gallons per year (mmgy) or more**

 
| **Company**                       | ** ** | **Current  Capacity** | ** ** | **Under  Construction/  Expansions** | ** ** |
|-----------------------------------|------------|-----------------------|------------|--------------------------------------|------------|
| ** **                        | ** ** | **(mmgy)**            | ** ** | **(mmgy)**                           | ** ** |
| ** **                        | ** ** | ** **            | ** ** | ** **                           | ** ** |
| **POET Biorefining**              | ** ** | **1,537.0**           | ** ** | **10.0**                             | ** ** |
| ** **                        | ** ** | ** **            | ** ** | ** **                           | ** ** |
| **Archer Daniels Midland**        | ** ** | **1,070.0**           | ** ** | **550**                              | ** ** |
| ** **                        | ** ** | ** **            | ** ** | ** **                           | ** ** |
| **Valero Renewable Fuels**        | ** ** | **780.0**             |       |                                 |       |
| ** **                        | ** ** | ** **            |       |                                 |       |
| **Hawkeye Energy Holdings, LLC**  | ** ** | **420.0**             |       |                                 |       |
| ** **                        | ** ** | ** **            |       |                                 |       |
| **Green Plains Renewable Energy** | ** ** | **480.0**             |       |                                 |       |

 

Updated: January 7, 2010

 

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Ethanolproduction is also expanding internationally. Ethanol produced or processed in certain countries in Central Americaand the Caribbean region is eligible for tariff reduction or elimination onimportation to the United States under a program known as the Caribbean BasinInitiative.  Some ethanol producers,including Cargill, have started taking advantage of this situation by buildingdehydration plants in participating Caribbean Basin countries which convertethanol into fuel-grade ethanol for shipment to the United States.  Ethanol imported from Caribbean Basincountries may be a less expensive alternative to domestically produced ethanoland may affect our ability to sell our ethanol profitably.  Further, despite the fact that there is asignificant amount of ethanol produced in the United States, ethanol producedabroad and shipped by sea may be a more favorable alternative to supply coastalcities that are located on international shipping ports.

 

Our ethanol plant also competes withproducers of other gasoline additives having similar octane and oxygenatevalues as ethanol.  Alternative fuels,gasoline oxygenates and alternative ethanol production methods are alsocontinually under development.  The majoroil companies have significantly greater resources than we have to market otheradditives, to develop alternative products, and to influence legislation andpublic perception of ethanol.  Thesecompanies also have sufficient resources to begin production of ethanol should theychoose to do so.

 

A number ofautomotive, industrial and power generation manufacturers are developingalternative clean power systems using fuel cells, plug-in hybrids or cleanburning gaseous fuels.  Like ethanol, theemerging fuel cell industry offers a technological option to address worldwideenergy costs, the long-term availability of petroleum reserves andenvironmental concerns.  Fuel cells haveemerged as a potential alternative to certain existing power sources because oftheir higher efficiency, reduced noise and lower emissions. Fuel cell industryparticipants are currently targeting the transportation, stationary power andportable power markets in order to decrease fuel costs, lessen dependenceon crude oil and reduce harmful emissions. If the fuel cell industry continues to expand and gain broad acceptanceand becomes readily available to consumers for motor vehicle use, we may not beable to compete effectively.  Thisadditional competition could reduce the demand for ethanol, which wouldnegatively impact our profitability.

 

Demand for ethanol mayincrease as a result of increased consumption of E85 fuel. E85 fuel is a blendof 85% ethanol and 15% gasoline. According to United States Department of Energy estimates, there arecurrently nearly 8 million flexible fuel vehicles capable of operating on E85in the United States.  Further, theUnited States Department of Energy reports that there are currently more than1,900 retail gasoline stations supplying E85. The number of retail E85 suppliers increases significantly each year,however, this remains a relatively small percentage of the total number of U.S.retail gasoline stations, which is approximately 170,000.  In order for E85 fuel to increase demand forethanol, it must be available for consumers to purchase it.  As public awareness of ethanol and E85increases along with E85’s increased availability, management anticipates somegrowth in demand for ethanol associated with increased E85 consumption.

 

***Distillers Grains Competition***

 

Ethanolplants in the Midwest produce the majority of distillers grains and primarilycompete with other ethanol producers in the production and sale of distillersgrains.  According to the Renewable FuelsAssociation’s Ethanol Industry Outlook 2009, ethanol plants produced 20 millionmetric tons of distillers grains in 2007/2008 and estimates 25 million metrictons in 2008/2009.  The amount ofdistillers grains produced is expected to increase significantly as the numberof ethanol plants increase.

 

Theprimary customers of distillers grains are dairy and beef cattle, according tothe Renewable Fuels Association’s Ethanol Industry Outlook 2009.  In recent years, an increasing amount ofdistillers grains have been used in the swine and poultry markets.  Numerous feeding trials show advantages inmilk production, growth, rumen health and palatability over other dairy cattlefeeds.  With the advancement of researchinto the feeding rations of poultry and swine, we expect these markets toexpand and create additional demand for distillers grains; however, noassurance can be given that these markets will in fact expand, or if they dothat we will benefit from it.  The marketfor distillers grains is generally confined to locations where freight costsallow it to be competitively priced against other feed ingredients.  Distillers grains compete with three otherfeed formulations: corn gluten feed, dry brewers grain and mill feeds.  The primary value of these products as animalfeed is their protein content.  Drybrewers grain and distillers grains have about the same protein content, andcorn gluten feed and mill fees have slightly lower protein contents.

 

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**GovernmentalRegulation and Federal Ethanol Supports**

 

Federal Ethanol Supports

 

The ethanolindustry is dependent on several economic incentives to produce ethanol,including federal ethanol supports.  One significant federal ethanol supportis the Renewable Fuels Standard (the “RFS”). The RFS requires that in each year, a certain amount of renewable fuelsbe utilized in the United States.  TheRFS was increased in December 2007. Currently, the RFS requires the use of approximately 13 billion gallonsof renewable fuels for 2010, increasing to 36 billion gallons in 2022.  The new RFS also has a provision thatrequires the use of “advanced” biofuels, which are alternative biofuelsproduced without using corn starch such as cellulosic ethanol and biomass-basedbiodiesel, with 21 billion gallons of the mandated 36 billion gallons ofrenewable fuel required to come from advanced biofuels by 2022.  This requirement essentially caps the cornbased ethanol volume at 15 billion gallons. The RFS is a national program that does not require that any renewablefuels be used in any particular area or state, allowing refiners to userenewable fuel blends in those areas where it is most cost-effective.

 

Recently the RFS has come under scrutiny.  Many in the ethanol industry believe that itis not possible to reach the RFS requirement in coming years without allowinghigher percentage blends of ethanol to be used in conventionalautomobiles.  Currently, ethanol isblended with conventional gasoline for use in standard vehicles to create ablend which is 10% ethanol and 90% gasoline. Estimates indicate that approximately 135 billion gallons of gasolineare sold in the United States each year. Assuming that all gasoline in the United States is blended at a rate of10% ethanol and 90% gasoline, the maximum demand for ethanol is 13.5 billiongallons per year.  This is commonlyreferred to as the “blending wall,” which represents a theoretical limit wheremore ethanol cannot be blended into the national gasoline pool.  This is a theoretical limit because it isbelieved that it would not be possible to blend ethanol into every gallon ofgasoline that is being used in the United States and it discounts thepossibility of additional ethanol used in higher percentage blends such as E85used in flex fuel vehicles.  Many in theethanol industry believe that we will reach this blending wall in 2010.  The RFS mandate requires that 36 billiongallons of renewable fuels be used each year by 2022 which equates toapproximately 27% renewable fuels used per gallon of gasoline sold.  In order to meet the RFS mandate and expanddemand for ethanol, management believes higher percentage blends of ethanolmust be utilized in conventional automobiles. Such higher percentage blends of ethanol have continued to be acontentious issue.  The EPA is currentlyconsidering allowing a blend of 15% ethanol and 85% gasoline for use instandard automobiles but the EPA has delayed making a decision on this issueuntil 2010.  Further, as discussed above,there may be additional restrictions on what vehicles may use a 15% ethanolblend which may lead to gasoline retailers refusing to carry such a blend.  Automobile manufacturers and environmentalgroups are lobbying against higher percentage ethanol blends.  State and federal regulations prohibit theuse of higher percentage ethanol blends in conventional automobiles and vehiclemanufacturers have indicated that using higher percentage blends of ethanol inconventional automobiles would void the manufacturer’s warranty.  Without increases in the allowable percentageblends of ethanol, demand for ethanol may not continue to increase and it maynot be possible to meet the RFS in coming years.  This could negatively impact demand forethanol.

 

In April 2007,the EPA adopted a final rule that fully implemented the RFSrequirement.  In addition to fullyimplementing the RFS requirement, the rule created a credit tradingprogram that is designed to allow the fuel refining industry as a whole to meetthe RFS requirement in the most cost effective manner possible.  The credit trading program allows refinerswho blend more renewable fuels than they are required to sell credits torefiners who blend less renewable fuels than they are required.  This credit trading program was designed to decreaseany potential burden the RFS might place on small fuel refiners.

 

The use of ethanol as analternative fuel source has been aided by federal tax policy.  On October 22, 2004, President Bush signed H.R. 4520, whichcontained the Volumetric Ethanol Excise Tax Credit (“VEETC”) and amended thefederal excise tax structure effective as of January 1, 2005.  Prior to VEETC, ethanol-blended fuel wastaxed at a lower rate than regular gasoline (13.2 cents on a 10% blend).  Under VEETC, the ethanol excise tax exemptionhas been eliminated, thereby allowing the full federal excise tax of 18.4 centsper gallon of gasoline to be collected on all gasoline and allocated to thehighway trust fund.  In place of theexemption, the bill created a new volumetric ethanol excise tax credit of 5.1cents per gallon of ethanol blended at 10%. The VEETC is scheduled to expire on December 31, 2010.  If this tax credit is not renewed, it likelywould have a negative impact on the price of ethanol.

 

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On June 18, 2008, the United StatesCongress overrode a presidential veto to approve the Food, Conservation andEnergy Act of 2008 (the “2008 Farm Bill”) and to ensure that all parts of the2008 Farm Bill were enacted into law. Passage of the 2008 Farm Bill reauthorized the 2002 farm bill and addsnew provisions regarding energy, conservation, rural development, cropinsurance as well as other subjects.  The energy title continued the energy programs contained in the 2002farm bill but refocused certain provisions on the development of cellulosicethanol technology.  The new legislationprovided assistance for the production, storage and transport of cellulosicfeedstocks and provided support for ethanol production from such feedstocks inthe form of grants, loans and loan guarantees. The 2008 Farm Bill also modified the ethanol fuels credit from 51 centsper gallon to 45 cents per gallon beginning in 2009.  Further, the bill extended the 54 cent pergallon ethanol tariff on imported ethanol to January 2011.  The 2008 Farm Bill is distinct from theEnergy Independence and Security Act of 2007.

 

The Energy Independence and Security Actof 2007 and the 2008 Farm Bill offer a very strong incentive to developcommercial scale cellulosic ethanol.  TheRFS requires that 16 billion gallons per year of cellulosic biofuels beconsumed in the United States by 2022. Additionally, state and federal grants have been awarded to severalcompanies who are seeking to develop commercial-scale cellulosic ethanolplants.  We expect this will encourageinnovation that may lead to commercially viable cellulosic ethanol plants inthe near future.  If an efficient methodof producing ethanol from cellulose-based biomass is developed, we may not beable to compete effectively.

 

There is currently some debate in the U.S.Senate about whether to repeal the 54 cent per gallon tariff on importedethanol.  If the 54 cent per gallontariff is repealed, the demand for domestically produced ethanol may be offsetby the supply of ethanol imported from Brazil or other foreign countries.

 

Effect of Governmental Regulation

 

Theethanol industry and our business depend upon the continuation of federalethanol supports discussed above.  Theseincentives have supported a market for ethanol that might disappear without theincentives.  Alternatively, the incentivesmay be continued at lower levels.  Theelimination or reduction of such federal ethanol supports would likely reduceour net income and negatively impact our future financial performance.

 

Weare subject to various federal, state and local environmental laws andregulations, including those relating to the discharge of materials into theair, water and ground, the generation, storage, handling, use, transportationand disposal of hazardous materials, and the health and safety ofemployees.  In addition, some of theselaws and regulations require our ethanol plant to operate under permits thatare subject to renewal or modification.

 

Thegovernment’s regulation of the environment changes constantly.  It is possible that more stringent federal orstate environmental rules or regulations could be adopted, which couldincrease our operating costs and expenses. It also is possible that federal or state environmental rules orregulations could be adopted that could have an adverse effect on the use ofethanol.  Furthermore, plant operationsare governed by the Occupational Safety and Health Administration (“OSHA”).  OSHA regulations may change such that thecosts of operating the plant may increase. Any of these regulatory factors may result in higher costs or otheradverse conditions effecting our operations, cash flows and financialperformance.

 

OnSeptember 22, 2009, the United States Environmental Protection Agency (“EPA”)issued the “Final Mandatory Reporting of Greenhouse Gases Rule” that becameeffective on January 1, 2010.  Thisnew rule requires certain facilities that emit 25,000 metric tons or moreof CO2 per year to report certain greenhouse gas emissions data from thatfacility to the EPA on an annual basis. The first annual reports covering calendar year 2010 will need to besubmitted to the EPA in 2011.  We areevaluating our obligations under this new rule in light of additionalguidance to be released by the EPA.

 

**Costof Compliance with Environmental Laws**

 

Weare subject to extensive air, water and other environmental regulations and wewere required to obtain a number of environmental permits to construct andoperate the ethanol plant.  As such, anychanges that are made to the ethanol plant or its operations must be reviewedto determine if amended permits need to be obtained in order to implement thesechanges.

 

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TheNational Pollutant Discharge Elimination System/State Disposal System(NPDES/SDS) permit, which regulates the water treatment, water disposal andstormwater systems at the facility, requires renewal every five years.  We will be required to submit a renewalapplication to the Minnesota Pollution Control Agency (“MPCA”) in 2012.

 

On December 9, 2009, we received a Noticeof Violation from the MPCA notifying us of alleged violations discovered by theMPCA staff during an inspection in September 2009.  The Notice of Violation requires us to takeimmediate corrective actions and provides us with an opportunity to respond tothe alleged violations.  We haveresponded to the MPCA’s Notice of Violation and are in the process ofrectifying the environmental and permitting concerns of MPCA.  We are currently negotiating with the MPCAregarding the Notice of Violations as we do not believe all of the allegedviolations are warranted.

 

In the fiscal year ended October 31,2009, we incurred costs and expenses of approximately $430,000 complying withenvironmental laws, including the cost of modifying the permit for our wastewater treatment facility and obtaining other permits.  Although we have been successful in obtainingall of the permits currently required, any retroactive change in environmentalregulations, either at the federal or state level, could require us to obtain additionalor new permits or spend considerable resources in complying with suchregulations.  We anticipate spendingapproximately $380,000 in the next fiscal year for environmental compliance.

 

**Employees**

 

As of October 31,2009, we had 37 employees.  Approximatelyten of these employees are involved primarily in management andadministration.  The remaining employeesare involved primarily in plant operations. We do not currently anticipate any significant change in the number ofemployees at our plant.

 

**F****inancial Informationabout Geographic Areas**

 

All of our operations aredomiciled in the United States.  All ofthe products sold to our customers for fiscal years 2009 were produced in theUnited States and all of our long-lived assets are domiciled in the UnitedStates.  We have engaged third-partyprofessional marketers who decide where our products are marketed and we haveno control over the marketing decisions made by our third-party professionalmarketers.  These third-party marketersmay decide to sell our products in countries other than the United States.  However, we anticipate that our products willprimarily be marketed and sold in the United States.

 

**ITEM1A.  RISK FACTORS.**

 

*You should carefully read and consider the risks anduncertainties below and the other information contained in this report. The risks and uncertainties described below are not the only ones we mayface.  The following risks, together with additional risks anduncertainties not currently known to us or that we currently deem immaterialcould impair our financial condition and results of operation.*

 

**RisksRelating to Our Business**

 

***Increases in the price of corn or natural gas would reduceour profitability.**** *Our primary source of revenue is from the sale of ethanol and distillersgrains. Our results of operations and financial condition are significantlyaffected by the cost and supply of corn and natural gas. Changes in the priceand supply of corn and natural gas are subject to and determined by marketforces over which we have no control including weather and general economicfactors.

 

Ethanol productionrequires substantial amounts of corn. Generally, higher corn prices willproduce lower profit margins and, therefore, negatively affect our financialperformance.  While our corn prices havedecreased significantly from highs experienced during 2008, corn prices couldsignificantly increase again in a short period of time.  If a period of high corn prices were to besustained for some time, such pricing may reduce our ability to operateprofitably because of the higher cost of operating our plant.  We may not be able to offset any increase inthe price of corn by increasing the price of our products.  If we cannot offset increases in the price ofcorn, our financial performance may be negatively affected.

 

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Theprices for and availability of natural gas are subject to volatile market conditions. These market conditions often are affected by factors beyond our control suchas higher prices as a result of colder than average weather conditions ornatural disasters, overall economic conditions and foreign and domesticgovernmental regulations and relations.  Significant disruptions in thesupply of natural gas could impair our ability to manufacture ethanol and moresignificantly, distillers grains for our customers.  Furthermore,increases in natural gas prices or changes in our natural gas costs relative tonatural gas costs paid by competitors may adversely affect our results ofoperations and financial condition.  Inthe future we may seek to minimize the risks from fluctuations in the prices ofcorn and natural gas through the use of hedging instruments.  However,these hedging transactions also involve risks to our business.  See “**Risks Relating to OurBusiness — *We may engage in hedgingtransactions in the future which involve risks that could harm our business***.”  If we were to experience relatively highercorn and natural gas costs compared to the selling prices of our products foran extended period of time, our financial performance may suffer.

 

***Declines in the price of ethanol or distillers grains wouldsignificantly reduce our revenues.*** The sales prices ofethanol and distillers grains can be volatile as a result of a number offactors such as overall supply and demand, the price of gasoline and cornprices, levels of government support, and the availability and price ofcompeting products.  We are dependent ona favorable spread between the price we receive for our ethanol and distillersgrains and the price we pay for corn and natural gas.  Any lowering of ethanol and distillers grainsprices, especially if it is associated with increases in corn and natural gasprices, may affect our ability to operate profitably.  We anticipate the price of ethanol anddistillers grains to continue to be volatile in our 2010 fiscal year as aresult of the net effect of changes in the price of gasoline and corn pricesand increased ethanol supply offset by increased ethanol demand.  Declines in the prices we receive for ourethanol and distillers grains will lead to decreased revenues and may result inour inability to operate the ethanol plant profitably for an extended period oftime which could decrease the value of our units.

 

***Wehave a significant amount of debt, and our existing debt financing agreementscontain restrictive covenants that limit distributions and impose restrictionson the operation of our business.***  The use of debt financing makes it moredifficult for us to operate because we must make principal and interestpayments on the indebtedness and abide by covenants contained in our debtfinancing agreements.  The level of ourdebt may have important implications on our operations, including among otherthings: (a) limiting our ability to obtain additional debt or equityfinancing; (b) making us vulnerable to increases in prevailing interestrates; (c) placing us at a competitive disadvantage because we may besubstantially more leveraged than some of our competitors; (d) subjectingall or substantially all of our assets to liens, which means that there may beno assets left for members in the event of a liquidation; (e) limiting ourability to make business and operational decisions regarding our business,including, among other things, limiting our ability to pay dividends to ourunit holders, make capital improvements, sell or purchase assets or engage intransactions we deem to be appropriate and in our best interest.

 

***Wemay violate the terms of our credit agreements and financial covenants whichcould result in our lender demanding immediate repayment of our loans.***  Current management projections indicate thatwe will be in compliance with our loan covenants into the foreseeablefuture.  However, unforeseencircumstances may develop which could result in us violating our loancovenants.  If we violate the terms ofour credit agreement, our primary lender could deem us in default of our loansand require us to immediately repay the entire outstanding balance of ourloans. If we do not have the funds available to repay the loans or we cannotfind another source of financing, we may fail which could decrease or eliminatethe value of our units.

 

***Ourinability to secure credit facilities we may require in the future maynegatively impact our liquidity.***  Due to current conditions in the creditmarkets, it has been difficult for businesses to secure financing.  While we do not currently require morefinancing than we have, in the future we may need additional financing.  If we require financing in the future and weare unable to secure such financing, or we are unable to secure the financingwe require on reasonable terms, it may have a negative impact on ourliquidity.  This could negatively impactthe value of our units.

 

***The ethanol industry is an industry that is changing rapidlywhich can result in unexpected developments that could negatively impact ouroperations. ***The ethanolindustry has grown significantly in the last decade.  According to the Renewable Fuels Association,the ethanol industry has grown from approximately 1.5 

 

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billiongallons of production per year in 1999 to more than 10 billion gallons in2009.  This rapid growth has resulted insignificant shifts in supply and demand of ethanol over a very short period oftime.  As a result, past performance bythe ethanol plant or the ethanol industry generally might not be indicative offuture performance.  We may experience arapid shift in the economic conditions in the ethanol industry which may makeit difficult to operate the ethanol plant profitably.  If changes occur in the ethanol industry thatmay make it difficult for us to operate the ethanol plant profitably.

 

***We may engage in hedging transactions in the future whichinvolve risks that could harm our business.***  We are exposed tomarket risk from changes in commodity prices.  Exposure to commodity pricerisk results from our dependence on corn and natural gas in the ethanolproduction process.  We may seek to minimize the risks from fluctuationsin the prices of corn, natural gas and ethanol through the use of hedginginstruments in the future.  The effectiveness of any future hedgingstrategies would be dependent on the price of corn, natural gas and ethanol andour ability to sell sufficient products to use all of the corn and natural gasfor which we would have futures contracts.  Any future hedging activitiesmay not successfully reduce the risk caused by price fluctuation which mayleave us vulnerable to high corn and natural gas prices. Alternatively, we maychoose not to engage in hedging transactions in the future and our operationsand financial conditions may be adversely affected during periods in which cornand/or natural gas prices increase.

 

Pricemovements in corn, natural gas and ethanol contracts are highly volatile andare influenced by many factors that are beyond our control.  There areseveral variables that could affect the extent to which any future derivativeinstruments are impacted by price fluctuations in the cost of corn or naturalgas.  However, it is likely that commodity cash prices would have thegreatest impact on the derivatives instruments with delivery dates nearest thecurrent cash price.  If we choose to engage in such hedging activities inthe future we could incur such costs and they may be significant which couldimpact our ability to profitably operate the plant and may reduce the value ofour units.

 

***Our business is not diversified.***  Oursuccess depends largely on our ability to profitably operate our ethanol plant.We do not have any other lines of business or other sources of revenue if weare unable to operate our ethanol plant and manufacture ethanol, distillersgrains and corn oil.  If economic or political factors adversely affectthe market for ethanol, distillers grains or corn oil, we have no other line ofbusiness to fall back on. Our business would also be significantly harmed ifthe ethanol plant could not operate at full capacity for any extended period oftime.

 

***Wedepend on our management and key employees, and the loss of these relationshipscould negatively impact our ability to operate profitably.***  We are highly dependent on our managementteam to operate our ethanol plant.  Wemay not be able to replace these individuals should they decide to cease theiremployment with us, or if they become unavailable for any other reason.  While we seek to compensate our managementand key employees in a manner that will encourage them to continue theiremployment with us, they may choose to seek other employment.  Any loss of these officers and key employeesmay prevent us from operating the ethanol plant profitably and could decreasethe value of our units.

 

***Changes and advances in ethanol production technology couldrequire us to incur******coststo update our plant or could otherwise hinder our ability to**compete in the ethanol industry or operateprofitably.***  Advances and changes in thetechnology of ethanol production are expected to occur.  Such advances andchanges may make the ethanol production technology installed in our plant lessdesirable or obsolete.  These advances could also allow our competitors toproduce ethanol at a lower cost than we are able.  If we are unable toadopt or incorporate technological advances, our ethanol production methods andprocesses could be less efficient than our competitors, which could cause ourplant to become uncompetitive or completely obsolete.  If our competitorsdevelop, obtain or license technology that is superior to ours or that makesour technology obsolete, we may be required to incur significant costs toenhance or acquire new technology so that our ethanol production remainscompetitive.  Alternatively, we may be required to seek third-partylicenses, which could also result in significant expenditures.  Thesethird-party licenses may not be available or, once obtained, they may notcontinue to be available on commercially reasonable terms.  These costscould negatively impact our financial performance by increasing our operatingcosts and reducing our net income.

 

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***Wehave a limited operating history.***  We have been producing ethanol at our plantsince August 2009.  Accordingly, wehave a limited operating history from which you can evaluate our business andprospects.  Our operating results couldfluctuate significantly in the future as the result of a variety of factors,including those discussed throughout these risk factors.  Many of these factors are outside ourcontrol.  As a result of these factors,our operating results may not be indicative of future operating results and youshould not rely on them as indications of our future performance.  In addition, our prospects must be consideredin light of the risks and uncertainties encountered by an early-stage companyin a rapidly growing industry, such as the ethanol industry, where supply anddemand may change substantially in a short amount of time.

 

**RisksRelated to Ethanol Industry**

 

***Demandfor ethanol may not continue to grow unless ethanol can be blended intogasoline in higher percentage blends for conventional automobiles.***  Currently, ethanol is blended withconventional gasoline for use in standard (non-flex fuel) vehicles to create ablend which is 10% ethanol and 90% conventional gasoline.  Estimates indicate that approximately 135billion gallons of gasoline are sold in the United States each year.  Assuming that all gasoline in the UnitedStates is blended at a rate of 10% ethanol and 90% gasoline, the maximum demandfor ethanol is 13.5 billion gallons. This is commonly referred to as the “blending wall,” which represents atheoretical limit where more ethanol cannot be blended into the nationalgasoline pool.  Many in the ethanolindustry believe that the ethanol industry will reach this blending wall in2010.  In order to expand demand forethanol, higher percentage blends of ethanol must be utilized in conventionalautomobiles.  Such higher percentageblends of ethanol have recently become a contentious issue.  Automobile manufacturers and environmentalgroups have fought against higher percentage ethanol blends.  Currently, state and federal regulationsprohibit the use of higher percentage ethanol blends in conventional automobilesand vehicle manufacturers have stated that using higher percentage ethanolblends in conventional vehicles would void the manufacturer’s warranty.  Recently, the EPA was expected to make aruling on using higher percentage blends of ethanol such as E15, however, theEPA deferred making a decision on this issue until 2010.  Further, some believe the EPA is consideringonly approving a 15% ethanol blend for vehicles produced in model year 2001 andlater.  This may lead to gasolineretailers refusing to carry a 15% ethanol blend even if it is approved.  Without an increase in the allowablepercentage blends of ethanol, demand for ethanol may not continue to increasewhich could decrease the selling price of ethanol and could result in ourinability to operate the ethanol plant profitably.

 

***Technology advances in the commercialization of cellulosic ethanol maydecrease demand for corn based ethanol which may negatively affect ourprofitability.***  The current trend in ethanol productionresearch is to develop an efficient method of producing ethanol fromcellulose-based biomass, such as agricultural waste, forest residue, municipalsolid waste, and energy crops. This trend is driven by the fact thatcellulose-based biomass is generally cheaper than corn, and producing ethanolfrom cellulose-based biomass would create opportunities to produce ethanol inareas which are unable to grow corn.  TheEnergy Independence and Security Act of 2007 and the 2008 Farm Bill offer astrong incentive to develop commercial scale cellulosic ethanol.  The RFS requires that 16 billion gallons peryear of advanced bio-fuels be consumed in the United States by 2022.  Additionally, state and federal grants havebeen awarded to several companies who are seeking to develop commercial-scalecellulosic ethanol plants.  We expectthis will encourage innovation that may lead to commercially viable cellulosicethanol plants in the near future.  If anefficient method of producing ethanol from cellulose-based biomass isdeveloped, we may not be able to compete effectively. If we are unable toproduce ethanol as cost-effectively as cellulose-based producers, our abilityto generate revenue and our financial condition will be negatively impacted.

 

***New plants under construction or decreases in the demand for ethanolmay result in excess production capacity in our industry*****.**  The supply ofdomestically produced ethanol is at an all-time high.  According to the Renewable Fuels Association,as of January 7, 2010, there are 200 ethanol plants in the United Stateswith capacity to produce more than 13 billion gallons of ethanol per year.  In addition, there are approximately 9 newethanol plants under construction and approximately 5 plant expansions underwaywhich together are estimated to increase ethanol production capacity by morethan 1.4 billion gallons per year. Excess ethanol production capacity may have an adverse impact on ourresults of operations, cash flows and general financial condition.  According to the Renewable Fuels Association,approximately 9% of the ethanol production capacity in the United States wasidled as of January 7, 2010, the most recent available data.  During the early part of 2009 when theethanol industry was experiencing unfavorable operating conditions, as much as20% of the ethanol production in the United States may have been idled.  Further, demand for ethanol may not increasepast approximately 13 billion gallons of ethanol due 

 

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to the blending wallunless higher percentage blends of ethanol are approved by the EPA.  If the demand for ethanol does not grow atthe same pace as increases in supply, we expect the selling price of ethanol todecline.  If excess capacity in theethanol industry continues to occur, the market price of ethanol may decline toa level that is inadequate to generate sufficient cash flow to cover ourcosts.  This could negatively affect ourprofitability.

 

***Decreasing gasoline prices may negatively impact the selling price ofethanol which could reduce our ability to operate profitably***. The price of ethanol tends to change partially in relation to the priceof gasoline.  Decreases in the price ofethanol reduce our revenue.  Our profitabilitydepends on a favorable spread between our corn and natural gas costs and theprice we receive for our ethanol.  Ifethanol prices fall during times when corn and/or natural gas prices are high,we may not be able to operate our ethanol plant profitably.

 

***Growth in the ethanol industry is dependent on growth in thefuel blending infrastructure to accommodate ethanol, which may be slow andcould result in decreased demand for ethanol. ***The ethanol industry depends on the fuel blendingindustry to blend the ethanol that is produced with gasoline so it may be soldto the end consumer.  In many parts ofthe country, the blending infrastructure cannot accommodate ethanol so noethanol is used in those markets. Substantial investments are required to expand this blendinginfrastructure and the fuel blending industry may choose not to expand theblending infrastructure to accommodate ethanol. Should the ability to blend ethanol not expand at the same rate asincreases in ethanol supply, it may decrease the demand for ethanol which maylead to a decrease in the selling price of ethanol which could impact ourability to operate profitably.

 

***We operate in an intensely competitive industry and competewith larger, better financed entities which could impact our ability to operateprofitably.***  There is significant competition amongethanol producers.  There are numerousproducer-owned and privately-owned ethanol plants planned and operatingthroughout the Midwest and elsewhere in the United States.  We also face competitionfrom outside of the United States.  Thepassage of the Energy Policy Act of 2005 included a renewable fuelsmandate.  The RFS was increased in December 2007to 36 billion gallons by 2022.  Further,some states have passed renewable fuel mandates.  All of these increases in ethanol demand haveencouraged companies to enter the ethanol industry.  The largest ethanolproducers include ArcherDaniels Midland, Green Plains Renewable Energy, Hawkeye Energy Holdings, POET,and Valero Renewable Fuels, all of which are each capable ofproducing significantly more ethanol than we produce.  Further, many believe that there will beconsolidation occurring in the ethanol industry in the near future which willlikely lead to a few companies who control a significant portion of the ethanolproduction market.  We may not be able tocompete with these larger entities. These larger ethanol producers may be able to affect the ethanol marketin ways that are not beneficial to us which could negatively impact our financialperformance.

 

***Competition from the advancement of alternative fuels maylessen the demand for******ethanol.*** Alternative fuels, gasoline oxygenates and ethanol production methods arecontinually under development. A number of automotive, industrial and powergeneration manufacturers are developing alternative clean power systems usingfuel cells, plug-in hybrids or clean burning gaseous fuels. Like ethanol, theseemerging technologies offer an option to address worldwide energy costs, thelong-term availability of petroleum reserves and environmental concerns. Fuelcells have emerged as a potential alternative to certain existing power sourcesbecause of their higher efficiency, reduced noise and lower emissions. Fuelcell industry participants are currently targeting the transportation,stationary power and portable power markets in order to decrease fuel costs,lessen dependence on crude oil and reduce harmful emissions. If thesealternative technologies continue to expand and gain broad acceptance and becomereadily available to consumers for motor vehicle use, we may not be able tocompete effectively. This additional competition could reduce the demand forethanol, resulting in lower ethanol prices that might adversely affect ourresults of operations and financial condition.

 

***Consumer resistance to the use of ethanol based on thebelief that ethanol is******expensive,adds to air pollution, harms engines and/or takes more energy to**produce than it contributes may affect the demand forethanol.***  Certain individuals believe that the use ofethanol will have a negative impact on gasoline prices at the pump. Many alsobelieve that ethanol adds to air pollution and harms car and truck engines.Still other consumers believe that the process of producing ethanol actuallyuses more fossil energy, such as oil and natural gas, than the amount of energythat is produced. These consumer beliefs could potentially be wide-spread andmay be increasing as a result of recent efforts to increase the allowablepercentage of ethanol that may be blended for use in 

 

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conventionalautomobiles.  If consumers choose not tobuy ethanol based on these beliefs, it would affect the demand for the ethanolwe produce which could negatively affect our profitability and financialcondition.

 

**RisksRelated to Regulation and Governmental Action**

 

***Governmentincentives for ethanol production, including federal tax incentives,******may be eliminated in the future, which could hinderour ability to operate at a**profit****.** *Theethanol industry is assisted by various federal ethanol production and taxincentives, including the RFS set forth in the Energy Policy Act of 2005.  The RFS helps support a market for ethanolthat might disappear without this incentive; as such, waiver of RFS minimumlevels of renewable fuels required in gasoline could negatively impact ourresults of operations.

 

In addition, the elimination or reduction of taxincentives to the ethanol industry, such as the VEETC available to gasolinerefiners and blenders, could also reduce the market demand for ethanol, whichcould reduce prices and our revenues by making it more costly or difficult forus to produce and sell ethanol. If the federal tax incentives are eliminated orsharply curtailed, we believe that decreased demand for ethanol will result,which could negatively impact our ability to operate profitably.

 

Also, elimination of the tariffs that protect theUnited States ethanol industry could lead to the importation of ethanolproduced in other countries, especially in areas of the United States that areeasily accessible by international shipping ports.  While the 2008 Farm Bill extended the tariffon imported ethanol through 2011, this tariff could be repealed earlier whichcould lead to increased ethanol supplies and decreased ethanol prices.

 

***Changes in environmental regulations or violations of theseregulations could be******expensiveand reduce our profitability.***  We are subject toextensive air, water and other environmental laws and regulations.  Inaddition, some of these laws require our plant to operate under a number ofenvironmental permits. These laws, regulations and permits can often requireexpensive pollution control equipment or operational changes to limit actual orpotential impacts to the environment.  A violation of these laws andregulations or permit conditions can result in substantial fines, damages,criminal sanctions, permit revocations and/or plant shutdowns.  In thefuture, we may be subject to legal actions brought by environmental advocacygroups and other parties for actual or alleged violations of environmental lawsor our permits.  In December 2009,we received a Notice of Violation from the MPCA notifying us of allegedviolations discovered by the MPCA staff during an inspection in September 2009.  The Notice of Violation requires us to takeimmediate corrective actions and provides us with an opportunity to respond tothe alleged violations.  We haveresponded to the MPCA’s Notice of Violation and are in the process ofrectifying the environmental and permitting concerns of MPCA.  We are currently negotiating with the MPCAregarding the Notice of Violations as we do not believe all of the allegedviolations are warranted.  However, inthe event MPCA disagrees with our assessment of the alleged violations, we maybe subject to legal proceedings, fines or corrective actions.

 

Additionally,any changes in environmental laws and regulations, both at the federal andstate level, could require us to spend considerable resources in order tocomply with future environmental regulations. The expense of compliance couldbe significant enough to reduce our profitability and negatively affect ourfinancial condition.

 

***Carbon dioxide may be regulated in the future by the EPA as an airpollutant requiring us to obtain additional permits and install additionalenvironmental mitigation equipment, which could adversely affect our financialperformance*****. **In 2007, the Supreme Court decided a casein which it ruled that carbon dioxide is an air pollutant under the Clean AirAct for the purposes of motor vehicle emissions.  The Supreme Court directed the EPA toregulate carbon dioxide from vehicle emissions as a pollutant under the CleanAir Act.  Similar lawsuits have beenfiled seeking to require the EPA to regulate carbon dioxide emissions fromstationary sources such as our ethanol plant under the Clean Air Act. Our plantproduces a significant amount of carbon dioxide that we currently vent into theatmosphere.  While there are currently noregulations applicable to us concerning carbon dioxide, if the EPA or the Stateof Minnesota were to regulate carbon dioxide emissions by plants such as ours,we may have to apply for additional permits or we may be required to installcarbon dioxide mitigation equipment or take other as yet unknown steps tocomply with these potential regulations. Compliance with any future regulation of carbon dioxide, if it occurs,could be costly and may prevent us from operating the ethanol plant profitablywhich could decrease or eliminate the value of our units.

 

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**ITEM 2. PROPERTIES.**

 

Our plant site is made up of two adjacentparcels which together total approximately 125 acres in southwest Minnesotanear Lamberton.  The plant’s address is24500 U.S. Highway 14, Lamberton, Minnesota 56152.  In August 2009, the ethanol plant wassubstantially completed and plant operations commenced.  We produce all of our ethanol and distillersgrains at this site.  The ethanol planthas capacity to produce 50 million gallons of ethanol per year.  The ethanol plant site consists of thefollowing buildings:

 

·                  A grains area, fermentation area, distillation-evaporation area;

·                  A dryer/energy center area;

·                  A tank farm;

·                  An auxiliary area; and

·                  An administration building.

 

The site also contains improvements suchas rail tracks and a rail spur, landscaping, drainage systems and paved accessroads.  Our ethanol plant was placed inservice in August 2009 and is in excellent condition and is capable offunctioning at 100 percent of its production capacity.

 

All of our tangible and intangibleproperty, real and personal, serves as the collateral for our debt financingwith First National Bank of Omaha. Our senior credit facility is discussed inmore detail under**“MANAGEMENT’S DISCUSSION AND ANALYSIS —Liquidity and Capital Resources.”**

 

**ITEM 3.  LEGALPROCEEDINGS.**

 

None.

 

**ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.**

 

We did not submit any matter to a vote of our unitholders through the solicitation of proxies or otherwise during the fourthfiscal quarter of 2009.

 

**PART II**

 

**ITEM 5.  MARKETFOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUERPURCHASES OF EQUITY SECURITIES.**

 

Asof October 31, 2009, we has approximately 4,953 membership unitsoutstanding and approximately 1,521 unit holders of record.  There is no public trading market for ourmembership units.

 

However,we have established through Alerus Securities a Unit Trading Bulletin Board, aprivate online matching service, in order to facilitate trading among ourmembers.  The Unit Trading Bulletin Boardhas been designed to comply with federal tax laws and IRS regulationsestablishing a “qualified matching service,” as well as stated and federalsecurities laws.  Our Unit Bulletin Boardconsists of an electronic bulletin board that provides a list of interestedbuyers with a list of interested sellers, along with their non-firm pricequotes.  The Unit Trading Bulletin Boarddoes not automatically affect matchers between potential sellers and buyers andit is the sole responsibility of sellers and buyers to contact each other to makea determination as to whether an agreement to transfer units may bereached.  We do not become involved inany purchase or sale negotiations arising from our Unit Trading Bulletin Boardand have no role in effecting the transactions beyond approval, as requiredunder our member control agreement, and the issuance of new certificates.  We do not give advice regarding the merits orshortcomings of any particular transaction. We do not receive, transfer or hold funds or securities as an incidentof operating the Unit Trading Bulletin Board. We do not receive any compensation for creating or maintaining the UnitTrading Bulletin Board.  In advertisingour Unit Trading Bulletin Board, we do not characterize Highwater Ethanol asbeing a broker or dealer or an exchange. We do not use the Unit Trading Bulletin Board to offer to buy or sellsecurities other than in compliance with the securities laws, including anyapplicable registration requirements.

 

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Thereare detailed timelines that must be followed under the Unit Trading BulletinBoard Rules and Procedures with respect to offers and sales of membershipunits.  All transactions must comply withthe Unit Trading Bulletin Board Rules, our member control agreement, and aresubject to approval by our board of governors.

 

Asa limited liability company, we are required to restrict the transfers of ourmembership units in order to preserve our partnership tax status.  Our membership units may not be traded on anyestablished securities market or readily traded on a secondary market (or thesubstantial equivalent thereof).  Alltransfers are subject to a determination that the transfer will not causeHighwater Ethanol to be deemed a publicly traded partnership.

 

Wedid not commence trading of units through the use of Alerus Securities until December 2009.  As such we have no available historicalinformation by quarter for the past two fiscal years as there were no unittransactions for sale completed or offered by our unit holders.

 

**DISTRIBUTIONS**

 

We have not declared or paid anydistributions on our units.  Our board ofgovernors has complete discretion over the timing and amount of distributionsto our unit holders, subject to certain restrictions in our creditagreements.  However, our member controlagreement requires the board of governors to endeavor to make cashdistributions at such times and in such amounts as will permit our unit holdersto satisfy their income tax liability relating to owning our units in a timelyfashion.

 

Our expectations with respect to ourability to make future distributions are discussed in greater detail in **“MANAGEMENT’S DISCUSSION AND ANALYSIS.”**   In addition, distributions are restricted by certainloan covenants in our construction term loan and revolving credit financingagreements.  These loancovenants and restrictions are described in greater detail under **“MANAGEMENT’S DISCUSSION AND ANALYSIS — Liquidity and CapitalResources.”**

 

**ITEM 6. SELECTED FINANCIAL DATA**

 

Weare a smaller reporting company as defined by Rule 12b-2 of the SecuritiesExchange Act of 1934 and are not required to provide information under thisitem.

 

**ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTSOF OPERATIONS.**

 

Thisreport contains forward-looking statements that involve future events, ourfuture performance and our expected future operations and actions.  In some cases you can identify forward-lookingstatements by the use of words such as “may,” “will,” “should,” “anticipate,” “believe,”“expect,” “plan,” “future,” “intend,” “could,” “estimate,” “predict,” “hope,” “potential,”“continue,” or the negative of these terms or other similar expressions.  These forward-looking statements are only ourpredictions and involve numerous assumptions, risks and uncertainties.  Our actual results or actions may differmaterially from these forward-looking statements for many reasons, includingthe reasons described in this report.  Weare not under any duty to update the forward-looking statements contained inthis report.  We cannot guarantee futureresults, levels of activity, performance or achievements.  We caution you not to put undue reliance onany forward-looking statements, which speak only as of the date of thisreport.  You should read this report andthe documents that we reference in this report and have filed as exhibits,completely and with the understanding that our actual future results may bematerially different from what we currently expect.  We qualify all of our forward-lookingstatements by these cautionary statements.

 

**Overview**

 

Highwater Ethanol, LLC was formed on May 2,2006.  We were formed for the purpose ofraising capital to construct, own and operate a 50 million gallon per yearethanol plant near Lamberton, Minnesota. We began producing ethanol and distillers grains at the ethanol plant inAugust 2009.

 

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**Results of Operations**

 

***Fiscal Year Ended October 31, 2009***

 

Thefollowing table shows the results of our operations and the percentage ofrevenues, cost of goods sold, operating expenses and other items to totalrevenues in our statement of operations for the fiscal year ended October 31,2009.  Because we did not beginoperations of the ethanol plant until August 2009, we do not havecomparable data for the fiscal year ended October 31, 2008.

 
| ** **                | ** ** | **2009**   | ** ** |
|---------------------------|------------|------------|------------|
| **Income Statement Data** | ** ** | **Amount** | ** ** | **%** | ** ** |
| Revenues                  |       | $          | 18,983,802 |   | 100.0 |   |
|                      |       |       |       |   |   |
| Cost  of Goods Sold       |       | $          | 16,064,288 |   | 84.6 |   |
|                      |       |       |       |   |   |
| Gross Profit              |       | $          | 2,919,514  |   | 15.4 |   |
|                      |       |       |       |   |   |
| Operating  Expenses       |       | $          | 1,882,608  |   | 9.9 |   |
|                      |       |       |       |   |   |
| Operating Profit          |       | $          | 1,036,906  |   | 5.5 |   |
|                      |       |       |       |   |   |
| Other Income  (Expense)   |       | $          | (2,528,312 | ) | (13.3 | ) |
|                      |       |       |       |   |   |
| Net Loss                  |       | $          | (1,491,406 | ) | (7.9 | ) |

 

***Revenues***

 

During our fiscal yearended October 31, 2009, we transitioned from a development stage companyto an operational company.  Accordingly,we do not yet have comparable income, production and sales data for the fiscalyear ended October 31, 2009, from our previous fiscal year ended October 31,2008, so we do not provide a comparison of our financial results betweenreporting periods in this report.  If youundertake your own comparison of our fiscal year ended October 31, 2009,and our fiscal year ended October 31, 2008, it is important that you keepthis in mind.

 

Our revenues are derivedfrom the sale of our ethanol and distillers grains.  For the fiscal year ended October 31,2009, we received approximately 89% of our revenue from the sale of fuelethanol and approximately 11% of our revenue from the sale of distillersgrains.  Increased gasoline and ethanolprices towards the end of our fiscal year ended October 31, 2009 allowedthe ethanol industry to realize more favorable margins.

 

Management anticipatesthat ethanol prices will continue to change in relation to changes in corn andenergy prices.  These prices have beensomewhat volatile due to the uncertainty that we are experiencing in theoverall economy which has been affecting commodities prices for the lastyear.  Further, difficult weatherconditions during the harvest in the fall of 2009 has resulted in increasedcorn prices.  Management believes thatthere is currently a surplus of ethanol production capacity in the UnitedStates.  We believe this has resulted inseveral ethanol producers decreasing ethanol and distillers grains productionor halting operations altogether.  Theamount of this idled ethanol production capacity has changed throughout our2009 fiscal year as a result of changes in the spread between corn prices andethanol prices.  Ethanol producersdecreasing or ceasing production has an effect on the supply of ethanol in themarket which can positively impact the price of ethanol.  Much of this idled ethanol capacity couldcome back online within a reasonably short period of time which couldnegatively impact ethanol prices.  Weanticipate that the ethanol industry must continue to grow demand for ethanolin order to support current ethanol prices and retain profitability in theethanol industry.

 

A debate continues withrespect to changes in the allowable percentage of ethanol blended with gasolinefor use in standard (non-flex fuel) vehicles. Recently, the EPA has been considering allowing E15 to be used instandard vehicles.  However, the EPA hasdelayed making a decision on E15 until sometime in 2010.  See “**Item 1— BUSINESS — Competition**” for more detailed information regardingE15 and the blending wall.

 

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Management believes thatthe market prices for distillers grains change in relation to the prices ofother animal feeds, such as corn and soybean meal.  As a result of the current economic situationand its effect on commodities prices, there was a significant decrease in themarket prices of corn and soybean meal starting in 2008.  This resulted in a significant decrease indistillers grains prices.  We believethat the negative effect of lower corn and soybean meal prices had on marketdistillers grains prices was somewhat offset by decreased distillers grainsproduction by the ethanol industry during our 2009 fiscal year.  Management believes that several ethanolproducers decreased ethanol and distillers grains production or ceasedproduction altogether during 2009 as a result of unfavorable operatingconditions.  Management believes thatthis resulted in decreased distillers grains production which we believe had apositive impact on the market price of distillers grains.  However, we expect that many of the producersthat were idle during 2009 may resume production due to more favorable spreadbetween the products and the inputs. This may have a negative impact on the market price in the future.

 

*Cost of Goods Sold*

 

Our cost of goods sold asa percentage of revenues was 84.6% for the fiscal year ended October 31, 2009. Our two primary costs of producing ethanol and distillers grains arecorn costs and natural gas costs.

 

**CornCosts**

 

Our largest cost associated with the production of ethanol anddistillers grains is corn costs.  Cornprices reached historical highs in June 2008, but have decreased sincethat time as stronger than expected corn yields materialized and the globalfinancial crisis brought down the prices of most commodities generally.

 

In recent months, corn prices have trended higher.  Management attributes this upward trend incorn prices with a general increase in commodity and financial marketsrecently.  However, despite poorplanting conditions, a cool, wet growing season and an abysmal harvest,American farmers set new records for both yield per acre and totalproduction.  In the January CropProduction report, a summary of the 2009 season that was issued January 12,2010, the United States Department of Agriculture estimates that farmersaveraged 165.2 bushels of corn per acre, up from its previous estimate of 162.9and surpassing the previous record of 160.4 in 2004.  This record yield helped produce the largestU.S. corn crop ever — 13.2 billion bushels. Despite the fact that corn yields have been strong, uncertaintycontinues regarding the quality of the corn harvested in the fall of 2009 as aresult of the late harvest and unfavorable weather conditions that existedduring the 2009 growing season.  If thecorn that was harvested in the fall of 2009 was of poor quality, it mightnegatively impact the number of gallons of ethanol that can be produced perbushel of corn.  Further, managementanticipates that corn demand may increase in the near future should globaleconomic conditions continue to improve. Should corn demand increase, it may result in further increases in themarket price of corn.

 

We purchase all of ourcorn at the local market price delivered to the ethanol plant plus a fixed feeper bushel of corn from a related party. We expectcontinued volatility in the price of corn, which could significantly impact ourcost of goods sold.  The growing numberof operating ethanol plants nationwide is also expected to increase the demandfor corn.  This increase will likelydrive the price of corn upwards in our market which will impact our ability tooperate profitably.

 

**NaturalGas Costs**

 

Worldwide energy demandhas decreased as a result of the global economic situation.  However, natural gas prices have recentlybeen increasing.  Natural gas pricestypically increase during the winter months as natural gas demand increases incolder climates that use natural gas for heating needs.  Management anticipates that natural gasprices will continue to increase during the winter months.  Should the economy continue to improve, itmay result in increased energy demand, including increased natural gasdemand.  This may result in furtherincreases in natural gas prices.

 

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*OperatingExpense*

 

Ouroperating expenses as a percentage of revenues were 9.9% for the fiscal yearended October 31, 2009.  We experienced a significant increase inour operating expenses for the fiscal year ended October 31, 2009 comparedto the same periods of 2008 primarily due to an increase in the number ofemployees employed as a result of our plant becoming fully operational.  Operating expenses include salaries andbenefits of administrative employees, insurance, taxes, professional fees andother general administrative costs. Management is pursuing strategies tooptimize efficiencies and maximize production. These efforts may result in a decrease in our operating expenses on aper gallon basis.  However, because theseexpenses generally do not vary with the level of production at the plant, we expect ouroperating expenses to remain steady.

 

*OperatingProfit*

 

Ourprofit from operations for the fiscal year ended October 31, 2009 wasapproximately 5.5% of our revenues.  Ouroperating profit for the fiscal year ended October 31, 2009 was primarilythe net result of our revenues exceeding our costs of goods sold and ouroperating expenses.

 

*OtherIncome (Expense)*

 

Ourother expense for the fiscal year ended October 31, 2009 was approximately13.3% of our revenues.  Our other expensefor the fiscal year ended October 31, 2009, consisted primarily ofinterest expense and loss on the interest rate swap derivative instrument.  For the fiscal year ended October 31,2009, interest expense was capitalized during the time we were stillconstructing the plant, however, interest expense was only capitalized prior tocompleting construction of the ethanol plant.

 

*AdditionalInformation*

 

Weare currently operating at full, or nearly full, capacity.  However, in the event that we decrease ourproduction of ethanol, our production of distillers grains would also decreaseaccordingly.  Such a decrease in ourvolume of production of ethanol and distillers grains would result in lowerrevenues.  However, if we decreasedproduction, we would require a corresponding decreased quantity of corn andnatural gas, thereby lowering our costs of good sold.  Therefore, the effect of a decrease in ourproduct volume would be largely dependent on the market prices of the productswe produce and the inputs we use to produce our products at the time of such aproduction decrease.  We anticipateoperating at less than full capacity only if industry margins becomeunfavorable or we experience technical difficulties in operating the plant.

 

**Changes in Financial Condition for the Fiscal YearEnded October 31, 2009**

 

Weexperienced a decrease in our current assets at October 31, 2009 compared to our fiscal year ended October 31, 2008.  We experienced an increase of approximately$2,400,000 in the value of our inventory at October 31, 2009 compared to October 31, 2008, primarily as a result of the commencementof operations at our plant. Additionally, at October 31,2009, we had accounts receivable of approximately $3,400,000 compared to no accountsreceivable at October 31,2008.  We also had cash of approximately$2,621,000 at October 31,2009, compared to cash of approximately $1,356,000 at October 31, 2008. Restricted cash was approximately $57,000 at October 31, 2009, ascompared to approximately $2,973,000 at October 31, 2008.  Additionally, the Company had prepaid andother current assets of approximately $473,000 at October 31, 2009, compared to approximately $540,000 at October 31, 2008.  Restricted marketable securities wereapproximately $1,601,000 at October 31, 2009, as compared to $6,842,000 atOctober 31, 2008.

 

Weexperienced a decrease in our total current liabilities on October 31, 2009 compared to October 31, 2008.  We experienced an increase of approximately$2,344,000 in the current portion of our long term debt and capital leaseobligations at October 31,2009 compared to October 31,2008.  We also experienced a decrease ofapproximately $186,000 for accrued expenses at October 31, 2009 compared to October 31, 2008; and an increase of approximately $1,016,000in our accounts payable at October 31,2009 compared to October 31, 2008.  Additionally, we experienced an increase inour liabilities related to the current portion of our derivative instruments ofapproximately $500,000 at October 31, 2009 compared to October 31,2008.  Such increases were partiallyoffset

 

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by a decrease in ourconstruction payable of approximately $14,413,000 at October 31, 2009 compared to October 31, 2008.

 

We experienced anincrease in our long-term liabilities as of October 31, 2009 compared to October 31, 2008. At October 31,2009, we had approximately $62,712,000 outstanding in the form of long-termdebt, compared to approximately $15,180,000 at October 31, 2008. This increase is attributed to cash we utilized from our constructionloan to complete the construction of our facility and commence operations.

 

**Liquidity and Capital Resources**

 

Based on financial forecasts performed by ourmanagement, we anticipate that we will have sufficient cash from our operationsto continue to operate the ethanol plant for the next 12 months.  In addition, we have a revolving line ofcredit with available funds up to $5,000,000. We had drawn $1,000,000 on this credit facility as of October 31,2009.  Following the close of our fiscalyear on October 31, 2009, we were able to make payments of $500,000 ineach November and December 2009 in order to pay down our line ofcredit to a zero balance.  We do notanticipate seeking additional equity or debt financing during our 2010 fiscalyear.  However, should we experienceunfavorable operating conditions in the future, we may have to secureadditional debt or equity sources for working capital or other purposes.

 

As a result of current conditions in the ethanolmarket that have presented more favorable operating conditions than weexperienced during the beginning of our 2009 fiscal year, we have been able toreduce the amount outstanding on our revolving line of credit.  This has allowed us greater liquidity and hasincreased the amount of funds that are available to us on our revolving line ofcredit.  We anticipate continuing to paydown our revolving line of credit and anticipate continuing to improve ourliquidity going forward.  However, shouldwe once again experience unfavorable operating conditions in the ethanolindustry that prevent us from profitably operating the ethanol plant, we couldhave difficulty maintaining our liquidity.

 

**The following table shows cash flows for the fiscal yearsended October 31, 2009 and 2008:**

 
| ** **                                 | ** ** | **Year ended October 31,** | ** ** |
|--------------------------------------------|------------|---------------------------------|------------|
| ** **                                 | ** ** | **2009**                        | ** ** | **2008** | ** ** |
| Net  cash used in operating activities     |       | $                               | (3,240,519 | ) | $ | (862,251 | ) |
| Net  cash used in investing activities     |       | (46,105,003                     | )          | (40,559,727 | ) |
| Net  cash provided by financing activities |       | 50,610,528                      |       | 42,679,108 |   |
|                                            |            |                                 |            |  |  |  |  |

 

*Cash Flow From Operations*

 

Weexperienced a significant increase in net cash used in operating activities forthe fiscal year ended October 31, 2009, as compared to the same period in2008.  Overall net cash used in operatingactivities increased due to the Company having accounts receivable andinventory as the plant became operational and increased accrued expensesprimarily related to property taxes and employee salaries.  The impact of these changes increased cashused for operations by approximately $5,910,000.  This increase in cash used for operatingactivities, was offset by cash provided by operating activities ofapproximately $1,065,000 from changes in accounts payable and prepaidexpenses.  In addition, the Company begandepreciating assets when they were placed in service during the fourth quarterof fiscal year 2009 and sustained a loss in fair value of derivativeinstrument, which resulted in an add back of approximately $2,880,000 of cashprovided by operating activities.  Duringour 2009 fiscal year, our capital needs were being adequately met through cashfrom our operating activities and our credit facilities.

 

*Cash Flow From Investing Activities*

 

Weexperience an increase in cash used in investing activities for our fiscal yearended October 31, 2009 as compared to 2008.  This increase was primarily a result of thecompletion of our ethanol plant during the fourth quarter of our 2009 fiscalyear.  As our plant was completed in thefourth quarter of our 2009 fiscal year, most of the cash used for constructionactivities occurred during our fiscal year ended October 31, 2009.  The Company paid approximately $46,105,000for the construction of the ethanol plant during fiscal year 2009 and anadditional

 

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$10,773,000of non-cash funds came from capitalized interest, restricted cash and accountspayable.

 

*Cash Flow From Financing Activities*

 

Weexperience an increase in cash provided by financing activities in our fiscalyear ended October 31, 2009, as compared to the same period in 2008primarily as a result of the proceeds from long-term debt, which we used forthe construction of our ethanol plant.

 

### ***CreditFacilities***

### ** **

On April 24, 2008,we entered into a Construction Loan Agreement (the “Agreement”) with First NationalBank of Omaha of Omaha, Nebraska (“FNBO”) for the purpose of funding a portionof the cost of the ethanol plant.  Underthe Agreement, FNBO has agreed to loan us up to $61,000,000, consisting of a$50,400,000 Construction Loan, together with a $5,000,000 Revolving Loan, and$5,600,000 to support the issuance of letters of credit by FNBO.  As of October 31, 2009, the Company has drawnapproximately $49,876,000 on this financing. We have issued letters of credit to Redwood Electric Cooperative, Inc.,Northern Natural Gas Company and Liberty Mutual Insurance for the amount of$700,000, $4,000,000 and $250,000, respectively.

 

During the constructionperiod, interest on the Construction Loan is payable on a monthly basis on theoutstanding principal amount at a variable rate equal to the greater of theone month LIBOR Rate, in effect from time to time, plus 350 basis pointsor 4%, prior to maturity.  In February 2010,the Construction Loan will be converted into a fixed rate note for the maximumamount of $25,200,000, a variable rate note for the maximum amount of$20,200,000 and a long term revolving note for the maximum amount of$5,000,000.  The amount available on thelong term revolving note will decline annually by the greater of $125,000 or50% of the excess cash flow, as defined by the Agreement.

 

We will make 59 monthlyprincipal payments on the Fixed Rate Loan initially for approximately $145,000plus accrued interest on the eighth day of every month commencing one monthimmediately following the Construction Loan Termination Date.  Interest will accrue on the fixed rate noteat the greater of the one month LIBOR Rate, in effect from time to time, plus300 basis points or 4%.  A final balloonpayment of approximately $15,184,000 will be due on the termination date of theFixed Rate Loan, which will be five years following the Construction LoanTermination Date.  We will make 59monthly payments on the Variable Rate Loan initially for approximately $147,000plus accrued interest on the eighth day of every month commencingone month immediately following the Construction Loan Termination Datewhich shall be allocated as follows: (i) first to accrued and unpaidinterest on the Long Term Revolving Note, (ii) next to accrued and unpaidinterest on the Variable Rate Note, and (iii) next to principal on theVariable Rate Note.  A final balloonpayment of approximately $14,807,000 will be due five years following theconstruction loan termination date. Pursuant to the First Amendment of Construction Loan Agreement executedbetween FNBO and the Company on August 11, 2009, the Loan Termination Dateof the Revolving Promissory Notes has been extended to February 28, 2010.

 

The constructionrevolving loan is the Company’s line of credit and accrues interest at the greaterof the one month LIBOR Rate, in effect from time to time, plus 350 basis pointsor 4%.  The line of credit requiresmonthly interest payments and was payable in full in April 2009.  In August 2009, Highwater signed anamendment to the Construction Loan Agreement to extend the maturity date of theloan to February 28, 2010 to accrue interest at the greater of the 90-dayLIBOR plus 450 basis points or 5.5% and require quarterly interestpayments.  As of October 31, 2009,we had $1,000,000 outstanding on the line of credit.  Since the end of our fiscal year on October 31,2009, we have made payments of $500,000 in each November and December 2009resulting in a zero balance outstanding on our line of credit as of the date ofthis report.

 

The interest rateapplicable to the Revolving Loan, Variable Rate Notes and the Long TermRevolving Loan is subject to reduction commencing six months following theConstruction Loan Termination Date, based on the Company’s most recent interimfinancial statements; provided, however, that in no event shall the interestrate be less than 4% with respect to the Variable Rate Notes and the Long TermRevolving Loan and 5.5% with respect to the Revolving Loan.  In the event the Company maintains certainratios with regard to the Company’s indebtedness to net worth, which will bemeasured quarterly, the interest rate will be reduced.

 

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The Company manages itsvariable rate debt using an interest rate swap. The Company entered into fixed rate swap to alter its exposure to theimpact of changing interest rates on its results of operations and future cashoutflows for interest. Fixed rate swaps are used to reduce the Company’s riskof the possibility of increased interest costs. Interest rate swap contractsare used by the Company to separate interest rate risk management from the debtfunding decision.  As of October 31,2009, the Company had a notional amount of approximately $24,620,000outstanding in the swap agreement that exchanges variable interest rates(LIBOR) for fixed interest rates over the term of the agreement.  The interest rate swap is not designated asan effective hedge for accounting purposes. The changes in the fair value of the interest rate swap are recorded asgains or losses in the statement of operations and are classified in otherincome and expense. This fixes the interest rate on the notional amountoutstanding at 7.6% until June 2014.

 

In connection with theConstruction Loan Agreement, we executed a mortgage in favor of FNBO creating afirst lien on our real estate and plant and a security interest in all personalproperty located on the property.  Inaddition, we assigned in favor of FNBO, all rents and leases to our property,the design/build contract, our marketing contracts, our risk managementservices contract, and our natural gas, electricity, water service and grainprocurement agreements.

 

In addition, during theterm of the loans, we will be subject to certain financial covenants thoughmany of these covenants are not yet applicable to the Company because our constructionloan has not yet converted to term loans. However, until the fourth month after the Construction Loan TerminationDate, the Company is required to maintain at all times working capital of notless than $1,000,000.  Furthermore, untilthe Construction Loan Termination Date, the Company shall maintain an interestcoverage ratio of not less than 1.10:1.0. We expect our construction loan to convert to term loans in February 2010.  After our construction phase we will belimited to annual capital expenditures of $1,000,000 without prior approval ofFNBO.  We will also be prohibited frommaking distributions to our members of greater than 45% of our net incomeduring any fiscal year if our debt leverage ratio (combined total liabilitiesto net worth) is greater than or equal to 1.0:1.0.  Our failure to comply with the protectiveloan covenants or maintain the required financial ratios may cause accelerationof the outstanding principal balances on the term notes and revolving noteand/or the imposition of fees, charges or penalties.  Any acceleration of the debt financing orimposition of the significant fees, charges or penalties may restrict or limitour access to the capital resources necessary to continue plant construction oroperations.  The agreement is secured bysubstantially all business assets and is subject to various financial andnon-financial covenants that limit distributions and leverage and requireminimum debt service coverage, net worth, and working capital requirements.

 

Also on April 24,2008, we entered into certain financing and credit arrangements with U.S. BankNational Association, as trustee (the “Trustee”) and the City of Lamberton,Minnesota (the “City”) in order to secure the proceeds from the sale of thesolid waste facilities revenue bonds, Series 2008A (the “Bonds”) issued bythe City in the aggregate principal amount of $15,180,000 pursuant to a trustindenture between the City and the Trustee (“Trust Indenture”).  The City has undertaken the issuance of theBonds to finance the acquisition and installation of certain solid wastefacilities in connection with our ethanol plant to be located near Lamberton,Minnesota.  Highwater received proceedsof approximately $14,876,000, after financing costs of approximately $304,000.  The remaining proceeds were held as restrictedcash or marketable securities based on anticipated use and are split between aproject fund of approximately $11,527,000, a capitalized interest fund ofapproximately $1,831,000, and a debt service reserve fund of approximately$1,518,000.  The Bonds mature on December 1,2022 and bear interest at a rate of 8.5%. Under this equipment lease agreement with the City, we started makinginterest payments on November 25, 2008 at an implicit interest rate of8.5%.  Pursuant to the lease agreement wepaid $775,000 in interest in December 2008.  Monthly capital lease payments for principalwere originally scheduled to begin on November 25, 2009; however, the Cityamended the agreement in September 2008 which adjusted the start date forprincipal payments to begin on November 25, 2014.

 

Wehave completed approximately five months of operations as of the filing of thisreport.  As shown in the accompanyingfinancial statements, we have working capital of approximately $1,138,000.  We are currently in compliance with ourfinancial covenants.  We anticipate thatour current margins will be sufficient to generate enough cash flow to maintainoperations, service our debt and comply with our financial covenants in ourloan agreements.  However, significantuncertainties in the market continue to exist. Due to current commodity markets, we may produce at negative margins andtherefore, we are evaluating our liquidity needs for the upcoming months.

 

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Ifour working capital surplus does not continue to increase, we will likely be indefault of our loan covenants on the date of measurement.

 

Wewill continue to work with our lenders to try to ensure that the agreements andterms of the loan agreements are met going forward.  However, we cannot provide any assurance thatour actions will result in sustained profitable operations or that we will notbe in violation of our loan covenants or in default on our principalpayments.  Because it is unclear what themarket will do, there is uncertainty about our ability to meet our liquidityneeds and comply with our financial covenants and the other terms of our loanagreements. If weviolate the terms or covenants of our loan or fail to obtain a waiver of anysuch term or covenant, our primary lender could deem us in default of our loansand require us to immediately repay a significant portion or possibly theentire outstanding balance of our loans. Our lender could also elect to proceed with a foreclosure action on ourplant.

 

**CriticalAccounting Estimates**

 

Management usesvarious estimates and assumptions in preparing our financial statements inaccordance with generally accepted accounting principles.  These estimates and assumptions affect thereported amounts of assets and liabilities, the disclosure of contingent assetsand liabilities, and the reported revenues and expenses.  Accounting estimates that are the mostimportant to the presentation of our results of operations and financialcondition, and which require the greatest use of judgment by management, aredesignated as our critical accounting estimates.  We have the following critical accountingestimates:

 

We reviewlong-lived assets for impairment whenever events or changes in circumstancesindicate that the related carrying amounts may not be recoverable.  Impairment testing for assets requiresvarious estimates and assumptions, including an allocation of cash flows tothose assets and, if required, an estimate of the fair value of thoseassets.  Given the significantassumptions required and the possibility that actual conditions will differ, weconsider the assessment of the impairment and useful lives of property andequipment to be a critical accounting estimate.

 

We value ourinventory at the lower of cost or market. Our estimates are based upon assumptions believed to be reasonable, butwhich are inherently uncertain and unpredictable.  These valuations require the use ofmanagement’s assumptions which do not reflect unanticipated events andcircumstances that may occur.  In ouranalysis, we consider future corn costs and ethanol prices, break-even pointsfor our plant and our risk management strategies in place through ourderivative instruments.  Given thesignificant assumptions required and the possibility that actual conditionswill differ, we consider the valuation of the lower of cost or market oninventory to be a critical accounting estimate.

 

*Derivative Instruments*

 

Weenter into derivative instruments to hedge the variability of expected futurecash flows related to interest rates.  Wedo not typically enter into derivative instruments other than for hedgingpurposes.  All derivative instruments arerecognized on the October 31, 2009 balance sheet at their fair marketvalue. Changes in the fair value of an undesignated derivative instrument arerecognized in earnings currently.

 

At October 31, 2009, we had an interest rate swap with a fairvalue of $2,129,000 recorded as derivative instruments in the current andlong-term liabilities section of the balance sheet and as a loss on derivativeinstrument in the statement of operations.

 

The Company evaluates its contracts to determine whetherthe contracts are derivative instruments. Certain contracts that literally meet the definition of a derivative maybe exempted from derivative accounting and treated as normal purchases ornormal sales if documented as such. Normal purchases and normal sales are contracts that provide for thepurchase or sale of something other than a financial instrument or derivativeinstrument that will be delivered in quantities expected to be used or soldover a reasonable period in the normal course of business.  Although we currently have no positions inplace, our forward contracts for corn purchases would qualify for thisexception.

 

In order to reduce risk caused by interest ratefluctuations, the Company entered into an interest rate swap agreement.  This contract is used with the intention tolimit exposure to increased interest rates. The Company does

 

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notformally designate this instrument as a hedge and, therefore, records inearnings adjustments cause from making the instrument to market on a monthlybasis.

 

**Off-Balance Sheet Arrangements**

 

We do not have any off-balance sheet arrangements.

 

**ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUTMARKET RISK**

 

We are a smaller reporting company as definedby Rule 12b-2 of the Securities Exchange Act of 1934 and are not requiredto provide information under this item.

 

**ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.**

 

Financial Statements begin on page 31.

 

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**ITEM 8.  FINANCIALSTATEMENTS AND SUPPLEMENTARY DATA.**

 

 

REPORT OF INDEPENDENT REGISTERED PUBLICACCOUNTING FIRM

 

Boardof Governors

HighwaterEthanol, LLC

Lamberton,Minnesota

 

Wehave audited the accompanying balance sheets of Highwater Ethanol, LLC as of October 31,2009 and 2008, and the related statements of operations, changes in members’equity and comprehensive loss and cash flows for each of the years thenended.  Highwater Ethanol, LLC’smanagement is responsible for these financial statements. Our responsibility isto express an opinion on these financial statements based on our audits.

 

Weconducted our audits in accordance with the standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that weplan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. The Company is notrequired to have, nor were we engaged to perform, an audit of its internalcontrol over financial reporting. Our audit included consideration of internalcontrol over financial reporting as a basis for designing audit procedures thatare appropriate in the circumstances, but not for the purpose of expressing anopinion on the effectiveness of the Company’s internal control over financialreporting. Accordingly, we express no such opinion. An audit also includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements, assessing the accounting principles used andsignificant estimates made by management, as well as evaluating the overallfinancial statement presentation. We believe that our audits provide areasonable basis for our opinion.

 

Inour opinion, the financial statements referred to above present fairly, in allmaterial respects, the financial position of Highwater Ethanol, LLC as of October 31,2009 and 2008, and the results of its operations and its cash flows for each ofthe years then ended in conformity with accounting principles generallyaccepted in the United States of America.

 
|   | /s/  Boulay, Heutmaker, Zibell & Co., P.L.L.P |
|--------|--------------------------------------------------------|
|   |                                                   |
|   | Certified  Public Accountants                          |

 

Minneapolis,Minnesota

January 29,2010

 

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**HIGHWATER ETHANOL, LLC**

 

Balance Sheets

 
| ** **                       | ** ** | **October 31,** | ** **  | **October 31,** | ** ** |
|----------------------------------|------------|----------------------|-------------|----------------------|------------|
| **ASSETS**                       | ** ** | **2009**             | ** **  | **2008**             | ** ** |
|                             | * *   |                 |        |                 |       |
| **Current Assets**               |       |                 |        |                 |       |
| Cash                             |       | $                    | 2,620,833   |                 | $          | 1,355,827 |   |
| Restricted cash                  |       | 56,681               |        | 2,916,825            |       |
| Restricted marketable securities |       | 83,451               |        | 5,380,199            |       |
| Accounts receivable              |       | 3,366,588            |        | —               |       |
| Inventories                      |       | 2,356,670            |        | —               |       |
| Prepaids and other               |       | 472,738              |        | 540,190              |       |
| Total current assets             |       | 8,956,961            |        | 10,193,041           |       |
|                             |       |                 |        |                 |       |
| **Property and Equipment**       |       |                 |        |                 |       |
| Land and land improvements       |       | 6,712,347            |        | 1,250,621            |       |
| Buildings                        |       | 37,883,053           |        | —               |       |
| Office equipment                 |       | 316,536              |        | 19,137               |       |
| Equipment                        |       | 59,376,554           |        | —               |       |
| Vehicles                         |       | 43,494               |        | —               |       |
| Construction in progress         |       | —               |        | 62,948,311           |       |
|                             |       | 104,331,984          |        | 64,218,069           |       |
| Accumulated depreciation         |       | (1,279,300           | )           | (5,949               | )          |
| Net property and equipment       |       | 103,052,684          |        | 64,212,120           |       |
|                             |       |                 |        |                 |       |
| **Other Assets**                 |       |                 |        |                 |       |
| Restricted cash                  |       | —               |        | 56,565               |       |
| Restricted marketable securities |       | 1,518,000            |        | 1,461,435            |       |
| Debt issuance costs, net         |       | 1,760,767            |        | 1,874,782            |       |
| Total other assets               |       | 3,278,767            |        | 3,392,782            |       |
| ** **                       |       |                 |        |                 |       |
| **Total Assets**                 |       | $                    | 115,288,412 |                 | $          | 77,797,943 |   |

 
| ** **                                                                       | ** ** | **October 31,** | ** **  | **October 31,** | ** ** |
|----------------------------------------------------------------------------------|------------|----------------------|-------------|----------------------|------------|
| **LIABILITIES  AND EQUITY**                                                      | ** ** | **2009**             | ** **  | **2008**             | ** ** |
|                                                                             | * *   |                 |        |                 |       |
| **Current Liabilities**                                                          |       |                 |        |                 |       |
| Accounts payable                                                                 |       | $                    | 1,077,548   |                 | $          | 61,847 |   |
| Construction payable                                                             |       | 534,985              |        | 1,620,712            |       |
| Construction payable - members                                                   |       | 1,815,536            |        | 15,143,048           |       |
| Accrued expenses                                                                 |       | 482,686              |        | 669,126              |       |
| Derivative instrument                                                            |       | 564,664              |        | 60,996               |       |
| Line of credit                                                                   |       | 1,000,000            |        | —               |       |
| Current maturities of long-term debt                                             |       | 2,343,508            |        | —               |       |
| Total current liabilities                                                        |       | 7,818,927            |        | 17,555,729           |       |
|                                                                             |       |                 |        |                 |       |
| **Long-Term Debt**                                                               |       | 62,712,332           |        | 15,180,000           |       |
|                                                                             |       |                 |        |                 |       |
| **Derivative Instrument**                                                        |       | 1,563,985            |        | 530,078              |       |
|                                                                             |       |                 |        |                 |       |
| **Commitments and Contingencies**                                                |       |                 |        |                 |       |
|                                                                             |       |                 |        |                 |       |
| **Members’ Equity**                                                         |       |                 |        |                 |       |
| Members’ equity, 4,953 units outstanding at  October 31, 2009 and 2008 |       | 43,193,168           |        | 44,532,136           |       |
| Total members’ equity                                                       |       | 43,193,168           |        | 44,532,136           |       |
|                                                                             |       |                 |        |                 |       |
| **Total Liabilities and Members’  Equity**                                  |       | $                    | 115,288,412 |                 | $          | 77,797,943 |   |

 

Notes to Financial Statements are an integral part of this Statement.

 

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**HIGHWATER ETHANOL, LLC**

 

Statements of Operations

 
| ** **                              | ** ** | **Year Ended**            | ** ** | **Year Ended**            | ** ** |
|-----------------------------------------|------------|---------------------------|------------|---------------------------|------------|
| ** **                              | ** ** | **October 31, 2009** | ** ** | **October 31, 2008** | ** ** |
|                                    | * *   | * *                  | * *   | * *                  | * *   |
| **Revenues**                            |       | $                         | 18,983,802 |                      | $          | — |   |
| ** **                              |       |                      |       |                      |       |
| **Cost of Goods Sold**                  |       | 16,064,288                |       | —                    |       |
|                                    |       |                      |       |                      |       |
| **Gross Profit**                        |       | 2,919,514                 |       | —                    |       |
| ** **                              | ** ** | ** **                | ** ** | ** **                | ** ** |
| **Operating Expenses**                  |       | 1,882,608                 |       | 1,010,730                 |       |
|                                    |       |                      |       |                      |       |
| **Operating Profit (Loss)**             |       | 1,036,906                 |       | (1,010,730                | )          |
|                                    |       |                      |       |                      |       |
| **Other Income (Expense)**              |       | ** **                | ** ** | ** **                | ** ** |
| Interest income                         |       | 169,613                   |       | 1,060,630                 |       |
| Other income (expense)                  |       | (16,629                   | )          | 10,721                    |       |
| Interest expense                        |       | (1,143,721                | )          | —                    |       |
| Loss on derivative instrument           |       | (1,537,575                | )          | (591,074                  | )          |
| Total other income (expense), net       |       | (2,528,312                | )          | 480,277                   |       |
|                                    |       |                      |       |                      |       |
| **Net Loss**                            |       | $                         | (1,491,406 | )                         | $          | (530,453 | ) |
| ** **                              |       | ** **                | ** ** | ** **                | ** ** |
| **Weighted Average Units  Outstanding** |       | 4,953                     |       | 3,056                     |       |
|                                    |       |                      |       |                      |       |
| **Net Loss Per Unit**                   |       | $                         | (301.11    | )                         | $          | (173.58 | ) |

 

Notes to Financial Statements are an integral part of this Statement.

 

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**HIGHWATER ETHANOL, LLC**

 

Statement of Changes in Members’ Equity and Comprehensive Loss 

 
| ** **                                                           | ** ** | ** **        | ** ** | ** **   | ** ** | **Accumulated Other** | ** ** | ** ** | ** ** |
|----------------------------------------------------------------------|------------|-------------------|------------|--------------|------------|-----------------------|------------|------------|------------|
| ** **                                                           | ** ** | **Member**        | ** ** | ** **   | ** ** | **Comprehensive**     | ** ** | ** ** | ** ** |
| ** **                                                           | ** ** | **Contributions** | ** ** | **Net Loss** | ** ** | **Gain (Loss)**       | ** ** | **Total**  | ** ** |
|                                                                 |       |              |       |         |       |                  |       |       |       |
| **Balance - October 31, 2007**                                  |       | $                 | 1,680,000  |         | $          | (1,530,897            | )          | $          | —     |   | $ | 149,103 |   |
| ** **                                                           |       |              |       |         |       |                  |       |       |       |
| Membership units - 4,567 units at $10,000 per  unit, April 2008 |       | 45,670,000        |       | —       |       | —                |       | 45,670,000 |       |
|                                                                 |       |              |       |         |       |                  |       |       |       |
| Additional paid in capital - forfeited units                         |       | 40,000            |       | —       |       | —                |       | 40,000     |       |
|                                                                 |       |              |       |         |       |                  |       |       |       |
| Costs of raising capital                                             |       | (736,410          | )          | —       |       | —                |       | (736,410   | )          |
| ** **                                                           |       |              |       |         |       |                  |       |       |       |
| Other comprehensive loss                                             |       |              |       |         |       |                  |       |       |       |
|                                                                 |       |              |       |         |       |                  |       |       |       |
| Net loss                                                             |       | —            |       | (530,453     | )          | —                |       | (530,453   | )          |
|                                                                 |       |              |       |         |       |                  |       |       |       |
| Unrealized loss on restricted marketable  securities                 |       | —            |       | —       |       | (60,104               | )          | (60,104    | )          |
|                                                                 |       |              |       |         |       |                  |       |       |       |
| Total comprehensive loss                                             |       | —            |       | —       |       | —                |       | (590,557   | )          |
| ** **                                                           |       |              |       |         |       |                  |       |       |       |
| **Balance - October 31, 2008**                                  |       | 46,653,590        |       | (2,061,350   | )          | (60,104               | )          | 44,532,136 |       |
| ** **                                                           |       |              |       |         |       |                  |       |       |       |
| Other comprehensive loss                                             |       |              |       |         |       |                  |       |       |       |
| ** **                                                           |       |              |       |         |       |                  |       |       |       |
| Net loss                                                             |       | —            |       | (1,491,406   | )          | —                |       | (1,491,406 | )          |
|                                                                 |       |              |       |         |       |                  |       |       |       |
| Unrealized gain on restricted marketable  securities                 |       | —            |       | —       |       | 152,438               |       | 152,438    |       |
| ** **                                                           |       |              |       |         |       |                  |       |       |       |
| Total comprehensive loss                                             |       | —            |       | (1,491,406   | )          | 152,438               |       | (1,338,968 | )          |
| ** **                                                           |       |              |       |         |       |                  |       |       |       |
| **Balance- October 31, 2009**                                   |       | $                 | 46,653,590 |         | $          | (3,552,756            | )          | $          | 92,334     |   | $ | 43,193,168 |   |

 

Notes to Financial Statements are an integral part of this Statement.

 

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**HIGHWATER ETHANOL, LLC**

 

Statements of Cash Flows 

 
| ** **                                                                 | ** ** | **Year Ended**            | ** ** | **Year Ended**            | ** ** |
|----------------------------------------------------------------------------|------------|---------------------------|------------|---------------------------|------------|
| ** **                                                                 | ** ** | **October 31, 2009** | ** ** | **October 31, 2008** | ** ** |
|                                                                       |       |                      |       |                      |       |
| **Cash Flows from Operating  Activities**                                  |       |                      |       |                      |       |
| Net loss                                                                   |       | $                         | (1,491,406 | )                         | $          | (530,453 | ) |
| Adjustments to reconcile net loss to net cash used  in operations          |       |                      |       |                      |       |
| Depreciation and amortization                                              |       | 1,342,223                 |       | 3,563                     |       |
| Interest payments made from restricted cash                                |       | 197,087                   |       | —                    |       |
| Change in fair value of derivative instrument                              |       | 1,537,575                 |       | 591,074                   |       |
| Other                                                                      |       | 18,621                    |       | 1,624                     |       |
| Change in assets and liabilities                                           |       |                      |       |                      |       |
| Accounts receivable, including members                                     |       | (3,366,588                | )          | —                    |       |
| Inventory                                                                  |       | (2,356,670                | )          | —                    |       |
| Prepaids and other                                                         |       | 49,378                    |       | (504,837                  | )          |
| Accounts payable, including members                                        |       | 1,015,701                 |       | (411,737                  | )          |
| Accrued expenses                                                           |       | (186,440                  | )          | (11,485                   | )          |
| Net cash used in operating activities                                      |       | (3,240,519                | )          | (862,251                  | )          |
|                                                                       |       |                      |       |                      |       |
| **Cash Flows from Investing  Activities**                                  |       |                      |       |                      |       |
| Capital expenditures                                                       |       | (46,105,003               | )          | (232,223                  | )          |
| Construction in progress                                                   |       | —                    |       | (40,327,504               | )          |
| Net cash used in investing activities                                      |       | (46,105,003               | )          | (40,559,727               | )          |
|                                                                       |       |                      |       |                      |       |
| **Cash Flows from Financing  Activities**                                  |       |                      |       |                      |       |
| Proceeds from (payments on) line of credit                                 |       | 1,000,000                 |       | —                    |       |
| Payments on notes payable                                                  |       | —                    |       | (1,100,000                | )          |
| Funds received from restricted cash                                        |       | —                    |       | 36,721                    |       |
| Increase in restricted cash from net interest  earned                      |       | (155,870                  | )          | (119,604                  | )          |
| Member contributions                                                       |       | —                    |       | 45,670,000                |       |
| Forfeited investor deposits                                                |       | —                    |       | 40,000                    |       |
| Proceeds from long-term debt                                               |       | 49,875,840                |       | —                    |       |
| Payments for deferred offering costs                                       |       | —                    |       | (248,283                  | )          |
| Payments for debt issuance costs                                           |       | (109,442                  | )          | (1,599,726                | )          |
| Net cash provided by financing activities                                  |       | 50,610,528                |       | 42,679,108                |       |
|                                                                       |       |                      |       |                      |       |
| **Net Increase in Cash**                                                   |       | 1,265,006                 |       | 1,257,130                 |       |
|                                                                       |       |                      |       |                      |       |
| **Cash - Beginning of period**                                             |       | 1,355,827                 |       | 98,697                    |       |
|                                                                       |       |                      |       |                      |       |
| **Cash - End of period**                                                   |       | $                         | 2,620,833  |                      | $          | 1,355,827 |   |
|                                                                       |       |                      |       |                      |       |
| **Supplemental Cash Flow  Information**                                    |       |                      |       |                      |       |
| Cash paid for interest expense                                             |       | $                         | 932,964    |                      | $          | — |   |
| Cash paid for interest capitalized                                         |       | $                         | 2,251,271  |                      | $          | 66,895 |   |
| Total                                                                      |       | $                         | 3,184,235  |                      | $          | 66,895 |   |
|                                                                       |       |                      |       |                      |       |
| **Supplemental Disclosure of  Noncash Financing and Investing Activities** |       |                      |       |                      |       |
| Unrealized gain on restricted marketable  securities                       |       | $                         | 152,438    |                      | $          | — |   |
| Unrealized losses on restricted marketable  securities                     |       | $                         | —     |                      | $          | 60,104 |   |
| Restricted cash received as part of capital lease                          |       | $                         | —     |                      | $          | 14,876,400 |   |
| Purchase of restricted marketable securities with restricted  cash         |       | $                         | —     |                      | $          | 6,903,362 |   |
| Redemption of restricted marketable securities -  restricted cash          |       | $                         | 5,374,000  |                      | $          | — |   |
| Construction in progress included in construction  payable                 |       | $                         | —     |                      | $          | 16,763,760 |   |
| Capital expenditures included in accounts payable                          |       | $                         | 2,350,521  |                      | $          | — |   |
| Construction in progress paid from restricted cash                         |       | $                         | 6,584,098  |                      | $          | 5,138,785 |   |
| Interest payments capitalized from restricted cash                         |       | $                         | 1,683,468  |                      | $          | — |   |
| Accrued interest capitalized in construction in  progress                  |       | $                         | —     |                      | $          | 666,655 |   |
| Loan costs capitalized with construction in  progress                      |       | $                         | 154,585    |                      | $          | 30,753 |   |
| Debt issuance costs financed through capital lease                         |       | $                         | —     |                      | $          | 303,600 |   |
| Costs of raising capital offset against equity  raised                     |       | $                         | —     |                      | $          | 736,410 |   |
| Land options exercised for land purchase                                   |       | $                         | —     |                      | $          | 2,000 |   |

 

Notes to Financial Statements are an integral part of this Statement.

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31,2009 and 2008

 

**1.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

*Nature ofBusiness*

 

Highwater Ethanol, LLC, (a Minnesota Limited Liability Company)operates a 50 million gallon per year ethanol plant in Lamberton,Minnesota.  The Company produces andsells fuel ethanol and distillers grains, a co-product of the fuel ethanolproduction process, in the continental United States.  The Company was in the development stageuntil it began full scale commercial operations in August 2009.

 

*FiscalReporting Period*

 

The Company has adopted a fiscal year ending October 31 forreporting financial operations.

 

*Accounting Estimates*

 

Management uses estimates and assumptions in preparing these financialstatements in accordance with generally accepted accounting principles.  Those estimates and assumptions affect thereported amounts of assets and liabilities, the disclosure of contingent assetsand liabilities, and the reported revenues and expenses.  The Company uses estimates and assumptions inaccounting for significant matters, among others, the carrying value ofproperty and equipment and related impairment testing, inventory valuation, andderivatives.  Actual results could differfrom those estimates, and such differences may be material to our financialstatements.  The Company periodicallyreviews estimates and assumptions, the effects of revisions are reflected inthe period in which the revision is made.

 

*RevenueRecognition*

 

The Company generallysells ethanol and related products pursuant to marketing agreements. TheCompany’s products are shipped FOB shipping point. Revenues are recognized whenthe customer has taken title and has assumed the risks and rewards ofownership, prices are fixed or determinable and collectability is reasonablyassured. For ethanol sales, title transfers when loaded into the rail car andfor distillers grains when the loaded rail cars leave the plant facility.

 

In accordance with theCompany’s agreements for the marketing and sale of ethanol and relatedproducts, marketing fees and freight due to the marketers are deducted from thegross sales price at the time incurred. Revenue is recorded net of thesemarketing fees and freight as they do not provide an identifiable benefit thatis sufficiently separable from the sale of ethanol and related products.

 

*Cash*

 

The Company maintains its accounts primarily at one financialinstitution.  At times throughout theyear, the cash balances may exceed amounts insured by the Federal DepositInsurance Corporation.  The Company doesnot believe it is exposed to any significant credit risk on cash balances.

 

*Restricted Cash*

 

The Company maintains restricted cash balances as part of the capitallease financing agreement described in Note 8. The restricted cash balances include money market accounts and similardebt instruments which currently exceed amounts insured by the Federal DepositInsurance Corporation and the Securities Investor Protection Corporation.  The Company does not believe it is exposed toany significant credit risk on these balances.

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31,2009 and 2008

 

*RestrictedMarketable Securities*

 

TheCompany maintains restricted marketable securities in debt securities as partof the capital lease financing agreements described in Note 8.  The restricted marketable securities consistprimarily of municipal obligations, U.S. treasury government obligations, andcorporate obligations.  Restrictedmarketable securities are classified as “available-for-sale” and are carried attheir estimated fair market value based on quoted market prices at year end.

 

*AccountsReceivable*

 

Credit terms are extendedto customers in the normal course of business. The Company routinely monitorsaccounts receivable and customer balances are generally kept current at30 days or less. The Company generally requires no collateral.

 

Accounts receivable arerecorded at their estimated net realizable value.  Accounts are considered past due if paymentis not made on a timely basis in accordance with the Company’s credit terms.Accounts considered uncollectible are written off. The Company’s estimate ofthe allowance for doubtful accounts is based on historical experience, itsevaluation of the current status of receivables, and unusual circumstances, ifany. At October 31, 2009 and 2008, the Company believed that such amounts would becollectible and an allowance was not considered necessary.

 

*Inventory*

 

Inventory consists of rawmaterials, supplies, work in process and finished goods.  Raw materials and supplies are stated at thelower of cost (first-in, first-out method) or market.  Work in process and finished goods are statedat the lower of average cost or market.

 

*Propertyand Equipment*

 

Property and equipment isstated at cost.  Depreciation is providedover an estimated useful life by use of the straight line method.  Maintenance and repairs are expensed asincurred; major improvements and betterments are capitalized.  The present value of capital lease obligationsis classified as long-term debt and the related assets will be included withproperty and equipment.  Amortization ofproperty and equipment under capital lease is included with depreciationexpense.

 

The Company incurredsubstantial consulting, permitting, and other pre-construction services relatedto building its plant facilities prior to receiving project funding.  These costs were expensed prior to obtainingproject debt and equity financing.  Oncethis funding was received, these costs as they related to project constructionwere capitalized with construction in progress.

 

Depreciation is computedusing the straight-line method over the following estimated useful lives:

 
| Land improvements            |   | 15-20 years |
|------------------------------|--------|-------------|
| Buildings                    |   | 10-20 years |
| Office equipment             |   | 5 years     |
| Vehicles                     |   | 7 years     |
| Plant and process  equipment |   | 10-20 years |

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31, 2009 and2008

 

*CarryingValue of Long-Lived Assets*

 

Long-lived assets, suchas property and equipment, and other long-lived assets subject to amortization,are reviewed for impairment whenever events or changes in circumstances indicatethat the carrying amount of an asset may not be recoverable.  If circumstances require a long-lived assetbe tested for possible impairment, the Company first compares undiscounted cashflows expected to be generated by an asset to the carrying value of theasset.  If the carrying value of thelong-lived asset is not recoverable on an undiscounted cash flow basis,impairment is recognized to the extent that the carrying value exceeds its fairvalue.  Fair value is determined throughvarious valuation techniques including discounted cash flow models, quotedmarket values and third-party independent appraisals, as considered necessary.

 

In August 2009, theCompany completed construction of its ethanol production facilities withinstalled capacity of 50 million gallons per year.  The carrying value of these facilities at October 31,2009 wasapproximately $103.1 million.  Inaccordance with the Company’s policy for evaluating impairment of long-livedassets described above, management evaluates the recoverability of thefacilities based on projected future cash flows from operations over thefacilities’ estimated useful lives.  Indetermining the projected future undiscounted cash flows, the Company makessignificant assumptions concerning the future viability of the ethanolindustry, the future price of corn in relation to the future price of ethanoland the overall demand in relation to production and supply capacity. TheCompany has determined that there is no impairment at October 31, 2009.

 

*Derivative Instruments*

 

Derivatives arerecognized in the balance sheet and the measurement of these instruments are atfair value. In order for a derivative to qualify as a hedge, specific criteriamust be met and appropriate documentation maintained.  Gains and losses from derivatives that do notqualify as hedges, or are undesignated, must be recognized immediately inearnings.  If the derivative does qualifyas a hedge, depending on the nature of the hedge, changes in the fair value ofthe derivative will be either offset against the change in fair value of thehedged assets, liabilities, or firm commitments through earnings or recognizedin other comprehensive income until the hedged item is recognized in earnings.Changes in the fair value of undesignated derivatives are recognized inearnings currently.

 

Contracts are evaluatedto determine whether the contracts are derivatives.  Certain contracts that literally meet thedefinition of a derivative may be exempted as “normal purchases or normal sales”.  Normal purchases and normal sales arecontracts that provide for the purchase or sale of something other than afinancial instrument or derivative instrument that will be delivered inquantities expected to be used or sold over a reasonable period in the normalcourse of business.  Contracts that meetthe requirements of normal purchases or sales are documented as normal andexempted from accounting as derivatives, therefore, are not marked to market inour financial statements.

 

In order to reduce therisk caused by interest rate fluctuations, the Company entered into an interestrate swap agreement.  This contract isused with the intention to limit exposure to increased interest rates.  The fair value of this contract is based onwidely accepted valuation techniques including discounted cash flow analysiswhich includes observable market-based inputs. The fair value of the derivative is continually subject to change due tochanging market conditions.  Althoughthis serves as an economic hedge, the Company does not formally designate thisinstrument as a hedge and, therefore, records in earnings adjustments causedfrom marking the instrument to market on a monthly basis.

 

*Fair Value of FinancialInstruments*

 

The carrying value ofcash, restricted cash, and restricted marketable securities approximate theirfair value based on quoted market prices at year end.  The Company believes the carrying value ofthe derivative instrument approximates fair value based on widely accepted valuationtechniques including discounted cash flow analysis which includes observablemarket-based inputs.

 

The Company believes thecarrying amount of the line of credit and note payable approximates the fairvalue due to the terms of the debt and the current interest rate environment.

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31, 2009 and2008

 

*DebtIssuance Costs*

 

Costs associated with the issuance of debt are recorded as debtissuance costs and are amortized over the term of the related debt by use ofthe effective interest method.

 

*Net Income (Loss) per Unit*

 

Basic net income (loss) per unit is computed by dividing net income bythe weighted average number of members’ units outstanding during theperiod.  Diluted net income per unit iscomputed by dividing net income by the weighted average number of members’units and members’ unit equivalents outstanding during the period.  There were no member unit equivalentsoutstanding during the periods presented; accordingly, for all periodspresented, the Company’s basic and diluted net income per unit are the same.

 

*Income Taxes*

 

The Company is treated as a partnership for federal and state incometax purposes and generally does not incur income taxes.  Instead, their income or losses are includedin the income tax returns of the members and partners.  Accordingly, no provision or liability forfederal or state income taxes has been included in these financial statements.

 

On November 1, 2008, the Company adopted guidance relating to therecognition of income tax benefits.  Thisguidance provides a two-step approach to recognizing and measuring tax benefitswhen realization of the benefits is uncertain. The first step is to determine whether the benefit meets themore-likely-than-not condition for recognition and the second step is todetermine the amount to be recognized based on the cumulative probability thatexceeds 50%.  Primarily due to theCompany’s tax status as a partnership, the adoption of this guidance had nomaterial impact on the Company’s financial condition or results of operations.

 

*EnvironmentalLiabilities*

 

The Company’s operationsare subject to environmental laws and regulations adopted by variousgovernmental entities in the jurisdiction in which it operates. These lawsrequire the Company to investigate and remediate the effects of the release ordisposal of materials at its location. Accordingly, the Company has adoptedpolicies, practices, and procedures in the areas of pollution control,occupational health, and the production, handling, storage, and use ofhazardous materials to prevent material environmental or other damage, and tolimit the financial liability, which could result from such events.Environmental liabilities are recorded when the liability is probable and thecosts can be reasonably estimated.

 

*Recently Adopted Accounting Pronouncements*

 

In April 2009, theFASB issued guidance on disclosures about fair value of financial instrumentsto be presented in interim financial statements in additional to annualfinancial statements. The Company adopted this new disclosure guidance for thefinancial statements for the quarter ending July 31, 2009. The adoption ofthis guidance did not have a material impact on our financial statements.

 

In May 2009, theFASB issued guidance on additional disclosures for subsequent events. Theguidance requires disclosure of the date through which an entity has evaluatedsubsequent events and the basis for that date. The Company adopted this newdisclosure guidance for the financial statements for the quarter ending July 31,2009. The adoption of this guidance did not have a material impact on ourfinancial statements.

 

In June 2009, theFinancial Accounting Standards Board (FASB) issued guidance that establishestwo levels of U.S. generally accepted accounting principles (GAAP),authoritative and nonauthoritative. The guidance establishes the FASBAccounting Standards CodificationTM (Codification) as the source ofauthoritative accounting principles 

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31, 2009 and 2008

 

recognized by the FASB tobe applied by nongovernmental entities in the preparation of financialstatements in conformity with GAAP. Rules and interpretive releases of theSEC under federal securities laws are also sources of authoritative GAAP forSEC registrants. All guidance contained in the Codification carries an equallevel of authority.  The Codification was effective on a prospective basisfor interim and annual reporting periods ending after September 15,2009.  The adoption of the Codification changed the Company’s referencesto GAAP accounting standards, but did not impact the Company’s results ofoperations, financial position or liquidity.

 

**2.  UNCERTAINTIES**

 

The Company derives substantially all of its revenues from the sale ofethanol and distillers grains.  Theseproducts are commodities and the market prices for these products displaysubstantial volatility and are subject to a number of factors which are beyondthe control of the Company.  The Company’smost significant manufacturing inputs are corn and natural gas.  The price of these commodities is alsosubject to substantial volatility and uncontrollable market factors.  In addition, these input costs do notnecessarily fluctuate with the market prices for ethanol and distillersgrains.  As a result, the Company issubject to significant risk that its operating margins can be reduced oreliminated due to the relative movements in the market prices of its productsand major manufacturing inputs.  As aresult, market fluctuations in the price of or demand for these commodities canhave a significant adverse effect on the Company’s operations, profitability,and availability of cash flows to make loan payments and maintain compliancewith the loan agreement.

 

**3.  CONCENTRATIONS**

 

The Company has identified certain concentrations that are present intheir business operations.  The Company’srevenue from ethanol sales and distiller sales are derived from a singlecustomer under an ethanol marketing agreement and a distillers marketingagreement as described in Note 13.

 

The Company purchases all corn from a single supplier, a related party,under a grain procurement agreement described in Notes 12 and 13.

 

The Company has a revenue concentration in that its revenue isgenerated from the sales of just two products, ethanol and distillers grains.

 

**4.  FAIR VALUE MEASUREMENTS**

 

On November 1, 2008, the Company adopted fair value measurementguidance for financial assets and liabilities. This guidance defines fair value, outlines a framework for measuringfair value, and details the required disclosures about fair value measurements.  This guidance defines fair value as the pricethat would be received to sell an asset or paid to transfer a liability in anorderly transaction between market participants at the measurement date in theprincipal or most advantageous market.

 

The fair value hierarchy prescribed by this guidance contains threelevels of inputs, both observable and unobservable. This guidance requires theutilization of the lowest possible level of input to determine fair value.  Level 1 inputs include quoted market pricesin an active market for identical assets or liabilities.  Level 2 inputs are market data, other thanLevel 1, that are observable either directly or indirectly.  Level 2 inputs include quoted market pricesfor similar assets or liabilities, quoted market prices in an inactive market,and other observable information that can be corroborated by market data.  Level 3 inputs are unobservable andcorroborated by little or no market data.

 

Except for those assets and liabilities which are required by authoritativeaccounting guidance to be recorded at fair value in our balance sheets, theCompany has elected not to record any other assets or liabilities at fairvalue, as permitted.  No events occurredduring the year ended October 31,2009 that would require adjustment to the recognized balances of assetsor liabilities which are recorded at fair value on a nonrecurring basis.

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31, 2009 and 2008

 
| ** **                                         | ** ** | **Fair Value as of** | ** ** | **Fair Value Measurement Using** | ** ** |
|----------------------------------------------------|------------|-------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                         | ** ** | **October 31,  2009**     | ** ** | **Level 1**                                | ** ** | **Level 2** | ** ** | **Level 3** | ** ** |
| Restricted cash —  current                    |       | $                                   | 56,681     |                                            | $          | 56,681 |   | $ | — |   | $ | — |   |
| Restricted marketable  securities - current        |       | $                                   | 83,451     |                                            | $          | 83,451 |   | $ | — |   | $ | — |   |
| Restricted marketable  securities — long-term |       | $                                   | 1,518,000  |                                            | $          | 1,518,000 |   | $ | — |   | $ | — |   |
| Interest rate swap                                 |       | $                                   | (2,128,649 | )                                               | $          | — |   | $ | (2,128,649 | ) | $ | — |   |

 

The fair value ofrestricted cash, which includes money market funds, and restricted marketablesecurities are based on quoted market prices in an active market. The Companydetermined the fair value of the interest rate swap by using widely acceptedvaluation techniques including discounted cash flow analysis on the expectedcash flows of each instrument. The analysis reflects the contractual terms ofthe swap agreement, including the period to maturity and uses observablemarket-based inputs and uses the market standard methodology of netting thediscounted future fixed cash receipts and the discounted expected variable cashpayments.

 

**5.  RESTRICTED MARKETABLE SECURITIES**

 

The cost and fairvalue of the Company’s restricted marketable securities consist of thefollowing at October 31, 2009:

 
| ** **                                                              | ** ** | **Amortized  Cost** | ** ** | **Gross********Unrealized********Gains** | ** ** | **Fair Value** | ** ** |
|-------------------------------------------------------------------------|------------|---------------------|------------|------------------------------------------|------------|----------------|------------|
|                                                                    |       |                |       |                                     |       |           |       |
| Restricted  marketable securities - Current Municipal obligations       |       | $                   | 83,451     |                                     | $          | —         |       | $ | 83,451 |   |
|                                                                    |       |                |       |                                     |       |           |       |
| Restricted  marketable securities — Long-termMunicipal obligations |       | 1,425,666           |       | 92,334                                   |       | 1,518,000      |       |
|                                                                    |       |                |       |                                     |       |           |       |
| Total  restricted marketable securities                                 |       | $                   | 1,509,117  |                                     | $          | 92,334         |       | $ | 1,601,451 |   |

 

The Company’srestricted marketable securities consist of the following at October 31,2008:

 
| ** **                                                              | ** ** | **Amortized  Cost** | ** ** | **Gross********Unrealized********Gains** | ** ** | **Fair Value** | ** ** |
|-------------------------------------------------------------------------|------------|---------------------|------------|------------------------------------------|------------|----------------|------------|
|                                                                    |       |                |       |                                     |       |           |       |
| Restricted  marketable securities - Current Municipal obligations       |       | $                   | 430,210    |                                     | $          | (3,977         | )          | $ | 426,233 |   |
| U.S.  treasury government obligations                                   |       | 639,791             |       | (8,283                                   | )          | 631,508        |       |
| Corporate  obligations                                                  |       | 4,322,620           |       | (162                                     | )          | 4,322,458      |       |
| Total  current restricted marketable securities                         |       | 5,392,621           |       | (12,422                                  | )          | 5,380,199      |       |
|                                                                    |       |                |       |                                     |       |           |       |
| Restricted  marketable securities — Long-termMunicipal obligations |       | 1,509,117           |       | (47,682                                  | )          | 1,461,435      |       |
|                                                                    |       |                |       |                                     |       |           |       |
| Total  restricted marketable securities                                 |       | $                   | 6,901,738  |                                     | $          | (60,104        | )          | $ | 6,841,634 |   |

 

The long-term restrictedmarketable securities relate to the debt service reserve fund noted in Note 8.

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31, 2009 and 2008

 

Shown below arethe contractual maturities of marketable securities with fixed maturities at October 31,2009.  Actual maturities may differ from contractualmaturities because certain securities may contain early call or prepaymentrights.

 
| Due within 1 year        |   | $         | —    |   |
|--------------------------|--------|-----------|-----------|--------|
| Due in 3 to 5 years      |   | 1,601,451 |      |
| Due in more than 5 years |   | —    |      |
| Total                    |   | $         | 1,601,451 |   |

 

**6.INVENTORIES**

 

Inventories consisted ofthe following at:

 
| ** **                | ** ** | **October 31, 2009** | ** ** | **October 31, 2008** | ** ** |
|---------------------------|------------|---------------------------|------------|---------------------------|------------|
| Raw  materials            |       | $                         | 1,384,720  |                      | $          | — |   |
| Spare  parts and supplies |       | 33,399                    |       |                      |       |
| Work  in process          |       | 705,422                   |       |                      |       |
| Finished  goods           |       | 619,387                   |       | —                    |       |
|                      |       |                      |       |                      |       |
| Total                     |       | $                         | 2,356,670  |                      | $          | — |   |

 

**7.DERIVATIVE INSTRUMENTS**

 

In July 2009, theCompany adopted disclosures about derivative instruments and hedging activitiesguidance, to provide a reader of the financial statements an enhancedunderstanding of the Company’s use of derivative instruments, how the Companyaccounts for its derivative instruments and the instruments’ effects onfinancial position, financial performance and cash flows.

 

From time to time, theCompany enters into derivative transactions to hedge its exposures to interestrate fluctuations.  The Company does notenter into derivative transactions for trading purposes.* *As of October 31, 2009, the Company has entered into aninterest rate swap agreement.  TheCompany is required to record derivative financial instruments as either assetsor liabilities at fair value in the statement of financial position.  Derivatives qualify for treatment as hedgeswhen there is a high correlation between the change in fair value of thederivative instrument and the related change in value of the underlying hedgeditem.  Furthermore, the Company mustdesignate the hedging instruments based upon the exposure being hedged as afair value hedge, a cash flow hedge or a hedge against foreign currencyexposure.  The Company formallydocuments, designates, and assesses the effectiveness of transactions thatreceive hedge accounting initially and on an on-going basis.  The Company has not designated the interestrate swap as a cash flow hedge.

 

Interest Rate Swap

 

The Company managesvariable rate debt using an interest rate swap. The Company entered into fixed rate swap to alter its exposure to theimpact of changing interest rates on its results of operations and future cashoutflows for interest. Fixed rate swaps are used to reduce the Company’s riskof the possibility of increased interest costs. Interest rate swap contractsare therefore used by the Company to separate interest rate risk managementfrom the debt funding decision.

 

At October 31,2009, the Company hada notional amount of approximately $24,620,000 outstanding in the swapagreement that exchanges variable interest rates (LIBOR) for fixedinterest rates over the terms of the agreements.  The interest rate swapis not designated as an effective hedge for accounting purposes.

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31,2009 and 2008

 

The following tablesprovide details regarding the Company’s derivative instruments at October 31,2009:

 
| **Instrument**      | ** ** | **Balance Sheet location** | ** ** | **Assets** | ** ** | **Liabilities** | ** ** |
|---------------------|------------|----------------------------|------------|------------|------------|-----------------|------------|
|                | ** ** | ** **                 | ** ** | ** ** | ** ** | ** **      | ** ** |
| Interest  rate swap |       | Derivative instruments     |       | $          | —     |            | $          | 2,128,649 |   |
|                     |            |                            |            |            |            |                 |            |  |  |

 

The following tablesprovide details regarding the losses from the Company’s derivativeinstruments in statements of operations, none of which are designated ashedging instruments:

 
| ** **          | ** ** | ** **                           | ** ** | **Year Ended October 31,** | ** ** |
|---------------------|------------|--------------------------------------|------------|---------------------------------|------------|
| ** **          | ** ** | **Statement of Operations location** | ** ** | **2009**                        | ** ** | **2008** | ** ** |
| Interest  rate swap |       | Loss on derivative  instruments      |       | $                               | (1,537,575 | ) | $ | (591,074 | ) |
|                     |            |                                      |            |                                 |            |  |  |  |  |

 

**8.  DEBT FINANCING**

 

*BankFinancing*

 

In April 2008, the Company entered into a credit agreement with afinancial institution for the purpose of funding a portion of the cost of theethanol plant.  Under the creditagreement, the lender provided a construction loan of $50,400,000, aconstruction revolving loan for $5,000,000 and supported the issuance ofletters of credit up to $5,600,000, all of which are secured by substantiallyall assets.  At October 31, 2009, the Companyhad issued $4,950,000 in letters of credit. The Company will make monthly interest payments for all amounts owedduring the construction phase at the greater of LIBOR plus 350 basis points or4%, which was 4% at October 31,2009. As of October 31,2009 and 2008, the Company has drawn approximately $49,876,000and $0 on this facility.

 

While construction is complete and the plant is operating, the loan isnot expected to convert until February 2010. Accordingly, payments willcontinue under the terms available during construction. When the constructionloan converts, a maximum of $25,200,000 will convert into a Fixed Rate Note, amaximum of $20,200,000 will convert into a Variable Rate Note, and a maximum of$5,000,000 will convert into a Long-Term Revolving note, as described in thecredit agreement and further below.

 

*Fixed Rate Note*

 

The Fixed Rate Note is for up to $25,200,000 with a variable interestrate that is fixed with an interest rate swap. The Company will make 59 monthly principal payments on the Fixed RateNote initially for approximately $145,000 plus accrued interest commencing onemonth immediately following the construction loan termination date. Interestwill accrue on the Fixed Rate Note at the greater of the one-month LIBOR rateplus 300 basis points or 4%. A final balloon payment on the Fixed Rate Note ofapproximately $15,184,000 will be due five years following the constructionloan termination date.  The Companyentered into an interest rate swap which fixes the interest rate on the Fixed RateNote at 7.6% for five years beginning in June 2009.

 

*Variable Rate Note*

 

The Variable Rate Note is for up to $20,200,000.  For the Variable Rate Note, the Company willmake 59 monthly payments initially for approximately $147,000 plus accruedinterest commencing one month immediately following the construction loantermination date for the Variable Rate Note. Interest will accrue on theVariable Rate Note at the greater of the one-month LIBOR rate plus 350 basispoints or 4%. A final balloon payment of approximately $14,807,000 will be due fiveyears following the construction loan termination date.

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31,2009 and 2008

 

*Long-term Revolving Note*

 

The Long-Term Revolving Note is for up to $5,000,000 initially.  The amount available on the Long-TermRevolving Note will decline annually by the greater of $125,000 or 50% of theexcess cash flow, as defined by the agreement. The Long-Term Revolving Note will accrue interest monthly at the greaterof the one-month LIBOR plus 350 basis points, or 4% until maturity, five yearsfollowing the construction loan termination date.

 

*Line of Credit*

 

The construction revolving loan is the Company’s line of credit andaccrues interest at the greater of the one-month LIBOR plus 350 basis points or4%.  The line of credit requires monthlyinterest payments and was payable in full in April 2009. In August 2009,the Company signed an amendment to extend the maturity date to February 28,2010, to accrue interest at the greater of the 90-day LIBOR plus 450 basispoints or 5.5%, which was 5.5% at October 31, 2009, and require monthlyinterest payments.  As of October 31,2009, the Company had $1,000,000 outstanding on the line of credit.

 

The Company isrequired to make additional payments annually on debt for up to 50% of theexcess cash flow, as defined by the agreement.  As part of the bank financing agreement, thepremium above LIBOR on the loans may be reduced based on a financialratio.  The loan agreements are secured by substantially allbusiness assets and are subject to various financial and non-financialcovenants that limit distributions and debt and require minimum debt servicecoverage, net worth, and working capital requirements.

 

The Company was incompliance with the covenants applicable at October 31, 2009; however, dueto the nature of the business, there is a risk that the Company may be out ofcompliance with certain covenants subsequent to the construction loan beingconverted.  Specifically, management iscurrently working with its lender to redefine the calculation of the Net Worthcovenant.

 

As of October 31,2009, the Company hasletters of credit outstanding of $4,950,000 as mentioned previously. TheCompany pays interest at a rate of 3% on amounts outstanding and the letters ofcredit are valid until February 2010. One of the letters of credit will automatically renew for an additionalone year period in the amount of $4,000,000.

 

*CapitalLease*

 

In April 2008, theCompany entered into a lease agreement with the City of Lamberton, Minnesota,(the City) in order to finance equipment for the plant.  The lease has a term from April 1, 2008through April 1, 2028 or until earlier terminated. The City financed thepurchase of equipment through Solid Waste Facilities Revenue Bonds Series 2008Atotaling $15,180,000.

 

Under the equipment leaseagreement with the City, the Company started making interest payments on November 25,2008 and monthly thereafter at an implicit interest rate of 8.5%. The monthlycapital lease interest payments correspond to 1/6 the semi-annual interestpayments due on the Bonds on the next interest payment date. Monthly capitallease payments for principal were originally scheduled to begin on November 25,2009; however, the City amended the agreement in September 2008 whichadjusted the start date for principal payments to begin on November 25,2014.  These payments will equal 1/12 theannual principal payments scheduled to become due on the corresponding bonds onthe next principal payment date.

 

The Company hasguaranteed that if such assessed lease payments are not sufficient for therequired bond payments, the Company will provide such funds as are needed tofund the shortfall. The lease agreement is secured by substantially allbusiness assets and is subject to various financial and non-financial covenantsthat limit distributions and leverage and require minimum debt servicecoverage, net worth, and working capital requirements, and are secured by allbusiness assets.

 

The capital leaseincludes an option to purchase the equipment at fair market value at the end ofthe lease term.  Under the capital leaseagreement, the proceeds are for project costs and the establishment of acapitalized interest 

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31,2009 and 2008

 

fund and a debt servicereserve fund.  The Company receivedproceeds of approximately $14,876,000, after financing costs of approximately$304,000.

 

At close when the fundswere distributed, the remaining proceeds were held as restricted cash based onanticipated use and were split between a project fund of approximately$11,527,000, a capitalized interest fund of approximately $1,831,000, and adebt service reserve fund of approximately $1,518,000.

 

Theestimated maturities of the long-term debt at October 31, 2009 are as follows:

 
| 2010            |   | $          | 2,343,508  |   |
|-----------------|--------|------------|------------|--------|
| 2011            |   | 3,720,364  |       |
| 2012            |   | 4,001,242  |       |
| 2013            |   | 4,307,895  |       |
| 2014            |   | 4,630,628  |       |
| After  2014     |   | 46,052,203 |       |
|            |   |       |       |
| Long-term  debt |   | $          | 65,055,840 |   |

 

**9.  LEASES**

 

In April 2009, the Company entered into a five-year operatinglease agreement with an unrelated party for 50 covered hopper cars.  The Company will pay approximately $425 percar per month beginning upon delivery of the cars.  In addition, a surcharge of $0.03 per mile willbe assessed for each mile in excess of 30,000 miles per year a cartravels.  Total lease expense for theyears ending October 31, 2009 was approximately $85,000.

 

The Company has also entered into a capital lease agreement asdiscussed in Note 8.

 

Future minimum leasepayments under the capital lease are as follows at October 31, 2009:

 
| ** **                              | ** ** | **Operating** | ** ** | **Capital** | ** ** |
|-----------------------------------------|------------|---------------|------------|-------------|------------|
| 2010                                    |       | $             | 255,000    |        | $          | 1,290,300 |   |
| 2011                                    |       | 255,000       |       | 1,290,300   |       |
| 2012                                    |       | 255,000       |       | 1,290,300   |       |
| 2013                                    |       | 255,000       |       | 1,290,300   |       |
| 2014                                    |       | 170,000       |       | 1,290,300   |       |
| After 2014                              |       | —        |       | 21,642,975  |       |
| Total                                   |       | 1,190,000     |       | 28,094,475  |       |
| Less amount representing interest       |       | —        |       | 12,914,475  |       |
| Present value of minimum lease payments |       | 1,190,000     |       | 15,180,000  |       |
| Less current maturities                 |       | —        |       | —      |       |
| Long-term debt                          |       | $             | 1,190,000  |        | $          | 15,180,000 |   |

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31,2009 and 2008

 

**10.  MEMBERS’ EQUITY**

 

The Company has one class of membership units, which include certaintransfer restrictions as specified in the operating agreement and pursuant toapplicable tax and securities law, with each unit representing a pro rataownership in the Company’s capital, profits, losses and distributions. Incomeand losses are allocated to all members based upon their respective percentageof units held.

 

The Company was initially capitalized by 13 members, contributing anaggregate of $500,000 for 150 units. The Company was further capitalized by 117additional members contributing an aggregate of $1,180,000 in exchange for 236units.

 

The Company filed a Form SB-2 Registration Statement with theSecurities and Exchange Commission (SEC) for a minimum of 4,500 and up to 6,000membership units for sale at $10,000 per unit. The Registration Statement wasdeclared effective on April 5, 2007. Offering proceeds were held in escrow until April 2008.  The total number of units accepted was 4,567with proceeds totaling $45,670,000. Deferred offering costs of approximately $736,000 were netted againstthe proceeds received.  The Companyreceived approximately $40,000 of investor deposits that were forfeited and areincluded with member contributions. These funds were used to provide financing to complete the Company’sethanol facility in Lamberton, Minnesota.

 

**11.  INCOME TAXES**

 

The Company hasadopted an October 31 fiscal year end, but has a tax year end of December 31.  The differences between financial statementbasis and tax basis of assets are estimated as follows:

 
| ** **                                 | ** ** | **October 31,** | ** **  | **October 31,** | ** ** |
|--------------------------------------------|------------|----------------------|-------------|----------------------|------------|
| ** **                                 | ** ** | **2009**             | ** **  | **2008**             | ** ** |
|                                       |       |                 |        |                 |       |
| Financial  statement basis of total assets |       | $                    | 115,288,412 |                 | $          | 77,797,943 |   |
|                                       |       |                 |        |                 |       |
| Organizational  and start-up costs         |       | 3,682,693            |        | 2,542,960            |       |
| Book  to tax depreciation                  |       | (3,139,296           | )           |                 |       |
|                                       |       |                 |        |                 |       |
| Income  tax basis of total assets          |       | $                    | 115,831,809 |                 | $          | 80,340,903 |   |

 

The differencesbetween the financial statement basis and tax basis of the Company’sliabilities are estimated as follows:

 
| ** **                                      | ** ** | **October 31,** | ** ** | **October 31,** | ** ** |
|-------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                                      | ** ** | **2009**             | ** ** | **2008**             | ** ** |
|                                            |       |                 |       |                 |       |
| Financial  statement basis of total liabilities |       | $                    | 72,095,244 |                 | $          | 33,265,807 |   |
|                                            |       |                 |       |                 |       |
| Less:  Interest rate swap                       |       | (2,128,649           | )          | (591,074             | )          |
|                                            |       |                 |       |                 |       |
| Income  tax basis of total liabilities          |       | $                    | 69,966,595 |                 | $          | 32,674,733 |   |

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31, 2009 and 2008

 

**12.  RELATED PARTY TRANSACTIONS**

 

In July 2006,the Company entered into a grain procurement agreement with a related partythrough common ownership as described in Notes 3 and 13.

 

In September 2006,the Company entered into an agreement with a general contractor, a member, todesign and build the ethanol plant.  Asof October 31, 2009, the Company has incurred approximately $70,164,000 for theseservices.

 

In June 2007,the Company entered into an agreement with a related party, a member, to be theexclusive provider of electricity for the plant.  As of October 31, 2009, the Company hasincurred approximately $550,000 for these services of which $192,000 isincluded in accrued expenses.

 

In December 2007,the Company entered into an agreement with a related party through commonownership for the construction of a water treatment facility, well drilling,and installation of the fire loop.  As of October 31, 2009, theCompany has incurred approximately $16,623,000 under this agreement.

 

In August 2008,the Company entered into an agreement with a related party through commonownership for the construction of an administration building.  As of October 31, 2009, the Company has incurred approximately$271,000 of the expected $278,000.

 

**13.  COMMITMENTS AND CONTINGENCIES**

 

*ConstructionContracts*

 

The total cost ofthe project, including the construction of the ethanol plant and start-upexpenses, was $114,739,000.  The Companysigned an agreement in September 2006 with a general contractor, a relatedparty, to design and build the ethanol plant at a total contract price, withchange orders, to approximately $70,164,000, which has been incurred as of October 31,2009.

 

*SiteImprovement Contracts*

 

In August 2008,the Company entered into an agreement with a related party for the constructionof an administration building for approximately $278,000.  The Company shall pay a monthly fee of 90% ofthe value based on the amount of work completed, with the remaining 10% held asretainage.  As of October 31,2009, the Company hasincurred approximately $271,000.

 

*ConsultingContracts*

 

In June 2007, the Company entered into an agreement with a relatedparty to be the exclusive provider of electricity for the plant. The agreementcommenced on June 1, 2008. In June 2008, there was a verbal agreementto suspend the $12,000 monthly fee until operations begin. The agreementcommenced in August 2009 and is to remain in effect for a period of tenyears following commencement.

 

The rates for these services is a fixed charge of $12,000 per monthalong with monthly electric usage based on rates listed in the agreement. Therates for the first five years of the agreement are guaranteed.  The estimated construction cost of theelectrical infrastructure is $1,300,000. If the plant does not continue in operations for the entire term of thecontract, the Company is liable for incurred project costs to date minus anysalvage value. The agreement required the Company to provide a letter of creditupon request in the amount of $700,000, which was issued in July 2008, forthe period of the construction and continuing for one year after commercialoperation.

 

In June 2008, the Company entered into an agreement with anunrelated party for construction of a natural gas pipeline, which was completedin May 2009, and to be the exclusive provider of natural gas for theplant. The 

 

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**HIGHWATERETHANOL, LLC**

 

Notes to FinancialStatements

 

October 31, 2009 and 2008

 

agreement commenced in August 2009 and will remain in effect forten years.  The rates for these servicesare based on the agreed upon minimum usage at rates listed in theagreement.  The estimated construction costof the pipeline was $4,000,000.  Theagreement required a cash deposit or letter of credit of $4,000,000 plus threemonths of capacity payments payable in installments determined by the unrelatedparty before construction begins.  Theagreement also required the Company to provide a security deposit of $500,000,which was to be returned to the Company over the term of the agreement. TheCompany made the security deposit payment of $500,000 in June 2008, andsecured a $4,000,000 letter of credit in July 2008. The security depositof $500,000 was released to the Company in January 2009.

 

*Marketing Agreements*

 

In September 2006,the Company entered into a marketing agreement with an unrelated party topurchase, market, and distribute all the ethanol produced by the Company. TheCompany pays the buyer one percent of the net sales price for certain marketingcosts. The initial term is for two years beginning in August 2009 with aone year renewal option. The Company would assume certain rail car leases ifthe agreement is not renewed.

 

In October 2007,the Company entered into a marketing agreement with an unrelated party topurchase all of the distillers dried grains with solubles (DDGS), wetdistillers grains (WDG), and solubles the Company produces.  The buyer agrees to pay the Company 98% of theselling price for DDGS and 96% of the selling price for WDG and a fee of $2 perton for solubles, with a minimum fee of $1.50 per ton for sales of DDGS andWDG.  The agreement began in August 2009and continues for one year. The agreement will remain in effect thereafterunless a 120 day advance written notice of termination is provided by eitherparty.

 

*Grain Procurement Contract*

 

In July 2006, theCompany entered into a grain procurement agreement with an related party toprovide all of the corn needed for the operation of the ethanol plant.  Under the agreement, the Company purchasescorn at the local market price delivered to the plant plus a fixed fee perbushel of corn.  The agreement began in August 2009and continues for seven years.

 

*Regulatory Agencies*

 

The Company is subjectdiscussions with regulatory agencies regarding environmental concerns whicharise in the ordinary course of its business. While the ultimate outcome ofthese matters is not presently determinable, it is in the opinion of managementthat the resolution of outstanding claims will not have a material adverseeffect on the financial position or results of operations of the Company. Dueto the uncertainties in the settlement process, it is at least reasonablypossible that management’s view of outcomes will change in the near term.

 

**14.SUBSEQUENT EVENTS**

 

The Company has performedan evaluation of subsequent events through January 29, 2010, which is thedate the financial statements were issued.

 

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**ITEM9.  CHANGES IN AND DISAGREEMENTS WITHACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.**

 

Boulay, Heutmaker, Zibell & Co.,P.L.L.P. has been our independent auditor since the Company’s inception and isthe Company’s independent auditor at the present time.  The Company has had no disagreements with itsauditors.

 

**ITEM9A(T).  CONTROLS AND PROCEDURES.**

 

**DisclosureControls and Procedures**

 

Managementof Highwater Ethanol is responsible for maintaining disclosure controls andprocedures that are designed to ensure that information require to be disclosedin the reports that the Company files or submits under the Securities ExchangeAct of 1934 (the “Exchange Act”) is recorded, processed, summarized andreported within the time periods specified in the Securities and ExchangeCommission’s rules and forms.  Inaddition, the disclosure controls and procedures must ensure that suchinformation is accumulated and communicated to the Company’s management,including its Chief Executive Officer and Chief Financial Officer, asappropriate, to allow timely decisions regarding required financial and otherrequired disclosures.

 

Atthe end of the period covered by this report, an evaluation of theeffectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) andRule 15d-15(e) under the Exchange Act, as amended) was carried outunder the supervision and with the participation of our Chief Executive Officer,Brian Kletscher, and our Chief Financial Officer, Mark Peterson.  Based on their evaluation of our disclosurecontrols and procedures, they have concluded that during the period covered bythis report, such disclosure controls and procedures were not effective todetect the inappropriate standards of US GAAP standards.  This was due to deficiencies that existed inthe design or operation of our internal control over financial reporting thatadversely affected our disclosure controls and that may be considered to be “materialweaknesses.”

 

HighwaterEthanol, LLC is continuing to work the implementation of a remediation plan formaintaining disclosure controls and procedures. The Company has hired a full-time Chief Financial Officer.  Additionally, Highwater Ethanol hasimplemented procedures in which the Chief Executive Officer and the ChiefFinancial Officer review all incoming correspondence as well as all new orrenewal contracts.  Highwater Ethanol hasis also developing a routing process for the proper distribution of informationinternally.  Management plans to have theprogram implemented by the end of the second quarter of fiscal year 2010.  However, the material weakness will not beconsidered remediated until the applicable remedial controls operate for asufficient period of time and management has concluded, through testing, thatthese controls are operating effectively.

 

**Internal Control Over Financial Reporting**

 

InherentLimitations Over Internal Controls

 

Ourinternal control over financial reporting is designed to provide reasonableassurance regarding the reliability of financial reporting and the preparationof financial statements for external purposes in accordance with generallyaccepted accounting principles. Our internal control over financial reportingincludes those policies and procedures that:

 

(i)            pertain to the maintenance ofrecords that, in reasonable detail, accurately and fairly reflect thetransactions and dispositions of our assets;

 

(ii)           provide reasonable assurance that transactionsare recorded as necessary to permit preparation of financial statements inaccordance with generally accepted accounting principles, and that our receiptsand expenditures are being made only in accordance with authorizations of ourmanagement and directors; and

 

(iii)          provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use, or dispositionof our assets that could have a material effect on the financial statements.

 

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Management,including our Chief Executive Officer and Chief Financial Officer, does notexpect that our internal controls will prevent or detect all errors and allfraud. A control system, no matter how well designed and operated, can provideonly reasonable, not absolute, assurance that the objectives of the controlsystem are met. Further, the design of a control system must reflect the fact thatthere are resource constraints, and the benefits of controls must be consideredrelative to their costs. Because of the inherent limitations in all controlsystems, no evaluation of internal controls can provide absolute assurance thatall control issues and instances of fraud, if any, have been detected. Also,any evaluation of the effectiveness of controls in future periods are subjectto the risk that those internal controls may become inadequate because ofchanges in business conditions, or that the degree of compliance with thepolicies or procedures may deteriorate.

 

Management’sAnnual Report on Internal Control Over Financial Reporting.

 

Ourmanagement is responsible for establishing and maintaining adequate internalcontrol over financial reporting. Internal control over financial reporting is a process designed toprovide reasonable assurance to our management and board of governors regardingthe reliability of financial reporting and the preparation of financialstatements for external purposes in accordance with U.S. generally acceptedaccounting principles.  Our internalcontrol over financial reporting includes those policies and procedures that (i) pertainto the maintenance of records that in reasonable detail accurately and fairlyreflect our transactions; (ii) provide reasonable assurance thattransactions are recorded as necessary for preparation of our financialstatements; (iii) provide reasonable assurance that receipts andexpenditures of the company assets are made in accordance with managementauthorization; and (iv) provide reasonable assurance that unauthorizedacquisition, use or disposition of company assets that could have a materialeffect on our financial statements would be prevented or detected on a timelybasis.

 

Becauseof inherent limitations, internal control over financial reporting may notprevent or detect misstatements.  Also,projections of any evaluation of effectiveness to future periods are subject tothe risk that controls may become inadequate because changes in conditions mayoccur or the degree of compliance with the policies or procedures maydeteriorate.

 

Management assessed the effectiveness of internal control overfinancial reporting as of October 31,2009. This assessment is based on the criteria for effective internal controldescribed in Internal Control — Integrated Framework issued by the Committee ofSponsoring Organizations of the Treadway Commission.  Based on its assessment, management concludedthat our internal control over financial reporting as of October 31, 2009,was not effective in the specific areas described in the “Disclosure Controlsand Procedures” section above.

 

Highwater Ethanol will continue to create and refine a structure inwhich critical accounting policies and estimates are identified and togetherwith other complex areas, are subject to multiple reviews by accountingpersonnel.  In addition, HighwaterEthanol will enhance and test our year-end financial close process.  Additionally, Highwater Ethanol’s auditcommittee will increase its review of our disclosure controls andprocedures.  Finally, we have designatedindividuals responsible for identifying reportable resources in our internalaccounting functions, including our CFO, Mark Peterson hired in February 2009and our CEO, Brian Kletscher.  However,the material weakness will not be considered remediated until the applicableremedial controls operate for a sufficient period of time and management hasconcluded, through testing, that these controls are operating effectively.

 

We believe these actions will remediate the material weakness byfocusing additional attention and resources in our internal accountingfunctions.  However, the materialweakness will not be considered remediated until the applicable remedialcontrols operate for a sufficient period of time and management has concluded,through testing, that these controls are operating effectively.

 

Thisannual report does not include an attestation report of our registered publicaccounting firm regarding internal control over financial reporting.  Management’s report was not subject toattestation by our registered public accounting firm pursuant to temporary rules ofthe Securities and Exchange Commission that permit us to provide onlymanagement’s report in this annual report.

 

Thisreport shall not be deemed to be filed for purposes of Section 18 of theSecurities Exchange Act of 1934, or otherwise subject to the liabilities ofthat section, and is not incorporated by reference into any filing of the

 

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Company,whether made before or after the date hereof, regardless of any generalincorporation language in such filing.

 

Changesin Internal Control Over Financial Reporting.

 

Ourmanagement, including our Chief Executive Officer and our Chief FinancialOfficer, have reviewed and evaluated any changes in our internal control overfinancial reporting that occurred as of October 31, 2009.  Our management is in the process ofaddressing the above material weaknesses. The Company has hired a full-time Chief Financial Officer.  Additionally, Highwater Ethanol hasimplemented procedures in which the Chief Executive Officer and the ChiefFinancial Officer review all incoming correspondence as well as all new orrenewal contracts.  Highwater Ethanol hasis also developing a routing process for the proper distribution of informationinternally.  Management plans to have theprogram implemented by the end of the second quarter of fiscal year 2010.  The material weaknesses will not beconsidered remediated until the applicable remedial controls operate for asufficient period of time and management has concluded, through testing, thatthese controls are operating effectively.

 

**ITEM 9B.  OTHER****INFORMATION.**

 

None.

 

**PART III**

 

Pursuant toGeneral Instruction 6(3), we omit Part III, Items 10, 11, 12, 13 and 14and incorporate such items by reference to an amendment to this Annual Reporton Form 10-K or to a definitive proxy statement to be filed with theSecurities and Exchange Commission within 120 days after the close of thefiscal year covered by this Annual Report (October 31, 2009).

 

**ITEM10.  DIRECTORS, EXECUTIVE OFFICERS ANDCORPORATE GOVERNANCE.**

 

Theinformation required by this Item is incorporated by reference in thedefinitive proxy statement from our 2010 Annual Meeting of Members to be filedwith the Securities and Exchange Commission within 120 days of our 2009 fiscalyear end.  This proxy statement isreferred to in this report as the 2010 Proxy Statement.

 

**ITEM 11. EXECUTIVE COMPENSATION.**

 

TheInformation required by this Item is incorporated by reference to the 2010Proxy Statement.

 

**ITEM12.  SECURITY OWNERSHIP OF CERTAINBENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.**

 

TheInformation required by this Item is incorporated by reference to the 2010Proxy Statement.

 

**ITEM 13.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.**

 

The Information required bythis Item is incorporated by reference to the 2010 Proxy Statement.

 

**ITEM14.  PRINCIPAL ACCOUNTING FEES ANDSERVICES.**

 

The Information requiredby this Item is incorporated by reference to the 2010 Proxy Statement.

 

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**PART IV**

 

**ITEM15.  EXHIBITS, FINANCIAL STATEMENTSCHEDULES.**

 

**Exhibits Filed as Part of this Reportand Exhibits Incorporated by Reference.**

 

Thefollowing exhibits and financial statements are filed as part of, or areincorporated by reference into, this report:

 

**(1)****                                  ****Financial Statements**

 

The financial statements appear beginning at page 31of this report.

 

**(2)****                                  ****Financial StatementSchedules**

 

All supplemental schedules are omitted as the requiredinformation is inapplicable or the information is presented in the financialstatements or related notes.

 

**(3)****                                  ****Exhibits**

 
| **Exhibit  No.** | ** ** | **Description**                                                                                                                                                               | ** ** | **Method  of Filing** |
|------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|
| 10.1             |       | Commodity Risk  Management Consulting Agreement between John Stewart & Associates  and Highwater Ethanol, LLC dated April 28, 2009.                             |       | 1                     |
|             |       |                                                                                                                                                                          |       |                  |
| 10.2             |       | Railroad Car Lease  Agreement between Trinity Industries Leasing Company and Highwater Ethanol,  LLC dated July 1, 2009.                                                 |       | 1                     |
|             |       |                                                                                                                                                                          |       |                  |
| 10.3             |       | Interest Rate Swap  Agreement between First National Bank of Omaha and Highwater Ethanol, LLC  dated April 25, 2008.                                                     |       | 2                     |
|             |       |                                                                                                                                                                          |       |                  |
| 10.4             |       | First Amendment of  Construction Loan Agreement between First National Bank of Omaha and  Highwater Ethanol, LLC dated August 11, 2009                                   |       | 2                     |
| ** **       | ** ** | ** **                                                                                                                                                                    |       |                  |
| 10.5             |       | First  Amended and Restated Revolving Promissory Note in the amount of $1,354,000  between Highwater Ethanol, LLC and First National Bank of Omaha dated  April 24, 2009 |       | 2                     |
| ** **       | ** ** | ** **                                                                                                                                                                    |       |                  |
| 10.6             |       | First  Amended and Restated Revolving Promissory Note in the amount of $1,000,000  between Highwater Ethanol, LLC and First National Bank of Omaha dated  April 24, 2009 |       | 2                     |
|             | ** ** | ** **                                                                                                                                                                    |       |                  |
| 10.7             |       | First  Amended and Restated Revolving Promissory Note in the amount of $2,646,000  between Highwater Ethanol, LLC and First National Bank of Omaha dated  April 24, 2009 |       | 2                     |
| ** **       | ** ** | ** **                                                                                                                                                                    |       |                  |
| 31.1             |       | Certificate Pursuant to  17 CFR 240.15d-14(a).                                                                                                                                |       | *                     |
| ** **       | ** ** | ** **                                                                                                                                                                    |       |                  |
| 31.2             |       | Certificate Pursuant to  17 CFR 240.15d-14(a).                                                                                                                                |       | *                     |
| ** **       | ** ** | ** **                                                                                                                                                                    |       |                  |
| 32.1             |       | Certificate Pursuant to  18 U.S.C. § 1350.                                                                                                                               |       | *                     |
| ** **       | ** ** | ** **                                                                                                                                                                    |       |                  |
| 32.2             |       | Certificate Pursuant to  18 U.S.C. § 1350.                                                                                                                               |       | *                     |

 

----

**(*)          **Filed herewith.

(1)           Incorporated by reference as filed onForm 10-Q filed with the SEC on June 15, 2009.

(2)           Incorporated by reference as filed onForm 10-Q filed with the SEC on September 21, 2009.

 

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**SIGNATURES**

 

Pursuant to the requirements of Section 13or 15(d) of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

 
|   |   | HIGHWATER  ETHANOL, LLC      |
|--------|--------|------------------------------|
|   |   |                         |
|   |   |                         |
| Date:  |   | January 28,  2010       |   | /s/  Brian Kletscher |
|   |   | Brian  Kletscher             |
|   |   | Principal  Executive Officer |
|   |   |                         |
|   |   |                         |
| Date:  |   | January 28,  2010       |   | /s/  Mark Peterson |
|   |   | Mark  Peterson               |
|   |   | Chief  Financial Officer     |

 

 

Pursuantto the requirements of the Securities Exchange Act of 1934, this report hasbeen signed below by the following persons on behalf of the registrant and inthe capacities and on the dates indicated.

 

 
| Date:  |   | January 28,  2010 |   | /s/ David G. Moldan                            |
|--------|--------|------------------------|--------|------------------------------------------------|
|   |   |                   |   | David G. Moldan, Chairman and Governor         |
|   |   |                   |   |                                           |
|   |   |                   |   |                                           |
| Date:  |   | January 28,  2010 |   | /s/ John M. Schueller                          |
|   |   |                   |   | John M. Schueller, Vice Chairman and Governor  |
|   |   |                   |   |                                           |
|   |   |                   |   |                                           |
| Date:  |   | January 28,  2010 |   | /s/ Warren Walter Pankonin                     |
|   |   |                   |   | Warren Walter Pankonin, Secretary and Governor |
|   |   |                   |   |                                           |
|   |   |                   |   |                                           |
| Date:  |   | January 28,  2010 |   | /s/ Timothy J. VanDerWal                       |
|   |   |                   |   | Timothy  J. VanDerWal, Treasurer and Governor  |
|   |   |                   |   |                                           |
|   |   |                   |   |                                           |
| Date:  |   | January 28,  2010 |   | /s/ Monica Rose                                |
|   |   |                   |   | Monica Rose Anderson, Governor                 |
|   |   |                   |   |                                           |
|   |   |                   |   |                                           |
| Date:  |   | January 28,  2010 |   | /s/ Russell J. Derickson                       |
|   |   |                   |   | Russell J. Derickson, Governor                 |
|   |   |                   |   |                                           |
|   |   |                   |   |                                           |
| Date:  |   | January 28,  2010 |   | /s/ George M. Goblish                          |
|   |   |                   |   | George M. Goblish, Governor                    |
|   |   |                   |   |                                           |
|   |   |                   |   |                                           |
| Date:  |   | January 28,  2010 |   | /s/ Ronald E. Jorgenson                        |
|   |   |                   |   | Ronald E. Jorgenson, Governor                  |

 

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| Date:  |   | January 28,  2010 |   | /s/ Michael J. Landuyt       |
|--------|--------|------------------------|--------|------------------------------|
|   |   |                   |   | Michael J. Landuyt, Governor |
|   |   |                   |   |                         |
|   |   |                   |   |                         |
| Date:  |   | January 28,  2010 |   | /s/ Jason R. Fink            |
|   |   |                   |   | Jason R. Fink, Governor      |
|   |   |                   |   |                         |
|   |   |                   |   |                         |
| Date:  |   | January 28,  2010 |   | /s/ Todd A. Reif             |
|   |   |                   |   | Todd A. Reif, Governor       |
|   |   |                   |   |                         |
|   |   |                   |   |                         |
| Date:  |   | January 28,  2010 |   | /s/ Scott Brittenham         |
|   |   |                   |   | Scott Brittenham, Governor   |
|   |   |                   |   |                         |
|   |   |                   |   |                         |
| Date:  |   | January 28,  2010 |   | /s/ Rex Roehl                |
|   |   |                   |   | Rex Roehl, Governor          |
|   |   |                   |   |                         |
|   |   |                   |   |                         |
| Date:  |   | January 28,  2010 |   | /s/ Luke Spalj               |
|   |   |                   |   | Luke Spalj, Governor         |

 

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