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**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

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**FORM 10-KSB**

 

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**x****  Annual report under Section 13 or15(d) of the Securities Exchange Act of 1934.**

 

**For thefiscal year ended October 31, 2008**

 

**o****  Transition report under Section 13 or15(d) of the Exchange Act.**

** **

**For thetransition period from         to          **

 

**Commissionfile number 333-137482**

** **

**HIGHWATER ETHANOL, LLC**

(Name of small business issuerin its charter)

 

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

 

| **205 S.  Main Street, PO Box 96, Lamberton, MN** | ** ** | **56152**  |
|---------------------------------------------------|------------|------------|
| (Address of  principal executive offices)         |       | (Zip Code) |

 

**(507)752-6160**

(Issuer’s telephone number)

 

Securities registered under Section 12(b) ofthe Exchange Act:

**None**

 

Securities registered under Section 12(g) ofthe Exchange Act:

**None**

** **

Check whether the issuer is not required to filereports pursuant to Section 13 or 15(d) of the Exchange Act.  £

 

Check whether the issuer (1) filed allreports required to be filed by Section 13 or 15(d) of the ExchangeAct during the past 12 months (or for such shorter period that the registrantwas required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.    x  Yes        £  No

 

Check if thereis no disclosure of delinquent filers in response to Item 405 of Regulation S-Bis not contained in this form, and no disclosure will be contained, to the bestof registrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-KSB or anyamendment to this Form 10-KSB.  x

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule 12b-2of the Exchange Act).

o  Yes                  x  No

 

State issuer’s revenues for its most recent fiscal year.  **None**

 

As of January 25, 2009, the aggregate market value of themembership units held by non-affiliates (computed by reference to the mostrecent offering price of such membership units) was $47,350,000.  The Company is a limited liability companywhose outstanding common equity is subject to significant restrictions ontransfer under its Member Control Agreement.  No public market for common equity of HighwaterEthanol, LLC is established and it is unlikely in the foreseeable future that apublic market for its common equity will develop.

 

As of January 25, 2009, there were 4,953 membership unitsoutstanding.

 

Transitional Small Business Disclosure Format (Check one):                     £  Yes                T  No

 

 

 

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**Tableof Contents**

 
| **PART I**                                                                                                             | **4**      |
|-----------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                                                                                                  | ** ** |
| **ITEM 1. DESCRIPTION OF BUSINESS**                                                                                         | **4**      |
| **ITEM 1A. RISK FACTORS**                                                                                                   | **19**     |
| **ITEM 2. DESCRIPTION OF PROPERTY**                                                                                         | **24**     |
| **ITEM 3. LEGAL PROCEEDINGS**                                                                                               | **24**     |
| **ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF  SECURITY HOLDERS**                                                            | **24**     |
| ** **                                                                                                                  | ** ** |
| **PART II**                                                                                                            | **24**     |
| ** **                                                                                                                  | ** ** |
| **ITEM 5. MARKET FOR COMMON EQUITY AND  RELATED MEMBER MATTERS**                                                            | **24**     |
| **ITEM 6. MANAGEMENT’S DISCUSSION AND  ANALYSIS OR PLAN OF OPERATION**                                                 | **26**     |
| **ITEM 7. FINANCIAL STATEMENTS**                                                                                            | **38**     |
| **ITEM 8. CHANGES IN AND DISAGREEMENTS WITH  ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE**                           | **55**     |
| **ITEM 8A(T). CONTROLS AND PROCEDURES**                                                                                     | **55**     |
| **ITEM 8B. OTHER INFORMATION**                                                                                              | **56**     |
| ** **                                                                                                                  | ** ** |
| **PART III**                                                                                                           | **56**     |
| ** **                                                                                                                  | ** ** |
| **ITEM 9. DIRECTORS; EXECUTIVE OFFICERS AND  CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT** | **56**     |
| **ITEM 10. EXECUTIVE COMPENSATION**                                                                                         | **58**     |
| **ITEM 11. SECURITY OWNERSHIP OF CERTAIN  BENEFICIAL OWNERS AND MANAGEMENT AND RELATED MEMBER MATTERS**                     | **59**     |
| **ITEM 12. CERTAIN RELATIONSHIPS AND RELATED  TRANSACTIONS**                                                                | **60**     |
| **ITEM 13. EXHIBITS**                                                                                                       | **62**     |
| **ITEM 14. PRINCIPAL ACCOUNTANT FEES AND  SERVICES**                                                                        | **64**     |
| ** **                                                                                                                  | ** ** |
| **SIGNATURES**                                                                                                              | **64**     |

 

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**Forward Looking Statements**

 

This report contains forward-lookingstatements that involve future events, our future performance and our expectedfuture operations and actions. In some cases you can identify forward-lookingstatements by the use of words such as “may,” “should,” “will,” “anticipate,” “believe,”“expect,” “plan,” “future,” “intend,” “could,” “estimate,” “predict,” “hope,” “potential,”“continue,” or the negative of these terms or other similar expressions. Manyof these forward-looking statements are located in this report under Item 1, “Descriptionof Business;” Item 1A, “Risk Factors,” Item 2, “Description of Property;” andItem 6, “Management’s Discussion and Analysis or Plan of Operations,” but theymay appear in other sections as well.

 

These forward-lookingstatements are only our predictions and involve numerous assumptions, risks anduncertainties. Important factors that could significantly affect ourassumptions, plans, anticipated actions and future financial and other resultsinclude, among others, those matters set forth in the section of this report inItem 1A - “Risk Factors.”  You are urgedto consider all of those risk factors when evaluating any forward-lookingstatement, and we caution you not to put undue reliance on any forward-lookingstatements.

 

You should read thisreport thoroughly with the understanding that our actual results may differmaterially from those set forth in the forward-looking statements for manyreasons, including events beyond our control and assumptions that prove to beinaccurate or unfounded.  We cannotprovide any assurance with respect to our future performance or results.  While it is impossible to identify all suchfactors, factors that could cause actual results to differ materially fromthose estimated by us include

 
|   | · | Changes in our business strategy, capital  improvements or development plans;                                                                                          |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   | · | Construction delays and technical difficulties in  constructing the plant;                                                                                             |
|   | · | Increases in the cost of construction;                                                                                                                            |
|   | · | Changes in the environmental regulations or in our  ability to comply with the environmental regulations that apply to our plant  site and our anticipated operations; |
|   | · | Changes in general economic conditions or the  occurrence of certain events causing an economic impact in the agriculture,  oil or automobile industries;         |
|   | · | Changes in the availability and price of corn and  natural gas and the market for ethanol and distillers grains;                                                  |
|   | · | Our anticipated inelastic demand for corn, as it  is the only available feedstock for our plant;                                                                       |
|   | · | Difficulties we may encounter during the  construction of our plant;                                                                                              |
|   | · | Changes in federal and/or state laws (including  the elimination of any federal and/or state ethanol tax incentives);                                             |
|   | · | Changes and advances in ethanol production  technology that may make it more difficult for us to compete with other  ethanol plants utilizing such technology;    |
|   | · | Competition from alternative fuel  additives;                                                                                                                          |
|   | · | Our inability to secure credit that we may  require in the future;                                                                                                     |
|   | · | Lack of transport, storage and blending  infrastructure preventing ethanol from reaching high demand markets;                                                          |
|   | · | Changes in interest rates and lending  conditions;                                                                                                                     |
|   | · | Volatile commodity and financial markets;  and                                                                                                                         |
|   | · | Ethanol supply exceeding demand and  corresponding ethanol price reductions.                                                                                           |

 

The cautionary statements referred to in thissection also should be considered in connection with any subsequent written ororal forward-looking statements that may be issued by us or any persons actingon our behalf. We are not under any duty to update the forward-lookingstatements contained in this report. We cannot guarantee future results, levelsof activity, performance or achievements. We caution you not to put unduereliance on any forward-looking statements, which speak only as of the date ofthis report. You should read this report and the documents that we reference inthis report and have filed as exhibits completely and with the understandingthat our actual future results may be materially different from what wecurrently expect. We qualify all of our forward-looking statements by thesecautionary statements.

 

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**AVAILABLEINFORMATION**

 

Our website address is www.highwaterethanol.com.  Our annual report on Form 10-KSB,quarterly reports on Form 10-QSB, current reports on Form 8-K, andamendments to those reports filed or furnished pursuant to Section 13(a) or15(d) of the Securities Exchange Act of 1934 (the “Exchange Act”), areavailable, free of charge, on our website at www.highwaterethanol.com under thelink “Invest,” as soon as reasonably practicable after we electronically filesuch materials with, or furnish such materials to, the Securities and ExchangeCommission.  The contents of our websiteare not incorporated by reference in this annual report on Form 10-KSB.

 

**PART I**

 

**ITEM 1.  DESCRIPTION OF BUSINESS.**

 

**Business Development**

 

Highwater Ethanol, LLC (“we,” “our,” “HighwaterEthanol” or the “Company”) is a development-stage Minnesota limitedliability company organized on May 2, 2006, for the purpose of developing,constructing, owning and operating a 50 million gallon per year ethanol plantnear Lamberton, Minnesota in Redwood County. We have not yet engaged in the production of ethanol or distillersgrains.  Based upon engineeringspecifications from our design-builder, Fagen, Inc., we expect the ethanolplant, once built, will process approximately 18.5 million bushels of corn peryear into 50 million gallons of denatured fuel grade ethanol and 160,000 tonsof dried distillers grains with solubles.

 

As of our fiscal yearended October 31, 2008, construction of our ethanol plant is progressingon schedule.  Construction of the projectis expected to take 16 to 18 months from the date site work commenced. Wecommenced site work in November 2007. Our notice to proceed with construction to Fagen, Inc. was executedon April 7, 2008.  We anticipatethat our plant will be operational in May 2009.

 

OnSeptember 28, 2006, we entered into a design-build contract with Fagen, Inc.for the design and construction of the ethanol plant for a total price of$66,026,000, which doesnot include change orders or increases in the costs of materials provided bythe Construction Cost Index published by Engineering News-RecordMagazine (“CCI”) costs escalatorprovision contained in the design-build agreement.  The design-build agreement provided for anupward adjustment of the construction price over the CCI published in January 2006of 7660.29.  As the notice to proceed wasexecuted in April 2008, the contract price increased with change orders,to approximately $69,950,000.  Webudgeted for this potential increase within our CCI Contingency andConstruction Contingency estimates, which we believe covers the increase.

 

We are financing the development andconstruction of the ethanol plant with a combination of equity and debt.  Also, in April 2008, we enteredinto a long term equipment lease agreement with the City of Lamberton, Minnesota,(the “City”) in order to finance equipment for the plant.  Based upon our current total project cost of$113,580,000, we expect our equity and debt sources to be sufficient tocomplete plant construction and begin start-up operations.  See **“Item6. Management’s Discussion and Analysis or Plan of Operation—Liquidity andCapital Resources”** for additional discussion of projectcapitalization.

 

**Principal Products and Markets**

 

The principal products we anticipate producing atthe plant are fuel-grade ethanol and distillers grains.  Raw carbon dioxide gas is another co-productof the ethanol production process but we have no plans to capture or market itat this time.

 

***Ethanol***

 

Ethanol isethyl alcohol, a fuel component made primarily from corn and various othergrains.  According tothe Renewable Fuels Association, approximately 85 percent of ethanol inthe United States today is produced from corn, and approximately90 percent of ethanol is produced from a corn and other input mix. Theethanol we 

 

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expectto produce is manufactured from corn. Corn produces large quantities of carbohydrates, which convert intoglucose more easily than most other kinds of biomass. The Renewable FuelsAssociation estimates current annual domestic ethanol production capacity is atapproximately 10.58 billion gallons as of January 8, 2009.

 

An ethanolplant is essentially a fermentation plant. Ground corn and water are mixed with enzymes and yeast to produce asubstance called “beer,” which contains about 10% alcohol and 90% water.  The “beer” is boiled to separate the water,resulting in ethyl alcohol, which is then dehydrated to increase the alcoholcontent.  This product is then mixed witha certified denaturant to make the product unfit for human consumption andcommercially saleable.

 

Ethanol canbe used as: (i) an octane enhancer in fuels; (ii) an oxygenated fueladditive for the purpose of reducing ozone and carbon monoxide vehicleemissions; and (iii) a non-petroleum-based gasoline substitute.  Approximately 95% of all ethanol is used inits primary form for blending with unleaded gasoline and other fuelproducts.  Used as a fuel oxygenate,ethanol provides a means to control carbon monoxide emissions in largemetropolitan areas.  The principalpurchasers of ethanol are generally the wholesale gasoline marketer or blender.  The principal markets for our ethanol arepetroleum terminals in the continental United States.

 

***Distillers Grains***

 

Theprincipal co-product of the ethanol production process is distillers grains, ahigh protein, high-energy animal feed supplement primarily marketed to thedairy, beef, poultry and swine industries. Distillers grains contain by-pass protein that is superior to otherprotein supplements such as cottonseed meal and soybean meal.  By-pass proteins are more digestible to theanimal, thus generating greater lactation in milk cows and greater weight gainin beef cattle.  Distillers grains canalso be included in the rations of breeder hens and laying hens which canpotentially contain up to 20% and 15% distillers grains, respectively.  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 havea slightly longer shelf life of approximately ten days and are 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.

 

***Local Ethanol and DistillersGrains Markets***

 

As describedbelow in “*Distribution of Principal Products*,” weintend to market and distribute our ethanol and distillers grains through thirdparties.  Whether or not ethanol ordistillers grains produced by our ethanol plant are sold in local markets willdepend on decisions made in cooperation with our marketers.

 

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.

 

***Regional Ethanol Markets***

 

Typically aregional market is one that is outside of the local market, yet within theneighboring states.  We believe our regional market is within a 450-mileradius of our plant and will be serviced by rail.  We are in the process of constructing atwo-mile side rail track for our plant so that we may load unit trains allowingus to more effectively reach regional and national markets.  Becauseethanol use results in less air pollution than regular gasoline, regionalmarkets typically include large cities that are subject to anti-smog measuressuch as either carbon monoxide or ozone non-attainment areas.

 

***National Ethanol Markets***

 

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.  The passage of the Energy Independence andSecurity Act of 2007, which increased the Renewable Fuels Standard 

 

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(“RFS”), may encourageblenders to increase blending of ethanol. We expect that voluntary usage by blenders will occur only if the priceof ethanol makes increased blending economical. In addition, we believe that heightened consumer awareness and consumerdemand for ethanol-blended gasoline may play an important role in growingoverall ethanol demand and voluntary usage by blenders.  If blenders do not voluntarily increase theamount of ethanol blended into gasoline and consumer awareness does notincrease, it is possible that additional ethanol supply will outpace demand andfurther depress ethanol prices.

 

**Distribution of Principal Products**

 

Our ethanolplant will be located near Lamberton, Minnesota in Redwood County.  We selected the site because of its locationto existing ethanol consumption and accessibility to road and railtransportation.  We purchased the realestate that encompasses the site in March 2007, pursuant to the terms ofthe option agreements which we had previously executed.  Our site is in close proximity to rail andmajor highways that connect to major population centers such as Minneapolis,Minnesota, Detroit, Michigan, and Chicago, Illinois.

 

***Ethanol Distribution***

 

Wehave entered into an ethanol marketing agreement with Renewable ProductsMarketing Group, LLC (“RPMG”) pursuant to which RPMG will be our exclusiveethanol marketer.  RPMG will use its bestefforts to market and obtain the best price for the ethanol we expect toproduce in exchange for a percentage of the price we receive for each gallon ofethanol sold.  The initial term of theRPMG agreement is for 24 months and shall be automatically extended for 12months unless either party gives the other prior written notice.  The RPMG agreement can be terminated for anyuncured breach of the terms of the agreement. In the event the agreement is not renewed, Highwater may assume certainrail car leases currently controlled by RPMG.

 

***Distillers Grains Distribution***

 

We entered into a distillers grainsmarketing agreement with CHS, Inc. CHS, Inc. is a diversified energy, grains and foods company ownedby farmers, ranchers and cooperatives. CHS, Inc. provides products and services ranging from grainmarketing to food processing to meet the needs of its customers around theworld.  CHS, Inc. will market ourdistillers grains and we will receive a percentage of the selling priceactually received by CHS, Inc. in marketing our distillers grains to itscustomers.  Under the agreement, CHS, Inc.will pay to us a price equal to 98% of the FOB plant price actually received byCHS, Inc. for all dried distillers grains removed by CHS, Inc. fromour plant and a price equal to 96% of the FOB plant price actually received byCHS, Inc. for all our wet distillers grains.  The term of our agreement with CHS, Inc.is for one year commencing as of the completion and start-up of the 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 not introduced any new products orservices during this fiscal year.

 

**Federal EthanolSupports and Governmental Regulation**

 

***Federal Ethanol Supports***

 

*Food, Conservationand Energy Act of 2008*

 

OnJune 18, 2008, the United States Congress overrode a presidential veto ofthe Food, Conservation and Energy Act of 2008, otherwise known as the Farm Billto ensure that all parts of the 2008 Farm Bill are enacted into law.  Passage of the 2008 Farm Bill reauthorizesthe 2002 farm bill and adds new provisions regarding energy, conservation, ruraldevelopment, crop insurance as well as other subjects.  The energy title continues the energyprograms contained in the 2002 farm bill but refocuses certain provisions onthe development of cellulosic ethanol technology.  The new legislation provides assistance forthe production, storage and transport of cellulosic feedstocks and providessupport for ethanol production from such feedstocks in the form of grants,loans and loan 

 

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guarantees.  The 2008 Farm Bill also modifies the ethanolfuel credit from 51 cents per gallon to 45 cents per gallon beginning in2009.  The bill also extends the 54 centper gallon tariff on imported ethanol for two years, to January 2011.  The 2008 Farm Bill is distinct from theEnergy Independence and Security Act of 2007, which contains the renewablefuels standards as described below.

 

*Energy Independence and Security Act of 2007*

 

The effect of the renewable fuel standard (“RFS”) program in the EnergyIndependence and Security Act signed into law on December 19, 2007 (the “2007Act”) is uncertain.  The mandated minimumlevel of use of renewable fuels in the RFS under the 2007 Act increased to 9billion gallons per year in 2008 (from 5.4 billion gallons under the RFSenacted in 2005), and is scheduled to increase to 36 billion gallons per yearin 2022.  Only a portion of the renewablefuel used to satisfy the expanded RFA may come from conventional corn-basedethanol.  The 2007 Act requires theincreased use of “advanced” biofuels, which are alternative biolfuels producedwithout using corn starch such as cellulosic ethanol and biomass-based diesel,with 21 billion gallons of the mandated 36 billion gallons of renewable fuelrequired to come from advanced biofuels by 2022.  Required RFS volumes for both general andadvanced renewable fuels in years to follow 2022 will be determined by agovernmental administrator, in coordination with the U.S. Department of Energyand U.S. Department of Agriculture.  Thescheduled RFS for 2009 is approximately 11 billion gallons.  While the provisions in the 2007 Act areintended to stimulate an increase in the usage and price of ethanol, there isno guarantee or assurance that this legislation will have the desired impact onthe ethanol industry.

 

The 2007 Act alsoauthorizes several grants for the advancement of the renewable fuelsindustry.  It authorizes $500 millionannually through 2015 for the production of advanced biofuels that have atleast an 80% reduction in Greenhouse Gas emissions.  In addition, it authorizes $25 millionannually through 2010 for research and development and commercial applicationof biofuels production in states with low rates of ethanol and cellulosicethanol production.  Further, $200million annually through 2014 is authorized for infrastructure grants for theinstallation of E85 fuel pumps.  Fundingis also dedicated for government departments to conduct studies on the feasibilityof constructing a dedicated ethanol pipeline, the adequacy of railtransportation of renewable fuel and the impact of the RFS program on variousindustries such as the livestock and food industry.

 

Under the RFS, as originally passed as part of the Energy Policy Act of2005, the U.S. Environmental Protection Agency, or EPA, in consultation withthe Secretary of Agriculture and the Secretary of Energy, may waive therenewable fuels mandate with respect to one or more states if the Administratorof the EPA determines upon the petition of one or more states that implementingthe requirements would severely harm the economy or the environment of a state,a region or the nation, or that there is inadequate supply to meet therequirement.  Any waivers of the RFSminimum levels of renewable fuels included in gasoline could have a materialadverse effect on our results of operations.

 

The Renewable Fuels Association estimates that current domestic ethanolproduction as of January 2009 is approximately 10.58 billion gallons.  This high level of ethanol production isplacing downward pressure on the price of ethanol as demand has struggled tokeep pace with the increase in supply. Downward pressure on the price of ethanol could have a negative impacton our future profitability.

 

***Effect of Governmental Regulation***

 

The ethanolindustry and our business depend upon continuation of the federal ethanolsupports discussed above.  Theseincentives have supported a market for ethanol that might disappear without theincentives.  Alternatively, theincentives may be continued at lower levels. The elimination or reduction of such federal ethanol supports would makeit more costly for us to sell our ethanol once we are operational and would likelyreduce our net income and negatively impact our future financial performance.

 

The government’s regulation of the environmentchanges constantly.  We are subject tovarious federal, state and local environmental laws and regulations, includingthose relating to the discharge of materials into the air, water and ground,the generation, storage, handling, use, transportation and disposal ofhazardous materials, and the health and safety of employees.  In addition, some of these laws andregulations require our plant to operate under

 

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permitsthat are subject to renewal or modification. It is possible that more stringent federal or state environmental rules orregulations could be adopted, which could increase our operating costs andexpenses.

 

Our business may be indirectly affected byenvironmental regulation of the agricultural industry as well.  It also is possible that federal or stateenvironmental rules or regulations could be adopted that could have anadverse effect on the use of ethanol. For example, changes in the environmental regulations regarding therequired oxygen content of automobile emissions could have an adverse effect onthe ethanol industry.  Regulation of CO2emissions could have an adverse effect on the use of ethanol.  Furthermore, our plant operations likely willbe governed by the Occupational Safety and Health Administration (“OSHA”).  OSHA regulations may change such that thecosts of the operation of the plant may increase.  Any of these regulatory factors may result inhigher costs or other materially adverse conditions effecting our operations,cash flows and financial performance.

 

**Competition**

 

We will be in direct competition with numerousethanol producers, many of whom have greater resources than we do.  During our 2008 fiscal year, there wasrelatively slower growth in the number of new ethanol producers entering themarket due to high corn prices and relatively lower ethanol prices as comparedto 2006 and 2005.  We anticipate thatethanol production will continue to increase in order to meet the ethanol usemandates included in the Federal Renewable Fuels Standard.  However, we also expect increased competitionfrom other forms of renewable energy, specifically cellulosic ethanol.

 

Cellulose is the main component of plant cell wallsand is the most common organic compound on earth.  Cellulose is found in wood chips, cornstalks, rice straw, amongst other common plants. Cellulosic ethanol is ethanolproduced from cellulose.  Many of thegovernment incentives that have recently been passed, including the expandedRenewable Fuels Standard and the 2008 Farm Bill, have included significantincentives to assist in the development of commercially viable cellulosic ethanol.  Currently, the technology is not sufficientlyadvanced to produce cellulosic ethanol on a commercial scale, however, due tothese new government incentives, we anticipate that commercially viablecellulosic ethanol technology will be developed in the near 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.

 

Ethanol is a commodity product, like corn, whichmeans our ethanol plantcompetes with other ethanol producers on the basis of price and, to a lesserextent, delivery service.  We believe wewill compete favorably with other ethanol producers due to our proximity toample grain supplies and multiple modes of transportation.  However, during our 2008 fiscal year, someconsolidation of the ethanol industry occurred, especially with the merger betweenVerasun Energy and U.S. BioEnergy. Management believes that conditions are right for further consolidationin the ethanol industry.  Managementbelieves this is especially true as a result of the significant financialhardship that has been occurring in the ethanol industry recently.  Consolidation in the ethanol industry may putus at a competitive disadvantage compared to other larger ethanolproducers.  Largerethanol producers may realize economies of scale in the production of ethanoland distillers grains that we cannot take advantage of, specifically withrespect to larger sales of ethanol and increased bargaining power for rawmaterials, including corn and natural gas.

 

According to the Nebraska Energy Office and theRenewable Fuels Association, as of October 2008, Minnesota had 21operational ethanol plants with the capacity to produce approximately 842million gallons of ethanol per year.  Inaddition, there are another two plants under construction and one plant under goingan expansion which are expected to produce an additional 275 million gallons ofethanol per year.  According to theMinnesota Pollution Control Agency there is at least one more facility proposedor in the early planning stages. Additionally, according to the Renewable FuelsAssociation, as of January 8, 2009, the ethanol industry has grown to 172production facilities in the United States. There are 23 new plants currentlyunder construction along with approximately 8 plant expansions.  The Renewable Fuels Association currentlyestimates that the United States ethanol industry has capacity to producenearly 10.58 billion gallons of ethanol per year.  The new ethanol plants under constructionalong with the plant expansions under construction could push United Statesproduction of fuel 

 

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ethanolin the near future to nearly 13 billion gallons per year.  The largest ethanol producers include POET,Archer Daniels Midland, Vera Sun Energy Corporation and Hawkeye Renewables eachof which are capable of producing more ethanol than we produce.  However, VeraSun recently filed for Chapter11 Bankruptcy which may result in the sale of some or all of VeraSun’s ethanolproduction facilities.  However, otherethanol producers may be in a position to purchase the assets of VeraSun whichcould further consolidate the ethanol industry.

 

The following table identifies most ofthe ethanol producers in the United States along with their productioncapacities.

 

**U.S. FUEL ETHANOLBIOREFINERIES AND PRODUCTION CAPACITY**

**milliongallons per year (mmgy)**

** **
| ****Company****                        | **** **** | ****Location****   | **** **** | ****Feedstock**** | **** **** | ****Operating  Capacity (mgy)**** | **** **** | ****Expansion  Capacity   (mgy)**** | **** **** | ****Under  Construction  Capacity   (mgy)**** | **** **** |
|----------------------------------------|----------------|--------------------|----------------|-------------------|----------------|----------------------------------------|----------------|------------------------------------------|----------------|----------------------------------------------------|----------------|
| Abengoa Bioenergy Corp. (Total)        |           |               |           |              |           | 168.0                                  |           |                                     |           | 176.0                                              |           |
| Abengoa Bioenergy Corp.                |           | Madison, IL        |           | corn              |           |                                   |           |                                     |           |                                               |           |
| Abengoa Bioenergy Corp.                |           | Mt. Vernon, IN     |           | corn              |           |                                   |           |                                     |           |                                               |           |
| Abengoa Bioenergy Corp.                |           | Colwich, KS        |           | corn/milo         |           |                                   |           |                                     |           |                                               |           |
| Abengoa Bioenergy Corp.                |           | Ravenna, NE        |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Abengoa Bioenergy Corp.                |           | York, NE           |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Absolute Energy, LLC*                  |           | St. Ansgar, IA     |           | Corn              |           | 100.0                                  |           |                                     |           |                                               |           |
| ACE Ethanol, LLC                       |           | Stanley, WI        |           | Corn              |           | 41.0                                   |           |                                     |           |                                               |           |
| Adkins Energy, LLC*                    |           | Lena, IL           |           | Corn              |           | 40.0                                   |           |                                     |           |                                               |           |
| Advanced Bioenergy, LLC                |           | Fairmont, NE       |           | Corn              |           | 100.0                                  |           |                                     |           |                                               |           |
| Advanced Bioenergy, LLC                |           | Aberdeen,  SD |           | Corn              |           | 50.0                                   |           |                                     |           |                                               |           |
| Advanced Bioenergy, LLC                |           | Huron, SD          |           | Corn              |           | 32.0                                   |           | 33.0                                     |           |                                               |           |
| Ag Energy Resources, Inc.         |           | Benton, IL         |           | corn              |           |                                   |           |                                     |           | 5.0                                                |           |
| AGP*                                   |           | Hastings, NE       |           | Corn              |           | 52.0                                   |           |                                     |           |                                               |           |
| Agri-Energy, LLC*                      |           | Luverne, MN        |           | Corn              |           | 21.0                                   |           |                                     |           |                                               |           |
| Al-Corn Clean Fuel*                    |           | Claremont, MN      |           | Corn              |           | 42.0                                   |           |                                     |           |                                               |           |
| Amaizing Energy, LLC*                  |           | Atlantic, IA       |           | Corn              |           |                                   |           |                                     |           | 110.0                                              |           |
| Amaizing Energy, LLC*                  |           | Denison, IA        |           | Corn              |           | 48.0                                   |           |                                     |           |                                               |           |
| Archer Daniels Midland (Total)         |           |               |           |              |           | 1,070.0                                |           | 550.0                                    |           |                                               |           |
| Archer Daniels Midland                 |           | Cedar Rapids, IA   |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Archer Daniels Midland                 |           | Clinton, IA        |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Archer Daniels Midland                 |           | Decatur, IL        |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Archer Daniels Midland                 |           | Peoria, IL         |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Archer Daniels Midland                 |           | Marshall, MN       |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Archer Daniels Midland                 |           | Wallhalla, ND      |           | Corn/barley       |           |                                   |           |                                     |           |                                               |           |
| Archer Daniels Midland                 |           | Columbus, NE       |           | Corn              |           |                                   |           |                                     |           |                                               |           |
| Arkalon Energy, LLC                    |           | Liberal, KS        |           | Corn              |           | 110.0                                  |           |                                     |           |                                               |           |
| Aventine Renewable Energy, LLC (Total) |           |               |           |              |           | 207.0                                  |           |                                     |           |                                               |           |

 

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| Aventine Renewable Energy, LLC             |   | Pekin, IL           |   | Corn      |   |   |   |   |   |   |   |
|--------------------------------------------|--------|---------------------|--------|-----------|--------|--------|--------|--------|--------|--------|--------|
| Aventine Renewable Energy, LLC             |   | Aurora, NE          |   | Corn      |   |   |   |   |   |   |   |
| Badger State Ethanol, LLC*                 |   | Monroe, WI          |   | Corn      |   | 48.0   |   |   |   |   |   |
| Big River Resources, LLC                   |   | Galva, IL           |   | Corn      |   |   |   |   |   | 100.0  |   |
| Big River Resources, LLC*                  |   | West Burlington, IA |   | Corn      |   | 92.0   |   |   |   |   |   |
| BioEnergy International                    |   | Clearfield, PA      |   | Corn      |   |   |   |   |   | 110.0  |   |
| BioFuel Energy - Buffalo Lake Energy, LLC  |   | Fairmont, MN        |   | Corn      |   | 115.0  |   |   |   |   |   |
| BioFuel Energy - Pioneer Trail Energy, LLC |   | Wood River, NE      |   | Corn      |   | 115.0  |   |   |   |   |   |
| Blue Flint Ethanol                         |   | Underwood, ND       |   | Corn      |   | 50.0   |   |   |   |   |   |
| Bonanza Energy, LLC                        |   | Garden City, KS     |   | Corn/milo |   | 55.0   |   |   |   |   |   |
| Bunge-Ergon Vicksburg                      |   | Vicksburg, MS       |   | corn      |   | 54.0   |   |   |   |   |   |
| Bushmills Ethanol, Inc.*              |   | Atwater, MN         |   | Corn      |   | 50.0   |   |   |   |   |   |
| Calgren Renewable Fuels, LLC               |   | Pixley, CA          |   | Corn      |   |   |   |   |   | 55.0   |   |
| Cardinal Ethanol                           |   | Union City, IN      |   | Corn      |   | 100.0  |   |   |   |   |   |
| Cargill, Inc.                         |   | Eddyville, IA       |   | Corn      |   | 35.0   |   |   |   |   |   |
| Cargill, Inc.                         |   | Blair, NE           |   | Corn      |   | 85.0   |   |   |   |   |   |
| Cascade Grain                              |   | Clatskanie, OR      |   | Corn      |   | 108.0  |   |   |   |   |   |
| Castle Rock Renewable Fuels, LLC           |   | Necedah, WI         |   | Corn      |   | 50.0   |   |   |   |   |   |
| Center Ethanol Company                     |   | Sauget, IL          |   | Corn      |   | 54.0   |   |   |   |   |   |
| Central Indiana Ethanol, LLC               |   | Marion, IN          |   | Corn      |   | 40.0   |   |   |   |   |   |
| Central MN Ethanol Coop*                   |   | Little Falls, MN    |   | Corn      |   | 21.5   |   |   |   |   |   |
| Chief Ethanol                              |   | Hastings, NE        |   | Corn      |   | 62.0   |   |   |   |   |   |
| Chippewa Valley Ethanol Co.*               |   | Benson, MN          |   | Corn      |   | 45.0   |   |   |   |   |   |
| Cilion Ethanol                             |   | Keyes, CA           |   | Corn      |   |   |   |   |   | 50.0   |   |
| Clean Burn Fuels, LLC                      |   | Raeford, NC         |   | Corn      |   |   |   |   |   | 60.0   |   |
| Commonwealth Agri-Energy, LLC*             |   | Hopkinsville, KY    |   | Corn      |   | 33.0   |   |   |   |   |   |
| Corn Plus, LLP*                            |   | Winnebago, MN       |   | Corn      |   | 44.0   |   |   |   |   |   |
| Corn, LP*                                  |   | Goldfield, IA       |   | Corn      |   | 55.0   |   |   |   |   |   |
| Cornhusker Energy Lexington, LLC           |   | Lexington, NE       |   | Corn      |   | 40.0   |   |   |   |   |   |
| Dakota Ethanol, LLC*                       |   | Wentworth, SD       |   | Corn      |   | 50.0   |   |   |   |   |   |
| DENCO, LLC                                 |   | Morris, MN          |   | Corn      |   | 21.5   |   |   |   |   |   |
| Didion Ethanol                             |   | Cambria, WI         |   | Corn      |   | 40.0   |   |   |   |   |   |
| E Caruso (Goodland Energy Center)          |   | Goodland, KS        |   | Corn      |   |   |   |   |   | 20.0   |   |
| E Energy Adams, LLC                        |   | Adams, NE           |   | Corn      |   | 50.0   |   |   |   |   |   |
| East Kansas Agri-Energy, LLC*              |   | Garnett, KS         |   | Corn      |   | 35.0   |   |   |   |   |   |

 

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Table of Contents

 
| ESE Alcohol Inc.                        |   | Leoti, KS          |   | Seed corn    |   | 1.5    |   |   |   |   |   |
|-----------------------------------------|--------|--------------------|--------|--------------|--------|--------|--------|--------|--------|--------|--------|
| Ethanol Grain Processors, LLC           |   | Obion, TN          |   | Corn         |   | 100.0  |   |   |   |   |   |
| Front Range Energy, LLC                 |   | Windsor, CO        |   | Corn         |   | 40.0   |   |   |   |   |   |
| Glacial Lakes Energy, LLC*              |   | Watertown, SD      |   | Corn         |   | 100.0  |   |   |   |   |   |
| Global Ethanol/Midwest Grain Processors |   | Lakota, IA         |   | Corn         |   | 97.0   |   |   |   |   |   |
| Global Ethanol/Midwest Grain Processors |   | Riga, MI           |   | Corn         |   | 57.0   |   |   |   |   |   |
| Golden Cheese Company of California*    |   | Corona, CA         |   | Cheese whey  |   | 5.0    |   |   |   |   |   |
| Golden Grain Energy, LLC*               |   | Mason City, IA     |   | Corn         |   | 115.0  |   |   |   |   |   |
| Golden Triangle Energy, LLC*            |   | Craig, MO          |   | Corn         |   | 20.0   |   |   |   |   |   |
| Grain Processing Corp.                  |   | Muscatine, IA      |   | Corn         |   | 20.0   |   |   |   |   |   |
| Granite Falls Energy, LLC*              |   | Granite Falls, MN  |   | Corn         |   | 52.0   |   |   |   |   |   |
| Greater Ohio Ethanol, LLC               |   | Lima, OH           |   | Corn         |   | 54.0   |   |   |   |   |   |
| Green Plains Renewable Energy           |   | Shenandoah, IA     |   | Corn         |   | 55.0   |   |   |   |   |   |
| Green Plains Renewable Energy           |   | Superior, IA       |   | Corn         |   | 55.0   |   |   |   |   |   |
| Hawkeye Renewables, LLC                 |   | Fairbank, IA       |   | Corn         |   | 120.0  |   |   |   |   |   |
| Hawkeye Renewables, LLC                 |   | Iowa Falls, IA     |   | Corn         |   | 105.0  |   |   |   |   |   |
| Hawkeye Renewables, LLC                 |   | Menlo, IA          |   | Corn         |   | 110.0  |   |   |   |   |   |
| Hawkeye Renewables, LLC                 |   | Shell Rock, IA     |   | Corn         |   | 110.0  |   |   |   |   |   |
| Heartland Corn Products*                |   | Winthrop, MN       |   | Corn         |   | 100.0  |   |   |   |   |   |
| Heron Lake BioEnergy, LLC               |   | Heron Lake, MN     |   | Corn         |   | 50.0   |   |   |   |   |   |
| Highwater Ethanol LLC                   |   | Lamberton, MN      |   | Corn         |   |   |   |   |   | 50.0   |   |
| Homeland Energy                         |   | New Hampton, IA    |   | Corn         |   |   |   |   |   | 100.0  |   |
| Husker Ag, LLC*                         |   | Plainview, NE      |   | Corn         |   | 75.0   |   |   |   |   |   |
| Idaho Ethanol Processing                |   | Caldwell, ID       |   | Potato Waste |   | 4.0    |   |   |   |   |   |
| Illinois River Energy, LLC              |   | Rochelle, IL       |   | Corn         |   | 100.0  |   |   |   |   |   |
| Indiana Bio-Energy                      |   | Bluffton, IN       |   | Corn         |   | 101.0  |   |   |   |   |   |
| Iroquois Bio-Energy Company, LLC        |   | Rensselaer, IN     |   | corn         |   | 40.0   |   |   |   |   |   |
| KAAPA Ethanol, LLC*                     |   | Minden, NE         |   | Corn         |   | 40.0   |   |   |   |   |   |
| Kansas Ethanol, LLC                     |   | Lyons, KS          |   | Corn         |   | 55.0   |   |   |   |   |   |
| KL Process Design Group                 |   | Upton, WY          |   | Wood waste   |   | 1.5    |   |   |   |   |   |
| Land O’ Lakes*                     |   | Melrose, MN        |   | Cheese whey  |   | 2.6    |   |   |   |   |   |
| LDCommodities                           |   | Grand Junction, IA |   | Corn         |   |   |   |   |   | 100.0  |   |
| LDCommodities                           |   | Norfolk, NE        |   | Corn         |   | 45.0   |   |   |   |   |   |
| Levelland/Hockley County Ethanol, LLC   |   | Levelland, TX      |   | Corn         |   | 40.0   |   |   |   |   |   |
| Lifeline Foods, LLC                     |   | St. Joseph, MO     |   | Corn         |   | 40.0   |   |   |   |   |   |
| Lincolnland Agri-Energy, LLC*           |   | Palestine, IL      |   | Corn         |   | 48.0   |   |   |   |   |   |

 

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| Lincolnway Energy, LLC*             |   | Nevada, IA           |   | Corn              |   | 50.0   |   |   |   |   |   |
|-------------------------------------|--------|----------------------|--------|-------------------|--------|--------|--------|--------|--------|--------|--------|
| Little Sioux Corn Processors, LP*   |   | Marcus, IA           |   | Corn              |   | 92.0   |   |   |   |   |   |
| Marquis Energy, LLC                 |   | Hennepin, IL         |   | Corn              |   | 100.0  |   |   |   |   |   |
| Marysville Ethanol, LLC             |   | Marysville, MI       |   | Corn              |   | 50.0   |   |   |   |   |   |
| Merrick & Company          |   | Aurora, CO           |   | Waste beer        |   | 3.0    |   |   |   |   |   |
| MGP Ingredients, Inc.          |   | Pekin, IL            |   | Corn/wheat starch |   | 78.0   |   |   |   |   |   |
| MGP Ingredients, Inc.          |   | Atchison, KS         |   |              |   |   |   |   |   |   |   |
| Mid America Agri Products/Horizon   |   | Cambridge, NE        |   | Corn              |   | 44.0   |   |   |   |   |   |
| Mid America Agri Products/Wheatland |   | Madrid, NE           |   | Corn              |   | 44.0   |   |   |   |   |   |
| Mid-Missouri Energy, Inc.*     |   | Malta Bend, MO       |   | Corn              |   | 50.0   |   |   |   |   |   |
| Midwest Renewable Energy, LLC       |   | Sutherland, NE       |   | Corn              |   | 25.0   |   |   |   |   |   |
| Minnesota Energy*                   |   | Buffalo Lake, MN     |   | Corn              |   | 18.0   |   |   |   |   |   |
| NEDAK Ethanol                       |   | Atkinson, NE         |   | Corn              |   |   |   |   |   | 44.0   |   |
| New Energy Corp.                    |   | South Bend, IN       |   | Corn              |   | 102.0  |   |   |   |   |   |
| North Country Ethanol, LLC*         |   | Rosholt, SD          |   | Corn              |   | 20.0   |   |   |   |   |   |
| Northeast Biofuels                  |   | Volney, NY           |   | Corn              |   | 114.0  |   |   |   |   |   |
| Northwest Renewable, LLC            |   | Longview, WA         |   | Corn              |   |   |   |   |   | 55.0   |   |
| Otter Tail Ag Enterprises           |   | Fergus Falls, MN     |   | Corn              |   | 57.5   |   |   |   |   |   |
| Pacific Ethanol                     |   | Madera, CA           |   | Corn              |   | 40.0   |   |   |   |   |   |
| Pacific Ethanol                     |   | Stockton, CA         |   | Corn              |   | 60.0   |   |   |   |   |   |
| Pacific Ethanol                     |   | Burley, ID           |   | Corn              |   | 50.0   |   |   |   |   |   |
| Pacific Ethanol                     |   | Boardman, OR         |   | Corn              |   | 40.0   |   |   |   |   |   |
| Panda Ethanol                       |   | Hereford, TX         |   | Corn/milo         |   |   |   |   |   | 115.0  |   |
| Parallel Products                   |   | Rancho Cucamonga, CA |   |              |   |   |   |   |   |   |   |
| Parallel Products                   |   | Louisville, KY       |   | Beverage waste    |   | 5.4    |   |   |   |   |   |
| Patriot Renewable Fuels, LLC        |   | Annawan, IL          |   | Corn              |   | 100.0  |   |   |   |   |   |
| Penford Products                    |   | Cedar Rapids, IA     |   | Corn              |   | 45.0   |   |   |   |   |   |
| Phoenix Biofuels                    |   | Goshen, CA           |   | Corn              |   | 31.5   |   |   |   |   |   |
| Pinal Energy, LLC                   |   | Maricopa, AZ         |   | Corn              |   | 55.0   |   |   |   |   |   |
| Pine Lake Corn Processors, LLC      |   | Steamboat Rock, IA   |   | Corm              |   | 20.0   |   |   |   |   |   |
| Platinum Ethanol, LLC*              |   | Arthur, IA           |   | Corn              |   | 110.0  |   |   |   |   |   |
| Plymouth Ethanol, LLC*              |   | Merrill, IA          |   | Corn              |   | 50.0   |   |   |   |   |   |
| POET Biorefining - Alexandria       |   | Alexandria, IN       |   | Corn              |   | 68.0   |   |   |   |   |   |
| POET Biorefining - Ashton           |   | Ashton, IA           |   | Corn              |   | 56.0   |   |   |   |   |   |
| POET Biorefining - Big Stone        |   | Big Stone City, SD   |   | Corn              |   | 79.0   |   |   |   |   |   |
| POET Biorefining - Bingham Lake     |   | Bingham Lake, MN     |   |              |   | 35.0   |   |   |   |   |   |

 

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| POET Biorefining - Caro                     |   | Caro, MI               |   | Corn       |   | 53.0   |   |   |   |   |   |
|---------------------------------------------|--------|------------------------|--------|------------|--------|--------|--------|--------|--------|--------|--------|
| POET Biorefining - Chancellor               |   | Chancellor, SD         |   | Corn       |   | 110.0  |   |   |   |   |   |
| POET Biorefining - Coon Rapids              |   | Coon Rapids, IA        |   | Corn       |   | 54.0   |   |   |   |   |   |
| POET Biorefining - Corning                  |   | Corning, IA            |   | Corn       |   | 65.0   |   |   |   |   |   |
| POET Biorefining - Emmetsburg               |   | Emmetsburg, IA         |   | Corn       |   | 55.0   |   |   |   |   |   |
| POET Biorefining - Fostoria                 |   | Fostoria, OH           |   | Corn       |   | 68.0   |   |   |   |   |   |
| POET Biorefining - Glenville                |   | Albert Lea, MN         |   | Corn       |   | 42.0   |   |   |   |   |   |
| POET Biorefining - Gowrie                   |   | Gowrie, IA             |   | Corn       |   | 69.0   |   |   |   |   |   |
| POET Biorefining - Hanlontown               |   | Hanlontown, IA         |   | Corn       |   | 56.0   |   |   |   |   |   |
| POET Biorefining - Hudson                   |   | Hudson, SD             |   | Corn       |   | 56.0   |   |   |   |   |   |
| POET Biorefining - Jewell                   |   | Jewell, IA             |   | Corn       |   | 69.0   |   |   |   |   |   |
| POET Biorefining - Laddonia                 |   | Laddonia, MO           |   | Corn       |   | 50.0   |   | 5.0    |   |   |   |
| POET Biorefining - Lake Crystal             |   | Lake Crystal, MN       |   | Corn       |   | 56.0   |   |   |   |   |   |
| POET Biorefining - Leipsic                  |   | Leipsic, OH            |   | Corn       |   | 68.0   |   |   |   |   |   |
| POET Biorefining - Macon                    |   | Macon, MO              |   | Corn       |   | 46.0   |   |   |   |   |   |
| POET Biorefining - Marion                   |   | Marion, OH             |   | Corn       |   |   |   |   |   | 65.0   |   |
| POET Biorefining - Mitchell                 |   | Mitchell, SD           |   | Corn       |   | 68.0   |   |   |   |   |   |
| POET Biorefining - North Manchester         |   | North Manchester, IN   |   | Corn       |   | 68.0   |   |   |   |   |   |
| POET Biorefining - Portland                 |   | Portland, IN           |   | Corn       |   | 68.0   |   |   |   |   |   |
| POET Biorefining - Preston                  |   | Preston, MN            |   | Corn       |   | 46.0   |   |   |   |   |   |
| POET Biorefining - Scotland                 |   | Scotland, SD           |   | Corn       |   | 11.0   |   |   |   |   |   |
| POET Biorefining- Groton                    |   | Groton, SD             |   | Corn       |   | 53.0   |   |   |   |   |   |
| Prairie Horizon Agri-Energy, LLC            |   | Phillipsburg, KS       |   | Corn       |   | 40.0   |   |   |   |   |   |
| Quad-County Corn Processors*                |   | Galva, IA              |   | Corn       |   | 30.0   |   |   |   |   |   |
| Range Fuels                                 |   | Soperton, GA           |   | Wood waste |   |   |   |   |   | 20.0   |   |
| Red Trail Energy, LLC                       |   | Richardton, ND         |   | Corn       |   | 50.0   |   |   |   |   |   |
| Redfield Energy, LLC *                      |   | Redfield, SD           |   | Corn       |   | 50.0   |   |   |   |   |   |
| Reeve Agri-Energy                           |   | Garden City, KS        |   | Corn/milo  |   | 12.0   |   |   |   |   |   |
| Renew Energy                                |   | Jefferson Junction, WI |   | Corn       |   | 130.0  |   |   |   |   |   |
| Renova Energy                               |   | Torrington, WY         |   | Corn       |   | 5.0    |   |   |   |   |   |
| Riverland Biofuels                          |   | Canton, IL             |   | corn       |   | 37.0   |   |   |   |   |   |
| Show Me Ethanol                             |   | Carrollton, MO         |   | Corn       |   | 55.0   |   |   |   |   |   |
| Siouxland Energy & Livestock Coop* |   | Sioux Center, IA       |   | Corn       |   | 60.0   |   |   |   |   |   |
| Siouxland Ethanol, LLC                      |   | Jackson, NE            |   | Corn       |   | 50.0   |   |   |   |   |   |
| Southwest Georgia Ethanol, LLC              |   | Mitchell Co., GA       |   | Corn       |   | 100.0  |   |   |   |   |   |

 

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| Southwest Iowa Renewable Energy, LLC *   |   | Council Bluffs, IA |           | Corn                                                      |           |                                       |           |                                                             |   | 110.0  |   |
|------------------------------------------|--------|--------------------|----------------|-----------------------------------------------------------|----------------|--------------------------------------------|----------------|------------------------------------------------------------------|--------|--------|--------|
| Sterling Ethanol, LLC                    |   | Sterling, CO       |           | Corn                                                      |           | 42.0                                       |           |                                                             |   |   |   |
| Tate & Lyle                     |   | Ft. Dodge, IA      |           | Corn                                                      |           |                                       |           |                                                             |   | 105.0  |   |
| Tate & Lyle                     |   | Loudon, TN         |           | Corn                                                      |           | 67.0                                       |           | 38.0                                                             |   |   |   |
| Tharaldson Ethanol                       |   | Casselton, ND      |           | Corn                                                      |           |                                       |           |                                                             |   | 110.0  |   |
| The Andersons Albion Ethanol LLC         |   | Albion, MI         |           | Corn                                                      |           | 55.0                                       |           |                                                             |   |   |   |
| The Andersons Clymers Ethanol, LLC       |   | Clymers, IN        |           | Corn                                                      |           | 110.0                                      |           |                                                             |   |   |   |
| The Andersons Marathon Ethanol, LLC      |   | Greenville, OH     |           | Corn                                                      |           | 110.0                                      |           |                                                             |   |   |   |
| Trenton Agri Products, LLC               |   | Trenton, NE        |           | Corn                                                      |           | 40.0                                       |           |                                                             |   |   |   |
| United Ethanol                           |   | Milton, WI         |           | Corn                                                      |           | 52.0                                       |           |                                                             |   |   |   |
| United WI Grain Producers, LLC*          |   | Friesland, WI      |           | Corn                                                      |           | 49.0                                       |           |                                                             |   |   |   |
| Utica Energy, LLC                        |   | Oshkosh, WI        |           | Corn                                                      |           | 48.0                                       |           |                                                             |   |   |   |
| VeraSun Energy Corporation (Total)       |   |               |           |                                                      |           | 450.0                                      |           |                                                             |   | 110.0  |   |
| VeraSun Energy Corporation               |   | Charles City, IA   |           | Corn                                                      |           |                                       |           |                                                             |   |   |   |
| VeraSun Energy Corporation               |   | Ft. Dodge, IA      |           | Corn                                                      |           |                                       |           |                                                             |   |   |   |
| VeraSun Energy Corporation               |   | Hartley, IA        |           | Corn                                                      |           |                                       |           |                                                             |   |   |   |
| VeraSun Energy Corporation               |   | Welcome, MN        |           | Corn                                                      |           |                                       |           |                                                             |   |   |   |
| VeraSun Energy Corporation               |   | Aurora, SD         |           | Corn                                                      |           |                                       |           |                                                             |   |   |   |
| Verenium                                 |   | Jennings, LA       |           | Sugar Cane bagasse                                        |           | 1.5                                        |           |                                                             |   |   |   |
| Western New York Energy LLC              |   | Shelby, NY         |           |                                                      |           | 50.0                                       |           |                                                             |   |   |   |
| Western Plains Energy, LLC*              |   | Campus, KS         |           | Corn                                                      |           | 45.0                                       |           |                                                             |   |   |   |
| Western Wisconsin Renewable Energy, LLC* |   | Boyceville, WI     |           | Corn                                                      |           | 40.0                                       |           |                                                             |   |   |   |
| White Energy                             |   | Russell, KS        |           | Milo/wheat starch                                         |           | 48.0                                       |           |                                                             |   |   |   |
| White Energy                             |   | Hereford, TX       |           | Corn/Milo                                                 |           | 100.0                                      |           |                                                             |   |   |   |
| White Energy                             |   | Plainview, TX      |           | Corn                                                      |           | 100.0                                      |           |                                                             |   |   |   |
| Wind Gap Farms                           |   | Baconton, GA       |           | Brewery waste                                             |           | 0.4                                        |           |                                                             |   |   |   |
| Xethanol BioFuels, LLC                   |   | Blairstown, IA     |           | Corn                                                      |           | 5.0                                        |           |                                                             |   |   |   |
| Yuma Ethanol                             |   | Yuma, CO           |           | Corn                                                      |           | 40.0                                       |           |                                                             |   |   |   |
| ****TOTALS****                           |   |               | **** **** | ****10,582.9****

mgy for ****172****operating refineries | **** **** | ****626.0****mgy for expanding  refineries | **** **** | ****1,770.0****

mgy for ****23****refineries under construction |   |   |   |

 

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* locally-owned

 

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# plant underconstruction 

Chart taken fromthe Renewable Fuels Association at www.ethanolrfa.org

Updated:  January 8,2009

 

**Competition from Alternative Fuels**

 

Alternativefuels and ethanol production methods are continually under development byethanol and oil companies with far greater resources.  The major oil companies have significantlygreater resources than we have to develop alternative products and to influencelegislation and public perception of ethanol. New ethanol products or methods of ethanol production developed bylarger and better-financed competitors could provide them competitiveadvantages and harm our business.

 

The current trend in ethanol production researchis to develop an efficient method of producing ethanol from cellulose-basedbiomass, such as agricultural waste, forest residue, municipal solid waste, andenergy crops.   The biomass trend isdriven by the fact that cellulose-based biomass is generally cheaper than corn,and producing ethanol from cellulose-based biomass would create opportunitiesto produce ethanol in areas which are unable to grow corn.  We do not believe it will be cost-effectiveto convert the ethanol plant we are currently constructing into a plant whichwill use cellulose-based biomass to produce ethanol.  As a result, it is possible we could beunable to produce ethanol as cost-effectively as cellulose-based producers.

 

Ethanol supply is also affected by ethanol producedor processed in certain countries in Central America and the Caribbeanregion.  Ethanol produced in thesecountries is eligible for tariff reduction or elimination upon importation tothe United States under a program known as the Caribbean Basin Initiative(CBI).  Ethanol imported from CaribbeanBasin countries may be a less expensive alternative to domestically producedethanol.  According to the Farm Bureau,the U.S. International Trade Commission (USITC) announced the 2008CBI import quota, which will allow approximately 450 million gallonsof duty-free ethanol to enter the U.S., up from 350 million gallonsin 2007.  The USITC has yet toannounce the 2009 CBI import quota. Currently there is a $0.54 per gallon tariff on foreign produced ethanolwhich is scheduled to expire in January 2011.

 

***Distillers Grains Competition***

 

Ethanol plants in the Midwest produce themajority of distillers grains and primarily compete with other ethanolproducers in the production and sales of distillers grains.  According to the Renewable Fuels Association’sEthanol Industry Outlook 2008, ethanol plants produced 12 million metric tonsof distillers grains in 2006 and 14 million metric tons in 2007.  The primary consumers of distillers grainsare dairy and beef cattle.  In recentyears, an increasing amount of distillers grains have been used in the swineand poultry markets.  With theadvancement of research into the feeding rations of poultry and swine, weexpect these markets to expand and create additional demand for distillersgrains; however, no assurance can be given that these markets will in factexpand, or if they do, that we will benefit from it.  The market for distillers grains is generallyconfined to locations where freight costs allow it to be competitively pricedagainst other feed ingredients.

 

**Sources andAvailability of Raw Materials**

 

***CornFeedstock Supply***

 

The majorraw material required for our ethanol plant to produce ethanol and distillersgrain is corn.  To produce 50 milliongallons of ethanol per year, our ethanol plant will need approximately 18.5million bushels of corn per year, as the feedstock for its dry millingprocess.  We expect to obtain the cornsupply for our plant primarily from local markets, but may be required topurchase some of the corn we need from other markets and transport it to ourplant via truck or rail.   Traditionally,corn grown in the area of the plant site has been fed locally to livestock orexported for feeding or processing and/or overseas export sales.

 

We have entered into a grain procurement agreementwith Meadowland Farmers Co-op (“Meadowland”). Meadowland has the exclusive right and responsibility to provide us withour daily requirements of corn meeting quality specifications set forth in thegrain procurement agreement.  Under theagreement, we will purchase corn at the local market price delivered to theethanol plant plus a fixed fee per bushel of corn purchased.  We will provide

 

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Meadowlandwith an estimate of our usage at the beginning of each fiscal quarter and Meadowlandagrees to at all times maintain a minimum of 7 days corn usage at ourplant.  The initial term of the agreementis 7 years from the time we request our first delivery of corn.

 

We will be significantly dependent on theavailability and price of corn. The price at which we will purchase corn willdepend on prevailing market prices. Corn prices reached historical highsin June 2008, but have come down sharply since that time as stronger thanexpected corn yields materialized and the global financial crisis brought downthe prices of most commodities generally. We expect continued volatility in the price of corn, which couldsignificantly impact our cost of goods sold.

 

On December 11, 2008, the United StatesDepartment of Agriculture (“USDA”) released its Crop Production report, whichestimated the 2008 grain corn crop at approximately 12 billion bushels.  The December 2008 estimate of the 2008corn crop is approximately 8% below the USDA’s estimate of the 2007 corn cropof 13.07 billion bushels.

 

The price and availability of corn are subject tosignificant fluctuations depending upon a number of factors affecting graincommodity prices in general, including crop conditions, weather, governmentalprograms and foreign purchases.  Becausethe market price of ethanol is not directly related to grain prices, ethanolproducers are generally not able to compensate for increases in the cost ofgrain feedstock through adjustments in prices charged for their ethanol.  We therefore anticipate that our plant’s profitabilitywill be negatively impacted during periods of high grain prices.

 

In anattempt to minimize the effects of the volatility of corn costs on operatingprofits, we will likely take hedging positions in corn futures markets.  Hedging means protecting the price at whichwe buy corn and the price at which we will sell our products in thefuture.  It is a way to attempt to reducethe risk caused by price fluctuation. The effectiveness of hedging activities is dependent upon, among otherthings, the cost of corn and our ability to sell sufficient amounts of ethanoland distillers 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.

 

***Utilities***

 

NaturalGas.  Natural gas is an important input commodityto our manufacturing process.  Weestimate that our annual natural gas usage will be approximately 1,600,000Million British Thermal Units and will constitute 10% to 15% of our annualtotal production costs.  The plant willproduce process steam from its own boiler system and dry the distillers driedgrains co-product via a direct gas-fired dryer.

 

Ourproposed site has access to an existing Northern Natural Gas interstate naturalgas pipeline located approximately one half mile from the expected plantlocation.  In June 2008, we enteredinto a natural gas service agreement with CenterPoint Energy Resources Corp.,d.b.a. CenterPoint Energy Minnesota Gas (“CenterPoint Energy”).  Centerpoint Energy will construct a pipelinefrom the Northern Natural Gas Company (“Northern”) Town Border Station forHighwater (“Highwater TBS”) terminating at Highwater’s selected location.  Construction shall be completed by the laterof April 1, 2009 or within 15 days of Northern’s completion of theHighwater TBS.  Additionally, we agree topurchase all of our natural gas requirements from CenterPoint Energy’spipeline.  This Agreement will continueuntil October 31, 2019.

 

Wehave also entered into an energy management agreement with U.S. Energy Services, Inc.pursuant to which U.S. Energy will provide us with the necessary natural gasmanagement services. Some of their services may include an economic comparisonof distribution service options, negotiation and minimization of interconnectcosts, submission of the necessary pipeline “tap” request, supplying the plantwith and/or negotiating the procurement of natural gas, development andimplementation of a price risk management plan targeted at mitigating naturalgas price volatility and maintaining profitability, providing consolidatedmonthly invoices that reflect all natural gas costs.  In addition, U.S. Energy will be responsiblefor reviewing and reconciling all invoices. In exchange for these services, wewill pay U.S. Energy a monthly retainer fee of $3,050 for an initial contractterm of 12 months.  If we decide toutilize U.S. Energy’s hedging service we will have to pay an additional $.01per MMBTu administrative

 

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fee for physical orfinancial natural gas hedging.  Additionalfees may apply for additional services and for time and travel.

 

Electricity.  Basedupon engineering specifications, we anticipate the plant will requireapproximately 4.5 MW of power per year at peak demand.  On June 28, 2007 we entered into anAgreement for Electric Service with Redwood Electric Cooperative, Inc. forthe sale and delivery of electric power and energy necessary to operate ourethanol plant.  In exchange for itsservices, we agreed to pay Redwood Electric Cooperative, Inc. an annualfacilities charge of approximately $12,000 plus the Cooperative’s standardelectrical rates. In addition, we agreed that in the event our plant does notbecome operational or does not continue to be operational for the entire termof the contract, we will reimburse the Cooperative for its expenses related tothe installation of the facilities necessary to supply our electricalneeds.  Pursuant to the agreement thecontract rate will be guaranteed for up to five years. Upon execution of theagreement, we became a member of the Cooperative and are bound by its articlesof incorporation and bylaws. This agreement will remain in effect for ten yearsfollowing the initial billing period.  Inthe event we wish to continue receiving electrical service from the Cooperativebeyond the ten year period, we will need to enter into a new agreement with theCooperative at least one year prior to the expiration of the initial ten yearperiod.  If the agreement is terminatedby either party for any reason prior to the expiration of the initial ten yearperiod, we will be required to pay for the entire amount of the facility chargefor the remainder of the initial ten year period.  Also, pursuant to this agreement, Highwaterprovided the Cooperative with a letter of credit in the amount of $700,000 atthe expense of Highwater for the entire period of construction and continuingfor a period of one year of commercial operation.  In the event that Highwater is not solventafter one year of commercial operation, the letter of credit will remain ineffect; provided, however, the Cooperative agrees to review Highwater’sfinancing situation after each subsequent one year period has passed and ifHighwater establishes that it is solvent at any of those review dates, theletter of credit will be released.  In June 2008,there was a verbal agreement to suspend the $12,000 monthly fee untiloperations commence.

 

Water.  We will require a significantsupply of water. We anticipate obtaining water from new or existing highcapacity wells.  We have acquired all ofthe necessary permits required for our water usage. Engineering specificationsshow our plant water requirements to be approximately 384 gallons per minute.That is approximately 553,000 gallons per day.

 

Much of the water usedin an ethanol plant is recycled back into the process. There are, however,certain areas of production where fresh water is needed. Those areas includeboiler makeup water and cooling tower water. Boiler makeup water is treatedon-site to minimize all elements that will harm the boiler and recycled watercannot be used for this process. Cooling tower water is deemed non-contactwater because it does not come in contact with the mash, and, therefore, can beregenerated back into the cooling tower process. The makeup water requirementsfor the cooling tower are primarily a result of evaporation. We anticipate thatmuch of the water can be recycled back into the process, which will minimizethe discharge water. This will have the long-term effect of lowering wastewatertreatment costs.

 

**Research andDevelopment**

 

We do not currently conduct any research anddevelopment activities associated with the development of new technologies foruse 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 to design and build our ethanol plant.

 

**Dependence on One ora Few Major Customers**

 

As discussedabove, we have entered into a marketing agreement with RPMG for the purpose ofmarketing and distributing our ethanol and have engaged CHS, Inc. for thepurpose of marketing and distributing our distillers grains.  We expect to rely on RPMG for the sale anddistribution of our ethanol and CHS, Inc. for the sale and distribution ofour distillers grains.  Therefore, althoughthere are other marketers in the industry, we expect to be

 

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highly dependent on RPMG and CHS, Inc.for the successful marketing of our products. Any loss of RPMG or CHS, Inc. as our marketing agent for ourethanol and distillers grains, respectively, could have a significant negativeimpact on our revenues.

 

**Costs and Effects ofCompliance with Environmental Laws**

 

We are subject to extensive air, water and otherenvironmental regulations.  We haveobtained the required air and construction permits necessary to proceed withconstruction of the plant and are in the process of obtaining any additionalpermits necessary to operate the plant. Fagen, Inc. and Earth Tech Consulting, Inc. are coordinatingand assisting us with obtaining certain environmental permits, and advising uson general environmental compliance.  Inaddition, we will retain consultants with expertise specific to the permitsbeing pursued to ensure all permits are acquired in a cost efficient and timelymanner.  We anticipate incurring costsand expenses of approximately $42,000 in the next 12 months in complying withenvironmental laws.  Even if we aresuccessful in obtaining all of the permits currently required, any retroactivechange in environmental regulations, either at the federal or state level,could require us to obtain additional or new permits or spend considerableresources on complying with such regulations.

 

We have received our Air Emissions Permit, aStormwater Permit, an Above Ground Storage Tank Permit, a Discharge ofStormwater During Construction Activities Permit and a Groundwater Permit.  Additionally, we have received the waterappropriation permits from the Minnesota Department of Natural Resources aswell as Notice from the Redwood Conservation District approving an exemption toplace force mains through a wetland area. We have also received the necessarypermits from Minnesota Pollution Control Agency (MPCA) for the treatment of ourwastewater.  We are currently in theprocess of applying for our alcohol fuel producer’s permit.

 

We are subject to oversight activities by theEPA.  There is always a risk that the EPAwould enforce certain rules and regulations differently than Minnesota’senvironmental administrators.  Minnesotaand EPA rules are also subject to change, and any such changes couldresult in greater regulatory burdens on our future plant operations.  We could also be subject to environmental ornuisance claims from adjacent property owners or residents in the area arisingfrom possible foul smells or other air or water discharges from the plant.  Such claims may result in an adverse resultin court if we are deemed to engage in a nuisance that substantially impairsthe fair use and enjoyment of real estate.

 

**Employees**

 

Wecurrently have three part-time office employees.  We hired our Plant Manager, Mark Palmer, in September 2008and our General Manager/Chief Executive Officer, Brian Kletscher in late2008.  Additionally, we have recentlyhired Tom Streifel as our grain manager, Jay Fenske as our maintenancetechnician and Matt Lenning as our operations manager.  Tom Streifel and Jay Fenske are expected tostart in February and Matt Lenning is expected to start in earlyMarch.  Prior to completion of the plantconstruction and commencement of operations, we intend to hire approximately 32full-time employees. Approximately six of our employees will be involved primarilyin management and administration and the remainder will be involved primarilyin plant operations. Our executive officers are Brian D. Kletscher, ChiefExecutive Officer; David G. Moldan, Chairman; John M. Schueller, Vice Chairman;Timothy J. Van Der Wal, Treasurer; and Warren Walter Pankonin, Secretary.

 

Thefollowing table represents some of the anticipated positions within the plantand the minimum number of individuals we expect will be full-time personnel:

 
| ** **             | ** ** | **# Full-Time** |
|------------------------|------------|----------------------|
| **Position**           | ** ** | **Personnel**        |
| General Manager        |       | 1                    |
| Plant Manager          |       | 1                    |
| Commodities Manager    |       | 1                    |
| Controller             |       | 1                    |
| Lab Manager            |       | 1                    |
| Lab Technician         |       | 2                    |
| Secretary/Clerical     |       | 3                    |
| Office Manager         |       | 1                    |
| Shift Supervisor       |       | 4                    |
| Maintenance Supervisor |       | 1                    |
| Maintenance Craftsmen  |       | 4                    |
| Plant Operators        |       | 12                   |
| **TOTAL**              | ** ** | **32**               |

 

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Thepositions, titles, job responsibilities and number allocated to each positionmay differ when we begin to employ individuals for each position.

 

Weintend to enter into written confidentiality and assignment agreements with ourkey officers and employees. Among other things, these agreements will requiresuch officers and employees to keep all proprietary information developed orused by us in the course of our business strictly confidential.

 

Our success will depend inpart on our ability to attract and retain qualified personnel at a competitivewage and benefit level. We must hire qualified managers and other personnel. Weoperate in a rural area with low unemployment. There is no assurance that wewill be successful in attracting and retaining qualified personnel at a wageand benefit structure at or below those we have assumed in our project. If weare unsuccessful in this regard, we may not be competitive with other ethanolplants and your investment may lose value.

 

**ITEM 1A.               RISK FACTORS.**

 

*You should carefully read and consider the risks and uncertaintiesbelow and the other information contained in this report.  The risks and uncertainties described beloware not the only ones we may face.  Thefollowing risks, together with additional risks and uncertainties not currentlyknown to us or that we currently deem immaterial could impair our financialcondition and results of operation.*

 

**Risks Related to Highwater Ethanol as aDevelopment-Stage Company**

 

***Highwater Ethanol has no operating history,which could result in errors in******management andoperations causing a reduction in the value of your investment.* **We have no history of operations. We may not manage start-upeffectively or properly staff operations, and any failure to manage ourstart-up effectively could delay the commencement of plant operations. A delayin start-up operations is likely to further delay our ability to generaterevenue and satisfy our debt obligations. We anticipate a period of significantgrowth, involving the construction and start-up of operations of the plant.This period of growth and the start-up of the plant are likely to be a substantialchallenge to us. If we fail to manage start-up effectively, we may not be ableto operate our plant profitably or at all.

 

***We have little to no experience in theethanol industry and our governors do******not dedicate their efforts to our project on a full time basis, whichmay**affect our ability to buildand operate the ethanol plant.* **We are presentlydependent upon our initial governors. Most of these individuals are experiencedin business generally but have very little or no experience in organizing andbuilding an ethanol plant, and governing and operating a public company. Ourgovernors also have little to no expertise in the ethanol industry. Inaddition, certain governors on our board are presently engaged in business andother activities which impose substantial demand on the time and attention ofsuch governors. Our governors do not dedicate their efforts to our project on afull time basis which may affect our ability to build and develop our ethanolplant. Our member control agreement provides that the initial board ofgovernors will serve until the first annual or special meeting of the membersfollowing commencement of substantial operations of the ethanol plant. If ourproject suffers delays due to financing or construction, our initial board ofgovernors could serve for an extended period of time. In that event, our onlyrecourse to replace these governors would be through an amendment to ouroperating agreement which could be difficult to accomplish.

 

***We will depend on Fagen, Inc. for expertisein beginning operations in the******ethanol industryand any loss of this relationship could cause us delay and**added expense, placing us at a competitivedisadvantage.* **We are dependent on our relationship withFagen, Inc. and its employees. Any loss of this relationship with Fagen, Inc.,particularly during the construction and start-up period of the plant mayprevent us from commencing operations

 

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and result in the failure ofour business. The time and expense of locating new consultants and contractorswould result in unforeseen expenses and delays which may reduce our ability togenerate revenue and operate profitability and significantly damage ourcompetitive position in the ethanol industry.

 

***Our business is not diversified.***** **We expect our business to solely consist of ethanol and distillersgrains production and sales. We do not have any other lines of business orother sources of revenue if we are unable to complete the construction andoperation of the plant or if we are unable to operate our plant and generateethanol and distillers grains. If we are unable to generate revenues by theproduction and sales of ethanol and distillers grains our business may failsince we do not expect to have any other lines of business or alternativerevenue sources.

 

***We have a history of losses and may notever operate profitably.*****  **We have incurred and may continue to incursignificant losses until we successfully complete construction and commenceoperations of the plant. Through October 31, 2008, we generated losses andhave a deficit in working capital.  Thereis no assurance that we will be successful in our efforts to build and operatean ethanol plant. Even if we successfully begin operations at the ethanolplant, there is no assurance that we will be able to operate profitably.

 

**Risks Related to Construction ofthe Ethanol Plant**

 

***We may need to increase cost estimates forconstruction of the ethanol plant,******and such increase could result in devaluation of our units if ethanolplant**construction requiresadditional capital.* **We anticipate that Fagen, Inc. willconstruct the plant for a contract price, based on the plans and specificationsin the design-build agreement. We have based our capital needs on a design forthe plant that will cost approximately $69,950,000 with additional start-up anddevelopment costs of approximately $43,630,000 for a total project completioncost of approximately $113,580,000. The final cost of the plant may be higher.

 

***Defects in plant construction could resultin delays in our ability to generate revenues if our******plant does not produce ethanol or its co-products as anticipated.* **Defects in materials and/or workmanship in the plant may occur. Underthe terms of the design-build agreement with Fagen, Inc., Fagen, Inc.will warrant that the material and equipment furnished to build the plant willbe new, of good quality, and free from material defects in material orworkmanship at the time of delivery. Though the design-build agreement requiresFagen, Inc. to correct all defects in material or workmanship for a periodof one year after substantial completion of the plant, material defects in materialor workmanship may still occur. Such defects could delay the commencement ofoperations of the plant, or, if such defects are discovered after operationshave commenced, could cause us to halt or discontinue the plant’s operation.Halting or discontinuing plant operations could delay our ability to generaterevenues.

 

***The plant site may have unknownenvironmental problems that could be expensive******and time consuming to correct, which may delay or halt plantconstruction and**delay ourability to generate revenue.* **Our plant site is located in Redwood County,Minnesota, near the City of Lamberton, Minnesota. We may encounter hazardousenvironmental conditions that may delay the construction of the plant. We donot anticipate Fagen, Inc. will be responsible for any hazardousenvironmental conditions encountered at the plant site. Upon encountering ahazardous environmental condition, Fagen, Inc. may suspend work in theaffected area. If we receive notice of a hazardous environmental condition, wemay be required to correct the condition prior to continuing construction. Thepresence of a hazardous environmental condition will likely delay constructionof the plant and may require significant expenditure of our resources tocorrect the condition. In addition, Fagen, Inc. will be entitled to anadjustment in price and time of performance if it has been adversely affectedby the hazardous environmental condition. If we encounter any hazardousenvironmental conditions during construction that require time or money tocorrect, such event could delay our ability to generate revenues.

 

**Risks Relating to Our Business**

 

***We have a significantamount of debt, and our existing debt financing agreements contain, and ourfuture debt financing agreements may contain, restrictive covenants that limitdistributions and impose restrictions on the operation of our business.***  Theuse of debt financing makes it more difficult for us to operate because we mustmake principal and interest payments on the indebtedness and abide by covenantscontained in our debt financing agreements. The level of our debt may have important implications on our operations,including,

 

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among other things: (a) limiting our ability toobtain additional debt or equity financing; (b) making us vulnerable toincreases in prevailing interest rates; (c) placing us at a competitivedisadvantage because we may be substantially more leveraged than some of ourcompetitors; (d) subjecting all or substantially all of our assets toliens, which means that there may be no assets left for shareholders in theevent of a liquidation; and (e) limiting our ability to make business andoperational decisions regarding our business, including, among other things,limiting our ability to pay dividends to our unit holders, make capitalimprovements, sell or purchase assets or engage in transactions we deem to beappropriate and in our best interest.

 

***Our inability to secure creditfacilities we may require in the future may negatively impact our liquidity.***  Due to current conditions in the creditmarkets, it has been increasingly difficult for businesses to securefinancing.  While we do not currentlyrequire more financing than we have, in the future we may need additionalfinancing.  If we require financing inthe future and we are unable to secure such financing, it may have a negativeimpact on our liquidity.  This couldnegatively impact the value of our units.

 

***We have nooperating history and our business may not be as successful as weanticipate. ***We have not yet begun plant operations.  Accordingly, we have no operating historyfrom which you can evaluate our business and prospects.  Our operating results could fluctuatesignificantly in the future as a result of a variety of factors, includingthose discussed throughout these risk factors. Many of these factors are outside our control.   As a result of these factors, our operatingresults may not be indicative of future operating results and you should notrely on them as indications of our future performance.

 

***We expect to beheavily dependent on rail as our primary mode of transporting our product todistribution terminals****. *Most ethanolproducers ship ethanol by rail to distribution terminals, which then send theethanol on a barge or truck to blenders. Increased production of ethanol has created a bottleneck betweenproducers and blenders, and the rail system’s capacity is strained to meetdemand.  In addition, railroads are alsofacing pressure from increased corn production, and have found it difficult tomeet the demand to transport the grain to storage facilities.  If the nation’s rail system cannot keep pacewith the production of ethanol and corn, we may be forced to pay higher pricesfor rail cars in order to compete with other plants for access totransportation.  This could lead to adecrease in our profitability and you could lose some or all of yourinvestment.

 

***The expansion ofdomestic ethanol production in combination with state bans on Methyl TertiaryButyl Ether (MTBE) and/or state renewable fuels standards may place strains ondestination terminal and blender infrastructure such that our ethanol cannot bemarketed and shipped to the blending terminals that would otherwise provide usthe best cost advantages****. *If the volume ofethanol shipments continues to increase with the nation’s increased production capacity and blenders switch from MTBE to ethanol, there may be weaknesses ininfrastructure and its capacity to transport ethanol such that our productcannot reach its target markets.  Inaddition, ethanol destination terminals may not have adequate capacity tohandle the supply of ethanol, and will have to quickly adapt by building moretanks to hold increased inventory before shipping ethanol to the blenders.  Many blending terminals may need to makeinfrastructure changes to blend ethanol instead of MTBE and to blend the quantitiesof ethanol that are being produced. Refineries may be unwilling to spend large amounts of capital to expandinfrastructure, or may be disinclined to blend ethanol absent a legislativemandate to increase blending.  If theblending terminals do not have sufficient capacity or the necessaryinfrastructure to make this switch, or are reluctant to make such large capitalexpenditures to blend ethanol, there may be an oversupply of ethanol on themarket, which could depress ethanol prices and negatively impact our financialperformance.

 

***Our financialperformance will be significantly dependent on corn prices and generally wewill not be able to pass on increases in input prices to our customers.**** *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.

 

Ethanol production requiressubstantial amounts of corn. Corn, as with most other crops, is affected byweather, disease and other environmental conditions.  The price of corn is also influenced bygeneral economic, market and government factors.  These factors include farmer plantingdecisions, domestic and foreign government farm programs and policies, globaldemand and supply and quality.  Changesin the price of corn can significantly affect our business. Generally, highercorn prices will produce lower profit margins and, therefore, representunfavorable market conditions.  This isespecially true if market conditions do not allow us to pass along increased

 

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corn costs to our customers.  The price of corn has fluctuatedsignificantly in the past and may fluctuate significantly in the future.  Over the course of the last year, the priceof corn has exceeded historical averages. If a period of high corn prices were to be sustained for some time, suchpricing may reduce our ability to generate revenues because of the higher costof operating and may make ethanol uneconomical to use in fuel markets.  We cannot offer any assurance that we will beable to offset any increase in the price of corn by increasing the price of ourproducts.  If we cannot offset increasesin the price of corn, our financial performance may be materially and adverselyaffected.

 

***The spreadbetween ethanol and corn prices can vary significantly and we do not expect thespread to remain at the high levels recently experienced by the ethanolindustry.***  Our gross margins will depend principally onthe spread between ethanol and corn prices. The spread between the price of a gallon of ethanol and the cost of theamount of corn required to produce a gallon of ethanol will likely continue tofluctuate.  Any further reduction in thespread between ethanol and corn prices, whether a result of an increase in cornprices or a reduction in ethanol prices, would adversely affect our futureresults of operations and financial condition.

 

***Our revenues will be greatlyaffected by the price at which we can sell our ethanol and distillersgrains. ***Theseprices can be volatile as a result of a number of factors.  Thesefactors include the overall supply and demand, the price of gasoline, level ofgovernment support, and the availability and price of competing products. Forinstance, the price of ethanol tends to increase as the price of gasolineincreases, and the price of ethanol tends to decrease as the price of gasolinedecreases. Any lowering of gasoline prices will likely also lead to lowerprices for ethanol, which may decrease our ethanol sales and reduce revenues,causing a reduction in the value of your investment

 

***We expect to sell all ofthe ethanol we produce to RPMG in accordance with an exclusive ethanolmarketing agreement.******* We have engaged RPMG as our exclusivemarketing agent for all of the ethanol we produce at the plant.  We will rely heavily on its marketing effortsto successfully sell our product. Because RPMG sells ethanol for itself and a number of other producers,we expect to have limited control over its sales efforts.  Our financial performance may be dependentupon the financial health of RPMG as a significant portion of our accountsreceivable are expected to be attributable to RPMG and its customers.  If RPMG fails to competitively market ourethanol or breaches the ethanol marketing agreement, we could experience amaterial loss and we may not have any readily available means to sell ourethanol.

 

***We expect to engage in hedging transactions which involve risks thatcan harm our business.*** We will be exposed to market risk from changes in commodity prices.  Exposure to commodity price risk results fromour dependence on corn and natural gas in the ethanol production process.  We will seek to minimize the risks fromfluctuations in the prices of corn and natural gas through the use of hedginginstruments.  The effectiveness of ourhedging strategies is dependent upon the cost of corn and natural gas and ourability to sell sufficient products to use all of the corn and natural gas forwhich we have futures contracts.  Thereis no assurance that our hedging activities will successfully reduce the riskcaused by price fluctuation which may leave us vulnerable to high corn andnatural gas prices.  Alternatively, wemay choose not to engage in hedging transactions.  As a result, our future results of operationsand financial conditions may also be adversely affected during periods in whichcorn and/or natural gas prices increase.

 

***Changes and advances in ethanol productiontechnology could require us to incur******costs to update our plant or could otherwise hinder our ability to**compete in the ethanol industry or operateprofitably.***  Advances and changes in the technology ofethanol production are expected to occur. Such advances and changes may make the ethanol production technology weinstalled in our plant less desirable or obsolete.  These advances could also allow ourcompetitors to produce ethanol at a lower cost than us.  If we are unable to adopt or incorporatetechnological advances, our ethanol production methods and processes could beless efficient than our competitors, which could cause our plant to becomeuncompetitive or completely obsolete.  Ifour competitors develop, obtain or license technology that is superior to oursor that makes our technology obsolete, we may be required to incur significantcosts to enhance or acquire new technology so that our ethanol productionprocess remains competitive. Alternatively, we may be required to seek third-party licenses, whichcould also result in significant expenditures. Third-party licenses may not be available or, once obtained, may notcontinue to be available on commercially reasonable terms, if at all.  These costs could negatively impact ourfinancial performance by increasing our operating costs and reducing our netincome.

 

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**Risks Related to Ethanol Industry**

*** ***

***Overcapacitywithin the ethanol industry could cause an oversupply of ethanol and a declinein ethanol prices. ***Excess capacity in the ethanol industry wouldhave an adverse impact on our results of operations, cash flows and generalfinancial condition.  Excesscapacity may also result or intensify from increases in production capacitycoupled with insufficient demand.  If the demand for ethanol does not grow atthe same pace as increases in supply, we would expect the price for ethanol todecline.  If excess capacity in the ethanolindustry occurs, the market price of ethanol may decline to a level that isinadequate to generate sufficient cash flow to cover our costs.

 

***Weexpect to operate in a competitive industry******and compete with larger, better financed entities which could impact our abilityto operate profitably.***  There is significant competition amongethanol producers with numerousproducer and privately owned ethanol plants planned and operating throughoutthe United States. The largest ethanol producers includePOET, VeraSun Energy Corporation, Archer Daniels Midland, and HawkeyeRenewables, LLC, all of which are each capable of producing more ethanol thanwe expect to produce.  A number of ourcompetitors are divisions of substantially larger enterprises and havesubstantially greater financial resources than we do.  If the demand for ethanol does not grow atthe same pace as increases in supply, we expect that lower prices for ethanolmay result which may adversely affect our ability to generate profits and ourfinancial condition.

 

**Risks Related to Regulation andGovernmental Action**

 

***Government incentives for ethanolproduction, including federal tax incentives,******may be eliminated in the future, which could hinder our ability tooperate at a**profit****.*

 

*RenewableFuels Standard. *The ethanol industry is assisted by variousfederal ethanol production and tax incentives, including the RFS set forth inthe Energy Independence and Security Act of 2007.  The RFS helps support a market for ethanolthat might disappear without this incentive; as such, waiver of RFS minimumlevels of renewable fuels included in gasoline could negatively impact ourresults of operations.

 

Inaddition, the elimination or reduction of tax incentives to the ethanolindustry, such as the Volume Ethanol Excise Tax Credit (VEETC) available togasoline refiners and blenders, could also reduce the market demand forethanol, which could reduce prices and our revenues by making it more costly ordifficult for us to produce and sell ethanol. If the federal tax incentives areeliminated or sharply curtailed, we believe that decreased demand for ethanolwill result, which could negatively impact our ability to operate profitably.

 

***Changes inenvironmental regulations or violations of the regulations could be******expensive and reduce our profitability.***  We aresubject to extensive air, water and other environmental laws andregulations.  In addition, some of these laws require our plant to operateunder a number of environmental permits. These laws, regulations and permitscan often require expensive pollution control equipment or operation changes tolimit actual or potential impacts to the environment.  A violation ofthese laws and regulations or permit conditions can result in substantialfines, damages, criminal sanctions, permit revocations and/or plantshutdowns.  In the future, we may be subject to legal actions brought byenvironmental advocacy groups and other parties for actual or allegedviolations of environmental laws or our permits.  Additionally, anychanges in environmental laws and regulations, both at the federal and statelevel, could require us to spend considerable resources in order to comply withfuture environmental regulations. The expense of compliance could besignificant enough to reduce our profitability and negatively affect ourfinancial condition.

 

Carbon dioxide may be regulated in the future bythe EPA as an air pollutant requiring us to obtain additional permits andinstall additional environmental mitigation equipment, which could adverselyaffect our financial performance.  In2007, the Supreme Court decided a case in which it ruled that carbon dioxide isan air pollutant under the Clean Air Act for the purposes of motor vehicleemissions.  The Supreme Court directedthe EPA to regulate carbon dioxide from vehicle emissions as a pollutant underthe Clean Air Act.  Similar lawsuits havebeen filed seeking to require the EPA to regulate carbon dioxide emissions fromstationary sources such as our ethanol plant under the Clean Air Act. Our plantmay produce a significant amount of carbon dioxide that we will vent into theatmosphere; however, we intend to capture a small portion of our carbon dioxideemissions through our water treatment system. While there are currently no regulations applicable to us concerningcarbon dioxide, if the

 

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EPAor the State of Minnesota were to regulate carbon dioxide emissions by plantssuch as ours, we may have to apply for additional permits or we may be requiredto install carbon dioxide mitigation equipment or take other as yet unknownsteps to comply with these potential regulations.  Compliance with any future regulation ofcarbon dioxide, if it occurs, could be costly and may prevent us from operatingthe ethanol plant profitably which could decrease or eliminate the value of ourunits.

 

**ITEM 2.  DESCRIPTION OF PROPERTY.**

** **

Weare building our plant near Lamberton, Minnesota in Redwood County.  We began site work in November 2007.  Our notice to proceed with construction toFagen, Inc. was executed on April 7, 2008.  We anticipate that our plant will beoperational in May 2009.

 

InMarch 2007, we purchased approximately 125 acres of land related to twoadjacent land options that were exercised in December 2006.  The total purchase price was approximately$876,000.  We had obtained the right andoption to purchase two additional adjacent parcels of land in September 2006and have since exercised the option on both parcels.  The first parcel was for six acres of landwith a total purchase price of approximately $43,000.  The second option was for thirteen acres ofland with a total purchase price of approximately $104,000.  We also purchased an additional six acres forapproximately $75,000 in April 2008.

 

On September 28, 2006, we entered into adesign-build contract with Fagen, Inc. for the design and construction ofthe ethanol plant for a total price of $66,026,000, which does not includeany change orders. As the notice to proceed was executed in April 2008,the contract price increased with change orders, to approximately$69,950,000.  We budgeted for thispotential increase within our CCI Contingency and Construction Contingency estimates,which we believe covers the increase.  IfFagen, Inc. is required to employ union labor, excluding union labor forthe grain system and energy center, the contract price will be increased toinclude any increased costs associated with the use of union labor.  Wepaid a mobilization fee of $5,000,000 to Fagen, Inc. when we issued ournotice to proceed with construction in April 2008 pursuant to the terms ofthe design-build contract.  As of October 31,2008, we have incurred approximately $47,912,000 for services under ourdesign-build contract.  As of our fiscalyear end on October 31, 2008, construction of the plant was progressing onschedule.

 

Allof our tangible and intangible property, real and personal, serves as thecollateral for our debt financing.

 

**ITEM 3.  LEGAL PROCEEDINGS.**

** **

From time to time in theordinary course of business, Highwater Ethanol, LLC may be named as a defendantin legal proceedings related to various issues, including without limitation,workers’ compensation claims, tort claims, or contractual disputes.  We are not currently involved in any materiallegal proceedings, directly or indirectly, and we are not aware of any claimspending or threatened against us or any of the directors that could result inthe commencement of legal proceedings.

 

**ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS.**

 

We did not submit any matterto a vote of our unit holders through the solicitation of proxies or otherwiseduring the fourth fiscal quarter of 2008.

 

**PART II**

** **

**ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED MEMBERMATTERS AND SMALL BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES.**

 

As of October 31, 2008 we had approximately4,953 unit holders of record.  There isno public trading market for our units.

 

We have not declared or paidany distributions on our units. Our board of governors has complete discretionover the timing and amount of distributions to our unit holders, however, ourmember control agreement requires the board of governors to endeavor to makecash distributions at such times and in such amounts as will

 

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permit our unit holders to satisfy their income taxliability in a timely fashion.   Ourexpectations with respect to our ability to make future distributions arediscussed in greater detail in “**Item 6 – MANAGEMENT’SDISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS.**”

 

Through our private placements, we raised aggregateproceeds of $1,680,000. We issued a total of 236 units to our seed capitalinvestors at a price of $5,000 per unit. In addition, we issued 150 units toour founders at a price of $3,333.33 per unit. Our seed capitalprivate placement was made directly by us without use of an underwriter orplacement agent and without payment of commissions or other remuneration.

 

Our private placementwas made under the registration exemption provided for in Section 4(2) ofthe Securities Act and Rule 506 of Regulation D. With respect to theexemption, neither we, nor any person acting on our behalf, offered or sold thesecurities by means of any form of general solicitation or advertising. Priorto making any offer or sale, we had reasonable grounds to believe and believedthat each prospective investor was capable of evaluating the merits and risksof the investment and were able to bear the economic risk of the investment.Each purchaser represented in writing that the securities were being acquiredfor investment for such purchaser’s own account and agreed that the securitieswould not be sold without registration under the Securities Act or exemptiontherefrom. Each purchaser agreed that a legend would be placed on eachcertificate evidencing the securities stating the securities have not beenregistered under the Securities Act and setting forth restrictions on theirtransferability.

 

In addition, we filed afederal registration statement for an initial public offering of our units withthe Securities and Exchange Commission on Form SB-2 (SEC Registration No. 333-137482), as amended, which became effective on April 5,2007.  We also registered these unitswith the state securities authorities in Florida, Georgia, Illinois, Iowa,Kansas, Louisiana, Minnesota, Missouri, South Dakota and Wisconsin.  Certain of our officers and directors offeredand sold the units on a best efforts basis without the assistance of anunderwriter.  We did not pay these officersor directors any compensation for services related to the offer or sale of theunits.

 

We registered a total of 6,000 units at$10,000 per unit for an aggregate maximum gross offering price of$60,000,000.  We closed ouroffering on April 5, 2008 and subsequently released funds from escrow on April 7,2008.  We raised approximately$45,670,000 in our public offering.  Weissued approximately 4,567 registered units to our members, which supplementedthe 386 units issued to our founders and seed capital members.  In addition, we received $40,000 ofinvestor deposits that were forfeited and are included with our offeringproceeds.  The following is a breakdownof units registered and units sold in the offering:

 
| **Amount Registered** | ** ** | **Aggregate Price of the  Amount Registered** | ** ** | **Amount Sold** | ** ** | **Aggregate Price of the  Amount Sold plus Investor  Deposits** | ** ** |
|----------------------------|------------|-------------------------------------------------------------------|------------|----------------------|------------|-----------------------------------------------------------------------------------------------|------------|
| 6,000                      |       | $                                                                 | 60,000,000 |                 | 4,567      |                                                                                          | $          | 45,710,000 |   |
|                            |            |                                                                   |            |                      |            |                                                                                               |            |  |  |

 

We terminated our escrow account and releasedoffering proceeds on April 7, 2008. As of October 31, 2008, our expenses related to the registrationand issuance of these units was $736,400, which were netted against ouroffering proceeds.  The followingdescribes our use of net offering proceeds through January 29, 2009.

 
| Net proceeds                               |       | $     | 44,973,600.00  | (1)        |
|--------------------------------------------|------------|-------|----------------|------------|
| Purchase of Land                           |       | $     | (1,115,150.52  | )          |
| Construction of Plant and Site Development |       | $     | (43,858,449.48 | )          |
| Repayment of Indebtedness                  |       | $     | (0.00          | )          |
| Other                                      |       | $     | (0.00          | )          |
| **Balance**                                | ** ** | **$** | **0.00**       | ** ** |

 

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(1) Gross proceeds net of offering expenses of $736,400.

 

All the foregoing payments were direct orindirect payments to persons or entities other than our directors, officers, orunit holders owning 10% of more of our units.

 

Our units are subject totransfer restrictions under our operating agreement and by applicable tax andsecurities laws.  Transfers are subjectto approval by our board and must be made in compliance with the conditions

 

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set forth in our member control agreement andapplicable tax and securities laws.  As aresult, investors will not be able to easily liquidate their investment in ourcompany.

 

**ITEM 6.  MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLANOF OPERATION.**

 

***This report contains forward-looking statements that involvesignificant risks and uncertainties.  Thefollowing discussion, which focuses on our plan of operation through thecommencement of operations of the plant, consists almost entirely offorward-looking information and statements. Actual events or results may differ materially from those indicated oranticipated, as discussed in the section entitled “Forward Looking Statements.”  This may occur as a result of many factors,including those set forth in Item 1A, “Risk Factors.”  The following discussion of our financialcondition and plan of operation should also be read in conjunction with ourfinancial statements and notes to financial statements contained in thisreport.***

*** ***

**Overview**

** **

Highwater Ethanol, LLCis a development-stage Minnesota limited liability company. It was formed on May 2,2006 for the purpose of developing, constructing, owning and operating a50 million gallon per year ethanol plant near Lamberton, Minnesota.  We have not yet engaged in the production ofethanol and distillers grains. Based upon engineering specifications from Fagen, Inc.,we expect the ethanol plant, once built, will process approximately18.5 million bushels of corn per year into 50 million gallons ofdenatured fuel grade ethanol and 160,000 tons of dried distillers grains withsolubles.  Plant construction is progressingon schedule.  We anticipate that ourplant will be operational in May 2009.

 

We anticipate the totalproject costs to be approximately $113,580,000 which includes construction ofour ethanol plant and start-up of operations. We are financing the construction and start-up of the ethanol plant witha combination of equity and debt.

 

Since we have not yetbecome operational as of the end of our fiscal year, we do not have comparableincome, production or sales data.

 

**Plan of Operations for the Next 12 Months**

** **

We expect to spend thenext 12 months focused on completing plant construction and commencing start-upoperations.  As a result of oursuccessful completion of the registered offering and the related debtfinancing, we expect to have sufficient cash on hand to cover all costsassociated with construction of the project. We estimate that we will need approximately $113,580,000 to completeplant construction and begin start-up operations.

 

*Project Capitalization*

* *

We issued 150 units to our founding members, for anaggregate of $500,000.  In addition, weissued 236 units to our seed capital members in exchange for aggregate proceedsof approximately $1,180,000.  We receivedtotal proceeds from our private placements of $1,680,000.

 

We filed a registration statement on Form SB-2with the Securities and Exchange Commission (“SEC”) which became effective on April 5,2007.  We closed the offering on April 5,2008 having raised proceeds of approximately $45,670,000 were transferred toour account at First National Bank of Omaha. We then issued 4,567 registered units to our members which supplementedthe 386 units issued in our private placement offerings to our founders and ourseed capital investors.

 

On April 24, 2008, we entered into aConstruction Loan Agreement (the “Agreement”) with First National Bank of Omahaof Omaha, Nebraska (“FNBO”) for the purpose of funding a portion of the cost ofthe ethanol plant.  Under the Agreement,FNBO has agreed to loan us up to $61,000,000, consisting of a $50,400,000 ConstructionLoan, together with a $5,000,000 Revolving Loan, and $5,600,000 to support theissuance of letters of credit by FNBO. We have issued letters of credit to Redwood Electric Cooperative, Inc.and Northern Natural Gas Company for the amount of $700,000 and $4,000,000respectively.  The details of the lettersof credit are described below in *Plant Construction andStart-Up of Plant Operations.*

 

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During the construction period, interest on theConstruction Loan will be payable on a monthly basis on the outstandingprincipal amount at a variable rate equal to the one month LIBOR Rate, ineffect from time to time, plus 350 basis points prior to maturity.  On the Construction Loan Termination Date,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.

 

We will make monthly principal payments on the FixedRate Loan ranging from approximately $145,000 to $197,000 plus accrued intereston the eighth day of every month commencing one month immediately following theConstruction Loan Termination Date.  Afinal balloon payment of approximately $15,184,000 will be due on thetermination date of the Fixed Rate Loan. We will make monthly payments ranging from approximately $147,000 to$211,000 on the eighth day of every month commencing one month immediatelyfollowing the Construction Loan Termination Date which shall be allocated asfollows: (i) first to accrued and unpaid interest on the Long TermRevolving Note, (ii) next to accrued and unpaid interest on the VariableRate Note, and (iii) next to principal on the Variable Rate Note.

 

In connection with the Construction Loan Agreement,we executed a mortgage in favor of FNBO creating a first lien on our realestate and plant and a security interest in all personal property located onthe property.  In addition, we assignedin favor of FNBO, all rents and leases to our property, the design/buildcontract, our marketing contracts, our risk management services contract, andour natural gas, electricity, water service and grain procurement agreements.

 

In addition, during the term of the loans, we willbe subject to certain financial covenants consisting of minimum workingcapital, minimum net worth, and maximum debt service coverage ratios.  After our construction phase we will belimited to annual capital expenditures of $1,000,000 without prior approval ofthe Banks.  We will also be prohibitedfrom making 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 lease agreement issecured by substantially all business assets and is subject to variousfinancial and non-financial covenants that limit distributions and leverage andrequire minimum debt service coverage, net worth, and working capitalrequirements.

 

Also on April 24, 2008, we entered into certainfinancing and credit arrangements with U.S. Bank National Association, astrustee (the “Trustee”) and the City of Lamberton, Minnesota (the “City”) inorder to secure the proceeds from the sale of the solid waste facilitiesrevenue bonds, Series 2008A (the “Bonds”) issued by the City in theaggregate principal amount of $15,180,000 pursuant to a trust indenture betweenthe City and the Trustee (“Trust Indenture”). The City has undertaken the issuance of the Bonds to finance theacquisition and installation of certain solid waste facilities in connectionwith our ethanol plant to be located near Lamberton, Minnesota.  Highwater received proceeds of approximately$14,876,000, after financing costs of approximately $304,000.  The remaining proceeds are held as restrictedcash or marketable securities based on anticipated use and are split between aproject fund of approximately $11,564,000, a capitalized interest fund ofapproximately $1,818,000, and a debt service reserve fund of approximately$1,501,000.  The Bonds mature on December 1,2022 and bear interest at a rate of 8.5%.

 

We may apply for grants from the USDA and othersources. Although we may apply under several programs simultaneously and may beawarded grants or other benefits from more than one program, it must be notedthat some combinations of programs are mutually exclusive. Under some state andfederal programs, awards are not made to applicants in cases where constructionon the project has started prior to the award date. There is no guarantee thatapplications will result in awards of grants or loans.

 

*Plant construction and start-up ofplant operations*

* *

Construction of the project is expected to take 16to 18 months from the date construction commenced.  We anticipate completion of plantconstruction in approximately May 2009. We anticipate that our total project cost

 

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willbe approximately $113,580,000.  We expectto have sufficient cash on hand through our equity and debt financing tocomplete construction and start-up operations. However, any significant changes to our estimated budget may result inour need for additional equity or debt financing.  Once we are operational, we expect to begingenerating cash flow.

 

OnSeptember 28, 2006, we entered into a design-build contract with Fagen, Inc.for the design and construction of our ethanol plant for a total price of$69,950,000.  If Fagen, Inc.is required to employ union labor, excluding union labor for the grain systemand energy center, the contract price will be increased to include anyincreased costs associated with the use of union labor.  Wepaid a mobilization fee of $5,000,000 to Fagen, Inc. when we issued ournotice to proceed with construction in April 2008 pursuant to the terms ofthe design-build contract.

 

We have executed a Phase I and Phase IIEngineering Services Agreement with Fagen Engineering, LLC, an entity relatedto our design-builder Fagen, Inc., for the performance of certainengineering and design work. Fagen Engineering, LLC performs the engineeringservices for projects constructed by Fagen, Inc. In exchange for certainengineering and design services, we have agreed to pay Fagen Engineering, LLC alump-sum fixed fee, which will be credited against the total design-buildcosts.

 

Wealso entered into a license agreement with ICM, Inc. for limited use ofICM, Inc.’s proprietary technology and information to assist us inoperating, maintaining, and repairing the ethanol production facility.  We are not obligated to pay a fee to ICM, Inc.for use of the proprietary information and technology because our payment toFagen, Inc. for the construction of the plant under our design-buildagreement is inclusive of these costs.  Under the license agreement, ICM, Inc. retains the exclusive rightand interest in the proprietary information and technology and the goodwillassociated with that information.  ICM, Inc.may terminate the agreement upon written notice if we improperly use ordisclose the proprietary information or technology at which point allproprietary property must be returned to ICM, Inc.

 

On November 28, 2007 we executed aPhase 1 Mass Grading and Drainage Agreement with R and G Construction Co. forcertain improvements to the project site which involves mass grading anddrainage activities. We agreed to pay a monthly fee of 90% of the value basedon the amount of work completed with the remaining 10% held as retainage.  As of October 31, 2008, we incurredapproximately $2,113,000 for R and G’s services under this agreement.  In August 2008, we entered into anadditional contract with R and G for rail system drainage for an amount ofapproximately $1,214,000.  We agreed topay a monthly fee of 90% of the value based on the amount of work completed,with the remaining 10% held as retainage. As of October 31, 2008, we had incurred approximately $1,190,000 incosts under these agreements and the work has been completed.

 

In December 2007, we entered into anagreement with Rice Lake Construction for construction of a water treatmentfacility, well drilling and installation of the fire loop for approximately$15,995,000.  We agreed to make monthlypayments based on the amount of work completed, with 5% retainage held on thelast two payments.  As of October 31,2008, we had incurred approximately $6,178,000 in costs under this agreement.

 

InJuly 2008, we entered into an agreement with L.A. Colo., LLC for rail workin the amount of approximately $4,361,000. We agreed to pay a monthly fee of 90% of the value on the amount of workcompleted with the remaining 10% held as retainage.  The project is scheduled to be completed inearly 2009 as we have approximately 200 feet left to be installed.  As of October 31, 2008, we had incurredapproximately $3,700,000 in costs under this agreement.

 

Also,in July 2008, we entered into an agreement with McCormick ConstructionCompany for the installation of auger cast pilings for support of grain silosfor approximately $428,000.  We paid a10% down payment of approximately $43,000 upon execution of the documents, andmade monthly progress payments during the construction.  As of October 31, 2008, we had incurred$424,000 in costs under this agreement and construction has been completed.

 

InAugust 2008, we entered into an agreement with Lamberton Construction forthe construction of an administration building for approximately $278,000.  Pursuant to the terms of the agreement we arepaying a

 

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monthly fee of 90% of thevalue based on the amount of work completed, with the remaining 10% held asretainage.  As of October 31, 2008,we had incurred approximately $50,000 in costs under this agreement.

 

Plantconstruction is progressing on schedule. We commenced site work at the plant in November 2007.  We provided Fagen, Inc. with notice toproceed with construction, which was executed on April 7, 2008.  Status to date on the construction is asfollows:

 

·                  AdministrationBuilding—Construction of the administration building is approximately 70%complete with interior cabinetry, trim and flooring remaining to beinstalled.  The exterior walls needsiding.  We expect to occupy thisbuilding by the end of February 2009.

 

·                  DDGStorage Building—The construction of the distillers dried grain storage buildingis complete.

 

·                  ProcessBuilding Area—All field fabricated tanks (fermenters, beer well, stilage alleytanks) have been completed.  Alldistillation vessels (columns and molecular sieves) have been set inplace.  All process tanks (evaporators,slurry, CIP and enzyme) inside the Process Building are installed.  Process piping and pumps are being hooked upto the tanks.  All stillage alley tanksare insulated and many exterior pipelines are now insulated as well.  The electrical hook up from the Motor ControlCenter (MCC) room to the equipment has been started and is progressing.

 

·                  EnergyCenter—The centrifuges, dryers, dust collectors, conveyors, screws andductwork are all in place.  The thermaloxidizer stack was installed in December and is awaiting the arrival ofthe thermal oxidizer and the boiler with both expected to arrive in earlyFebruary.  Electrical wiring from the MCCroom to the equipment has been started in this building as well and is alsoprogressing.

 

·                  CoolingTower/Water Treatment—Cooling tower construction has beencompleted.  The cooling water headerlines to the process building are being connected to the tower pumps.  The Cold Lime Softening water treatmentbuilding was erected in November and concrete floor slabs are currentlybeing installed and the water treatment storage tanks are beingconstructed.  Some water treatmentequipment is beginning to arrive on site. We expect a late March or early April 2009 completiontimeline.

 

·                  Tank Farm—All tankfarm storage vessels are built, painted and rigged with floating roofs.  The outside accessories are currently beingattached to the tanks.

 

·                  GrainReceiving Area—The concrete grain storage silos were poured in October.  The grain receiving building basement iscomplete with equipment, including the rail scale. The building is now readyfor the concrete floor and then wall erection. The grain legs are currently being attached to the silos.  Also underway is the electrical insulation ofswitch gear in the MCC room.

 

InfrastructureStatus:

 

·                  NaturalGas—Centerpoint Energy installed the natural gas pipeline into theCompany’s site.  In addition, our naturalgas contractor installed the natural gas lines connecting Centerpoint Energy’smain regular distribution line to the energy center, load out flare andadministration building.

 

·                  RailSiding and Spurs—Rail siding and spurs are approximately 98% complete.  The siding is connected via mainline switchesto the DM&E Railroad system. Approximately 200 feet of the total 28,000 foot track is left to installinto the grain receiving building once that building is complete.

 

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·                  ElectricalSubstation—Redwood Electric and Great River Energy have finished theelectrical sub-station construction. Permanent electrical power distribution network has been installed onthe site and is now supplying electrical power to several areas of the site.

 

·                  Phase 1—All dirtwork associated with the phase 1 portion of construction was substantiallycomplete by mid-November.  Theinstallation of approximately 100 feet of drain culvert, grass seeding and thefinal grading of site roads is all that remains and we expect this to becompleted in the spring.

 

·                  Phase 2—Alloff-site and on-site process water supply pipelines, the entire fire loopsystem, the on-site sanitary sewer and potable water supply lines arecomplete.  The production well pumps andpitless adapters are ready to install in the wells.  The electrical service to the well sites iscomplete.

 

We estimate that we will need approximately$69,950,000 to construct the plant and a total of approximately $43,630,000 tocover all other expenditures necessary to complete the project, commence plantoperations and produce revenue.

* *

*Marketing and GrainProcurement Agreements*

 

Wehave entered into an ethanol marketing agreement with Renewable ProductsMarketing Group, LLC (“RPMG”) pursuant to which RPMG will be our exclusiveethanol marketer.  RPMG will use its bestefforts to market and obtain the best price for the ethanol we expect toproduce in exchange for a percentage of the price we receive for each gallon ofethanol sold.  The initial term of theRPMG agreement is for 24 months and shall be automatically extended for 12months unless either party gives the other prior written notice.  The RPMG agreement can be terminated for anyuncured breach of the terms of the agreement. In the event the agreement is not renewed, Highwater may assume certainrail car leases currently controlled by RPMG.

 

On October 11, 2007, we entered intoa Distillers Grains Marketing Agreement with CHS, Inc.  CHS, Inc. is a diversified energy,grains and foods company owned by farmers, ranchers and cooperatives.  CHS, Inc. provides products and servicesranging from grain marketing to food processing to meet the needs of itscustomers around the world.  CHS, Inc.will market our distillers grains and we receive a percentage of the sellingprice actually received by CHS, Inc. in marketing our distillers grains toits customers.  Under the agreement, CHS, Inc.will pay to us a price equal to 98% of the FOB plant price actually received byCHS, Inc. for all dried distillers grains removed by CHS, Inc. fromour plant and a price equal to 96% of the FOB plant price actually received byCHS, Inc. for all our wet distillers grains. The term of our agreementwith CHS, Inc. is for one year commencing as of the completion andstart-up of the plant.  Thereafter, theagreement will remain in effect unless otherwise terminated by either partywith 120 days notice.  Under theagreement, CHS, Inc. will be responsible for all transportationarrangements for the distribution of our distillers grains.

 

We have entered into a grain procurement agreementwith Meadowland Farmers Co-op (“Meadowland”). Meadowland has the exclusive right and responsibility to provide us withour daily requirements of corn meeting quality specifications set forth in thegrain procurement agreement.  Under theagreement, we will purchase corn at the local market price delivered to theethanol plant plus a fixed fee per bushel of corn purchased.  We will provide Meadowland with an estimateof our usage at the beginning of each fiscal quarter and Meadowland agrees toat all times maintain a minimum of 7 days corn usage at our plant.  The initial term of the agreement is 7 yearsfrom the time we request our first delivery of corn.

 

*Other Consultants*

* *

*Agreement for Electric Service*

 

On June 28, 2007 we entered into an Agreement forElectric Service with Redwood Electric Cooperative, Inc. for the sale anddelivery of electric power and energy necessary to operate our ethanolplant.  In exchange for its services, weagreed to pay Redwood Electric Cooperative, Inc. a monthly facilitiescharge of approximately $12,000 plus the Cooperative’s standard electricalrates. Pursuant to the agreement the contract rate will be guaranteed for up tofive years. Upon execution of the agreement, we became a member of theCooperative and are bound by its

 

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articlesof incorporation and bylaws. This agreement will remain in effect for ten yearsfollowing the initial billing period.  Inthe event we wish to continue receiving electrical service from the Cooperativebeyond the ten year period, we will need to enter into a new agreement with theCooperative at least one year prior to the expiration of the initial ten yearperiod.  If the agreement is terminatedby either party for any reason prior to the expiration of the initial ten yearperiod, we will be required to pay for the entire amount of the facility chargefor the remainder of the initial ten year period.  Also, pursuant to this agreement, Highwaterprovided the Cooperative with a Letter of Credit in the amount of $700,000 atthe expense of Highwater for the entire period of construction and continuingfor a period of one year of commercial operation.  The Cooperative agrees to release the Letterof Credit requirement after one full year of commercial operation upon ashowing by Highwater that it is solvent. In the event that Highwater is not solvent after one year of commercialoperation, the Letter of Credit will remain in effect; provided, however, theCooperative agrees to review Highwater’s financial situation after eachsubsequent one year period has passed and if Highwater establishes that it issolvent at any of those review dates, the letter of credit will bereleased.  In June 2008, there was averbal agreement to suspend the $12,000 monthly fee until operations commence.

 

*Energy Management Agreement*

* *

We have entered into an energy management agreementwith U.S. Energy Services, Inc. pursuant to which U.S. Energy will provideus with the necessary natural gas management services. Some of their servicesmay include an economic comparison of distribution service options, negotiationand minimization 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 gas costs, andU.S. Energy will be responsible for reviewing and reconciling all invoices. Inexchange for these services, we will pay U.S. Energy a monthly retainer fee of$3,050 for an initial contract term of 12 months.  If we decide to utilize U.S. Energy’s hedgingservice we will have to pay an additional $.01 per MMBTu administrative fee forphysical or financial natural gas hedging. Additional fees may apply for additional services and for time andtravel.

 

*Construction Consulting Agreement*

** **

On May 27, 2008 we entered into an Agreementfor Consulting Services with Granite Falls Energy, LLC (“Granite Falls”) toassist us in monitoring the construction and reviewing project plans anddocuments.  Some of their services mayinclude reviewing project budget and timeline, reviewing contracts, weeklyon-site inspections, obtaining competitive bids and executing contracts forservices not currently under contract and providing recommendation and analysisof change order requests.  In exchangefor these services, we will pay Granite Falls a Consultant fee of $10,250 permonth for its consulting services. Additional services will be billed to Highwater in accordance with a setfee schedule.  The agreement commenced May 1,2008 and will continue unless terminated by either party, by providing theother with a 30 day advance written notice of termination.

 

*Natural Gas Service Agreement*

 

OnJuly 1, 2008, we entered into a natural gas service agreement withCenterPoint Energy Resources Corp., d.b.a. CenterPoint Energy Minnesota Gas (“CenterPointEnergy”).  CenterPoint Energy hasconstructed a pipeline from the Northern Natural Gas Company (“Northern”) TownBorder Station for Highwater (Highwater TBS”) terminating at Highwater’sselected location.  Construction shall becompleted by the later of April 1, 2009 or within 15 days of Northern’scompletion of the Highwater TBS. Additionally, Highwater agrees to purchase all of its natural gasrequirements from CenterPoint Energy’s pipeline.  This Agreement will continue until October 31,2019.  Also, pursuant to this agreement,Highwater has provided Northern with a letter of credit for $4,000,000.  Northern may draw on the letter of creditonly if (1) Highwater is in default of its obligations under thisagreement and all applicable notice and cure periods have expired or (2) Northern’scontractual obligations with Highwater extend beyond the expiration date of theLetter of Credit and either Highwater or the Issuing Bank has provided noticeto Northern that the Letter of Credit will not be extended beyond its currentlyeffective expiration period.  Pursuant tothe terms of the agreement we provided a security deposit of $500,000, whichwas returned to the Company with the release of the capacity agreement in December 2008.

 

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*Permittingand Regulatory Activities*

 

Weare subject to extensive air, water and other environmental regulations.  We have obtained the required air andconstruction permits necessary to begin construction of the plant and are inthe process of obtaining any additional permits necessary to operate the plant.Fagen, Inc. and Earth Tec Consulting, Inc. are coordinating andassisting us with obtaining certain environmental permits, and advising us ongeneral environmental compliance.  Inaddition, we will retain consultants with expertise specific to the permitsbeing pursued to ensure all permits are acquired in a cost efficient and timelymanner.

 

We have received our Air Emissions Permit, aStormwater permit, a Discharge for Stormwater During Construction AcitivitiesPermit, Groundwater Permit and an Above Ground Storage Tank Permit.  Additionally, we have received the water appropriationpermits from the Minnesota Department of Natural Resources as well as Noticefrom the Redwood Conservation District approving an exemption to place forcemains through a wetland area.  We havealso received the necessary permits from Minnesota Pollution Control Agency(MPCA) for treatment of our wasteater.

 

The remaining permitswill be required shortly before or shortly after we begin to operate theplant.  If for any reason any of thesepermits are not granted, construction costs for the plant may increase, or theplant may not be constructed at all. Currently, we do not anticipate problems in obtaining the requiredpermits; however, such problems may arise in which case our plant may not beallowed to operate.

 

**Trendsand Uncertainties Impacting the Ethanol Industry and Our Future Operations**

** **

We are subject toindustry-wide factors, trends and uncertainties that affect our operating andfinancial performance. These factors include, but are not limited to, theavailable supply and cost of corn from which our ethanol and distillers grainsare processed; the cost of natural gas, which we use in the production process;new technology developments in the industry; dependence on our ethanol marketerand distillers grains marketer to market and distribute our products; theintensely competitive nature of the ethanol industry; and possible changes inlegislation/regulations at the federal, state and/or local level. These factorsas well as other trends and uncertainties are described in more detail below.

 

We have no operatinghistory and our business may not be as successful as we anticipate. As of theend of the fiscal year we had not yet completed construction of the plant.Accordingly, we have no operating history from which you can evaluate ourbusiness and prospects. Our operating results could fluctuate significantly inthe future as a result of a variety of factors. Many of these factors areoutside our control.  In addition, ourprospects must be considered in light of the normal risks and uncertaintiesencountered by an early stage company in a rapidly growing industry wheresupply, demand and pricing may change substantially in a short amount of time.

 

*EconomicDownturn*

 

TheU.S. stock markets tumbled in September and October 2008 upon thecollapse of multiple major financial institutions, the federal government’stakeover of two major mortgage companies, Freddie Mac and Fannie Mae, and thePresident’s enactment of a $700 billion bailout plan pursuant to which thefederal government will directly invest in troubled financial institutions. Financial institutions across the country have lost billions of dollars due tothe extension of credit for the purchase and refinance of over-valued realproperty.  The U.S. economy is in the midst of a recession, withincreasing unemployment rates and decreasing retail sales.  Other largecorporate giants, such as the big three auto makers, have also been seekinggovernment bailout money and may be facing bankruptcy.  These factors havecaused significant economic stress and upheaval in the financial and creditmarkets in the United States, as well as abroad.  Credit markets havetightened and lending requirements have become more stringent.  Oil priceshave dropped rapidly as demand for fuel has decreased.  We believe thatthese factors have contributed to a decrease in the prices at which we may beable to sell our ethanol in the future which may persist throughout all orparts of fiscal year 2009.  It is uncertain how long and to what extentthese economic troubles may negatively affect ethanol prices in the future.

 

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*Corn Prices*

* *

Ourcost of goods sold will consist primarily of costs relating to the corn andnatural gas supplies necessary to produce ethanol and distillers grains forsale.  On December 11,2008, the USDA released its Crop Production report, which estimated the 2008grain corn crop at approximately 12 billion bushels, approximately 8% below theUSDA’s estimate of the 2007 corn crop of 13.07 billion bushels.  Corn prices reached historical highs in June 2008,but have come down sharply since that time as stronger than expected cornyields materialized and the global financial crisis brought down the prices ofmost commodities generally.  We expect continued volatility in the price ofcorn, which could significantly impact our cost of goods sold.  The growing number of operating ethanolplants nationwide is also expected to increase the demand for corn.  This increase will likely drive the price ofcorn upwards in our market which will impact our ability to operate profitably.

 

Thereis no assurance that a corn shortage will not develop, particularly if there isan extended drought or other production problems in the 2009 crop year.  We anticipate that our plant’s profitabilitywill be negatively impacted during periods of high corn prices.  Although we expect the negative impact onprofitability resulting from high corn prices to be mitigated, in part, by theincreased value of the distillers grains we intend to market (as the price ofcorn and the price of distillers grains tend to fluctuate in tandem), we stillmay be unable to operate profitably if high corn prices are sustained for asignificant period of time.

 

*Natural Gas*

* *

Natural gas is also an important input commodity toour manufacturing process. We estimate that our natural gas usage will beapproximately 10% to 15% of our annual total production cost. We use naturalgas to dry our distillers grain products to a moisture content at which theycan be stored for long periods of time, and can be transported greaterdistances. Any sustained increase in the price level of natural gas willincrease our cost of production and will negatively impact our future profitmargins.

 

*Ethanol Supply and Demand*

* *

The number of ethanolplants being developed and constructed in the United States continues toincrease.  If the demand for ethanol doesnot grow at the same pace as increases in supply, we expect the price forethanol to further decline.  The pricesof crude oil and refined gasoline decreased significantly in the second half of2008, which has in turn placed downward pressure on the price of ethanol.  Declining ethanol prices will result in lowerfuture revenues and may reduce or eliminate profits.

 

While we believe thatthe nationally mandated usage of renewable fuels has largely driven demand inthe past, we believe that an increase in voluntary usage will be necessary forthe industry to continue its growth trend. In addition, a higher RFS standard may be necessary to encourageblenders to utilize ethanol. We expect that voluntary usage by blenders willoccur only if the price of ethanol makes increased blending economical. Inaddition, we believe that heightened consumer awareness and consumer demand forethanol-blended gasoline may play an important role in growing overall ethanoldemand and voluntary usage by blenders. If blenders do not voluntarily increasethe amount of ethanol blended into gasoline and consumer awareness does notincrease, it is possible that additional ethanol supply will continue tooutpace demand and further depress ethanol prices.

 

*Ethanol Industry Competition*

* *

Weoperate in a competitive industry and compete with larger, better financedentities which could impact our ability to operate profitably. There issignificant competition among ethanol producers with numerous producer andprivately owned ethanol plants planned and operating throughout the UnitedStates. In addition, we are beginning to see consolidation in theindustry.  Archer Daniels MidlandCompany, POET, LLC, Hawkeye Renewables, LLC, Aventine Renewable Energy Holdings, Inc.,VeraSun Energy Corp. and Cargill Incorporated control a significant portion ofthe ethanol market, producing an aggregate of over 4.6 billion gallons ofethanol annually.  However, in November 2008VeraSun Energy Corp. announced it had filed for Chapter 11 bankruptcyprotection thereby calling into question its ability to maintain its level ofethanol production.

 

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*Derivatives*

* *

We are exposed to marketrisks from changes in corn, natural gas, and ethanol prices. We may seek tominimize these commodity price fluctuation risks through the use of derivativeinstruments. Although we will attempt to link these instruments to sales plans,market developments, and pricing activities, such instruments in and ofthemselves can result in additional costs due to unexpected directional pricemovements. We may incur such costs and they may be significant.

 

*Distillers Grains Marketing*

 

With the advancement ofresearch into the feeding rations of poultry and swine, we anticipate thesemarkets will continue to expand and create additional demand for distillersgrains; however, no assurance can be given that these markets will in factexpand, or if they do that we will benefit.

 

*Technology Developments*

* *

The current trend in ethanolproduction research is to develop an efficient method of producing ethanol fromcellulose-based biomass, such as agricultural waste, forest residue, municipalsolid waste, and energy crops.  Thistrend is driven by the fact that cellulose-based biomass is generally cheaperthan corn, and producing ethanol from cellulose-based biomass would createopportunities to produce ethanol in areas which are unable to grow corn.  Although current technology is not sufficientlyefficient to be competitive, the United States Congress is consistentlyincreasing the availability of incentives to promote the development ofcommercially viable cellulose based ethanol production technology.

 

Advances and changes in thetechnology used to produce ethanol may make the technology we are installing inour plant less desirable or obsolete. These advances could also allow our competitors to produce ethanol at alower cost than us.  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.

 

*Government Legislation and Regulations*

* *

The ethanol industry andour business are assisted by various federal ethanol supports and taxincentives, including those included in the Energy Policy Act of 2005 and theEnergy Independence and Security Act of 2007. Government incentives for ethanolproduction, including federal tax incentives, may be reduced or eliminated inthe future, which could hinder our ability to operate at a profit. Federalethanol supports, such as the renewable fuels standard (“RFS”), help support amarket for ethanol that might disappear without this incentive; as such, awaiver of minimum levels of renewable fuels included in gasoline could have amaterial adverse effect on our results of operations. The elimination orreduction of tax incentives to the ethanol industry, such as the VEETCavailable to gasoline refiners and blenders, could reduce the market forethanol, causing prices, revenues, and profitability to decrease.

 

**Liquidity and Capital Resources**

** **

*Estimated Sources of Funds*

* *

The followingschedule sets forth estimated sources of funds to build our ethanol plantnear Lamberton, Minnesota.  This schedule could change in the futuredepending on the level of equity and debt financing we receive and the amountof grants, if any we are able to obtain.

 
| **Sources of  Funds  (1)**                | ** ** | ** ** | ** **  | **Percent** | ** ** |
|----------------------------------------------------------|------------|------------|-------------|-------------|------------|
| Offering Proceeds (2)                                    |       | $          | 45,710,000  |        | 40.24      | % |
| Seed Capital Proceeds (3)                                |       | $          | 1,680,000   |        | 1.48       | % |
| Senior   and  Subordinated Debt Financing  (4) |       | $          | 51,314,000  |        | 45.18      | % |
| Bond Financing (5)                                       |       | $          | 14,876,000  |        | 13.10      | % |
|                                                     |       |       |        |        |       |
| **Total Sources of Funds**                               |       | $          | 113,580,000 |        | 100.00     | % |

 

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(1)                                                   The amount of estimated offering proceeds andsenior debt financing may be adjusted depending on the amount of grants we areable to obtain.

 

(2)                                                   We received proceeds for approximately$45,670,000 in our registered offering and issued 4,567 registered units to ourinvestors.  We also received $40,000 ofinvestor deposits that were forfeited and are included with these offeringproceeds.

 

(3)                                                   We issued a total of 386 units to our seedcapital investors in exchange for proceeds of $1,680,000.  We issued a total of 236 units to our seedcapital investors at a price of $5,000 per unit.  In addition, we issued 150 units to ourfounders at a price of $3,333.33 per unit.

 

(4)                                                   We have a definitive loan agreement with FNBOfor debt financing in the amount up to $61,000,000, consisting of up to$50,400,000 for a Construction Loan, together with up to $5,000,000 RevolvingLoan and up to $5,600,000 to support the issuance of letters of credit byFNBO.  We have issued letters of creditto Redwood Electric Cooperative, Inc. and Northern Natural Gas Company forthe amount of $700,000 and $4,000,000 respectfully.  The details of the letters of credit aredescribed above in *Plant Construction andStart-Up of Plant Operations.*

 

(5)                                                   We have entered into a long term leaseagreement with the City of Lamberton, Minnesota in order to finance equipmentfor the plant.  The City financed thepurchase of equipment through Solid Waste Facilities Revenue Bonds Series 2008Atotaling $15,180,000.  We receivedproceeds of approximately $14,876,000, after financing costs of approximately$304,000.  The remaining proceeds areheld as restricted cash and marketable securities based on anticipated use andare split between a project fund of approximately $11,564,000, a capitalizedinterest fund of approximately $1,818,000, and a debt service reserve fund ofapproximately $1,501,000.

 

We expect to have sufficientcash on hand through our equity and debt financing to cover all costsassociated with construction of the project, including, but not limited to,site development, utilities, construction and equipment acquisition.

 

*Estimated Uses of Proceeds*

* *

The following table reflectsour estimate of costs and expenditures for the ethanol plant to be built nearLamberton, Minnesota.  These estimatesare based on discussions with Fagen, Inc., our design-builder. Thefollowing figures are intended to be estimates only, and the actual use offunds may vary significantly from the descriptions given below due to a varietyof factors described elsewhere in this report.

 

Estimate of Costs as of the Date of this Report.

 
| **Use of Proceeds** | ** ** | **Amount** | ** ** | **Percent of Total** | ** ** |
|-------------------------------|------------|------------|------------|--------------------------------|------------|
|                          |       |       |       |                           |       |
| Plant construction            |       | $          | 69,950,000 |                           | 61.59      | % |
| Land cost                     |       | 1,098,000  |       | 0.97                           | %          |
| Site development costs        |       | 13,647,300 |       | 12.02                          | %          |
| Construction contingency      |       | 1,000,000  |       | 0.88                           | %          |
| Construction performance bond |       | 350,000    |       | 0.31                           | %          |
| Construction insurance costs  |       | 160,000    |       | 0.14                           | %          |
| Administrative building       |       | 300,000    |       | 0.26                           | %          |
| Office equipment              |       | 44,500     |       | 0.04                           | %          |
| Computers, Software, Network  |       | 193,000    |       | 0.17                           | %          |
|                               |            |            |            |                                |            |  |

 

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| Railroad                              |       | 5,879,615 |            | 5.18   | %      |
|---------------------------------------|------------|-----------|-----------------|--------|--------|
| Rolling stock                         |       | 560,000   |            | 0.49   | %      |
| Fire Protection and water supply      |       | 6,005,835 |            | 5.29   | %      |
| Construction Manager Fees             |       | 100,000   |            | 0.09   | %      |
| Capitalized interest                  |       | 1,818,000 |            | 1.60   | %      |
| **Start up costs:**                   |       |      |            |   |   |
| Financing costs                       |       | 1,981,000 |            | 1.74   | %      |
| Cost of Raising Capital               |       | 736,000   |            | 0.65   | %      |
| Organization costs                    |       | 935,000   |            | 0.82   | %      |
| Pre-production period costs           |       | 1,170,750 |            | 1.03   | %      |
| Debt Service Reserve                  |       | 1,501,000 |            | 1.32   | %      |
| Working capital                       |       | 2,000,000 |            | 1.76   | %      |
| Inventory - corn                      |       | 1,375,000 |            | 1.21   | %      |
| Inventory - chemicals and ingredients |       | 600,000   |            | 0.53   | %      |
| Inventory - Ethanol                   |       | 1,500,000 |            | 1.32   | %      |
| Inventory - DDGS                      |       | 500,000   |            | 0.44   | %      |
| Spare parts - process equipment       |       | 175,000   |            | 0.15   | %      |
| **Total**                             | ** ** | **$**     | **113,580,000** |   | 100.00 | % |
|                                       |            |           |                 |        |        |  |

 

We expect the total fundingrequired for the plant to be approximately $113,580,000, which includes$69,950,000 to build the plant and approximately $43,630,000 for other projectdevelopment costs including land, site development, utilities, start-up costs,capitalized fees and interest, inventories and working capital.  In addition, our use of proceeds budget waspreviously increased due to increases in the budgeted amounts for the CCIcontingency, site development costs, construction performance bond, railroadcosts, fire protection and water supply, and financing costs.  Our use of proceeds is measured from date ofinception and we have already incurred some of the related expenditures.

 

*Financial Results*

* *

As of October 31, 2008, we had cash ofapproximately $1,356,000 and total assets of approximately $77,798,000, whichincludes approximately $62,948,000 in construction in progress andapproximately $6,842,000 in restricted marketable securities.  As of October 31, 2008, we had currentliabilities of approximately $17,495,000 consisting mainly of accrued expensesin the amount of approximately $669,000 and construction payable in the amountof approximately $16,764,000.  Inaddition, we have long term debt of approximately $15,180,000.  Total members’ equity as of October 31,2008, was approximately $45,123,000. Since inception, we have generated no revenue from operations, and as ofOctober 31, 2008, have accumulated net losses of approximately $1,470,000and accumulated other comprehensive loss of approximately $60,000.

 

We raised $1,680,000 in seed capital throughprevious private placements.  Wereceived proceeds for approximately 4,567 units through our registered offeringfor aggregate proceeds of approximately $45,670,000.  We closed the offering on April 5, 2008and released funds from escrow on April 7, 2008.

 

**Critical Accounting Estimates**

** **

Management uses various estimates and assumptions inpreparing our financial statements in accordance with generally acceptedaccounting 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 estimatesthat are the most important to the presentation of our results of operationsand financial condition, and which require the greatest use of judgment bymanagement, are designated as our critical accounting estimates. We have thefollowing critical accounting estimates:

 

 Wereview long-lived assets for impairment whenever events or changes incircumstances indicate that the related carrying amounts may not berecoverable.  Impairment testing for assets requires various estimates andassumptions, including an allocation of cash flows to those assets and, ifrequired, an estimate of the fair value of those assets.

 

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Ourestimates are based upon assumptions believed to be reasonable, but which areinherently uncertain and unpredictable. These valuations require the use ofmanagement’s assumptions, which do not reflect unanticipated events andcircumstances that may occur.

 

**Off-Balance Sheet Arrangements**

** **

We do not haveany off-balance sheet arrangements.

 

**Employees**

** **

We currently have threepart-time employees, a Plant Manager and a General Manager/Chief ExecutiveOfficer.  Our Grain Merchandiser andMaintenance Technician are expected to start working for the Company in February andour Operations Manager is expected to start work in early March.   See “**DESCRIPTIONOF BUSINESS – Employees.”**

 

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**ITEM7.  FINANCIAL STATEMENTS.**

REPORTOF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

Board of Governors

Highwater Ethanol, LLC

Lamberton, Minnesota

 

We have audited the accompanying balance sheets ofHighwater Ethanol, LLC (a development stage company) as of October 31,2008 and 2007, and the related statements of operations, changes in members’equity and comprehensive loss, and cash flows for the years then ended and theperiod from inception (May 2, 2006) to October 31, 2008. HighwaterEthanol, LLC’s management is responsible for these financial statements. Ourresponsibility is to express an opinion on these financial statements based onour audits.

 

We conducted our audits in accordance with the standardsof the Public Company Accounting Oversight Board (United States). Thosestandards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement. The Company is not required to have, nor were we engaged toperform, an audit of its internal control over financial reporting. Our auditincluded consideration of internal control over financial reporting as a basisfor designing audit procedures that are appropriate in the circumstances, butnot for the purpose of expressing an opinion on the effectiveness of theCompany’s internal control over financial reporting. Accordingly, we express nosuch opinion. An audit also includes examining, on a test basis, evidencesupporting the amounts and disclosures in the financial statements, assessingthe accounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation. We believethat our audits provide a reasonable basis for our opinion.

 

In our opinion, the financial statements referred toabove present fairly, in all material respects, the financial position ofHighwater Ethanol, LLC (a development stage company) as of October 31,2008 and 2007, and the results of its operations and its cash flows for theyears then ended and for the period from inception (May 2, 2006) to October 31,2008 in conformity with accounting principles generally accepted in the UnitedStates of America.

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

 

Minneapolis, Minnesota

January 29, 2009

 

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**HIGHWATERETHANOL, LLC**

(ADevelopment Stage Company)

 

BalanceSheets

 
| ** **                       | ** ** | **October 31,** | ** ** | **October 31,** | ** ** |
|----------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                       | ** ** | **2008**             | ** ** | **2007**             | ** ** |
| **ASSETS**                       |       |                 |       |                 |       |
|                             |       |                 |       |                 |       |
| **Current Assets**               |       |                 |       |                 |       |
| Cash                             |       | $                    | 1,355,827  |                 | $          | 98,697 |   |
| Restricted cash                  |       | 2,916,825            |       | 56,254               |       |
| Restricted marketable securities |       | 5,380,199            |       | —               |       |
| Prepaids and other               |       | 540,190              |       | 35,353               |       |
| Total current assets             |       | 10,193,041           |       | 190,304              |       |
|                             |       |                 |       |                 |       |
| **Property and Equipment**       |       |                 |       |                 |       |
| Land and land improvements       |       | 1,250,621            |       | 1,018,252            |       |
| Construction in progress         |       | 62,948,311           |       | 20,854               |       |
| Office equipment                 |       | 19,137               |       | 17,283               |       |
| Accumulated depreciation         |       | (5,949               | )          | (2,386               | )          |
| Total property and equipment     |       | 64,212,120           |       | 1,054,003            |       |
|                             |       |                 |       |                 |       |
| **Other Assets**                 |       |                 |       |                 |       |
| Restricted cash                  |       | 56,565               |       | —               |       |
| Restricted marketable securities |       | 1,461,435            |       | —               |       |
| Deferred offering costs          |       | —               |       | 717,363              |       |
| Debt issuance costs, net         |       | 1,874,782            |       | 2,209                |       |
| Land options                     |       | —               |       | 2,000                |       |
| Total other assets               |       | 3,392,782            |       | 721,572              |       |
|                             |       |                 |       |                 |       |
| **Total Assets**                 |       | $                    | 77,797,943 |                 | $          | 1,965,879 |   |

 
| ** **                                                                                                                                       | ** ** | **October 31,** | ** ** | **October 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                                                                                                                                       | ** ** | **2008**             | ** ** | **2007**             | ** ** |
|                                                                                                                                             |       |                 |       |                 |       |
| **LIABILITIES AND EQUITY**                                                                                                             |       |                 |       |                 |       |
| ** **                                                                                                                                       |       |                 |       |                 |       |
| **Current Liabilities**                                                                                                                          |       |                 |       |                 |       |
| Note payable                                                                                                                                     |       | $                    | —     |                 | $          | 1,100,000 |   |
| Accounts payable                                                                                                                                 |       | 54,833               |       | 577,231              |       |
| Accounts payable - members                                                                                                                       |       | 7,014                |       | 125,589              |       |
| Construction payable                                                                                                                             |       | 1,620,712            |       | —               |       |
| Construction payable - members                                                                                                                   |       | 15,143,048           |       | —               |       |
| Accrued expenses                                                                                                                                 |       | 669,126              |       | 13,956               |       |
| Total current liabilities                                                                                                                        |       | 17,494,733           |       | 1,816,776            |       |
|                                                                                                                                             |       |                 |       |                 |       |
| **Long-Term Debt**                                                                                                                               |       | 15,180,000           |       | —               |       |
|                                                                                                                                             |       |                 |       |                 |       |
| **Commitments and Contingencies**                                                                                                                |       |                 |       |                 |       |
|                                                                                                                                             |       |                 |       |                 |       |
| **Members’ Equity**                                                                                                                         |       |                 |       |                 |       |
| Member contributions, net of costs related  to capital contributions,4,953 and  386 units outstanding at October 31, 2008 and 2007, respectively |       | 46,653,590           |       | 1,680,000            |       |
| Deficit accumulated during development  stage                                                                                                    |       | (1,470,276           | )          | (1,530,897           | )          |
| Accumulated other comprehensive loss                                                                                                             |       | (60,104              | )          | —               |       |
| Total members’ equity                                                                                                                       |       | 45,123,210           |       | 149,103              |       |
|                                                                                                                                             |       |                 |       |                 |       |
| **Total Liabilities and Members’ Equity**                                                                                                   |       | $                    | 77,797,943 |                 | $          | 1,965,879 |   |

 

Notes to Financial Statementsare an integral part of this Statement.

 

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**HIGHWATER ETHANOL, LLC**

(A Development Stage Company)

 

Statements of Operations

 
| ** **                             | ** ** | ** **                     | ** ** | ** **                     | ** ** | **From Inception**                | ** ** |
|----------------------------------------|------------|--------------------------------|------------|--------------------------------|------------|----------------------------------------|------------|
| ** **                             | ** ** | **Year Ended**            | ** ** | **Year Ended**            | ** ** | **(May 2, 2006)**            | ** ** |
| ** **                             | ** ** | **October 31, 2008** | ** ** | **October 31, 2007** | ** ** | **to October 31, 2008** | ** ** |
|                                   |       |                           |       |                           |       |                                   |       |
| **Revenues**                           |       | $                              | —     |                           | $          | —                                 |       | $ | — |   |
|                                   |       |                           |       |                           |       |                                   |       |
| **Operating Expenses**                 |       |                           |       |                           |       |                                   |       |
| Professional fees                      |       | 710,218                        |       | 990,707                        |       | 2,042,272                              |       |
| General and administrative             |       | 300,512                        |       | 199,720                        |       | 527,193                                |       |
| Total operating expenses               |       | 1,010,730                      |       | 1,190,427                      |       | 2,569,465                              |       |
|                                   |       |                           |       |                           |       |                                   |       |
| **Operating Loss**                     |       | (1,010,730                     | )          | (1,190,427                     | )          | (2,569,465                             | )          |
|                                   |       |                           |       |                           |       |                                   |       |
| **Other Income (Expense)**             |       |                           |       |                           |       |                                   |       |
| Interest income                        |       | 1,060,630                      |       | 30,507                         |       | 1,110,785                              |       |
| Other income                           |       | 10,721                         |       | 3,225                          |       | 13,946                                 |       |
| Interest expense                       |       | —                         |       | (25,542                        | )          | (25,542                                | )          |
| Total other income, net                |       | 1,071,351                      |       | 8,190                          |       | 1,099,189                              |       |
|                                   |       |                           |       |                           |       |                                   |       |
| **Net Income (Loss)**                  |       | $                              | 60,621     |                           | $          | (1,182,237                             | )          | $ | (1,470,276 | ) |
|                                   |       |                           |       |                           |       |                                   |       |
| **Weighted Average Units Outstanding** |       | 3,056                          |       | 386                            |       | 1,440                                  |       |
|                                   |       |                           |       |                           |       |                                   |       |
| **Net Income (Loss) Per Unit**         |       | $                              | 19.84      |                           | $          | (3,062.79                              | )          | $ | (1,021.03 | ) |

 

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

 

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**HIGHWATER ETHANOL, LLC**

(A Development Stage Company)

 

Statement of Changes in Members’ Equity andComprehensive Income

 
| ** **                                                           | ** ** | ** **        | ** ** | **Deficit Accumulated** | ** ** | **Accumulated Other** | ** ** | ** ** | ** ** |
|----------------------------------------------------------------------|------------|-------------------|------------|------------------------------|------------|----------------------------|------------|------------|------------|
| ** **                                                           | ** ** | **Member**        | ** ** | **During**                   | ** ** | **Comprehensive**          | ** ** | ** ** | ** ** |
| ** **                                                           | ** ** | **Contributions** | ** ** | **Development Stage**   | ** ** | **Loss**                   | ** ** | **Total**  | ** ** |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| **Balance - May 2, 2006, Inception**                            |       | $                 | —     |                         | $          | —                     |       | $          | —     |   | $ | — |   |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| Membership units - 150 units at $3,333 per  unit, May 2006      |       | 500,000           |       | —                       |       | —                     |       | 500,000    |       |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| Membership units - 236 units at $5,000 per  unit, June 2006     |       | 1,180,000         |       | —                       |       | —                     |       | 1,180,000  |       |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| Net loss                                                             |       | —            |       | (348,660                     | )          | —                     |       | (348,660   | )          |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| **Balance - October 31, 2006**                                  |       | 1,680,000         |       | (348,660                     | )          | —                     |       | 1,331,340  |       |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| Net loss                                                             |       | —            |       | (1,182,237                   | )          | —                     |       | (1,182,237 | )          |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| **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 income                                           |       |              |       |                         |       |                       |       |       |       |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| Net income                                                           |       | —            |       | 60,621                       |       | —                     |       | 60,621     |       |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| Unrealized loss on restricted marketable  securities                 |       | —            |       | —                       |       | (60,104                    | )          | (60,104    | )          |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| Total comprehensive income                                           |       | —            |       | —                       |       | —                     |       | 517        |       |
|                                                                 |       |              |       |                         |       |                       |       |       |       |
| **Balance - October 31, 2008**                                  |       | $                 | 46,653,590 |                         | $          | (1,470,276                 | )          | $          | (60,104    | ) | $ | 45,123,210 |   |

 

Notes to Financial Statements are an integralpart of this Statement.

 

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**HIGHWATER ETHANOL, LLC**

(A Development Stage Company)

 

Statement of Cash Flows

 
| ** **                                                                 | ** ** | ** **                     | ** ** | ** **                     | ** ** | **From Inception**                | ** ** |
|----------------------------------------------------------------------------|------------|--------------------------------|------------|--------------------------------|------------|----------------------------------------|------------|
| ** **                                                                 | ** ** | **Year Ended**            | ** ** | **Year Ended**            | ** ** | **(May 2, 2006)**            | ** ** |
| ** **                                                                 | ** ** | **October 31, 2008** | ** ** | **October 31, 2007** | ** ** | **to October 31, 2008** | ** ** |
|                                                                       |       |                           |       |                           |       |                                   |       |
| **Cash Flows from Operating Activities**                                   |       |                           |       |                           |       |                                   |       |
| Net income (loss)                                                          |       | $                              | 60,621     |                           | $          | (1,182,237                             | )          | $ | (1,470,276 | ) |
| Adjustments to reconcile net income (loss) to  net cash from operations    |       |                           |       |                           |       |                                   |       |
| Depreciation and amortization                                              |       | 3,563                          |       | 6,179                          |       | 9,801                                  |       |
| Other                                                                      |       | 1,624                          |       | —                         |       | 370                                    |       |
| Change in assets and liabilities                                           |       |                           |       |                           |       |                                   |       |
| Prepaids and other                                                         |       | (504,837                       | )          | (20,080                        | )          | (540,190                               | )          |
| Accounts payable, including members                                        |       | (411,737                       | )          | 283,896                        |       | 61,847                                 |       |
| Accrued expenses                                                           |       | (11,485                        | )          | 13,956                         |       | 2,471                                  |       |
| Net cash used in operating activities                                      |       | (862,251                       | )          | (898,286                       | )          | (1,935,977                             | )          |
|                                                                       |       |                           |       |                           |       |                                   |       |
| **Cash Flows from Investing Activities**                                   |       |                           |       |                           |       |                                   |       |
| Capital expenditures                                                       |       | (232,223                       | )          | (874,415                       | )          | (1,227,758                             | )          |
| Construction in progress                                                   |       | (40,327,504                    | )          | (20,854                        | )          | (40,348,358                            | )          |
| Payments for land options                                                  |       | —                         |       | (30,000                        | )          | (42,000                                | )          |
| Net cash used in investing activities                                      |       | (40,559,727                    | )          | (925,269                       | )          | (41,618,116                            | )          |
|                                                                       |       |                           |       |                           |       |                                   |       |
| **Cash Flows from Financing Activities**                                   |       |                           |       |                           |       |                                   |       |
| Proceeds from note payable                                                 |       | —                         |       | 1,038,939                      |       | 1,038,939                              |       |
| Payments on notes payable                                                  |       | (1,100,000                     | )          | —                         |       | (1,100,000                             | )          |
| Funds received from restricted cash                                        |       | 36,721                         |       | —                         |       | 36,721                                 |       |
| Increase in restricted cash from net interest  earned                      |       | (119,604                       | )          | —                         |       | (119,604                               | )          |
| Member contributions                                                       |       | 45,670,000                     |       | —                         |       | 47,350,000                             |       |
| Forfeited investor deposits                                                |       | 40,000                         |       | —                         |       | 40,000                                 |       |
| Payments for deferred offering costs                                       |       | (248,283                       | )          | (381,058                       | )          | (736,410                               | )          |
| Payments for debt issuance costs                                           |       | (1,599,726                     | )          | —                         |       | (1,599,726                             | )          |
| Net cash provided by financing activities                                  |       | 42,679,108                     |       | 657,881                        |       | 44,909,920                             |       |
|                                                                       |       |                           |       |                           |       |                                   |       |
| **Net Increase (Decrease) in Cash**                                        |       | 1,257,130                      |       | (1,165,674                     | )          | 1,355,827                              |       |
|                                                                       |       |                           |       |                           |       |                                   |       |
| **Cash - Beginning of period**                                             |       | 98,697                         |       | 1,264,371                      |       | —                                 |       |
|                                                                       |       |                           |       |                           |       |                                   |       |
| **Cash - End of period**                                                   |       | $                              | 1,355,827  |                           | $          | 98,697                                 |       | $ | 1,355,827 |   |
|                                                                       |       |                           |       |                           |       | —                                 |       |
| **Supplemental Cash Flow Information**                                     |       |                           |       |                           |       |                                   |       |
| Cash paid for interest expense                                             |       | $                              | —     |                           | $          | 25,542                                 |       | $ | 25,542 |   |
| Cash paid for interest capitalized                                         |       | $                              | 66,895     |                           | $          | 8,154                                  |       | $ | 76,895 |   |
| Total                                                                      |       | $                              | 66,895     |                           | $          | 33,696                                 |       | $ | 102,437 |   |
|                                                                       |       |                           |       |                           |       |                                   |       |
| **Supplemental Disclosure of Noncash  Financing and Investing Activities** |       |                           |       |                           |       |                                   |       |
| Unrealized losses on restricted marketable  securities                     |       | $                              | 60,104     |                           | $          | —                                 |       | $ | 60,104 |   |
| Restricted cash received as part of capital  lease                         |       | $                              | 14,876,400 |                           | $          | —                                 |       | $ | 14,876,400 |   |
| Restricted cash received as part of note  payable                          |       | $                              | —     |                           | $          | 55,000                                 |       | $ | 55,000 |   |
| Purchase of restricted marketable  securities with restricted cash         |       | $                              | 6,903,362  |                           | $          | —                                 |       | $ | 6,903,362 |   |
| Construction in progress included in  construction payable                 |       | $                              | 16,763,760 |                           | $          | —                                 |       | $ | 16,763,760 |   |
| Capital expenditures included in accounts  payable                         |       | $                              | —     |                           | $          | 119,704                                |       | $ | — |   |
| Construction in progress paid from  restricted cash                        |       | $                              | 5,138,785  |                           | $          | —                                 |       | $ | 5,138,785 |   |
| Accrued interest capitalized in  construction in progress                  |       | $                              | 666,655    |                           | $          | —                                 |       | $ | 666,655 |   |
| Loan costs capitalized with construction in  progress                      |       | $                              | 30,753     |                           | $          | —                                 |       | $ | 30,753 |   |
| Deferred offering costs included in  accounts payable                      |       | $                              | —     |                           | $          | 229,236                                |       | $ | — |   |
| Debt issuance costs financed through  capital lease                        |       | $                              | 303,600    |                           | $          | —                                 |       | $ | 303,600 |   |
| Debt issuance costs financed with note  payable                            |       | $                              | —     |                           | $          | 6,061                                  |       | $ | 6,061 |   |
| Costs of raising capital offset against  equity raised                     |       | $                              | 736,410    |                           | $          | —                                 |       | $ | 736,410 |   |
| Land options exercised for land purchase                                   |       | $                              | 2,000      |                           | $          | 40,000                                 |       | $ | 42,000 |   |

 

Notes to Financial Statementsare an integral part of this Statement.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

**1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

*Nature of Business*

 

Highwater Ethanol, LLC, (a Minnesota Limited Liability Company) wasorganized with the intentions of developing, owning and operating a 50 milliongallon dry mill corn-processing ethanol plant near Lamberton, Minnesota. TheCompany was formed on May 2, 2006 to have a perpetual life. As ofOctober 31, 2008, the Company is in the development stage with its effortsbeing principally devoted to organizational activities and construction of theplant.  The Company anticipatescompletion of the plant in May 2009.

 

*Fiscal Reporting Period*

 

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

 

*AccountingEstimates*

 

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 including the carrying value of property andequipment.  The Company periodicallyreviews estimates and assumption and the effect of revisions are reflected inthe period in which the revision is made. Actual results could differ from those estimates.

 

*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. TheCompany does not believe it is exposed to any significant credit risk on cashbalances.

 

*Restricted Marketable Securities*

 

The Company maintains restricted marketable securities in debtsecurities as part of the capital lease financing agreement described in Note8.  The restricted marketable securitiesconsist primarily of municipal obligations, U.S. treasury and governmentobligations, and corporate obligations. Restricted 

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

marketable securities are classified as “available-for-sale” and arecarried at their estimated fair market value based on quoted market prices atyear end. Realized gains and losses, determined using the specificidentification method, are included in earnings; unrealized holding gains andlosses on available-for-sale securities are reported as a separate component ofmembers’ equity in accumulated other comprehensive income or loss and excludedfrom earnings until realized.

 

*Property and Equipment*

 

Property and equipment is stated at cost.  Depreciation is provided over an estimateduseful life by use of the straight line method. Maintenance and repairs are expensed as incurred; major improvements andbetterments are capitalized.  The presentvalue of capital lease obligations is classified as long-term debt and therelated assets will be included with property and equipment.  Amortization of property and equipment undercapital lease will be included with depreciation expense.

 

The Company incurred substantial consulting, permitting, and otherpre-construction services related to building its plant facilities prior toreceiving project funding.  These costs were expensed prior to obtainingproject debt and equity financing.  Oncethis funding was received, these costs as they related to project constructionhave been capitalized with construction in progress.

 

The Company capitalizes construction costs and construction periodinterest as construction in progress until the assets are placed inservice.  As of October 31, 2008,the Company had construction in progress of approximately $62,950,000, whichincludes approximately $774,000 of capitalized interest, including amountsaccrued, and approximately $92,000 of insurance costs.  As of October 31, 2007, the Company hadconstruction in progress of approximately $21,000, all consisting ofcapitalized interest, including amounts accrued.

 

*Carrying Value of Long-Lived Assets*

 

Long-lived assets, such as property, plant, and equipment, and otherlong-lived assets subject to amortization, are reviewed for impairment wheneverevents or changes in circumstances indicate that the carrying amount of anasset may not be recoverable.  Ifcircumstances require a long-lived asset be tested for possible impairment, theCompany first compares undiscounted cash flows expected to be generated by anasset to the carrying value of the asset. If the carrying value of the long-lived asset is not recoverable on anundiscounted cash flow basis, impairment is recognized to the extent that thecarrying value exceeds its fair value. Fair value is determined through various valuation techniques includingdiscounted cash flow models, quoted market values and third-party independentappraisals, as considered necessary.

 

*Deferred Offering Costs*

 

The Company defers the costs incurred to raise equity financing untilthat financing occurs. At such time that the issuance of new equity occurs,these costs will be netted against the proceeds received.  In April 2008, the issuance of newequity occurred and approximately $736,000 of offering costs were nettedagainst the proceeds received.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

*Debt Issuance 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 the period.Diluted net income per unit is computed by dividing net income by the weightedaverage number of members’ units and members’ unit equivalents outstandingduring the period.  There were no memberunit equivalents outstanding during the periods presented; accordingly, for allperiods presented, the Company’s basic and diluted net income per unit are thesame.

 

*Income Taxes*

 

The Company is treated as partnership for federal and state income taxpurposes and generally does not incur income taxes. Instead, their income orlosses are included in the income tax returns of the members and partners.Accordingly, no provision or liability for federal or state income taxes hasbeen included in these financial statements.

 

In June 2006, the FASB issuedInterpretation No. 48, *Accounting forUncertainty in Income Taxes* (FIN 48). FIN 48 clarifies therequirements of SFAS 109, *Accounting forIncome Taxes*, relating to the recognition of income tax benefits.FIN 48 provides a two-step approach to recognizing and measuring tax benefitswhen realization of the benefits is uncertain. The first step is to determinewhether the benefit meets the more-likely-than-not condition for recognitionand the second step is to determine the amount to be recognized based on thecumulative probability that exceeds 50%.  Primarily due to the Company’stax status as a partnership, the adoption of FIN 48 on November 1, 2008,had no material impact on the Company’s financial condition or results ofoperations.

 

*Fair Value of Financial Instruments*

 

The carrying value of cash, restricted cash, and restricted marketablesecurities approximates their fair value based on quoted market prices at yearend.  The Company believes the carryingamount of the long-term debt approximates the fair value due to the terms ofthe debt and the current interest rate environment.

 

*Recently Issued Accounting Pronouncements*

 

In September 2006, the Financial Accounting Standards Board (FASB)issued Statement of Financial Accounting Standards No. 157 (SFAS 157), *Fair Value Measurements*, SFAS 157 defines fair value,establishes a framework for measuring fair value, and expands disclosures aboutfair value measurements.  The statementis effective for (1) financial assets and liabilities in financial statements

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

issued for fiscal years beginning after November 15, 2007, andinterim periods within those fiscal years and (2) certain non-financialassets and liabilities in financial statements issued for fiscal yearsbeginning after November 15, 2008, and interim periods within those fiscalyears.  The Company is evaluating theeffect, if any, that the adoption of SFAS 157 will have on its results ofoperations, financial position, and the related disclosures.

 

In February 2007, the Financial Accounting Standards Board (FASB)issued Statement of Financial Accounting Standards No. 159, (SFAS 159), *The Fair Value Option for Financial Assets and Financial Liabilities —Including an amendment of FASB Statement No. 115 (Accounting for CertainInvestments in Debt and Equity Securities)*.  SFAS 159 provides companies with an option toreport selected financial assets and liabilities at fair value and is effectivefor fiscal years beginning after November 15, 2007 with early adoptionpermitted.  The Company is evaluating theeffect, if any, that the adoption of SFAS 159 will have on its results ofoperations, financial position, and the related disclosures.

 

In March 2008, the FASB issued SFAS No. 161, Disclosuresabout Derivative Instruments and Hedging Activities, an amendment of FASBStatement No. 133. SFAS 161 applies to all derivative instruments andnonderivative instruments that are designated and qualify as hedginginstruments pursuant to paragraphs 37 and 42 of SFAS 133 and related hedgeditems accounted for under SFAS 133. SFAS 161 requires entities to providegreater transparency through additional disclosures about how and why an entityuses derivative instruments, how derivative instruments and related hedgeditems are accounted for under SFAS 133 and its related interpretations, and howderivative instruments and related hedged items affect an entity’s financialposition, results of operations, and cash flows. SFAS 161 is effective as ofthe beginning of an entity’s first fiscal year that begins afterNovember 15, 2008. The Company currently plans to adopt SFAS 161 duringits 2010 fiscal year.

 

**2. UNCERTAINTIES**

 

The Company will derive substantially all of its revenues from the saleof ethanol and distillers grains once operations commence.  These products are commodities and the marketprices for these products recently display substantial volatility and aresubject to a number of factors which are beyond the control of theCompany.  The Company’s most significantmanufacturing inputs will be corn and natural gas. The price of thesecommodities is also subject to substantial volatility and uncontrollable marketfactors. In addition, these input costs do not necessarily fluctuate with themarket prices for ethanol and distillers grains. 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 a result, market fluctuations in the priceof or demand for these commodities can have a significant adverse effect on theCompany’s operations and profitability.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

**3.  RESTRICTED MARKETABLE SECURITIES**

 

The cost and fair value of the Company’s restricted marketablesecurities consist of the following at October 31, 2008:

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

 

The long-term restricted marketable securities relate to the debtservice reserve fund noted in Note 8. Other comprehensive income is income ofapproximately $500 for the year ended October 31, 2008.

 

Shown below are the contractual maturities of marketable securitieswith fixed maturities at October 31, 2008. Actual maturities may differ from contractual maturities because certainsecurities may contain early call or prepayment rights.

 
| Due within 1 year        |   | $         | 5,380,199 |   |
|--------------------------|--------|-----------|-----------|--------|
| Due in 1 to 3 years      |   | —    |      |
| Due in 3 to 5 years      |   | 1,237,815 |      |
| Due in more than 5 years |   | 223,620   |      |
| Total                    |   | $         | 6,841,634 |   |

 

**4. INTERIM FINANCING**

 

The Company had a note payable for $800,000 from a bank to finance aland purchase.  The note carried annualinterest at 7.50% and was repaid in April 2008.

 

In July 2007, the Company obtained an unsecured note payable for$300,000 from the general contractor. The note carried interest at 7.50% and was payable in full at theearlier of financial close or January 2, 2008.  In January 2008, the Company executed anextension agreement for the note to be 

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

payable in full at the earlier of financial close or April 15,2008.  In April 2008, the Companypaid all principal and interest due on this note.

 

**5. 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 percentage ofunits 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.  TheCompany received approximately $40,000 of investor deposits that were forfeitedand are included with member contributions. These funds will be used to provide financing to complete the Company’sethanol facility in Lamberton, Minnesota.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

**6. INCOME TAXES**

 

The Company has adopted an October 31 fiscal year end, but has atax year end of December 31.  Thedifferences between financial statement basis and tax basis of assets areestimated as follows:

 

| ** **                                                                   | ** ** | **October 31,** | ** ** | **October 31,** | ** ** |
|------------------------------------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                                                                   | ** ** | **2008**             | ** ** | **2007**             | ** ** |
|                                                                         |       |                 |       |                 |       |
| Financial statement basis of total assets                                    |       | $                    | 77,797,943 |                 | $          | 1,965,879 |   |
|                                                                         |       |                 |       |                 |       |
| Organizational and start-up costs expensed  for financial reporting purposes |       | 2,542,960            |       | 1,544,339            |       |
|                                                                         |       |                 |       |                 |       |
| Income tax basis of total assets                                             |       | $                    | 80,340,903 |                 | $          | 3,510,218 |   |

 

There were no differences between the financial statement basis and taxbasis of the Company’s liabilities.

 

**7. RELATED PARTY TRANSACTIONS**

 

A member is providing legal services to the Company.  The Company has incurred approximately$123,000 for the year ended October 31, 2008 related to these services.

 

In September 2006, the Company entered into an agreement with a generalcontractor and member to design and build the ethanol plant.  As of October 31, 2008, the Company hasincurred approximately $47,747,000 for these services.

 

In December 2007, the Company entered into an agreement with arelated party through common ownership for the construction of a watertreatment facility, well drilling, and installation of the fire loop.  As of October 31, 2008, the Company hasincurred approximately $6,178,272 under this agreement.

 

In June 2007, the Company entered into an agreement with a relatedparty to be the exclusive provider of electricity for the plant.  As of October 31, 2008, the monthly feeof approximately $12,000 had been suspended until operations begin.

 

In August 2008, the Company entered into an agreement with arelated party through common ownership for the construction of anadministration building.  As ofOctober 31, 2008, the Company has incurred approximately $50,000.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

**8. DEBT FINANCING**

 

*Bank Financing*

 

In April 2008, the Company entered intoa credit agreement with a financial institution for the purpose of funding aportion of the cost of the ethanol plant. Under the credit agreement, the lender will provide a construction loanof $50,400,000, a construction revolving loan for $5,000,000 and will supportthe issuance of letters of credit up to $5,600,000, all of which are secured bysubstantially all assets.  AtOctober 31, 2008, the Company had issued $4,700,000 in letters of credit.  The Company will make monthly interestpayments for all amounts owed during the construction phase at the greater ofLIBOR plus 350 basis points or 4%.  Noamounts have been drawn on this financing at October 31, 2008.

 

Upon the completion of construction, amaximum of $25,200,000 of the construction loan will convert into a fixed ratenote, a maximum of $20,200,000 will convert into a variable rate note, and amaximum of $5,000,000 will convert into a long-term revolving note.  The Company will make 59 monthly principalpayments on the fixed rate note initially for approximately $145,000 plusaccrued interest commencing one month immediately following the constructionloan termination date. Interest will accrue on the fixed rate note at thegreater of the one-month LIBOR rate plus 300 basis points or 4%. A finalballoon payment on the fixed rate note of approximately $15,184,000 will be duefive years following the construction loan termination date.

 

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 duefive years following the construction loan termination date.

 

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 will be duefive years following the construction loan termination date.

 

The construction revolving loan is theCompany’s line of credit and accrues interest at the greater of the one-monthLIBOR plus 350 basis points or 4%.  Theline of credit requires monthly interest payments and is payable in full inApril 2009.

 

The Company is required to make additional payments annually on debtfor up to 50% of the excess 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 aresecured by substantially all business assets and are subject to variousfinancial and non-financial covenants that limit distributions and debt andrequire minimum debt service coverage, net worth, and working capitalrequirements.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

As of October 31, 2008, the Company has letters of creditoutstanding of $4,700,000 as mentioned previously.  The Company pays interest at a rate of 3% onamounts outstanding and the letters of credit are valid until July 2009.One of the letters of credit will automatically renew for an additional oneyear period in the amount of $4,000,000.

 

*Capital Lease*

 

In April 2008, the Company entered into a lease agreement with theCity of Lamberton, Minnesota, (the City) in order to finance equipment for theplant.  The lease has a term fromApril 1, 2008 through April 1, 2028 or until earlier terminated. TheCity financed the purchase of equipment through Solid Waste Facilities RevenueBonds Series 2008A totaling $15,180,000.

 

Under the equipment lease agreement with the City, the Company willstart making interest payments on November 25, 2008 and monthly thereafterat an implicit interest rate of 8.5%. The monthly capital lease interestpayments correspond to 1/6 the semi-annual interest payments due on the Bondson the next interest payment date. 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.  These payments will equal 1/12 the annualprincipal payments scheduled to become due on the corresponding bonds on thenext principal payment date.  The Companyhas guaranteed 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 lease includes an option to purchase the equipment at fairmarket value at the end of the lease term. Under the capital lease agreement, the proceeds are for project costsand the establishment of a capitalized interest fund and a debt service reservefund.  The Company received proceeds ofapproximately $14,876,000, after financing costs of approximately$304,000.  At close when the funds weredistributed, 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.

 

Estimated principal payments on long-termdebt are as follows at October 31, 2008:

 
| 2009       |   | $          | —     |   |
|------------|--------|------------|------------|--------|
| 2010       |   | —     |       |
| 2011       |   | —     |       |
| 2012       |   | —     |       |
| 2013       |   | —     |       |
| After 2013 |   | 15,180,000 |       |
| Total      |   | $          | 15,180,000 |   |

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

Future minimum lease payments under thecapital lease are as follows at October 31, 2008:

 
| 2009                                    |   | $          | 1,956,955  |   |
|-----------------------------------------|--------|------------|------------|--------|
| 2010                                    |   | 1,290,300  |       |
| 2011                                    |   | 1,290,300  |       |
| 2012                                    |   | 1,290,300  |       |
| 2013                                    |   | 1,290,300  |       |
| After 2013                              |   | 22,933,275 |       |
| Total                                   |   | 30,051,430 |       |
| Less amount representing interest       |   | 14,871,430 |       |
| Present value of minimum lease payments |   | 15,180,000 |       |
| Less current maturities                 |   | —     |       |
| Long-term debt                          |   | $          | 15,180,000 |   |

 

**9. COMMITMENTS AND CONTINGENCIES**

 

*Construction Contracts*

 

The total cost of the project, including the construction of theethanol plant and start-up expenses, is expected to approximate$113,580,000.  The Company signed anagreement in September 2006 with a general contractor, a related party, todesign and build the ethanol plant at a total contract price of approximately$66,026,000. The design-build agreement provided for an upward adjustment ofthe construction price over the construction cost index (CCI) published inJanuary 2006 of 7660.29.  As thenotice to proceed was executed in April 2008, the contract priceincreased, with change orders, to approximately $69,950,000.  Monthly applications are submitted for workperformed in the previous period.  Finalpayment will be due when final completion has been achieved.  As of October 31, 2008, the Company hasincurred approximately $47,747,000 for these services.

 

*Site Improvement Contracts*

 

In November 2007, the Company entered into an agreement with anunrelated party for dirt work related to the construction of the plant for anamount of approximately $1,761,000.  Asof October 31, 2008 the Company has approved change orders totalingapproximately $395,000.  The Companyshall pay a monthly fee of 90% of the value based on the amount of workcompleted, with the remaining 10% held as retainage.  As of October 31, 2008, the Company hasincurred approximately $2,113,000 under this agreement.  In August 2008, the Company entered intoan additional contract with the same party for rail system drainage for anamount of approximately $1,214,000.  TheCompany shall pay a monthly fee of 90% of the value based on the amount of workcompleted, with the remaining 10% held as retainage.  As of October 31, 2008, the Company hasincurred approximately $1,190,000 under this agreement.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

In December 2007, the Company entered into an agreement with arelated party for construction of a water treatment facility, well drilling,and installation of the fire loop for approximately $15,995,000.  The Company shall make monthly payments basedon the amount of work completed, with 5% retainage held on the last two payments.  As of October 31, 2008, the Company hasincurred approximately $6,178,000 under this agreement.

 

In July 2008, the Company entered into an agreement with anunrelated party for rail work for approximately $4,361,000.  The Company shall pay a monthly fee of 90% ofthe value based on the amount of work completed, with the remaining 10% held asretainage.  The contractor began work onAugust 15, 2008, and must complete the project by January 15, 2009.  The contractor shall pay the Company $750 fordamages each day that work extends beyond January 15, 2009.  As of October 31, 2008, the Company hasincurred approximately $3,700,000 under this agreement.

 

In July 2008, the Company entered into an agreement with anunrelated party for the installation of piling for support of grain silos forapproximately $428,000.  The contractrequired a 10% down payment of approximately $43,000 upon signing.  As of October 31, 2008, the Company hasincurred approximately $424,000 under this contract.

 

In August 2008, the Company entered into an agreement with arelated party for the construction of an administration building forapproximately $278,000.  The Companyshall pay a monthly fee of 90% of the value based on the amount of workcompleted, with the remaining 10% held as retainage.  As of October 31, 2008, the Company hasincurred approximately $50,000.

 

*Consulting Contracts*

 

In June 2007, the Company entered into an agreement with a relatedparty to be the exclusive provider of electricity for the plant. The agreement isto commence the earlier of the first day of the month in which the plant beginsoperations or June 1, 2008. The agreement is to remain in effect for aperiod of ten years following commencement. The rates for these services willbe a fixed charge of $12,000 per month along with monthly electric usage basedon rates listed in the agreement. The rates for the first five years of theagreement are guaranteed.  The estimatedconstruction cost of the electrical infrastructure is $1,300,000.  If the plant is not completed as planned orif 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 theCompany to provide a letter of credit upon request in the amount of $700,000,which was issued in July 2008, for the period of the construction andcontinuing for one year after commercial operation.  In June 2008, there was a verbalagreement to suspend the $12,000 monthly fee until operations begin.

 

In May 2008, the Company entered into an agreement with anunrelated party to provide construction management services.  The agreement will remain in effect untilterminated.  The fees for these servicesare $10,250 per month plus expense reimbursement.  As of October 31, 2008, the Company hasincurred approximately $69,000 under this agreement.

 

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**HIGHWATERETHANOL, LLC**

(A Development Stage Company)

 

Notes to Financial Statements

 

October 31, 2008 and 2007

 

In June 2008, the Company entered into an agreement with anunrelated party for construction of a natural gas pipeline, which is expectedto be in April 2009, and to be the exclusive provider of natural gas forthe plant. The agreement commences upon completion of the pipeline and willremain in effect for ten years.  Therates for these services will be based on the agreed upon minimum usage atrates listed in the agreement.  Theestimated construction cost of the pipeline is $4,000,000.  The agreement requires a cash deposit orletter of credit of $4,000,000 plus three months of capacity payments payablein installments determined by the unrelated party before constructionbegins.  The agreement also required theCompany to provide a security deposit of $500,000, which will be returned tothe Company over the term of the agreement. The Company made the security depositpayment of $500,000 in June 2008, and secured a $4,000,000 letter ofcredit in July 2008.

 

*Marketing Agreements*

 

In September 2006, the Company entered into a marketing agreementwith an unrelated party to purchase, market, and distribute all the ethanolproduced by the Company. The Company will pay the buyer one percent of the netsales price for certain marketing costs. The initial term is for two yearsbeginning in the month when ethanol production begins with a one year renewaloption. The Company would assume certain rail car leases if the agreement isnot renewed.

 

In October 2007, the Company entered into a marketing agreementwith an unrelated party to purchase all of the distiller’s dried grains withsolubles (DDGS), wet distillers grains (WDG), and solubles the Company isexpected to produce.  The buyer agrees topay the Company 98% of the selling price for DDGS and 96% of the selling pricefor WDG and a fee of $2 per ton for solubles, with a minimum fee of $1.50 perton for sales of DDGS and WDG.  Theagreement commences on completion and start-up of operations of the plant andcontinues for one year.  The agreementwill remain in effect thereafter unless a 120 day advance written notice oftermination is provided by either party.

 

*Grain ProcurementContract*

 

In July 2006, the Company entered into a grain procurementagreement with an unrelated party to provide all of the corn needed for theoperation of the ethanol plant.  Underthe agreement, the Company will purchase corn at the local market pricedelivered to the plant plus a fixed fee per bushel of corn.  The agreement begins when operations commenceand continues for seven years.

 

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**ITEM 8.  CHANGESIN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.**

** **

None.

 

**Item 8A(T).  CONTROLSAND PROCEDURES.**

 

***Disclosure Controls and Procedures***

*** ***

Managementof Highwater is responsible for maintaining disclosure controls and proceduresthat are designed to ensure that information required to be disclosed in thereports that the Company files or submits under the Securities Exchange Act of1934 (the “Exchange Act”) is recorded, processed, summarized and reportedwithin the time periods specified in the Securities and Exchange Commission’s rules andforms.  In addition, the disclosurecontrols and procedures must ensure that such information is accumulated andcommunicated to the Company’s management, including its Chief Executive Officerand Chief Financial Officer, as appropriate, to allow timely decisionsregarding required financial and other required disclosures.

 

At the end of the period covered by this report,an evaluation of the effectiveness of our disclosure controls and procedures(as defined in Rules 13(a)-15(e) and 15(d)-15(e) of theSecurities Exchange Act of 1934 (the “Exchange Act”)) was carried out under thesupervision and with the participation of our Principal Executive Officer,Brian Kletscher, and our Principal Financial Officer, Timothy Van Der Wal.Based on their evaluation of our disclosure controls and procedures, they haveconcluded that during the period covered by this report, such disclosurecontrols and procedures were effective to detect the inappropriate applicationof US GAAP standards.

 

Priorto this most recent evaluation of the effectiveness of our disclosure controlsand procedures covering the period ended October 31, 2008 in which our controlsand procedures were deemed effective, our Company had disclosed materialweaknesses.  Our management workeddiligently to remediate the material weaknesses and will continue to improveour procedures through ongoing process improvements and the implementation ofenhanced policies and improving standards. However, the material weaknesses are considered remediated andmanagement has concluded that they are operating effectively.

 

***Management’s Annual Report on Internal Control over Financial Reporting***

*** ***

Our management is responsible for establishing andmaintaining adequate internal control over our financial reporting.  Internal control over financial reporting isa process designed to provide reasonable assurance to our management and boardof directors regarding the reliability of financial reporting and the preparationof financial statements for external purposes in accordance with U.S. generallyaccepted accounting principles.  Ourinternal control over financial reporting includes those policies andprocedures that (i) pertain to the maintenance of records that inreasonable detail accurately and fairly reflect our transactions; (ii) providereasonable assurance that transactions are recorded as necessary forpreparation of our financial statements; (iii) provide reasonableassurance that receipts and expenditures of company assets are made inaccordance with management authorization; and (iv) provide reasonableassurance that unauthorized acquisition, use or disposition of company assetsthat could have a material effect on our financial statements would be preventedor detected on a timely basis.

 

Because of its inherent limitations, internalcontrol over financial reporting may not prevent or detect misstatements.  Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because changes in conditions may occur or the degree ofcompliance with the policies or procedures may deteriorate.

 

Management assessed the effectiveness of ourinternal control over financial reporting as of October 31, 2008.  This assessment is based on the criteria foreffective internal control described in Internal Control — Integrated Frameworkissued by the Committee of Sponsoring Organizations of the TreadwayCommission.  Based on its assessment,management concluded that the Company’s internal control over financialreporting was effective as of October 31, 2008.  This annual report does not include anattestation report of our registered public accounting firm regarding internalcontrol over financial reporting. Management’s report was not subject to attestation by our registeredpublic accounting firm pursuant to temporary rules of the Securities andExchange Commission that permit us to provide only management’s report in thisannual report.

 

This report shall not be deemed to be filed forpurposes of Section 18 of the Securities Exchange Act of 1934, orotherwise subject to the liabilities of that section , and is not incorporatedby reference into any filing of the Company, whether made before or after the datehereof, regardless of any general incorporation language in such filing.

 

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***Changes inInternal Control over Financial Reporting***

*** ***

Our management, including our principal executive officer and principalfinancial officer, have reviewed and evaluated any changes in our internalcontrol over financial reporting that occurred as of October 31, 2008 andthere has been no change that has materially affected or is reasonably likelyto materially affect our internal control over financial reporting.

 

**ITEM 8B.  OTHERINFORMATION.**

** **

None.

 

**PART III****.**

 

**ITEM 9****.**** GOVERNORS; EXECUTIVE OFFICERS, PROMOTERS,CONTROL PERSONS AND CORPORATE GOVERNANCE; COMPLIANCE WITH SECTION 16(a) OFTHE EXCHANGE ACT.**

** **

**Identification of Governors,Executive Officers and Significant Employees**

** **

The following is a briefdescription of the business experience and background of our officers andgovernors.

 

**Monica Rose Anderson, Governor**, Age 46, 2736 211th Street, Walnut Grove, MN  56180.

 

Forthe past five years, Monica Rose Anderson has co-owned Brad Anderson FarmsLimited Partnership of Walnut Grove, MN. She has also been an office manager at Clear Lake Farmers Elevator inClear Lake, Minnesota, and was a Lab Technician at Bauerly Brothers of SaukRapids, Minnesota.  Ms. Anderson hasserved as a member of the board of governors since May 2006.  Ms. Anderson will serve until our firstannual meeting following substantial completion of our ethanol plant and in allcases until a successor is elected and qualified.

 

**Russell J. Derickson, Governor**, Age 44, 37720 210th Street, Lamberton, Minnesota 56152.

 

Forthe past five years, Russell J. Derickson has owned and managed his own farmingoperation, which produced corn, soybeans, and wheat.  He has also been an Agricultural Advisor andWarehouse Examiner for the Minnesota Department of Agriculture of St. Paul,Minnesota.  Mr. Derickson attendedSouth Dakota State University where he received a Masters of Education in AgEducation and Bachelor of Science in Agricultural Education and MechanizedAgriculture.  Mr. Derickson hasserved as a member of the board of governors since May 2006.  Mr. Derickson will serve until our firstannual meeting following substantial completion of our ethanol plant and in allcases until a successor is elected and qualified.

 

**Jason R. Fink, Governor**, Age 29, 3903 Covey Trail, Minnestrista, MN55375.

 

SinceAugust 2007, Jason R. Fink has been the Vice President of Commercial andAg Lending for Citizen State Bank of Waverly, Minnesota.  Prior to that Mr. Fink served as theAssistant Vice President and Ag Loan Officer at Minnwest Bank of Redwood Falls,Minnesota.  Mr. Fink graduated fromSouth Dakota State University of Brookings, South Dakota with a major inAgronomy and minors in Ag Business, Ag Marketing and Business.  Mr. Fink has served as a member of theboard of governors since May 2006.  Mr. Finkwill serve until our first annual meeting following substantial completion ofour ethanol plant and in all cases until a successor is elected andqualified.  In October 2008, Mr. Finkresigned as the Company’s principal financial officer but will remain a memberof the board of governors.

 

**George M. Goblish, Governor**, Age 39, 32866 Dayton Avenue, Vesta,Minnesota 56292.

 

Forthe past five years, George Michael Goblish has been farming near Vesta wherehe currently raises corn and soybeans. He is also an Asgrow/Dekalb/Monsanto seed dealer.  Mr. Goblish attended Willmar TechnicalCollege where he received his Associate’s Degree in Agricultural Production andManagement.  Mr. Goblish has servedas a

 

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memberof the board of governors since May 2006. Mr. Goblish will serve until our first annual meeting followingsubstantial completion of our ethanol plant and in all cases until a successoris elected and qualified.

 

**Ronald E. Jorgenson, Governor**, Age 48, 33689 County Road 4, Jeffers,Minnesota 56145.

 

Forthe past five years, Ronald E. Jorgenson has owned and operated his own farmingoperation.  In addition, Mr. Jorgensonattended the University of Minnesota of St. Paul, Minnesota.  Mr. Jorgenson has served as a member ofthe board of governors since May 2006. Mr. Jorgenson will serve until our first annual meeting followingsubstantial completion of our ethanol plant and in all cases until a successoris elected and qualified.

 

**Michael J. Landuyt, Governor**, Age 33, 13526 Camp Avenue, Walnut Grove,Minnesota 56180.

 

Forthe past five years, Michael J. Landuyt has owned and managed farmingoperations for Landuyt Land Livestock of Walnut Grove, Minnesota.  Mr. Landuyt attended South Dakota StateUniversity where he received an Associate’s Degree in General Ag.  Mr. Landuyt has served as a member ofthe board of governors since May 2006. Mr. Landuyt will serve until our first annual meeting followingsubstantial completion of our ethanol plant and in all cases until a successoris elected and qualified.

 

**David G. Moldan, Chairman and Governor**, Age 48, 25368 County Highway 4, Lamberton,Minnesota 56152.

 

Forthe past five years, David G. Moldan has been the President and Treasurer ofMoldan & Sons, Inc., a farming operation, of Lamberton,Minnesota.  Mr. Moldan attended theUniversity of Minnesota of Waseca, Minnesota where he received his Associate’sDegree in Applied Science and Diversified Ag Production.  Mr. Moldan has served as a member of theboard of governors since May 2006.  Mr. Moldanwill serve until our first annual meeting following substantial completion ofour ethanol plant and in all cases until a successor is elected andqualified.  In November 2008, Mr. Moldanwas chosen to replace Brian Kletscher as president of the board of governors.

 

**Warren Walter Pankonin, Secretary and Governor**, Age 70, 40840 200th Street, Lamberton, Minnesota 56152.

 

Forthe past five years, Warren Walter Pankonin has owned and managed DoubleDiamond Ranch, Inc. and Minnesota Supreme Feeders, Inc., where hebuys and sells cattle.  He also cropfarms with his son, Mark.  Mr. Pankoninhas served as a member of the board of governors since May 2006.  Mr. Pankonin will serve until our firstannual meeting following substantial completion of our ethanol plant and in allcases until a successor is elected and qualified.  In November 2008, Mr. Pankonin wasselected to serve as secretary of the board of governors.

 

**Todd A. Reif, Governor**, Age 46, 123 Savannah Heights Boulevard,Lynd, Minnesota 56157.

 

Forthe past five years, Todd A. Reif has been the General Manager of Cenex HarvestStates in Marshall, Minnesota, a grain buying and farm supply company.  Mr. Reif attended Southwest StateUniversity of Marshall, Minnesota and graduated with a B.S. Degree in AgBusiness.  Mr. Reif has served as amember of the board of governors since May 2006.  Mr. Reif will serve until our firstannual meeting following substantial completion of our ethanol plant and in allcases until a successor is elected and qualified.

 

**John M. Schueller, Vice President and Governor**, Age 50, 29157 250th Street, Wabasso, Minnesota 56293.

 

Forthe past five years, John M. Schueller has been farming in Wabasso, Minnesota.  He has also been a custom applicator for CropProduction in Wabasso, Minnesota, and a trucker for Christensen Family Farms ofSleepy Eye, Minnesota.  Mr. Schuellerhas served as a member of the board of governors since May 2006.  Mr. Schueller will serve until our firstannual meeting following substantial completion of our ethanol plant and in allcases until a successor is elected and qualified.

 

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**Timothy J. Van Der Wal, ChiefFinancial Officer and Governor**, Age 42, 13347 U.S. Highway 71, Sanborn, Minnesota 56083.

 

For the past five years, Timothy J. Van Der Wal hasbeen an Ag Loan Officer at the Wanda State Bank, Wanda Minnesota.  He had worked as a Beef Enterprise Consultantfor the Land O Lakes Feed Division of Arden Hills, Minnesota prior to joiningthe bank.  Mr. Van Der Wal hasserved as a member of the board of governors since May 2006.  Mr. Van Der Wal will serve until ourfirst annual meeting following substantial completion of our ethanol plant andin all cases until a successor is elected and qualified.  In October 2008, Mr. Van Der Walwas selected to serve as the company’s chief financial officer.

 

**Brian D. Kletscher, Chief Executive Officer**, Age 47, 30427 County Highway 10, Vesta,Minnesota 56292.

 

Forthe past five years, Brian D. Kletscher has served as County Commissioner ofRedwood County, Minnesota.  In addition, Mr. Kletscherowns and manages farming operations for Kletscher Farms.  Effective November 6, 2008, Mr. Kletscherresigned from the board of governors and was hired to serve as Chief ExecutiveOfficer.  Mr. Kletscher had servedas a member of the board of governors since May 2006.

 

**Code of Ethics**

 

Our board of governors adopted a code of ethics in June 2008 thatapplies to our principal executive officer, Brian Kletscher and our principalfinancial officer, Timothy Van Der Wal. A copy of the code of ethics has been attached to this report as anexhibit.  Additionally, any person whowould like a copy of our code of ethics may contact the Company at (507)752-6160.  Upon request we will providecopies of the code of ethics at no charge to the requestor.

 

**Identification of Audit Committee**

 

In June 2008, our board of governors appointed an Audit Committeeconsisting of George Goblish, Ron Jorgenson and Brian Kletscher.  In November 2008, Russell Derickson wasappointed to the audit committee to replace Brian Kletscher who resigned as aresult of his new position with the Company. The board of governors also adopted an audit committee charter on June 26,2008.  Any person who would like a copyof our audit committee charter may contact the Company at (507) 752-6160.  Upon request we will provide copies of theaudit committee charter at no charge to the requestor.

** **

**Audit Committee Financial Expert**

** **

Our board of governors has determined that we do notcurrently have an audit committee financial expert serving on our auditcommittee.  We do not have an auditcommittee financial expert serving on our audit committee because no member ofour board of governors has the requisite experience and education to qualify asan audit committee financial expert as defined in Item 407 of Regulation S-Band the board has not yet created a new director position expressly for thispurpose.  Our board of governors intendsto consider such qualifications in future nomination to our board andappointments to the audit committee.

 

**ITEM 10.  EXECUTIVE COMPENSATION.**

** **

**Compensation of Named Executive Officers and Governors**

** **

Brian Kletscher was hired asour Chief Executive Officer in November 2008 and served as presidentduring the year ended October 31, 2008. John Schueller is currently serving as our vice president. Jason Finkserved as our treasurer until October 16, 2008.   Tim J. Van Der Wal served as our secretaryduring the year ended October 31, 2008 and is now our chief financialofficer.  For the year ended October 31,2008, we had compensation arrangements with three of our governors andofficers.  Brian D. Kletscher is toreceive $2,000 per month, Jason R. Fink is to receive $1,000 per month and TimJ. Van Der Wal is to receive $1,000 per month for their services as officers ofHighwater Ethanol.

 

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*Summary Compensation Table. *The following table summarizes allcompensation paid or payable by the Company during the last two fiscal years toour executive officers.

 
| **Name and  Principal  Position**                   | ** **       | **Year**         | ** ** | **Salary** | ** ** | **Bonus** | ** ** | **Stock  Awards** | ** ** | **Option  Awards** | ** ** | **Non-Equity  Incentive Plan  Compensation  Earnings** | ** ** | **Nonqualified  Deferred  Compensation  Earnings** | ** ** | **All Other  Compensation** | ** ** | **Total** | ** ** |
|----------------------------------------------------------|------------------|------------------|------------|------------|------------|-----------|------------|-------------------|------------|--------------------|------------|-------------------------------------------------------------|------------|----------------------------------------------------|------------|----------------------------------|------------|-----------|------------|
| Brian Kletscher*, Principal Executive Officer*           |             | Fiscal Year 2008 |       | $          | 24,000     |      | $          | 0                 |       | $                  | 0          |                                                        | $          | 0                                                  |       | $                                | 0          |      | $          | 0 |   | $ | 0 |   | $ | 24,000 |   |
|                                                     | Fiscal Year 2007 |             | $          | 24,000     |       | $         | 0          |              | $          | 0                  |       | $                                                           | 0          |                                               | $          | 0                                |       | $         | 0          |   | $ | 0 |   | $ | 24,000 |   |
| Jason Fink, *Principal Financial and Accounting Officer* |             | Fiscal Year 2008 |       | $          | 8,000      |      | $          | 0                 |       | $                  | 0          |                                                        | $          | 0                                                  |       | $                                | 0          |      | $          | 0 |   | $ | 0 |   | $ | 8,000 |   |
|                                                     | Fiscal Year 2007 |             | $          | 12,000     |       | $         | 0          |              | $          | 0                  |       | $                                                           | 0          |                                               | $          | 0                                |       | $         | 0          |   | $ | 0 |   | $ | 12,000 |   |
| Timothy Van Der  Wal,*Secretary*                         |             | Fiscal Year 2008 |       | $          | 8,000      |      | $          | 0                 |       | $                  | 0          |                                                        | $          | 0                                                  |       | $                                | 0          |      | $          | 0 |   | $ | 0 |   | $ | 8,000 |   |
|                                                     | Fiscal Year 2007 |             | $          | 12,000     |       | $         | 0          |              | $          | 0                  |       | $                                                           | 0          |                                               | $          | 0                                |       | $         | 0          |   | $ | 0 |   | $ | 12,000 |   |

 

For our fiscal year ended October 31, 2008,none of our other governors or officers received any compensation.  Our executive committee of the board ofgovernors determines the compensation for each of our officers.  The executive committee does not operateunder a charter.  The executive committeediscusses compensation levels within the committee and then approaches theboard of governors with its recommendation. The board of governors then determines the compensation for governorsand executive officers.  The executivecommittee consists of David Moldan, John Schueller, Timothy Van Der Wal andWarren Pankonin.

 

We do not have any other compensation arrangementswith our governors and officers.  In thefuture, we may enter into employment agreements with our governors, officers orother employees that we may hire.

 

**ITEM 11.  SECURITY OWNERSHIP OF CERTAIN BENEFICIALOWNERS AND MANAGEMENT AND RELATED MEMBER MATTERS.**

** **

**Security Ownership of Certain Beneficial Owners**

 

As of the date of this report, we have the following persons orentities known by us to be the beneficial owners of more than 5% of theoutstanding units:

 
| **Title of  Class** | ** ** | **Name (1)**                                                                                                                  | ** ** | **Amount and nature of  beneficial owner** | ** ** | **Percent of Class** | ** ** |
|---------------------|------------|-------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|----------------------|------------|
| Membership Unit     |       | Indeck Renewable Energy   600 North Buffalo Grove Road   Suite 300  Buffalo Grove, Illinois 60089                        |       | 400 units                                  |       | 8.1                  | %          |
| Membership Unit     |       | Highwater Investment Partner LLC   Rockefeller Center 7th Floor   1230 Avenue of the Americas   New York, New York 10020 |       | 250 units                                  |       | 5.04                 | %          |

 

----

(1) The address of the beneficial owner is deemed to be the same address indicatedabove.

 

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**Security Ownership of Management**

 

As of the date of thisreport, our governors and officers beneficially own membership units asfollows:

 
| **Title of Class**            | ** ** | **Name and Address of  Beneficial Owner (1)** | ** ** | **Amount and  Nature of  Beneficial  Ownership** | ** ** | **Percent of  Class** |
|-----------------------------------------|------------|------------------------------------------------------------------------|------------|------------------------------------------------------------|------------|----------------------------|
| Membership Units                        |       | Monica Rose Anderson                                                   |       | 18 units                                                   |       | 0.36%                      |
| Membership Units                        |       | Russell J. Derickson                                                   |       | 11 units                                                   |       | 0.22%                      |
| Membership Units                        |       | Jason R. Fink                                                          |       | 6 units                                                    |       | 0.12%                      |
| Membership Units                        |       | George M. Goblish                                                      |       | 50 units                                                   |       | 1.01%                      |
| Membership Units                        |       | Ronald E. Jorgenson                                                    |       | 24 units                                                   |       | 0.48%                      |
| Membership Units                        |       | Brian D. Kletscher                                                     |       | 17 units                                                   |       | 0.34%                      |
| Membership Units                        |       | Michael J. Landuyt                                                     |       | 6 units                                                    |       | 0.12%                      |
| Membership Units                        |       | David G. Moldan                                                        |       | 9 units                                                    |       | 0.18%                      |
| Membership Units                        |       | Warren Walter Pankonin                                                 |       | 165 units                                                  |       | 3.33%                      |
| Membership Units                        |       | Todd A. Reif                                                           |       | 12 units                                                   |       | 0.24%                      |
| Membership Units                        |       | John M. Schueller                                                      |       | 9 units                                                    |       | 0.18%                      |
| Membership Units                        |       | Timothy J. Van Der Wal                                                 |       | 3 units                                                    |       | 0.06%                      |
| All Governors and Officers  as a Group: |       | 147 Units                                                              |       | 6.66%                                                      |

 

----

(1)  The address of the beneficial owner is deemedto be the address of the Company.

 

**ITEM12.  CERTAIN RELATIONSHIPS AND RELATEDTRANSACTIONS AND DIRECTOR INDEPENDENCE.**

** **

**Certain Relationships and Related Transactions**

 

***Distillers Grains Distribution***

 

On October 11, 2007, weentered into a distillers grains marketing agreement with CHS, Inc. forthe purpose of marketing and distributing all of the distillers grains weproduce at our plant.  CHS, Inc.will market our distillers grains and we will receive a percentage of theselling price actually received by CHS, Inc.  in marketing our distillers grains to itscustomers.  Todd Reif, one of ourgovernors is the general manager of grain and farm supply cooperative for CHS, Inc.

 

***Legal Services***

*** ***

Kevin Stroup is providinglegal services for the Company.  TheCompany has incurred approximately $122,500 for the year ended October 31,2008 related to these services.

 

***Design-build Services***

*** ***

In September 2006, theCompany entered into an agreement with Fagen, Inc. to design and build theethanol plant.  As of October 31,2008, the Company has incurred approximately $47,747,000 for these services.

 

***Construction Services***

*** ***

In December 2007, theCompany entered into an agreement with Rice Lake Construction for theconstruction of a water treatment facility, well drilling, and installation ofthe fire loop.  As of October 31,2008, the Company has incurred approximately $6,178,000 under this agreement.

 

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***Electricity Services***

*** ***

In June 2007, theCompany entered into an agreement with Redwood Electric Cooperative, Inc.to be the exclusive provider of electricity for the plant.  As of October 31, 2008, the monthly feeof $12,000 had been suspended until operations begin.

 

***Administration Building***

*** ***

In August 2008, theCompany entered into an agreement with McCormick Construction Company for theconstruction of an administration building. As of October 31, 2008, the Company has incurred approximately$50,000 under this Agreement.

 

**DirectorIndependence**

 

Ourindependent governors are Monica Rose Anderson, Russell J. Derickson, George M.Goblish, Ronald E. Jorgenson, Michael J. Landuyt, David G. Moldan and WarrenWalter Pankonin.  Our governors that arenot independent are Brian Kletscher, John Schueller, Jason Fink, Timothy VanDer Wal and Todd A. Reif.  Thedetermination of independence is made by reference to NASDAQ rule 4200 and4350.  Brian Kletscher, John Schueller,Jason Fink and Timothy Van Der Wal are not considered independent in that theyare serving as our executive officers. Todd Reif is not considered independentin that he is the general manager of grain and farm supply cooperative for CHS, Inc.our distillers grain marketer.  BrianKletscher resigned from the board of governors in November 2008.  Also, Jason Fink resigned as the company’schief financial officer in October 2008 and is now considered independent.

 

***Audit Committee***

 

Our board of governorsappointed an audit committee consisting of George Goblish, Ron Jorgenson andRussell Derickson. The audit committee is exempt from independence listingstandards because our securities are not listed on a national securitiesexchange or listed in an automated inter-dealer quotation system of a nationalsecurities association or to issuers of such securities.  Nevertheless, George Goblish, Russell Dericksonand Ron Jorgenson are independent within the definition of independenceprovided by NASDAQ rules 4200 and 4350.

 

***Executive Committee***

* *

Our board of governorsappointed an executive committee consisting of David Moldan, John Schueller,Timothy Van Der Wal and Warren Pankonin. The executive committee is exempt from independence listing standardsbecause our securities are not listed on a national securities exchange orlisted in an automated inter-dealer quotation system of a national securitiesassociation or to issuers of such securities. Nevertheless, David Moldan and Warren Pankonin are independent withinthe definition of independence provided by NASDAQ rules 4200 and 4350.

 

***Nominating Committee***

 

Allmembers of our board of governors serve as our nominating committee.  The same independence determination asdiscussed above applies to the nominating committee as well.

 

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**ITEM 13.**** EXHIBITS.**

** **

The following exhibits arefiled as part of, or are incorporated by reference into, this report:

 
| **Exhibit  No.** | ** ** | **Description**                                                                                                                                                                | ** ** | **Method of  Filing** |
|------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------|
| 10.1             |       | Fifth Amendment to Lump Sum Design-Build  Agreement between Highwater Ethanol, LLC and Fagen, Inc.                                                                        |       | 1                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.2             |       | Lease Agreement dated April 1, 2008 with the City of Lamberton,  MN                                                                                                       |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.3             |       | Trust Indenture dated April 1, 2008 with the City of Lamberton,  MN and U.S. Bank National Association                                                                    |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.4             |       | Guaranty Agreement dated  April 1, 2008 with U.S. Bank National Association                                                                                               |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.5             |       | Bill of Sale dated  April 25, 2008 from Highwater Ethanol, LLC to City of Lamberton, MN                                                                                   |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.6             |       | Mortgage, Security  Agreement, Assignment of Leases and Rents and Fixture Financing Statement  dated April 1, 2008 with U.S. Bank National Association                    |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.7             |       | Security Agreement dated  April 1, 2008 with U.S. Bank National Association                                                                                               |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.8             |       | Intercreditor Agreement  dated April 24, 2008 with First National Bank of Omaha and U.S. Bank  National Association.                                                      |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.9             |       | Disbursing Agreement dated  April 24, 2008 with First National Bank of Omaha, Homestead Escrow and  Exchange Company and Dakota Homestead Title Insurance Company.        |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.10            |       | Construction Loan  Agreement dated April 24, 2008 with First National Bank of Omaha.                                                                                      |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.11            |       | Construction Loan  Mortgage, Security Agreement, Assignment of Leases and Rents and Fixture  Financing Statement dated April 24, 2008 with First National Bank of  Omaha. |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.12            |       | Security Agreement dated  April 25, 2008 with First National Bank of Omaha.                                                                                               |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.13            |       | $10,000,000 Construction  Note dated April 24, 2008 with First National Bank of Omaha.                                                                                    |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.14            |       | $2,000,000 Construction  Note dated April 25, 2008 with First National Bank of Omaha.                                                                                     |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.15            |       | $9,000,000 Construction  Note dated April 25, 2008 with First National Bank of Omaha.                                                                                     |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.16            |       | $13,646,000 Construction  Note dated April 25, 2008 with First National Bank of Omaha.                                                                                    |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.17            |       | $500,000 Construction Note  dated April 25, 2008 with First National Bank of Omaha.                                                                                       |       | 2                          |
|             |       |                                                                                                                                                                           |       |                       |
| 10.18            |       | $1,000,000 Construction  Note dated April 25, 2008 with First National Bank of Omaha.                                                                                     |       | 2                          |

 

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| 10.19  |   | $14,254,000 Construction  Note dated April 25, 2008 with First National Bank of Omaha.                              |   | 2      |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------|--------|--------|
|   |   |                                                                                                                     |   |   |
| 10.20  |   | Promissory Note and  Continuing Letter of Credit Agreement dated April 24, 2008 with First  National Bank of Omaha. |   | 2      |
|   |   |                                                                                                                     |   |   |
| 10.21  |   | $1,000,000 Revolving  Promissory Note dated April 24, 2008 with First National Bank of Omaha.                       |   | 2      |
|   |   |                                                                                                                     |   |   |
| 10.22  |   | $1,354,000 Revolving Promissory Note dated April 24, 2008 with  First National Bank of Omaha.                       |   | 2      |
|   |   |                                                                                                                     |   |   |
| 10.23  |   | $2,646,000 Revolving  Promissory Note dated April 24, 2008 with First National Bank of Omaha.                       |   | 2      |
|   |   |                                                                                                                     |   |   |
| 10.24  |   | Consulting Agreement dated  May 27, 2008 with Granite Falls Energy, LLC.                                            |   | 2      |
|   |   |                                                                                                                     |   |   |
| 10.25  |   | Private  Placement Agreement dated March 27, 2008 with City of Lamberton, MN and  Northland Securities, Inc.   |   | 3      |
|   |   |                                                                                                                     |   |   |
| 10.26  |   | Natural  Gas Service Agreement dated June 26, 2008 with CenterPoint Energy  Resources Corp.+                        |   | 4      |
|   |   |                                                                                                                     |   |   |
| 10.27  |   | General  Contract dated July 30, 2008 with L.A. Colo, LLC                                                           |   | 4      |
|   |   |                                                                                                                     |   |   |
| 10.28  |   | Grain  Silo Support Construction Contract dated July 24, 2008 with  McC, Inc.                                  |   | 4      |
|   |   |                                                                                                                     |   |   |
| 14.1   |   | Code of Ethics of Highwater Ethanol, LLC  as adopted in June 2008.                                                  |   | *      |
|   |   |                                                                                                                     |   |   |
| 31.1   |   | Certificate Pursuant to 17 CFR  240.13a-14(a)                                                                            |   | *      |
|   |   |                                                                                                                     |   |   |
| 31.2   |   | Certificate Pursuant to 17 CFR  240.13a-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 to the exhibit of the same number in  Form 10-QSB filed with the Securities and Exchange Commission on  March 17, 2008.             |
|   |   |                                                                                                                                                                    |
| (2)    |   | Incorporated by reference to the exhibit of the same number in  Form 10-QSB filed with the Securities and Exchange Commission on  June 13, 2008.              |
|   |   |                                                                                                                                                                    |
| (3)    |   | Incorporated by reference to Exhibit 99.1 on Form 8-K filed  with the Securities and Exchange Commission on April 1, 2008.                               |
|   |   |                                                                                                                                                                    |
| (4)    |   | Incorporated by reference to the exhibit of the same number in  Form 10-QSB filed with the Securities and Exchange Commission on  September 15, 2008.         |
|   |   |                                                                                                                                                                    |
| (+)    |   | Material has been omitted pursuant to a request for confidential  treatment and such materials have been filed separately with the Securities  and Exchange Commission. |

 

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**ITEM14.  PRINCIPAL ACCOUNTANT FEES ANDSERVICES.**

** **

The aggregate fees billed by the independent registered publicaccountants (Boulay, Heutmaker, Zibell & Co. P.L.L.P.) to the Companyfor the fiscal year ended October 31, 2008, and the fiscal year ended October 31,2007 are as follows:

 
| **Category**          | ** ** | **Year** | ** ** | **Fees** | ** ** |
|-----------------------|------------|----------|------------|----------|------------|
| Audit Fees(1)         |       | 2008     |       | $        | 79,806     |   |
|                  |       | 2007     |       | $        | 52,476     |   |
| Audit-Related Fees(1) |       | 2008     |       | $        | 0.00       |   |
|                  |       | 2007     |       | $        | 0.00       |   |
| Tax Fees              |       | 2008     |       | $        | 0.00       |   |
|                  |       | 2007     |       | $        | 0.00       |   |
| All Other Fees        |       | 2008     |       | $        | 0.00       |   |
|                  |       | 2007     |       | $        | 0.00       |   |

 

----

(1)  Audit feesconsist of fees for services rendered related to the Company’s fiscal year endaudits, quarterly reviews, registration statement and related amendments.

 

Prior to engagement ofthe principal independent registered public accountants to perform auditservices for the Company, the principal accountant was pre-approved by ourAudit Committee pursuant to Company policy requiring such approval.

 

100% of all auditservices, audit-related services and tax-related services were pre-approved byour Audit Committee.

 

**SIGNATURES**

 

In accordancewith Section 13 or 15(d) of the Exchange Act, the registrant causedthis report to be signed on its behalf by the undersigned, thereunto dulyauthorized.

 
|   | HIGHWATER ETHANOL, LLC                                                |
|--------|-----------------------------------------------------------------------|
|   |                                                                  |
|   |                                                                  |
| Date:  |   January 29,  2009                                         |   | /s/ Brian Kletscher |
|   | Brian Kletscher                                                       |
|   | Principal Executive Officer                                           |
|   |                                                                  |
|   |                                                                  |
| Date:  |   January 29,  2009                                         |   | /s/ Tim Van Der Wal |
|   | Tim Van Der Wal                                                       |
|   | Treasurer and Governor

(Principal Financial and Accounting  Officer) |

 

In accordancewith the Exchange Act, this report has been signed below by the followingpersons on behalf of the registrant and in the capacities and on the datesindicated.

 
| Date:  January 29, 2009 | /s/  Brian Kletscher         |
|-----------------------------------|------------------------------|
|                              | Brian Kletscher              |
|                              | Principal Executive  Officer |
|                              |                         |
| Date:  January 29, 2009 | /s/  David G. Moldan         |
|                              | David G. Moldan              |
|                              | President and Governor       |

 

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| Date:  January 29, 2009 | /s/  John M. Schueller                        |
|-----------------------------------|-----------------------------------------------|
|                              | John M. Schueller                             |
|                              | Vice President and  Governor                  |
|                              |                                          |
| Date:  January 29, 2009 | /s/Timothy  J. Van Der Wal                    |
|                              | Timothy J. Van Der Wal                        |
|                              | Treasurer and Governor                        |
|                              | (Principal Financial and  Accounting Officer) |
|                              |                                          |
| Date:  January 29, 2009 | /s/Warren  Walter Pankonin                    |
|                              | Warren Walter Pankonin                        |
|                              | Secretary and Governor                        |
|                              |                                          |
| Date:  January 29, 2009 | /s/  Monica Rose Anderson                     |
|                              | Monica Rose Anderson, Governor                |
|                              |                                          |
| Date:  January 29, 2009 | /s/  Russell J. Derickson                     |
|                              | Russell J. Derickson,  Governor               |
|                              |                                          |
| Date:  January 29, 2009 | /s/  George M. Goblish                        |
|                              | George M. Goblish,  Governor                  |
|                              |                                          |
| Date:  January 29, 2009 | /s/  Ronald E. Jorgenson                      |
|                              | Ronald E. Jorgenson,  Governor                |
|                              |                                          |
| Date:  January 29, 2009 | /s/  Michael J. Landuyt                       |
|                              | Michael J. Landuyt,  Governor                 |
|                              |                                          |
| Date:  January 29, 2009 | /s/  Jason R. Fink                            |
|                              | Jason R. Fink, Governor                       |
|                              |                                          |
| Date:  January 29, 2009 | /s/  Todd A. Reif                             |
|                              | Todd A. Reif, Governor                        |

 

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