**UNITED STATES****SECURITIESAND EXCHANGE COMMISSION**

# **Washington, D.C. 20549**

#  

**FORM 10-K**

 

**(MarkOne)**

**ý****        ANNUALREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the fiscal year ended December 27, 2003**

 

**o****        TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transition period from                to                      **

 

**Commission File Number: 1-14556**

 

**POORE BROTHERS, INC.**

(Exact name of registrant as specified in its charter)

 
| **Delaware**                                                                       |   | **86-0786101**                       |
|------------------------------------------------------------------------------------|--------|--------------------------------------|
| (State or other jurisdiction of  incorporation or organization)                    |   | (I.R.S. Employer Identification No.) |
|                                                                               |   |                                 |
| **3500 South La Cometa Drive  Goodyear, Arizona 85338**                            |
| (Address of principal executive offices)(Zip Code)                                 |
|                                                                               |
| Registrant’s telephone number, including area code:  **(623)  932-6200** |
|                                                                               |
| Securities registered pursuant to Section 12(b) of the Act:  **None**         |
|                                                                               |
| Securities registered pursuant to Section 12(g) of the Act:                        |

 

| **Title of  Class**          |   | **Name of  exchange on which registered** |
|------------------------------|--------|-------------------------------------------|
| Common Stock, $.01 par value |   | Nasdaq                                    |

 

Indicate by check mark whetherthe Registrant (1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (orfor such shorter period that the Registrant was required to file such reports),and (2) has been subject to such filing requirements for the past 90 days.  Yes ý   No o

 

Indicate by check mark ifdisclosure of delinquent filers in response to Item 405 of Regulation S-K isnot contained herein, and will not be contained, to the best of Registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment to this Form10-K.  ý

 

Indicate by check mark whetherthe Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).Yes o  No ý

 

The aggregate market value ofthe voting stock (Common Stock, $.01 par value) held by non-affiliates of theRegistrant was $34,022,860 based upon the closing market price on June 28,2003, the last business day of the Registrant’s most recently completed secondfiscal quarter.

 

The number of issued andoutstanding shares of Common Stock, $.01 par value, as of March 21, 2004 was18,581,788.

 

 

----

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the Proxy Statementfor the Registrant’s Annual Meeting of Shareholders to be held on May 18, 2004are incorporated by reference into Part III of this Form 10-K.

 

EXCHANGE ACT REPORTS AVAILABILE ON COMPANY WEBSITE

 

Under “SEC Filings” on the“Investors” page of the Company’s website located at www.poorebrothers.com, thefollowing filings are made available as soon as reasonably practicable afterthey are electronically filed with or furnished to the Securities and ExchangeCommission: the Company’s Annual Report on Form 10-K, Quarterly Reports on Form10-Q, Current Reports on Form 8-K, Proxy Statement of Form 14A related to theCompany’s Annual Shareholders Meeting, and any amendments to those reports orstatements filed or furnished pursuant to Section 13(a) or 15(d) of theSecurities Exchange Act of 1934.

 

2

----

 

**TABLE OF CONTENTS**

 
| **PART I**    |
|---------------|
| Item 1.       | Business |   |
| Item 2.       | Properties |   |
| Item 3.       | Legal Proceedings |   |
| Item 4.       | Submission of Matters to a Vote of Security  Holders |   |
|          |   |   |
| **PART II**   |
|          |   |   |
| Item 5.       | Market for Registrant’s Common Equity and  Related Stockholder Matters |   |
| Item 6.       | Selected Financial Data |   |
| Item 7.       | Management’s Discussion and Analysis of  Financial Condition and Results of Operations |   |
| Item 7A.      | Quantitative and Qualitative Disclosures  about Market Risk |   |
| Item 8.       | Financial Statements and Supplementary Data |   |
| Item 9.       | Changes in and Disagreements with Auditors  on Accounting and Financial Disclosure |   |
| Item 9A.      | Controls and Procedures |   |
|          |   |   |
| **PART  III** |
|          |   |   |
| Item 10.      | Directors and Executive Officers of the  Registrant |   |
| Item 11.      | Executive Compensation |   |
| Item 12.      | Security Ownership of Certain Beneficial  Owners and Management and Related Shareholder Matters |   |
| Item 13.      | Certain Relationships and Related  Transactions |   |
| Item 14.      | Principal Accountant Fees and Services |   |
|          |   |   |
| **PART IV**   |
|          |   |   |
| Item 15.      | Exhibits, Financial Statement Schedules, and  Reports of Form 8-K |   |

 

3

----

 

**CAUTIONARY STATEMENTREGARDING****FORWARD-LOOKING STATEMENTS**

 

This Annual Report on Form10-K, including all documents incorporated by reference, includes“forward-looking” statements within the meaning of Section 27A of theSecurities Act of 1933, as amended (the “Securities Act”) and Section 21E ofthe Securities Exchange Act of 1934, as amended, and the Private SecuritiesLitigation Reform Act of 1995, and Poore Brothers, Inc. (the “Company”) desiresto take advantage of the “safe harbor” provisions thereof.  Therefore, the Company is including thisstatement for the express purpose of availing itself of the protections of thesafe harbor with respect to all of such forward-looking statements. In thisAnnual Report on Form 10-K, the words “anticipates,” “believes,” “expects,”“intends,” “estimates,” “projects,” “will likely result,” “will continue,”“future” and similar terms and expressions identify forward-looking statements.The forward-looking statements in this Annual Report on Form 10-K reflect theCompany’s current views with respect to future events and financialperformance. These forward-looking statements are subject to certain risks anduncertainties, including specifically the Company’s relatively brief operatinghistory, historical operating losses and the possibility of future operatinglosses, the possibility that the Company will need additional financing due tofuture operating losses or in order to implement the Company’s businessstrategy, the possible diversion of management resources from the day-to-dayoperations of the Company as a result of strategic acquisitions, potentialdifficulties resulting from the integration of acquired businesses with theCompany’s business, other acquisition-related risks, significant competition,risks related to the food products industry, volatility of the market price ofthe Company’s common stock, par value $.01 per share (the “Common Stock”), thepossible de-listing of the Common Stock from the Nasdaq SmallCap Market if theCompany fails to satisfy the applicable listing criteria (including a minimumshare price) in the future and those other risks and uncertainties discussedherein, that could cause actual results to differ materially from historicalresults or those anticipated.  In lightof these risks and uncertainties, there can be no assurance that theforward-looking information contained in this Annual Report on Form 10-K willin fact transpire or prove to be accurate. Readers are cautioned to consider the specific risk factors describedherein and in “Risk Factors,” and not to place undue reliance on the forward-lookingstatements contained herein, which speak only as of the date hereof. TheCompany undertakes no obligation to publicly revise these forward-lookingstatements to reflect events or circumstances that may arise after the datehereof. All subsequent written or oral forward-looking statements attributableto the Company or persons acting on its behalf are expressly qualified in theirentirety by this section.

 

4

----

 

**Item1****.  Business**

 

**Description of Business**

 

PooreBrothers, Inc. (the “Company”) is engaged in the development, production,marketing and distribution of innovative salted snack food products that aresold primarily through grocery retailers, mass merchandisers, club stores,convenience stores and vend distributors across the United States.  The Company currently manufactures and sellsnationally (i) T.G.I. Friday’s® brand salted snacks under license from TGIFriday’s Inc. and (ii) Crunch Toons® brand salted snacks, featuring LooneyTunesTM and Scooby DooTM characters under license from Warner Bros. ConsumerProducts.  The Company also currently(i) manufactures and sells regionally its own brands of salted snack foodproducts, including Poore Brothers®, Bob’s Texas Style®, and Boulder PotatoCompany® brand batch-fried potato chips and Tato Skins® brand potato snacks,(ii) manufactures private label potato chips for grocery retail chains in thesouthwest, and (iii) distributes in Arizona snack food products that aremanufactured by others. For the fiscal years 2003, 2002 and 2001, net revenuestotaled $66,417,836, $59,348,471 and $53,904,816, respectively. The Companysells its T.G.I. Friday’s® brand salted snack products and its Crunch Toons®brand salted snack products to grocery retailers, mass merchandisers and clubstores directly and to convenience stores and vend operators throughindependent distributors.  The Company’sother products are also sold through independent distributors.  In fiscal years 2003, 2002 and 2001, theT.G.I. Friday’s® brand salted snacks represented 61%, 60% and 41%, respectively,of the Company’s total net revenues. See Note 10 “*Business Segments and Significant Customers*”to the financial statements included in Item 8.

 
|                                         |   | **Percent of  Total Revenues** |   |
|----------------------------------------------|--------|--------------------------------|--------|
|                                         |   | **2003**                       |   | **2002** |   | **2001** |   |
| Branded products                             |   | 91                             | %      | 89 | % | 84 | % |
| Private label products                       |   | 4                              | %      | 5 | % | 7 | % |
| Total manufactured products segment revenues |   | 94                             | %      | 93 | % | 91 | % |
|                                         |   |                           |   |   |   |   |   |
| Distributed products segment revenues        |   | 6                              | %      | 7 | % | 9 | % |
|                                         |   |                           |   |   |   |   |   |
| Total revenues                               |   | 100                            | %      | 100 | % | 100 | % |

 

The Companyproduces T.G.I. Friday’s® brand salted snacks, Crunch Toons® brand potatosnacks and Tato Skins® brand potato snacks utilizing a sheeting and fryingprocess that includes patented technology. The Company licenses the patented technology from a third party and hasan exclusive right to use the technology within North America until the patentsexpire between 2004 and 2010. T.G.I. Friday’s® brand salted snacks, CrunchToons® brand potato snacks and Tato Skins® brand potato snacks are offered inseveral different flavors and formulations. All of these products are manufactured at the Company’s leased facilityin Bluffton, Indiana, except for Mozzarella Stick and Onion Ring products whichare produced by contract manufacturers on behalf of the Company and sold underthe T.G.I. Friday’s® brand name.  The Companyacquired the Bluffton, Indiana manufacturing operation in October 1999 as partof its acquisition of Wabash Foods, LLC. In November 2002, Warner Bros. Consumer Products granted the Companyrights to introduce an innovative new brand of salted snacks featuring LooneyTunesTM characters.  The Company launchedthe Crunch Toons® brand nationwide in the summer of 2003 under a multi-yearagreement that grants the Company exclusive salted snack category brand licensingand promotional rights for Looney TunesTM characters.  In November 2003, Warner Bros. Consumer Products granted theCompany rights to market its Crunch Toons® brand of salted snacks featuringScooby-DooTM characters beginning in the first quarter of 2004 under amulti-year agreement that grants the Company exclusive salted snack categorybrand licensing and promotional rights for Scooby-DooTM characters.  See “*Products*” and “*Patents and Trademarks*”.

 

PooreBrothers®, Bob’s Texas Style® and Boulder Potato Company® brand potato chipsare manufactured with a batch-frying process that the Company believes producespotato chips with enhanced crispness and flavor. Poore Brothers® potato chipsare currently offered in ten flavors, Bob’s Texas Style® potato chips arecurrently offered in six flavors, and Boulder Potato Company® potato chips arecurrently offered in eight flavors. The Company also manufactures potato chipsfor sale on a private label basis using a continuous frying process.  The Company’s potato chips are manufacturedat a Company-owned facility in Goodyear, Arizona.  See “*Products*” and “*Marketing and Distribution*.”****

 

The Company’sbusiness objective is to be a leading developer, manufacturer, marketer anddistributor of innovative branded salted snack foods by providing high qualityproducts at competitive prices that are superior in taste, texture, flavorvariety and brand personality to comparable products. A significant element ofthe Company’s growth strategy is to develop, acquire or license innovativesnack food brands that provide strategic fit and possess strong national brandequity in order to 

 

5

----

 

expand, complement or diversify the Company’s existing business.  The Company also plans to increase sales ofits existing brands and continue to improve profit margins through increasedoperating efficiencies and manufacturing capacity utilization.  See “*BusinessStrategy*.”

 

The Company’sexecutive offices are located at 3500 South La Cometa Drive, Goodyear, Arizona85338, and its telephone number is (623) 932-6200.

 

**Company History**

 

The Company, aDelaware corporation, was formed in 1995 as a holding company to acquire apotato chip manufacturing and distribution business which had been founded byDonald and James Poore in 1986.

 

In December1996, the Company completed an initial public offering of its CommonStock.  In November 1998, the Companyacquired the business and certain assets (including the Bob’s Texas Style®potato chip brand) of Tejas Snacks, L.P. (“Tejas”), a Texas-based potato chipmanufacturer.  In October 1999, theCompany acquired Wabash Foods, LLC (“Wabash”) including the Tato Skins®,O’Boisies®, and Pizzarias® trademarks, and assumed all of Wabash Foods’liabilities.  In June 2000, the Companyacquired Boulder Natural Foods, Inc. (“Boulder”) and the Boulder PotatoCompany® brand of totally natural potato chips.  As part of the Boulder acquisition, the Company was required toissue additional unregistered shares of Common Stock to the seller on each ofthe first three anniversaries of the closing of the acquisition.  The issuance of such shares was dependentupon increases in sales of Boulder product as compared to previousperiods.  In 2003, 2002 and 2001, theCompany was required to issue 93,728 shares valued at $420,566, 88,864 sharesvalued at $210,786 and 57,898 shares valued at $185, 274, respectively.  With each issuance of shares the Companyincreased the goodwill recorded from this acquisition.

 

In October2000, the Company launched its T.G.I. Friday’s® brand salted snacks pursuant toa license agreement with TGI Friday’s Inc., which expires in 2014.

 

On December27, 2001, the Company completed the sale of 586,855 shares of Common Stock atan offering price of $2.13 per share to BFS US Special Opportunities Trust PLC,a fund managed by Renaissance Capital, in a private placement transaction.

 

In June 2003,the Company launched its Crunch Toons® brand potato snacks, initially featuringLooney TunesTM characters pursuant to a multi-year license agreement with WarnerBros. Consumer Products.  The agreementgrants the Company exclusive salted snack category brand licensing andpromotional rights for Looney TunesTM characters.

 

### **Business Strategy**

### ** **

The Company’sbusiness strategy is to continue building a portfolio of national niche brandswith annualized revenues of $20 million to $50 million each.  This strategy is intended to enable us tocomplement, rather than to compete directly against, large nationalcompetitors.  The primary elements ofour business strategy are as follows:

 

*Develop, Acquire or License Innovative Snack Food Brands.*  A significant element of the Company’sbusiness strategy is to develop, acquire or license new innovative snack foodbrands that provide strategic fit and possess strong national brand equity inorder to expand, complement or diversify the Company’s existing business.  In October 2000, the Company initiated thiselement of its strategy by launching our first national niche brand, T.G.I.Friday’s® brand salted snacks, under an exclusive license from TGI Friday’sInc. which expires in 2014.  In June2003, the Company launched its second national niche brand, Crunch Toons®,featuring Looney TunesTM characters, under a multi-year agreement with WarnerBros. Consumer Products that grants the Company exclusive brand licensing andpromotional rights.  In November 2003,the Company also acquired the exclusive brand licensing and promotional rightsto Scooby DooTM characters pursuant to a multi-year agreement with Warner Bros.Consumer Products.  The Company plans tocontinue developing, acquiring or licensing additional national niche brands.

 

*Increase Sales of Existing Brands.*  The Company plans to increase distributionand build the market share of its existing branded products through selectedtrade activity in various markets and channels.  Marketing efforts include, among other things, trade advertisingand promotional programs with distributors and retailers, in-storeadvertisements, in-store displays and limited consumer advertising, publicrelations and coupon programs.

 

*Improve Profit Margins.*  The Company’s Indiana and Arizona facilitiesare currently operating at approximately forty percent and fifty percent oftheir respective manufacturing capacities. The Company will seek to increase gross 

 

6

----

 

profit marginsthrough increased revenues, improved operating efficiencies, more effectivepromotions and higher margin new products. It believes that additional improvements to its manufactured products’gross profit margins are possible with the achievement of the businessstrategies discussed above.  Dependingon product mix, the Company believes that the existing manufacturing facilitiescould produce, in the aggregate, up to $150 million in annual revenue volumeand thereby further reduce manufacturing product costs as a percentage of costof goods sold.

 

The Company currently has arrangements with several California andArizona grocery chains for the manufacture and distribution by the Company oftheir respective private label potato chips, in various types and flavors asspecified by them.  The Company alsobelieves that contract manufacturing opportunities exist.  While they are extremely price competitiveand can be short in duration, the Company believes that they provide aprofitable opportunity for the Company to improve the capacity utilization ofits facilities.  The Company intends toseek additional private label customers located near its facilities who demandsuperior product quality at a reasonable price.

 

#### **Products**

#### ** **

*Manufactured Snack Food Products*.  The Company produces T.G.I. Friday’s® brandPotato Skins salted snacks, Crunch Toons® brand potato snacks and Tato Skins®brand potato crisps utilizing a sheeting and frying process.  T.G.I. Friday’s® brand salted snacks, CrunchToons® brand potato snacks and Tato Skins® brand potato crisps are offered inseveral different flavors and formulations. All of these products aremanufactured at the Company’s leased facility in Bluffton, Indiana, except forMozzarella Stick and Onion Ring products which are produced by contractmanufacturers on behalf of the Company and sold under the T.G.I. Friday’s®brand name.

 

PooreBrothers®, Bob’s Texas Style®, and Boulder Potato Company® brand potato chipsare produced utilizing a batch-frying process and are marketed by the Companyas premium products based on their distinctive combination of cooking methodand variety of distinctive flavors. Poore Brothers® potato chips are currently offered in ten flavors, Bob’sTexas Style® potato chips are currently offered in six flavors, and BoulderPotato Company® potato chips are currently offered in eight flavors. TheCompany currently has agreements with several California and Arizona grocerychains pursuant to which the Company produces their respective private labelpotato chips in the styles and flavors specified by such grocery chains.

 

*Distributed Snack Food Products*.  The Company purchases and resells throughoutArizona snack food products manufactured by others.  Such products include pretzels, popcorn, dips, and meat snacks.  Effective February 1, 2004, the Company hasceased distribution of Snyders’ pretzels which represented approximately 50% ofthe distributed products segment revenues in 2003.  The Company does not expect this revenue loss to have a materialadverse affect on the Company’s overall profitability in 2004.

 

**Manufacturing**

 

The Company’smanufacturing facility in Bluffton, Indiana includes three fryer lines that canproduce an aggregate of up to approximately 9,000 pounds per hour of T.G.I.Friday’s®, Crunch Toons® and Tato Skins® brand products.  The Indiana facility is currently operatingat approximately forty percent of capacity. Certain T.G.I. Friday’s®, Crunch Toons® and Tato Skins® brand productsare produced utilizing a sheeting and frying process that includes somepatented technology.  The Companylicenses the technology from third parties and has exclusive rights to use thetechnology within the United States until the patents expire, which ranges from2004 to 2010.  Some T.G.I. Friday’s®brand salted snack products are produced by contract manufacturers on behalf ofthe Company.  See “*Patents and Trademarks*.”

 

The Companybelieves that a key element of the success to date of the Poore Brothers®,Bob’s Texas Style® and Boulder Potato Company® brand potato chips has been theCompany’s use of certain cooking techniques and key ingredients in themanufacturing process to produce potato chips with improved flavor.  These techniques currently involve twoelements: the Company’s use of a batch frying process, as opposed to theconventional continuous line cooking method, and the Company’s use ofdistinctive seasonings to produce potato chips in a variety of flavors.  The Company believes that although the batchfrying process produces less volume, it is superior to conventional continuousline cooking methods because it enhances crispness and flavor through greatercontrol over temperature and other cooking conditions.

 

In September1997, the Company consolidated all of its manufacturing operations into itspresent facility in Goodyear, Arizona, which was newly constructed at the timeand, in connection therewith, discontinued manufacturing operations at afacility in LaVergne, Tennessee.  In1999, the Company purchased and installed additional batch frying equipment inthe Arizona facility.  The Arizonafacility has the capacity to produce up to approximately 3,500 pounds of potatochips per hour, including 1,400 pounds of batch fried branded potato chips perhour and 2,100 pounds of continuous fried private label potato 

 

7

----

 

chips per hour.  The Companyowns additional batch frying equipment which, if needed, could be installedwithout significant time or cost, and which would result in increased capacityto produce the batch fried potato chips. The Arizona facility is currently operating at approximately fiftypercent of capacity.

 

There can beno assurance that the Company will obtain sufficient business to recoup theCompany’s investments in its manufacturing facilities or to increase theutilization rates of such facilities.   See “*Item 2. Description of Property.*”

 

### **Marketing and Distribution**

 

The Company’sT.G.I. Friday’s® brand snack food products have achieved significant marketpresence in the vending channel nationwide through an independent network ofbrokers and distributors, particularly in the midwest and east.  The Company attributes the success of itsproducts in these markets to consumer loyalty. The Company believes this loyalty results from the products’differentiated taste, texture and flavor variety which result from itsmanufacturing processes.  The Companyhas retained Acosta, Inc., a leading national sales and marketing agency withemployees and offices nationwide to represent T.G.I. Friday’s® brand saltedsnacks and Crunch Toons® brand potato snacks on behalf of the Company in thegrocery and convenience store channels. The Company’s own sales organization sells T.G.I. Friday’s® brand saltedsnacks and Crunch Toons® brand salted snacks in the mass, club and drug channels.

 

The Company’spotato chip brands are distributed to grocery and other retailers primarily bya select group of independent distributors. Poore Brothers® brand potato chip products have achieved significantmarket presence in Arizona, New Mexico, Southern California, Hawaii, Missouri,Ohio and Michigan.  The Company’s Bob’sTexas Style® brand potato chip products have achieved significant marketpresence in south/central Texas, including Houston, San Antonio and Austin.  The Company’s Boulder Potato Company® brandpotato chip products have achieved significant market presence in Colorado andin natural food stores across the country. The Company selects brokers and distributors for its branded productsprimarily on the basis of quality of service, call frequency on customers,financial capability and relationships they have with supermarkets and vendingdistributors, including access to shelf space for snack food.

 

The Company’sdistribution throughout Arizona includes 51 independently operated serviceroutes.  Each route is operated by an independentdistributor who purchases from the Company and merchandises as many as 72 itemsat major grocery store chains in Arizona, such as Albertson’s, Basha’s, Fry’s,and Safeway stores.  In addition toservicing major supermarket chains, the Company’s distributors service manyindependent grocery stores, club stores, and military facilities throughoutArizona.  In addition to Poore Brothers®brand products, the Company distributes throughout Arizona a wide variety ofsnack food items manufactured by other companies, including pretzels, popcorn,dips, and meat snacks.

 

Successfulmarketing of the Company’s products depends, in part, upon obtaining adequateshelf space for such products, particularly in supermarkets and vendingmachines.  Frequently, the Companyincurs additional marketing costs in order to obtain additional shelfspace.  Whether or not the Company willcontinue to incur such costs in the future will depend upon a number of factorsincluding, demand for the Company’s products, relative availability of shelfspace and general competitive conditions. The Company may incur significant shelf space, consumer marketing orother promotional costs as a necessary condition of entering into competitionor maintaining market share in particular markets or channels.  Any such costs may materially affect theCompany’s financial performance.

 

The Company’smarketing programs are designed to increase product trial and build brandawareness in core markets.  Most of theCompany’s marketing spending has traditionally been focused on tradeadvertising and trade promotions designed to attract new consumers to theproducts at a reduced retail price, except in 2003 when the Company conductednational television advertising and coupon programs in connection with thelaunch of the Crunch Toons® brand.  TheCompany’s marketing programs also include selective event sponsorship designedto increase brand awareness and to provide opportunities to mass sample brandedproducts.  Sponsorship of the ArizonaDiamondbacks typifies the Company’s efforts to reach targeted consumers andprovide them with a sample of the Company’s products to encourage new andrepeat purchases.

 

**Suppliers**

 

The principalraw materials used by the Company are potatoes, potato flakes, wheat flour, cornand oil.  The Company believes that theraw materials it needs to produce its products are readily available fromnumerous suppliers on commercially reasonable terms.  Potatoes, potato flakes, wheat flour and corn are widelyavailable year-round.  The Company usesa variety of oils in the production of its products and the Company believesthat alternative sources for such oils, as well as alternative oils, arereadily abundant and available.  TheCompany also uses seasonings and packaging materials in its manufacturingprocess.

 

8

----

 

The Companychooses its suppliers based primarily on price, availability and quality anddoes not have any long-term commitments with any supplier.  Although the Company believes that itsrequired products and ingredients are readily available, and that its businesssuccess is not dependent on any single supplier, the failure of certainsuppliers to meet the Company’s performance specifications, quality standardsor delivery schedules could have a material adverse effect on the Company’soperations.  In particular, a suddenscarcity, a substantial price increase, or an unavailability of productingredients could materially adversely affect the Company’s operations.  There can be no assurance that alternativeingredients would be available when needed and on commercially attractiveterms, if at all.

 

### **Customers**

### ** **

Two customersof the Company, Vistar, formerly Vending Services of America, a nationalvending distributor and Wal*Mart (including its SAM’s Clubs) accounted for 13%and 20%, respectively, of the Company’s 2003 net revenues.  The remainder of the Company’s revenues werederived from sales to a limited number of additional customers, either grocerychains, club stores or regional distributors, none of which individuallyaccounted for more than 10% of the Company’s revenues in 2003.  A decision by any of the Company’s majorcustomers to cease or substantially reduce their purchases could have amaterial adverse effect on the Company’s business.

 

All of theCompany’s revenues are attributable to external customers in the United Statesand all of its assets are located in the United States.

 

### **Market Overview and Competition**

### ** **

According tothe Snack Food Association (“SFA”), the U.S. market for salted snack foodsreached $22.5 billion at retail in 2002 (the latest year for which data isavailable) with potato chips, tortilla chips and potato crisps, accounting fornearly 50% of the market, and corn snacks, popcorn, pretzels, nuts, meat snacksand other products accounting for the balance. Total salted snack sales, in dollar terms, increased in each of the lastten years, ranging from an increase of 8.5% (in 1997) to 0.3% (in 1995), with a2002 increase of 2.9%.  Potato chip,tortilla chips and potato crisps combined sales have increased within a similarrange, with 2002 retail sales of $10.4 billion, a 0.2% increase over 2001 salesof $10.2 billion.

 

The Company’sproducts compete generally against other salted snack foods, including potatochips and tortilla chips. The salted snack food industry is large and highlycompetitive and is dominated primarily by Frito-Lay, Inc., a subsidiary ofPepsiCo, Inc.  Frito-Lay, Inc. possessessubstantially greater financial, production, marketing, distribution and otherresources than the Company and brands that are more widely recognized than theCompany’s products.  Numerous othercompanies that are actual or potential competitors of the Company, many withgreater financial and other resources (including more employees and moreextensive facilities) than the Company, offer products similar to those of theCompany.  In addition, many of suchcompetitors offer a wider range of products than offered by the Company.  Local or regional markets often have significantsmaller competitors, many of whom offer products similar to those of theCompany.  Expansion of the Company’soperations into new markets has and will continue to encounter significantcompetition from national, regional and local competitors that may be greaterthan that encountered by the Company in its existing markets.  In addition, such competitors may challengethe Company’s position in its existing markets.  While the Company believes that it has innovative products andmethods of operation that will enable it to compete successfully, there can beno assurance of its ability to do so.

 

The principalcompetitive factors affecting the market of the Company’s products includeproduct quality and taste, brand awareness among consumers, access to shelfspace, price, advertising and promotion, variety of snacks offered, nutritionalcontent, product packaging and package design. The Company competes in the market principally on the basis of productquality and taste.  While productsproduced at the Company’s Bluffton, Indiana facility involve the use of certainlicensed technology, the taste and quality of products produced at theCompany’s Goodyear, Arizona facility is largely due to two elements of theCompany’s manufacturing process: its use of batch frying and its use ofdistinctive seasonings to produce a variety of flavors.  The Company does not have exclusive rightsto the use of either element; consequently, competitors may incorporate suchelements into their own processes.

 

**Government Regulation**

 

Themanufacture, labeling and distribution of the Company’s products are subject tothe rules and regulations of various federal, state and local health agencies,including the Food & Drug Administration (“FDA”).  In May 1994, regulations issued under the Nutrition Labeling andEducation Act of 1990 (“NLEA”), which requires specified nutritionalinformation to be 

 

9

----

 

disclosed on all packaged foods, concerning labeling of food products,including permissible use of nutritional claims such as “fat-free” and“low-fat,” became effective.  TheCompany believes that it is complying in all material respects with the NLEAregulations and closely monitors the fat content of its products throughvarious testing and quality control procedures.  The Company does not believe that compliance with the NLEAregulations materially increases the Company’s manufacturing costs.

 

As a directresult of the September 11, 2001 terrorism attack, the FDA issued theBioterrorism Act of 2002 (“the Act”) to protect the U.S. food supply.  While there are four parts to the Act, onlytwo of the provisions impact the Company. One requirement for the Company was registration with the FDA as a U.S.Food Manufacturing Company, which the Company completed prior to the requireddate of December 12, 2003.  The secondof the Act’s provisions pertaining to the Company relates to recordretention.  The Company is required toretain records pertaining to its raw materials’ immediate previous sources(“one back”) as well as its finished goods’ subsequent recipients (“one up”)for twelve months.  Although noteffective until January 1, 2005, the Company believes it is currently compliantwith this provision.

 

On July 11,2003, the FDA published its final rule on Trans Fat Labeling requiring thatfood labels declare trans fats on or before January 1, 2006.  This rule requires that trans fat bedeclared on a separate line in the standard Nutrition Facts below total fat andsaturated fat and be calculated to the nearest 0.5 grams, unless it is lessthan 0.5 grams in which case it may be expressed as 0 grams.  Currently, the Company has plans in place tocomply with the FDA’s rule on Trans Fat Labeling by the January 1, 2006deadline.

 

There can beno assurance that new laws or regulations will not be passed that could requirethe Company to alter the taste or composition of its products or impose otherobligations on the Company.  Suchchanges could affect sales of the Company’s products and have a materialadverse effect on the Company.

 

In addition tolaws relating to food products, the Company’s operations are governed by lawsrelating to environmental matters, workplace safety and worker health,principally the Occupational Safety and Health Act.  The Company believes that it presently complies in all materialrespects with such laws and regulations.

 

### **Employees**

### ** **

As of December27, 2003, the Company had 282 full-time employees, including 238 inmanufacturing and distribution, 20 in sales and marketing and 24 inadministration and finance.  TheCompany’s employees are not represented by any collective bargainingorganization and the Company has never experienced a work stoppage.  The Company believes that its relations withits employees are good.

 

**Patents and Trademarks**

 

The Companyproduces T.G.I. Friday’s® brand salted snacks and Tato Skins® brand potatocrisps utilizing a sheeting and frying process that includes patentedtechnology that the Company licenses from Miles Willard Technologies, LLC, anIdaho limited liability company (“Miles Willard”).  Pursuant to the license agreement between the Company and MilesWillard, the Company has an exclusive right to use the patented technologywithin North America until the patents expire between 2004 and 2006.  In consideration for the use of thesepatents, the Company is required to make royalty payments to Miles Willard onsales of products manufactured utilizing the patented technology.

 

The Company produces Crunch Toons® brand salted snacks utilizing a sheetingand frying process that includes patented technology that the Company licensesfrom M.J. Quinlan & Associates Pty. Limited, a company incorporated underthe laws of New South Wales (“Quinlan”). Pursuant to the license agreement between the Company and Quinlan, theCompany has an exclusive right to use the patented technology within the UnitedStates until the agreement expires.  Theinitial period covered by the agreement extends through 2010 and automaticallyrenews for five (5) year increments after that, unless terminated byLicensee.  In consideration for the useof these patents, the Company is required to make royalty payments to Quinlanon sales of products manufactured utilizing the patented technology.

 

The Company licenses the T.G.I. Friday’s® brand salted snacks trademarkfrom TGI Friday’s Inc. under a license agreement with a term expiring in2014.  Pursuant to the licenseagreement, the Company is required to make royalty payments on sales of T.G.I.Friday’s® brand salted snack products and is required to achieve certainminimum sales levels by certain dates during the contract term.

 

10

----

 

In November2002, Warner Bros. Consumer Products granted the Company rights to introduce aninnovative new brand of salted snacks (Crunch Toons®) featuring Looney TunesTMcharacters, including Bugs Bunny, Tweety and the Tasmanian Devil.  The Company launched the new brandnationwide in the summer of 2003 under a multi-year agreement that grants theCompany exclusive salted snack category brand licensing and promotional rightsfor Looney TunesTM characters.  InNovember 2003, the Company also acquired the exclusive brand licensing andpromotional rights to Scooby DooTM characters pursuant to a multi-year agreementwith Warner Bros. Consumer Products. Both agreements require the payment of minimum royalties during the termof the agreements.

 

The Company owns the following trademarks in the United States: PooreBrothers®, An Intensely Different Taste®, Texas Style®, Boulder PotatoCompany®, Tato Skins®, O’Boisies®, Pizzarias®, Braids®, Knots® and CrunchToons®.

 

The Company considers its trademarks to be of significant importance inthe Company’s business.  The Company isnot aware of any circumstances that would have a material adverse effect on theCompany’s ability to use its trademarks.  Any termination of the Company’s licenseagreements, whether at the expiration of its term or prior thereto, could havea material adverse effect on the Company’s financial condition and results ofoperations.

 

### **Risk Factors**

### ** **

*Brief Operating History; Prior Net Losses;Accumulated Deficit; Significant Future Expenses due to Implementation ofBusiness Strategy.* Although certain of theCompany’s subsidiaries have operated for several years, the Company as a wholehas a relatively brief operating history upon which an evaluation of itsprospects can be made.  Such prospectsare subject to the substantial risks, expenses and difficulties frequentlyencountered in the establishment and growth of a new business in the snack foodindustry, which is characterized by a significant number of market entrants andintense competition, as well as risk factors described herein.  Although the Company has been profitablesince fiscal 1999, the Company experienced significant net losses in priorfiscal years.  At December 27, 2003, theCompany had an accumulated deficit of $797,929 and net working capital of$7,850,924.  See “*Item 7. Management’s Discussion andAnalysis of Financial Condition and Results of Operations*.”

 

Even if theCompany is successful in developing, acquiring and/or licensing new brands, andincreasing distribution and sales volume of the Company’s existing products, itmay be expected to incur substantial additional expenses, including advertisingand promotional costs, “slotting” expenses (i.e., the cost of obtaining shelfspace in certain grocery stores), and integration costs of any futureacquisitions. Accordingly, the Company may incur additional losses in thefuture as a result of the implementation of the Company’s business strategy,even if revenues increase significantly. There can be no assurance that theCompany’s business strategy will prove successful or that the Company will beprofitable in the future.

 

*Need for Additional Financing.*  A significant element of the Company’sbusiness strategy is the development, acquisition and/or licensing ofinnovative snack food brands, for the purpose of expanding, complementingand/or diversifying the Company’s business. In connection with each of theCompany’s previous brand acquisitions (Bob’s Texas Style® in November 1998,Tato Skins® in October 1999, and Boulder Potato Company® in June 2000), theCompany borrowed funds or assumed additional indebtedness in order to satisfy asubstantial portion of the consideration required to be paid by theCompany.  See “*Business — Company History*”and “*Item7. Management’s Discussion and Analysis of Financial Condition and Results ofOperations*” —*Liquidity and Capital Resources*.”  The Company may, in the future, requireadditional third party financing (debt or equity) as a result of any futureoperating losses, in connection with the expansion of the Company’s businessthrough non-acquisition means, in connection with any additional acquisitionscompleted by the Company, or to provide working capital for general corporatepurposes.  There can be no assurancethat any such required financing will be available or, if available, on termsattractive to the Company.  Any thirdparty financing obtained by the Company may result in dilution of the equity interestsof the Company’s shareholders.

 

*Acquisition-Related Risks.*In recent years, a significant element of the Company’s business strategy hasbeen the pursuit of selected strategic acquisition opportunities for thepurpose of expanding, complementing and/or diversifying the Company’sbusiness.  Strategic acquisitions arelikely to continue to comprise an element of the Company’s business strategyfor the foreseeable future.  However, noassurance can be given that the Company will be able to identify, finance andcomplete additional suitable acquisitions on acceptable terms, or that futureacquisitions, if completed, will be successful.  Any future acquisitions could divert management’s attention fromthe daily operations of the Company and otherwise require additionalmanagement, operational and financial resources.  Moreover, there can be no assurance that the Company will be ableto successfully integrate acquired companies or their management teams into theCompany’s operating structure, retain management teams of acquired companies ona long-term basis, or operate acquired companies profitably. Acquisitions mayalso involve a number of other risks, including adverse short-term effects onthe Company’s operating results, dependence on retaining key personnel andcustomers, and risks associated with unanticipated liabilities orcontingencies.

 

11

----

 

*Substantial Leverage; Financial CovenantsPursuant to U.S. Bancorp Credit Agreement; Possible Acceleration of Indebtedness.*  At December 27, 2003, the Company hadoutstanding indebtedness under a credit agreement with U.S. Bancorp (the “U.S.Bancorp Credit Agreement”) in the aggregate principal amount of $2,259,377. Theindebtedness under the U.S. Bancorp Credit Agreement is secured bysubstantially all of the Company’s assets. The Company is required to complywith certain financial covenants pursuant to the U.S. Bancorp Credit Agreementso long as borrowings from U.S. Bancorp remain outstanding. Should the Companybe in default under any of such covenants, U.S. Bancorp shall have the right,upon written notice and after the expiration of any applicable period duringwhich such default may be cured, to demand immediate payment of all of the thenunpaid principal and accrued but unpaid interest under the U.S. Bancorp CreditAgreement.  At December 27, 2003, theCompany was in compliance with all financial covenants under the U.S. BancorpCredit Agreement (including minimum annual operating results, minimum fixedcharge coverage and minimum tangible capital requirements).  There can be no assurance that the Companywill be in compliance with the financial covenants in the future. Anyacceleration of the borrowings under the U.S. Bancorp Credit Agreement prior tothe applicable maturity dates could have a material adverse effect upon theCompany. See “*Item 7. Management’s Discussion and Analysis of Financial Condition andResults of Operations — Liquidity and Capital Resources*.”

 

*Volatility of Market Price of Common Stock*.The market price of the Common Stock has experienced a high level of volatilitysince the completion of the Company’s initial public offering in December 1996.Commencing with an offering price of $3.50 per share in the initial publicoffering, the market price of the Common Stock experienced a substantialdecline, reaching a low of $0.50 per share (based on last reported sale priceof the Common Stock on the Nasdaq SmallCap Market) on December 22, 1998. Duringfiscal 2003, the market price of the Common Stock (based on last reported saleprice of the Common Stock on the Nasdaq SmallCap Market) ranged from a high of$5.60 per share to a low of $1.90 per share. The last reported sales price of the Common Stock on the Nasdaq SmallCapMarket on March 21, 2004 was $3.15 per share. There can be no assurance as tothe future market price of the Common Stock. See *“Compliancewith Nasdaq Listing Maintenance Requirements.”*

 

*Compliance with Nasdaq Listing MaintenanceRequirements.* In order for the Company’s Common Stock to continue to be listed on theNasdaq SmallCap Market, the Company is required to be in compliance withcertain continued listing standards. One of such requirements is that the bid price of listed securities beequal to or greater than $1.00.  If, inthe future, the Company’s Common Stock fails to be in compliance with theminimum closing bid price requirement for at least thirty consecutive tradingdays or the Company fails to be in compliance with any other Nasdaq continuedlisting requirements, then the Common Stock could be de-listed from the NasdaqSmallCap Market. Upon any such de-listing, trading, if any, in the Common Stockwould thereafter be conducted in the over-the-counter market on the so-called“pink sheets” or the “Electronic Bulletin Board” of the National Association ofSecurities Dealers, Inc. (“NASD”). As a consequence of any such de-listing, aninvestor could find it more difficult to dispose of, or to obtain accuratequotations as to the price of, the Company’s Common Stock.  See *“Volatility of Market Price of Common Stock.”*

 

*Competition*.  The market for salted snack foods, such asthose sold by the Company, including potato chips, tortilla chips, pretzels andmeat snacks, is large and intensely competitive. Competitive factors in thesalted snack food industry include product quality and taste, brand awarenessamong consumers, access to supermarket shelf space, price, advertising andpromotion, variety of snacks offered, nutritional content, product packagingand package design. The Company competes in that market principally on thebasis of product taste and quality.

 

The snack foodindustry is primarily dominated by Frito-Lay, Inc., which has substantiallygreater financial and other resources than the Company and sells brands thatare more widely recognized than are the Company’s products. Numerous othercompanies that are actual or potential competitors of the Company, many withgreater financial and other resources (including more employees and moreextensive facilities) than the Company, offer products similar to those of theCompany. In addition, many of such competitors offer a wider range of productsthan that offered by the Company. Local or regional markets often havesignificant smaller competitors, many of whom offer batch fried productssimilar to those of the Company. Expansion of Company operations into newmarkets has and will continue to encounter significant competition fromnational, regional and local competitors that may be greater than thatencountered by the Company in its existing markets. In addition, suchcompetitors may challenge the Company’s position in its existing markets. Whilethe Company believes that its innovative products and methods of operation willenable it to compete successfully, there can be no assurance of its ability todo so.

 

*Promotional and Shelf Space Costs.*  Successful marketing of food productsgenerally depends upon obtaining adequate retail shelf space for productdisplay, particularly in supermarkets. Frequently, food manufacturers anddistributors, such as the Company, incur additional costs in order to obtainadditional shelf space. Whether or not the Company incurs such costs in aparticular market is dependent upon a number of factors, including demand forthe Company’s products, relative availability of shelf space and generalcompetitive conditions. The Company may incur significant shelf space or otherpromotional costs as a necessary condition of entering into competition ormaintaining market share in particular markets or stores. If incurred, suchcosts may materially affect the Company’s financial performance.

 

12

----

 

*No Assurance of Consumer Acceptance ofCompany’s Existing and Future Products*.  Consumer preferences for snack foods arecontinually changing and are extremely difficult to predict. The ability of theCompany to generate revenues in new markets will depend upon customeracceptance of the Company’s products. There can be no assurance that the CrunchToons® brand will achieve a significant degree of market acceptance, thatacceptance, if achieved, will be sustained for any significant period or thatproduct life cycles will be sufficient to permit the Company to recoverstart-up and other associated costs, such as minimum royalty commitments or rawmaterial inventories.  In addition,there can be no assurance that the Company will succeed in the development ofany new products or that any new products developed by the Company will achievemarket acceptance or generate meaningful revenue for the Company.

 

*Uncertainties and Risks of Food ProductIndustry.* The food product industry in which the Company is engaged is subject tonumerous uncertainties and risks outside of the Company’s control.  Profitability in the food product industryis subject to adverse changes in general business and economic conditions,oversupply of certain food products at the wholesale and retail levels,seasonality, the risk that a food product may be banned or its use limited ordeclared unhealthful, the risk that product tampering may occur that mayrequire a recall of one or more of the Company’s products, and the risk thatsales of a food product may decline due to perceived health concerns, changesin consumer tastes or other reasons beyond the control of the Company.

 

*Fluctuations in Prices of Supplies;Dependence Upon Availability of Supplies and Performance of Suppliers.*  The Company’s manufacturing costs aresubject to fluctuations in the prices of potatoes, potato flakes, wheat flour,corn and oil, as well as other ingredients of the Company’s products.  Potatoes, potato flakes, wheat flour andcorn are widely available year-round. The Company uses a variety of oils in the production of itsproducts.  The Company is dependent onits suppliers to provide the Company with products and ingredients in adequatesupply and on a timely basis.  Althoughthe Company believes that its requirements for products and ingredients arereadily available, and that its business success is not dependent on any singlesupplier, the failure of certain suppliers to meet the Company’s performancespecifications, quality standards or delivery schedules could have a materialadverse effect on the Company’s operations. In particular, a sudden scarcity, a substantial price increase, or anunavailability of product ingredients could materially adversely affect theCompany’s operations.  There can be noassurance that alternative ingredients would be available when needed and oncommercially attractive terms, if at all.

 

*Lack of Proprietary Manufacturing Methods forCertain Products; Future Expiration of Patented Technology Licensed by theCompany*. The Company licenses patented technology from a third party inconnection with the manufacture of its T.G.I. Friday’s® and Tato Skins® brandproducts and has an exclusive right to use such technology within North Americauntil the patents expire between 2004 and 2006.  The Company also licensespatented technology from a third party in connection with the manufacture ofits Crunch Toons® brand salted snacks and has an exclusive right to use suchtechnology within the United States until the agreement expires.  The initial period covered by the agreementextends through 2010 and automatically renews for five (5) year incrementsafter that, unless terminated by the Company. In addition, the Company expects to utilize patented technologyfrom one or more third parties in connection with the manufacture of futureproducts.  Upon the expiration of suchpatents, competitors of the Company, certain of which may have significantlygreater resources than the Company, may utilize the patented technology in themanufacture of products that are similar to those currently manufactured, orthat may in the future be manufactured, by the Company with such patentedtechnology.  The entry of any suchproducts into the marketplace could have a material adverse effect on sales ofT.G.I. Friday’s®, Crunch Toons® and Tato Skins® brand products, as well as anysuch future products, by the Company.

 

The taste andquality of Poore Brothers®, Bob’s Texas Style®, and Boulder Potato Company®brand potato chips is largely due to two elements of the Company’smanufacturing process: its use of batch frying and its use of distinctiveseasonings to produce a variety of flavors. The Company does not have exclusive rights to the use of either element;consequently, competitors may incorporate such elements into their ownprocesses.

 

*Dependence Upon Key Snack Food Brands;Dependence Upon T.G.I. Friday’s*®*License Agreementand Future License Agreements**. *The Company derives a substantial portion ofits revenue from a limited number of snack food brands.  For the year ended December 27, 2003,approximately 71% of the Company’s net revenues were attributable to the T.G.I.Friday’s® brand products and the Poore Brothers® brand products.  A decrease in the popularity of a particularsnack food brand during any year could have a material adverse effect on theCompany’s business, financial condition and results of operations.  There can be no assurance that any of theCompany’s snack food brands will retain their historical levels of popularityor increase in popularity.  Any impactto a licensed brand’s reputation could also lead to an impact on the Company’ssnack food products associated with that brand.  Decreased sales from any one of the key snack food brands withouta corresponding increase in sales from other existing or newly introducedproducts would have a material adverse effect on the Company’s financialcondition and results of operations.

 

13

----

 

Furthermore,the T.G.I. Friday’s® brand products are manufactured and sold by the Companypursuant to a license agreement by and between the Company and TGI Friday’sInc. which expires in 2014.  Pursuant tothe license agreement, the Company is subject to various requirements andconditions (including, without limitation, minimum sales targets).  The failure of the Company to comply withcertain of such requirements and conditions could result in the earlytermination of the license agreement by TGI Friday’s Inc.  Any termination of the license agreement,whether at the expiration of its term or prior thereto, could have a materialadverse effect on the Company’s financial condition and results of operations.

 

Additionally,the Crunch Toons® brand products, featuring Looney TunesTM and Scooby DooTMcharacters, are currently being sold by the Company pursuant to multi-yearlicense agreements by and between the Company and Warner Bros. ConsumerProducts.  Pursuant to the licenseagreements, the Company is subject to various requirements and conditions(including without limitation, minimum royalty payments).  The failure of the Company to comply withcertain of such requirements and conditions could result in the earlytermination of the license agreements by Warner Bros. Consumer Products.  Any termination of the license agreements,whether at the expiration of its term or prior thereto, could have a materialadverse effect on the Company’s financial condition and results of operations.

 

The Companymay introduce one or more new product lines in the future that will bemanufactured and sold pursuant to additional license agreements by and betweenthe Company and one or more third parties. Pursuant to any such license agreements, the Company will likely besubject to various requirements and conditions (including minimum sales targetsor royalty payments).  The failure ofthe Company to comply with certain of such requirements and conditions couldresult in the early termination of such additional license agreements.  Depending upon the success of any such newproduct lines, a termination of the applicable license agreements, whether atthe expiration of their respective terms or prior thereto, could have amaterial adverse effect on the Company’s financial condition and results ofoperations.

 

*Dependence Upon Major Customers*.  Two customers of the Company, Vistar,formerly Vending Services of America,  anational vending distributor and Wal*Mart (including its SAM’s Clubs),accounted for 13% and 20%, respectively, of the Company’s 2003 net revenues,with the remainder of the Company’s net revenues being derived from sales to alimited number of additional customers, either grocery chains or regionaldistributors, none of which individually accounted for more than 10% of theCompany’s revenues for 2003.  A decisionby any major customer to cease or substantially reduce its purchases could havea material adverse effect on the Company’s business.

 

*Reliance on Key Employees; Non-CompeteAgreements*. The Company’s success is dependent in large part upon the abilities ofits executive officers, including Eric J. Kufel, President and Chief ExecutiveOfficer, Glen E. Flook, Senior Vice President-Operations, and Thomas W. Freeze,Senior Vice President and Chief Financial Officer.  The inability of the Company’s executive officers to performtheir duties or the inability of the Company to attract and retain other highlyqualified personnel could have a material adverse effect upon the Company’sbusiness and prospects.  The Companycurrently maintains “key man” life insurance with respect to the Company’sPresident and Chief Executive Officer in the amount of $5,000,000. Theemployment of the executive officers of the Company is on an “at-will”basis.  The executive officers areentitled to severance under certain circumstances.  The Company has non-compete agreements with all of its executiveofficers.  See “*Item 10. Directors and ExecutiveOfficers of the Registrant*.”

 

*Governmental Regulation.*  The packaged food industry is subject tonumerous federal, state and local governmental regulations, including thoserelating to the preparation, labeling and marketing of food products.  The Company is particularly affected by theNutrition Labeling and Education Act of 1990 (“NLEA”), which requires specifiednutritional information to be disclosed on all packaged foods.  The Company believes that the labeling onits products currently meets these requirements.  The Company does not believe that complying with the NLEAregulations materially increases the Company’s manufacturing costs.

 

As a directresult of the September 11, 2001 terrorism attack, the FDA issued theBioterrorism Act of 2002 (“the Act”) to protect the U.S. food supply.  While there are four parts to the Act, onlytwo of the provisions impact the Company. One requirement for the Company was registration with the FDA as a U.S.Food Manufacturing Company, which the Company completed prior to the requireddate of December 12, 2003.  The secondof the Act’s provisions pertaining to the Company relates to recordretention.  The Company is required toretain records pertaining to its raw materials’ immediate previous sources(“one back”) as well as its finished goods’ subsequent recipients (“one up”)for twelve months. Although not effective until January 1, 2005, the Companybelieves it is currently compliant with this provision.

 

On July 11,2003, the FDA published its final rule on Trans Fat Labeling requiring thatfood labels declare trans fats on or before January 1, 2006.  This rule requires that trans fat bedeclared on a separate line in the standard Nutrition Facts below total fat andsaturated fat and be calculated to the nearest 0.5 grams, unless it is lessthan 0.5 grams in which case it may be expressed as 0 grams.  Currently, the Company has plans in place tocomply with the FDA’s rule on Trans Fat Labeling by the January 1, 2006deadline.

 

14

----

 

There can beno assurance that new laws or regulations will not be passed that could requirethe Company to alter the taste or composition of its products or impose otherobligations on the Company.  Suchchanges could affect sales of the Company’s products and have a materialadverse effect on the Company.

 

*Product Liability Claims*.  As a manufacturer and marketer of foodproducts, the Company may be subjected to various product liabilityclaims.  There can be no assurance thatthe product liability insurance maintained by the Company will be adequate tocover any loss or exposure for product liability, or that such insurance willcontinue to be available on terms acceptable to the Company.  Any product liability claim not fullycovered by insurance, as well as any adverse publicity from a product liabilityclaim, could have a material adverse effect on the financial condition orresults of operations of the Company.

 

*Significant Shareholders; Possible Change inControl. *Asa result of the Wabash Foods acquisition, Capital Foods, LLC (“Capital Foods”)(an affiliate of the former owner of Wabash Foods) became the single largestshareholder of the Company, currently holding approximately 23% of theoutstanding shares of Common Stock (without giving effect to the possibleexercise of warrants to purchase 250,000 shares of Common Stock also held byCapital Foods).  Accordingly, CapitalFoods is in a position to exercise substantial influence on the business andaffairs of the Company.  In addition,Renaissance Capital Group, Inc. manages three funds, Renaissance Capital Growth& Income Fund III, Inc., Renaissance U.S. Growth & Income Trust PLC,and BFS US Special Opportunities Trust PLC, which are currently the beneficialowners of approximately 9%, 6% and 6%, respectively, of the outstanding sharesof Common Stock of the Company.  CapitalFoods, Renaissance Capital Growth & Income Fund III, Inc., Renaissance U.S.Growth & Income Trust PLC, and BFS US Special Opportunities Trust PLC arehereinafter referred to collectively as the “Significant Shareholders”.  Although the Company is not aware of anyplans or proposals on the part of any Significant Shareholder to recommend orundertake any material change in the management or business of the Company,there is no assurance that a Significant Shareholder will not adopt or supportany such plans or proposals in the future.

 

Apart fromtransfer restrictions arising under applicable provisions of the securitieslaws, there are no restrictions on the ability of the Significant Shareholdersto transfer any or all of their respective shares of Common Stock at anytime.  One or more of such transferscould have the effect of transferring effective control of the Company,including to one or more parties not currently known to the Company.

 

*Possibility theCompany Will be Required to Register Shares of Certain Stockholders for Resale;Shares Available for Future Sale.*  On December 27, 2001, the Company completedthe sale of 586,855 shares of Common Stock, $0.01 par value, to BFS US SpecialOpportunities Trust PLC (“BFS”), a fund managed by Renaissance Capital Group,Inc., in a private placement transaction. The net proceeds of the transaction were utilized by the Company toreduce the Company’s outstanding indebtedness. In connection with such transaction, the Company granted demand andpiggyback registration rights to BFS. Pursuant to the demand registration rights, the Company may be required,upon demand of BFS, to file a registration statement (the “BFS RegistrationStatement”) with the Securities and Exchange Commission covering the resale ofthe shares of Common Stock issued to BFS in the transaction.  The Company will be required to pay allexpenses relating to any such registration, other than underwriting discounts,selling commissions and stock transfer taxes applicable to the shares, and anyother fees and expenses incurred by the holder(s) of the shares (including,without limitation, legal fees and expenses) in connection with theregistration.

 

Approximately6,896,105 shares of outstanding Common Stock and 300,000 shares of Common Stockissuable upon the exercise of warrants issued by the Company are subject to“piggyback” registration rights granted by the Company, pursuant to which suchshares of Common Stock may be registered under the Securities Act and, as aresult, become freely tradable in the future. All or a portion of such shares may, at the election of the holdersthereof, be included in the BFS Registration Statement and, upon theeffectiveness thereof, may be sold in the public markets.

 

No predictioncan be made as to the effect, if any, that future sales of shares of CommonStock will have on the market price of the Common Stock prevailing from time totime.  Sales of substantial amounts ofCommon Stock, or the perception that these sales could occur, could adverselyaffect prevailing market prices for the Common Stock and could impair theability of the Company to raise additional capital through the sale of itsequity securities or through debt financing.

 

*Certain Anti-takeover Provisions*.  The Company’s Certificate of Incorporationauthorizes the issuance of up to 50,000 shares of “blank check” preferred stockwith such designations, rights and preferences as may be determined from timeto time by the Board of Directors of the Company.  The Company may issue such shares of preferred stock in thefuture without shareholder approval. The rights of the holders of Common Stock will be subject to, and may beadversely affected by, the rights of the holders of any preferred stock thatmay be issued in the future.  Theissuance of preferred stock, while providing desirable flexibility inconnection with possible acquisitions and other corporate purposes, could havethe effect of discouraging, delaying or preventing a change of control of theCompany, and preventing holders of Common Stock from 

 

15

----

 

realizing a premium on their shares. In addition, under Section 203 of the Delaware General Corporation Law(the “DGCL”), the Company is prohibited from engaging in any businesscombination (as defined in the DGCL) with any interested shareholder (asdefined in the DGCL) unless certain conditions are met.  This statutory provision could also have ananti-takeover effect.

 

### **Item 2**.  Properties

### ** **

The Companyleases a 140,000 square foot facility located on 15 acres of land in Bluffton,Indiana, approximately 20 miles south of Ft. Wayne, Indiana.  The Company has entered into a leaseexpiring in April 2018 with respect to the facility and the lease has twofive-year renewal options.  Currentlease payments are approximately $22,000 per month.  The lease payments are subject to an annual CPI-basedincrease.  The Company produces itsT.G.I. Friday’s® brand salted snacks, Crunch Toons® brand potato snacks andTato Skins® brand potato snacks at the Bluffton, Indiana facility.

 

The Companyalso leases one-half of a 200,000 square foot facility in Bluffton, Indianawhich is used as a distribution center. The Company has entered into a lease expiring in November 2006 withrespect to the facility and the lease has two three-year renewal options.  Current lease payments are approximately$30,000 per month.

 

The Companyowns a 60,000 square foot facility located on 7.7 acres of land in Goodyear,Arizona, approximately 15 miles west of Phoenix, Arizona.  Construction of this facility was completedin June 1997.  In August 1997, theCompany completed the transition of all of its Arizona operations into thefacility.  The facility is financed by amortgage with Morgan Guaranty Trust Company of New York that matures in June2012.  The Company produces its PooreBrothers®, Bob’s Texas Style® and Boulder Potato Company® brand potato chips,as well as its private label potato chips at the Goodyear, Arizona facility.

 

The Company isresponsible for all insurance costs, utilities and real estate taxes inconnection with its facilities. The Company believes that its facilities areadequately covered by insurance.

 

### **Item 3**.  LegalProceedings

### ** **

The Company isperiodically a party to various lawsuits arising in the ordinary course ofbusiness.  Management believes, based ondiscussions with legal counsel, that the resolution of such lawsuits,individually and in the aggregate, will not have a material adverse effect onthe Company’s financial position or results of operations.

 

### **Item 4**.  Submissionof Matters to a Vote of Security Holders

 

None.

 

#### **PART II**

#### ** **

#### **Item5**.  Market for Common Equity and RelatedStockholder Matters

#### ** **

The Company’sCommon Stock is traded on the Nasdaq SmallCap Market tier of the Nasdaq StockMarket under the symbol “SNAK”.  Therewere approximately 4,000 shareholders of record on March 21, 2004.  The Company has never declared or paid anydividends on the shares of Common Stock. Management intends to retain any future earnings for the operation andexpansion of the Company’s business and does not anticipate paying anydividends at any time in the foreseeable future.  Additionally, certain debt agreements of the Company limit theCompany’s ability to declare and pay dividends.

 

The followingtable sets forth the range of high and low sale prices of the Company’s CommonStock as reported on the Nasdaq SmallCap Market for each quarter of the fiscalyears ended December 27, 2003 and December 28, 2002.

 
|                    |   | **Sales  Prices** |   |
|-------------------------|--------|-------------------|--------|
| **Period of Quotation** |   | **High**          |   | **Low** |   |
| Fiscal 2002:            |   |              |   |   |   |
| First Quarter           |   | $                 | 2.72   |   | $ | 2.20 |   |
| Second Quarter          |   | $                 | 3.40   |   | $ | 2.35 |   |
| Third Quarter           |   | $                 | 2.97   |   | $ | 2.20 |   |
| Fourth Quarter          |   | $                 | 3.02   |   | $ | 1.49 |   |
|                    |   |              |   |   |   |
| Fiscal 2003:            |   |              |   |   |   |
| First Quarter           |   | $                 | 2.55   |   | $ | 1.90 |   |
| Second Quarter          |   | $                 | 4.15   |   | $ | 1.99 |   |
| Third Quarter           |   | $                 | 5.60   |   | $ | 3.91 |   |
| Fourth Quarter          |   | $                 | 5.28   |   | $ | 3.30 |   |

 

16

----

 

**Item6****.  SelectedFinancial Data**

 

**FIVE YEAR FINANCIALSUMMARY**

**(In millions exceptshare and per share data)**

 
|                            |   | **2003**   |   | **2002**   |   | **2001**   |   | **2000**   |   | **1999**  |   |
|---------------------------------|--------|------------|--------|------------|--------|------------|--------|------------|--------|-----------|--------|
| **Statements of Earnings Data** |   |       |   |       |   |       |   |       |   |      |   |
| Net revenues                    |   | $          | 66.4   |       | $      | 59.3       |   | $          | 53.9   |      | $      | 39.1 |   | $ | 21.5 |   |
| Gross profit                    |   | 13.3       |   | 11.3       |   | 10.9       |   | 7.7        |   | 4.0       |   |
| Operating income                |   | 0.0        |   | 2.7        |   | 2.1        |   | 1.9        |   | 0.9       |   |
| Net income                      |   | 1.1        |   | 2.6        |   | 1.0        |   | 0.7        |   | 0.1       |   |
|                            |   |       |   |       |   |       |   |       |   |      |   |
| Net income per share - diluted  |   | $          | 0.06   |       | $      | 0.15       |   | $          | 0.06   |      | $      | 0.05 |   | $ | 0.01 |   |
| Weighted average common shares  |   | 18,476,486 |   | 17,826,953 |   | 17,198,648 |   | 15,129,593 |   | 9,134,414 |   |
|                            |   |       |   |       |   |       |   |       |   |      |   |
| **Balance Sheet Data**          |   |       |   |       |   |       |   |       |   |      |   |
| Net working capital             |   | $          | 7.9    |       | $      | 2.0        |   | $          | 2.0    |      | $      | 0.8 |   | $ | 0.8 |   |
| Total assets                    |   | 36.6       |   | 31.8       |   | 31.7       |   | 30.3       |   | 26.1      |   |
| Long-term debt                  |   | 3.1        |   | 4.1        |   | 8.7        |   | 9.0        |   | 10.7      |   |
| Shareholders’ equity       |   | 25.1       |   | 20.7       |   | 16.8       |   | 14.3       |   | 11.3      |   |

 

**Item7****.  Management’sDiscussion and Analysis of Financial Condition and Results of Operations**

 

Management’sDiscussion and Analysis of Financial Condition and Results of Operations(“MD&A”) should be read in conjunction with the other sections of thisAnnual Report on Form 10-K, including “Item 1: Business”; “Item 6:  SelectedFinancial Data”; and “Item 8:  FinancialStatements and Supplementary Data.”  Thevarious sections of this MD&A contain a number of forward-lookingstatements, all of which are based on our current expectations and could beaffected by the uncertainties and risk factors described throughout this filingand particularly in the “Risk Factors” section.  Accordingly, the Company’s actual future results may differmaterially from historical results or those currently anticipated.

 

**Business and Future Outlook**

 

PooreBrothers, Inc. (the “Company”) is engaged in the development, production,marketing and distribution of innovative salted snack food products that aresold primarily through grocery retailers, mass merchandisers, club stores,convenience stores and vend distributors across the United States.  The Company currently manufactures and sellsnationally (i) T.G.I. Friday’s® brand salted snacks under license from TGI Friday’sInc. and (ii) Crunch Toons® brand salted snacks, featuring Looney TunesTM andScooby DooTM characters under license from Warner Bros. Consumer Products.  The Company also currently (i) manufacturesand sells regionally its own brands of salted snack food products, includingPoore Brothers®, Bob’s Texas Style®, and Boulder Potato Company® brandbatch-fried potato chips and Tato Skins® brand potato snacks, (ii) manufacturesprivate label potato chips for grocery retail chains in the southwest, and(iii) distributes in Arizona snack food products that are manufactured byothers.

 

17

----

 

Fiscal 2003results were the fifth straight year of profitability and increased revenue forthe Company.  The Company’s T.G.I.Friday’s® brand continues its strong revenue growth, particularly in the mass,vending and convenience store channels, and two new items for the brand,Mozzarella Sticks and Onion Rings, are performing well initially.

 

Theintroduction of the Crunch Toons® brand during fiscal 2003 represented trueproduct innovation for the industry and was enthusiastically received byretailers.  The Company investedsignificantly in consumer and trade marketing programs to support its launchduring 2003.  The Company expected itsfourth-quarter television advertising and the release of a major motion pictureto provide momentum for the brand through increased consumer trial andawareness.  However, consumer responseto these fourth-quarter marketing activities fell far short of ourexpectations.

 

The Company’s2004 goals reflect significantly improved profitability and continued revenuegrowth.  The Company expects to deliversignificantly improved profitability as a result of increased revenue, improvedoperating efficiencies, and the absence of introductory marketing expenses forthe Crunch Toons® brand.  We also intendto make investments to support continued growth of the T.G.I. Friday’s® brand,as well as consumer research, product development and market testing of newbrand concepts.

 

The Company’skey revenue priority for 2004 is to deliver continued strong revenue growthfrom T.G.I. Friday’s® brand snacks by expanding distribution particularly inthe mass merchandiser, convenience store and grocery channels.  The Company also plans to evaluate packaging,pricing and promotional strategies for the Crunch Toons® brand.  During the first quarter of 2004, a newcharacter and product flavor, Scooby DooTM BBQ, will be introduced.  The Company plans to proceed cautiously withits investments in the Crunch Toons® brand and moderate its revenue expectationsaccordingly.  There can be no assurancesthat the brand will be successful.  Dueto the February 2004 discontinuation of a product line not manufactured by theCompany, the distributed products segment is expected to generate approximately50% less revenue.  This will allow theCompany to increase its focus on growing both the Poore Brothers® and T.G.I.Friday’s® brands in its home market.

 

In connectionwith the implementation of the Company’s business strategy, the Company mayincur additional operating losses in the future and is likely to require futuredebt or equity financings (particularly in connection with future strategicacquisitions).  Expenditures relating toacquisition-related integration costs, trade and consumer marketing programsand new product development may adversely affect operating expenses andconsequently may adversely affect operating and net income.  These types of expenditures are expensed foraccounting purposes as incurred, while revenue generated from the result ofsuch investments may benefit future periods. The Company currently has no material consumer marketing or capitalexpenditure commitments.  Managementbelieves that cash flow from operations, during the next twelve months, alongwith available working capital and borrowing facilities, should enable theCompany to meet its operating cash requirements through 2004.  The belief is based on current operatingplans and certain assumptions, including those relating to the Company’s futurerevenue levels and expenditures, industry and general economic conditions andother conditions.  If any of thesefactors change, the Company may require future debt or equity financings tomeet its business requirements.  Therecan be no assurance that any required financings will be available or, ifavailable, on terms attractive to the Company.

 

**Results of Operations**

 

The followingdiscussion summarizes the significant factors affecting the consolidatedoperating results, financial condition, liquidity and capital resources of theCompany.  This discussion should be readin conjunction with Item 8: “Financial Statements and Supplementary Data” andthe “Cautionary Statement on Forward-Looking Statements” on page 4.

 

Significantchanges to the Company’s business mix and certain events that have beenrecorded over the last three years affect the comparisons of fiscal 2003, 2002,and 2001 operations.  Consequently,comparative results are more difficult to analyze and explain.  Where practicable, this discussion addressesnot only the financial results as reported, but also the key results andfactors affecting the Company’s on-going business.

 

In 2001, theEmerging Issues Task Force (EITF) issued EITF Issue No. 01-9, “Accounting forConsideration Given by a Vendor to a Customer or a Reseller of the Vendor’sProducts,” (EITF Issue No. 01-9).  EITFIssue No. 01-9 addresses the accounting for certain consideration given by avendor to a customer and provides guidance on the recognition, measurement andincome statement classification for sales incentives.  In general, the guidance requires that consideration from avendor to a retailer be recorded as a reduction in revenue unless certaincriteria are met.  The Company adoptedthe provisions of the EITF Issue No. 01-9 effective in the first quarter of2002 and as a result, costs previously recorded as expense are now recorded andreflected as reductions in revenue.  The Company was also required to reclassify amounts in prior periods inorder to conform to the revised presentation of these costs ifpracticable.  As a result of adoptingEITF Issue No. 01-9, the Company reduced both net revenues and selling, generaland administrative expenses in 2001 by $3,761,072.  There was no change to the 2001 previously reported net income asa result of this change.

 

18

----

 

EffectiveJanuary 1, 2002, the Company changed the fiscal year from the twelve calendarmonths ending on December 31 each year to the 52-week period ending on the lastSaturday occurring in the month of December of each calendar year.  Accordingly, fiscal 2003 commenced December29, 2002 and ended December 27, 2003.

 

*Year ended December 27, 2003 compared to theyear ended December 28, 2002*

 
|                                          |   | **2003** |   | **2002**     |   | **Difference** |   |
|-----------------------------------------------|--------|----------|--------|--------------|--------|----------------|--------|
| **(dollars in millions)**                     |   | **$**    |   | **% of Rev** |   | **$**          |   | **% of Rev** |   | **$** |   | **%** |   |
| Net revenues                                  |   | $        | 66.4   |         | 100.0  | %              | $      | 59.3 |   | 100.0 | % | $ | 7.1 |   | 12.0 | % |
| Cost of revenues                              |   | 53.1     |   | 79.9         | %      | 48.0           |   | 80.9 | % | 5.1 |   | 10.5 | % |
| Gross profit                                  |   | 13.3     |   | 20.1         | %      | 11.3           |   | 19.1 | % | 2.0 |   | 17.7 | % |
| Selling, general and administrative  expenses |   | 13.3     |   | 20.0         | %      | 8.6            |   | 14.6 | % | 4.7 |   | 53.9 | % |
| Operating income                              |   | 0.0      |   | 0.0          | %      | 2.7            |   | 4.5 | % | (2.7 | ) | (99.0 | )% |
|                                          |   |     |   |         |   |           |   |   |   |   |   |   |   |
| Insurance claim settlement income, net        |   | 1.9      |   | 2.9          | %      | 0.3            |   | 0.4 | % | 1.6 |   | 639.8 | % |
| Interest expense, net                         |   | (0.2     | )      | (0.4         | )%     | (0.5           | )      | (0.9 | )% | 0.3 |   | 53 | % |
| Income before income taxes                    |   | 1.7      |   | 2.6          | %      | 2.4            |   | 4.0 | % | (0.7 | ) | (29.2 | )% |
| Income tax benefit (provision)                |   | (0.6     | )      | (1.0         | )%     | 0.2            |   | 0.4 | % | (0.8 | ) | (364.3 | )% |
| Net income                                    |   | $        | 1.1    |         | 1.6    | %              | $      | 2.6 |   | 4.4 | % | $ | (1.5 | ) | (60.1 | )% |

 

For the fiscal year ended December 27, 2003, net revenue increased 12%to $66.4 million, compared with revenue of $59.3 million for the previousfiscal year.  The Company’s revenueincreased in the manufactured products segment as a result of growth in theT.G.I. Friday’s® brand salted snacks. Overall, T.G.I. Friday’s® brand salted snacks revenue was 13% higherthan in 2002, accounting for approximately 61% of the Company’s net revenue forthe year.  The Company’s Crunch Toons®brand snacks contributed $3.5 million in net revenue during the year.  The growth from these brands was partiallyoffset by anticipated lower shipments of Tato Skins® brand snacks in thevending channel which resulted from our deliberate efforts to cannibalize thebrand with T.G.I. Friday’s® brand salted snacks, and by slightly lower revenuefrom private label potato chips.  TheCompany’s batch-fried kettle chip brands were flat versus 2002 and thedistributed products segment rose modestly.

 

Net income for 2003 declined 60% to $1.1 million, or $0.06 per basicand diluted share, compared with net income of $2.6 million, or $0.16 per basicand $0.15 per diluted share, in the prior-year period.  As expected, net income was impactedsignificantly in fiscal 2003 by approximately $3.5 million in plannedintroductory consumer marketing programs, such as national televisionadvertising, as well as other costs associated with the launch of the CrunchToons® brand.

 

Gross profit for 2003 increased to $13.3 million, or 20% of netrevenue, compared to $11.3 million, or 19% of net revenue, in 2002 due to therevenue increase, improved manufacturing efficiencies and despite a $1.0million pretax impairment write-down of idle packaging equipment during 2003.

 

Selling, general and administrative expenses increased to $13.3 millionin fiscal 2003, up from $8.6 million in 2002, or 20% versus 15% of netrevenue.  The increase was driven byintroductory consumer marketing programs, such as national televisionadvertising, and other costs associated with the new Crunch Toons® brandlaunch.

 

In fiscal 2003, other income and expense included $1.9 million ofpre-tax income from an insurance claim settlement.

 

In fiscal 2002, the Company benefited from the reversal of a deferredtax valuation allowance of approximately $1.2 million related to the Company’snet operating loss carryforward.

 

*Year ended December28, 2002 compared to the year ended December 31, 2001*

 
|                                          |   | **2002** |   | **2001**     |   | **Difference** |   |
|-----------------------------------------------|--------|----------|--------|--------------|--------|----------------|--------|
|                                          |   | **$**    |   | **% of Rev** |   | **$**          |   | **% of Rev** |   | **$** |   | **%** |   |
| Net revenues                                  |   | $        | 59.3   |         | 100.0  | %              | $      | 53.9 |   | 100.0 | % | $ | 5.4 |   | 10.1 | % |
| Cost of revenues                              |   | 48.0     |   | 80.9         | %      | 43.0           |   | 79.7 | % | 5.0 |   | 11.8 | % |
| Gross profit                                  |   | 11.3     |   | 19.1         | %      | 10.9           |   | 20.3 | % | 0.4 |   | 3.3 | % |
| Selling, general and administrative  expenses |   | 8.6      |   | 14.6         | %      | 8.8            |   | 16.4 | % | (0.2 | ) | (2.0 | )% |
| Operating income                              |   | 2.7      |   | 4.5          | %      | 2.1            |   | 4.0 | % | 0.6 |   | 25.6 | % |
| Insurance claim settlement income, net        |   | 0.3      |   | 0.4          | %      | 0.0            |   | 0.0 | % | 0.3 |   | 6361.8 | % |
| Interest expense, net                         |   | (0.5     | )      | (0.9         | )%     | (1.0           | )      | (1.9 | )% | (0.5 | ) | (48.2 | )% |
| Income before income taxes                    |   | 2.4      |   | 4.0          | %      | 1.1            |   | 2.0 | % | 1.3 |   | 120.0 | % |
| Income tax benefit (provision)                |   | 0.2      |   | 0.4          | %      | 0.0            |   | 0.1 | % | 0.2 |   | 664.7 | % |
| Net income                                    |   | $        | 2.6    |         | 4.4    | %              | $      | 1.0 |   | 1.9 | % | $ | 1.6 |   | 152.3 | % |

 

19

----

 

For fiscal 2002, net revenues reached $59.3 million, up 10% from fiscal2001 net revenues of $53.9 million.  TheCompany’s revenue increase was attributable to growth from T.G.I Friday’s®brand salted snacks, which accounted for over 60% of revenues.  The growth of this brand was partiallyoffset by anticipated lower shipments of Tato Skins® and Poore Brothers® brandsnacks in the vending channel which resulted primarily from our deliberateefforts to cannibalize the Tato skins® brand with T.G.I. Friday’s® brand saltedsnacks, as well as by lower shipments of private label potato chips.  Revenues from our other batch-fried kettlechip brands and distributed products rose modestly.  Revenues in fiscal 2001 included approximately $1.2 million fromthe Company’s Texas merchandising operation which was sold in the fourthquarter of 2001.

 

Net income for 2002 was $2.6 million, or $0.16 per basic and $0.15 perdiluted share, an increase of 152% compared to fiscal 2001 net income of $1.0million, or $0.07 per basic and $0.06 per diluted share.  The Company’s improved profitability wasprincipally attributable to increased revenue and improved operatingefficiencies, which also allowed the Company to significantly increasepromotional spending to support continued growth, particularly for T.G.I.Friday’s® brand salted snacks.  Inaddition, the Company recorded an income tax credit of $242,837 in fiscal 2002compared to an income tax provision of $43,000 in fiscal 2001.  The change primarily reflects the income taxbenefit of a deferred tax valuation allowance reversal in the third quarter of2002.

 

Manufacturing efficiencies improved as a result of increased productionvolumes due to higher revenues, and gross profit increased 3% to $11.3 million,or 19% of net revenue, despite the higher promotional spending.

 

Profits were also positively affected by both lower selling, generaland administrative expenses and lower interest expense.  Selling, general and administrative expensesdeclined 2% to $8.6 million, or 15% of net revenue, despite higher revenues dueto tight spending controls and no intangibles amortization expense as a resultof the adoption of SFAS No. 142 in 2002. Goodwill and trademark amortization expense was $652,000 in 2001.  Interest expense declined 48% to $0.5million due to reduced indebtedness, improved working capital management andlower interest rates.

 

**Liquidity and Capital Resources**

 

Net workingcapital was $7.9 million (a current ratio of 2.2:1), $2.0 million (a currentratio of 1.3:1) and $2.0 million (a current ratio of 1.3:1) at December 27,2003, December 28, 2002 and December 31, 2001, respectively.  For the fiscal year ended December 27, 2003,the Company generated cash flow of $2.0 million from operating activities,principally from income, depreciation expense and the write-down of equipmentoffset by accounts receivable and other assets and liabilities, invested $1.1 millionin new equipment, made $1.1 million in payments on long-term debt and received$2.0 million in proceeds from the issuance of common stock.  For the fiscal year ended December 28, 2002,the Company generated cash flow of $5.8 million from operating activities,principally from operating income and an increase in accrued liabilities,invested $0.6 million in new equipment, and made $5.4 million in payments onlong-term debt.  For the fiscal yearended December 31, 2001, the Company generated cash flow of $2.1 million fromoperating activities, principally from operating income, invested $2.7 millionin new equipment, and made $0.9 million in net payments on long-term debt.

 

On October 7,1999, the Company signed a Credit Agreement with U.S. Bancorp (the “U.S.Bancorp Credit Agreement”).  In April2001, the U.S. Bancorp Credit Agreement was amended to increase the U.S.Bancorp Line of Credit from $3.0 million to $5.0 million, establish a $0.5million capital expenditure line of credit (the CapEx Term Loan”), extend theU.S. Bancorp Line of Credit maturity date from October 2002 to October 31,2003, and modify certain financial covenants. In June 2002, the U.S. Bancorp Credit Agreement was amended to extendthe U.S. Bancorp Line of Credit maturity date from October 31, 2003 to October31, 2005 and modify certain financial covenants.  Effective September 27, 2003, the U.S. Bancorp Credit Agreementwas amended to modify the capital expenditure limit for 2003, increasing it to$1.5 million.

 

20

----

 

The U.S.Bancorp Credit Agreement is secured by accounts receivable, inventories,equipment and general intangibles. Borrowings under the line of credit are limited to 80% of eligiblereceivables and up to 60% of eligible inventories.  At December 27, 2003, the Company had a borrowing base ofapproximately $3.7 million under the U.S. Bancorp Line of Credit.  The U.S. Bancorp Credit Agreement requiresthe Company to be in compliance with certain financial performance criteria,including a minimum annual operating results ratio, a minimum tangible capitalbase and a minimum fixed charge coverage ratio.  At December 27, 2003, the Company was in compliance with all ofthe financial covenants.  Managementbelieves that the fulfillment of the Company’s plans and objectives will enablethe Company to attain a sufficient level of profitability to remain incompliance with these financial covenants. There can be no assurance, however,that the Company will attain any such profitability and remain incompliance.  Any acceleration under theU.S. Bancorp Credit Agreement prior to the scheduled maturity of the U.S.Bancorp Line of Credit or the U.S. Bancorp Term Loans could have a materialadverse effect upon the Company.  As ofDecember 27, 2003, there was no outstanding balance on the U.S. Bancorp Line ofCredit and approximately $2.3 million on the U.S. Bancorp Term Loan A.

 

The Company’sGoodyear, Arizona manufacturing, distribution and headquarters facility issubject to a $1.8 million mortgage loan from Morgan Guaranty Trust Company ofNew York, bears interest at 9.03% per annum and is secured by the building andthe land on which it is located.  Theloan matures on July 1, 2012; however monthly principal and interestinstallments of $18,425 are determined based on a twenty-year amortizationperiod.

 

At December31, 2001, the Company had outstanding a 9% Convertible Debenture due July 1,2002 in the principal amount of $427,656 held by Wells Fargo Small BusinessInvestment Company, Inc. (“Wells Fargo SBIC”). The 9% Convertible Debenture was secured by land, building, equipmentand intangibles.  Interest on the 9%Convertible Debenture was paid by the Company on a monthly basis.  Monthly principal payments of approximately$5,000 were required to be made by the Company on the Wells Fargo SBIC 9%Convertible Debenture through June 2002 and the remaining balance was due onJuly 1, 2002.  In June 2002, Wells FargoSBIC converted its 9% Convertible Debenture holdings into 401,497 shares ofCommon Stock.

 

During 2003,2002 and 2001, the Company received $2.0 million, $627,000 and $1.3 million ofproceeds from the issuance of common stock. Proceeds in 2003 and 2002 were primarily due to the exercise of stockoptions.

 

On December27, 2001, the Company completed the sale of 586,855 shares of Common Stock atan offering price of $2.13 per share to BFS US Special Opportunities Trust PLC,a fund managed by Renaissance Capital, in a private placement transaction.  The net proceeds of the transaction wereutilized by the Company for general corporate purposes and to reduce theCompany’s outstanding indebtedness.  TheCompany has granted BFS US Special Opportunities Trust PLC both demand andpiggyback registration rights with respect to the shares of Common Stockpurchased in the offering.

 

At December27, 2003, the Company had a net operating loss carryforward available forfederal income taxes of approximately $4.7 million.  The Company’s accumulated net operating loss carryforward willbegin to expire in varying amounts between 2010 and 2018.

 

**Contractual Obligations**

 

The following table outlines the Company’s future contractual financialobligations as of December 27, 2003, due by period: 

 
|                               |   | **Total** |       | **Less than  1  Year** |   | **1 – 3  Years** |   | **3 – 5  Years** |      | **More than  5  Years** |   |
|------------------------------------|--------|-----------|------------|------------------------|--------|-----------------------|--------|-----------------------|-----------|-------------------------|--------|
| Long-term debt                     |   | $         | 4,071,956  |                   | $      | 932,155               |   | $                     | 1,458,369 |                    | $      | 109,297 |   | $ | 1,572,135 |   |
| Operating leases                   |   | 8,778,167 |       | 1,562,869              |   | 2,994,569             |   | 1,460,978             |      | 2,759,751               |   |
| Other cash obligations             |   | 6,719,000 |       | 1,432,400              |   | 2,812,800             |   | 2,473,800             |      | —                  |   |
| Total contractual cash obligations |   | $         | 19,569,123 |                   | $      | 3,927,424             |   | $                     | 7,265,738 |                    | $      | 4,044,075 |   | $ | 4,331,886 |   |

 

Forinformation regarding the Company’s long-term debt, please read “Liquidity andCapital Resources” above and Note 6 in Item 8.

 

21

----

 

The Companyhas entered into a variety of operating leases for equipment andfacilities.  For information regardingthe Company’s facility leases, please read “Item 2:  Properties” and Note 7 in Item 8.

 

“Other cashobligations” in the table above consists of (i) minimum commitments regardingthird party warehouse operations services over five years and (ii) remainingminimum royalty payments due licensors pursuant to brand licensing agreementsdiscussed in “Item 1: Business” under the “Patents and Trademarks” section.

 

The Companycurrently has no material marketing or capital expenditure commitments.

 

**Inflation and Seasonality**

 

Whileinflation has not had a significant effect on operations in the last year,management recognizes that inflationary pressures may have an adverse effect onthe Company as a result of higher asset replacement costs and relateddepreciation and higher material costs. Additionally, the Company may be subject to seasonal price increases forraw materials.  The Company attempts tominimize the fluctuation in seasonal costs by entering into purchasecommitments in advance, which have the effect of smoothing out pricevolatility. The Company will attempt to minimize overall price inflation, ifany, through increased sales prices and productivity improvements.

 

**Critical Accounting Policies and Estimates**

 

In December2001, the Securities and Exchange Commission issued an advisory requesting thatall registrants describe their three to five most “critical accountingpolicies”.  The Securities and ExchangeCommission indicated that a “critical accounting policy” is one which is bothimportant to the portrayal of the Company’s financial condition and results andrequires management’s most difficult, subjective or complex judgments, often asa result of the need to make estimates about the effect of matters that areinherently uncertain.  The Companybelieves that the following accounting policies fit this definition:

 

*Allowance for Doubtful Accounts. *The Companymaintains an allowance for doubtful accounts for estimated losses resultingfrom the inability of its customers to make required payments.  If the financial condition of the Company’scustomers were to deteriorate, resulting in an impairment of their ability tomake payments, additional allowances may be required.  The allowance for doubtful accounts was $347,000 and $409,000 atDecember 27, 2003 and December 28, 2002, respectively.

 

*Inventories.*** **The Company’s inventories arestated at the lower of cost (first-in, first-out) or market.  The Company identifies slow moving orobsolete inventories and estimates appropriate loss provisions relatedthereto.  Historically, these lossprovisions have not been significant; however, if actual market conditions areless favorable than those projected by management, additional inventorywrite-downs may be required.

 

*Goodwill and Trademarks.*  Goodwill and trademarks are reviewed forimpairment annually, or more frequently if impairment indicators arise.  Goodwill is required to be tested forimpairment between the annual tests if an event occurs or circumstances changethat more-likely-than-not reduce the fair value of a reporting unit below itscarrying value.  Intangible assets withindefinite lives are required to be tested for impairment between the annualtests if an event occurs or circumstances change indicating that the assetmight be impaired.  The Company believesat this time that the carrying values continue to be appropriate.

 

*Advertising and Promotional Expenses.*  The Company expenses production costs ofadvertising the first time the advertising takes place, except for cooperativeadvertising costs which are expensed when the related sales are recognized.  Costs associated with obtaining shelf space(i.e. “slotting fees”) are expensed in the period in which such costs areincurred by the Company.  Anytime theCompany offers consideration (cash or credit) as a trade advertising orpromotion allowance to a purchaser of products at any point along the distributionchain, the amount is accrued and recorded as a reduction in revenue.  Any marketing programs that deal directlywith the consumer are recorded in selling, general and administrative expenses.

 

*Income Taxes.*  The Company has been profitable since 1999;however, it experienced significant net losses in prior fiscal years resultingin a net operating loss (“NOL”) carryforward for federal income tax purposes ofapproximately $4.7 million at December 27, 2003.  Generally accepted accounting principles require that the Companyrecord a valuation allowance against the deferred tax asset associated withthis NOL if it is “more likely than not” that the Company will not be able toutilize it to offset future taxes.  Duringthe third quarter of 2002, the Company concluded that it was more likely thannot 

 

22

----

 

that its deferred tax asset at that time would be realized and alsobegan providing for income taxes at a rate equal to the combined federal andstate effective rates, which approximated 38% under current tax rates, ratherthan the 7.5% rate previously being used to record a tax provision for onlycertain state income taxes.  Subsequentrevisions to the estimated net realizable value of the deferred tax asset couldcause the provision for income taxes to vary significantly from period toperiod, although the cash tax payments will remain unaffected until the benefitof the NOL is utilized.

 

The abovelisting is not intended to be a comprehensive list of all of the Company’saccounting policies.  In many cases theaccounting treatment of a particular transaction is specifically dictated bygenerally accepted accounting principles, with no need for management’sjudgment in their application.  See theCompany’s audited financial statements and notes thereto included in thisAnnual Report on Form 10-K which contain accounting policies and otherdisclosures required by accounting principles generally accepted in the UnitedStates.

 

**NewAccounting Pronouncements**

 

In January2003, the FASB issued interpretation (“FIN”) No. 46, “Consolidation of VariableInterest Entities – An Interpretation of Accounting Research Bulletin (“ARB”)No. 51.”  This interpretation wassubsequently revised by FIN 46 (Revised 2003) in December 2003.  This revised interpretation states thatconsolidation of variable interest entities will be required by the primarybeneficiary if the entities do not effectively disperse risks among the partiesinvolved.  The requirements areeffective for fiscal years ending after December 15, 2003 for special-purposeentities and for all other types of entities for periods ending after March 31,2004.  We have no variable interestentities and do not believe that FIN No, 46 (R) will impact our futurefinancial results.

 

In May 2003,the FASB issued SFAS No. 150, “Accounting for Certain Financial Instrumentswith Characteristics of both Liabilities and Equity.”  This Statement requires, among other things, the classificationof certain financial instruments previously classified within the equitysection of the balance sheet, to be included in liabilities.  This Statement is effective for financialinstruments entered into or modified after May 31, 2003 and June 15, 2003 forall other instruments.  The adoption ofthis Statement had no impact on our financial position or results ofoperations.

 

**Item7A****. Quantitative and Qualitative Disclosures aboutMarket Risk**

 

The principal market risks to which the Company is exposed that mayadversely impact the Company’s results of operations and financial position arechanges in certain raw material prices and interest rates.  The Company has no market risk sensitiveinstruments held for trading purposes.

 

Raw materials used by the Company are exposed to the impact of changingcommodity prices.  The Company’s mostsignificant raw material requirements include potatoes, potato flakes, wheatflour, corn and oil.  The Companyattempts to minimize the effect of future price fluctuations related to thepurchase of raw materials primarily through forward purchasing to cover futuremanufacturing requirements, generally for periods from one to 12 months.  Futures contracts are not used incombination with the forward purchasing of these raw materials.  The Company’s procurement practices areintended to reduce the risk of future price increases, but also may potentiallylimit the ability to benefit from possible price decreases.

 

The Company also has interest rate risk with respect to interestexpense on variable rate debt, with rates based upon changes in the primerate.  Therefore, the Company has anexposure to changes in those rates.  AtDecember 27, 2003 and December 28, 2002, the Company had $2.3 million and $3.2million of variable rate debt outstanding. A hypothetical 10% adverse change in weighted average interest ratesduring fiscal 2003 and 2002 would have had an unfavorable impact of $0.02million and $0.03 million respectively, on both the Company’s net earnings andcash flows.

 

The Company’s primary concentration of credit risk is related tocertain trade accounts receivable.  Inthe normal course of business, the Company extends unsecured credit to itscustomers.  In 2003 and 2002,substantially all of the Company’s customers were distributors or retailerswhose sales were concentrated in the grocery industry, throughout the UnitedStates.  The Company investigates acustomer’s credit worthiness before extending credit.  At December 27, 2003, two customers accounted for approximately28% of the Company’s accounts receivable.

 

23

----

 

**Item 8****.  Financial Statements and Supplementary Data**

 
| **Reports**                                                                                                                           |   |
|---------------------------------------------------------------------------------------------------------------------------------------|--------|
| Independent Auditors Reports with respect to financial statements for  the years ended December 27, 2003 and December 28, 2002        |   |
| Report of Independent Public Accountants  with respect to the year ended December 31, 2001                                            |   |
|                                                                                                                                  |   |
| **Financial Statements**                                                                                                              |   |
| Consolidated balance sheets as of December 27, 2003 and December 28,  2002                                                            |   |
| Consolidated statements of income for the  years ended December 27, 2003, December 28, 2002 and December 31, 2001                     |   |
| Consolidated statements of shareholders’  equity for the years ended December 27, 2003, December 28, 2002 and December  31, 2001 |   |
| Consolidated  statements of cash flows for the years ended December 27, 2003, December 28,  2002 and December 31, 2001                |   |
| Notes to consolidated financial statements                                                                                            |   |

 

### **Item 9**.  Changes inand Disagreements with Auditors on Accounting and Financial Disclosure

### ** **

None.

 

**Item9A.****  Controls andProcedures.**

 

**(a)****          Evaluationof Disclosure Controls and Procedures**

 

The Company’s management, with the participation of the Company’s ChiefExecutive Officer and Chief Financial Officer, evaluated the effectiveness ofthe Company’s disclosure controls and procedures as of the end of the periodcovered by this report.  Based on thatevaluation, the Chief Executive Officer and Chief Financial Officer concludedthat the Company’s disclosure controls and procedures as of the end of theperiod covered by this report have been designed and are functioningeffectively to provide reasonable assurance that the information required to bedisclosed by the Company in reports filed under the Securities Exchange Act of1934 is recorded, processed, summarized and reported within the time periodspecified in the SEC’s rules and forms.

 

**(b)****          Changein Internal Control over Financial Reporting**

 

No change in the Company’s internal control over financial reportingoccurred during the Company’s most recent fiscal quarter that has materiallyaffected, or is reasonably likely to materially effect, the Company’s internalcontrol over financial reporting.

 

**PART III**

 

**Item 10****.****                            Directorsand Executive Officers of the Registrant**

 

Theinformation regarding Directors and Executive Officers appearing under theheadings “Proposal 1: Election of Directors,” “Executive Officers,” “CorporateGovernance” and “Section 16(a) Beneficial Ownership Reporting Compliance” ofthe Company’s 2004 Proxy Statement is incorporated by reference in thissection.

 

**Item 11****.****                            ExecutiveCompensation**

 

Theinformation appearing under the headings “Compensation of Directors,”“Employment Agreements,” “Compensation Committee Report on Executive Compensation,”and “Executive Compensation” of the Company’s 2004 Proxy Statement isincorporated by reference.

 

**Item 12****.****                            SecurityOwnership of Beneficial Owners and Management and Related Stockholder Matters**

 

Theinformation appearing in the Company’s 2004 Proxy Statement under the heading“Security Ownership of Certain Beneficial Owners and Management” isincorporated by reference.

 

24

----

 

**Item 13****.****                            CertainRelationships and Related Transactions**

 

Theinformation appearing in the Company’s 2004 Proxy Statement under the heading“Certain Relationships and Related Transactions” is incorporated by reference.

 

**Item 14****.****                            PrincipalAccountant Fees and Services**

 

Informationregarding principal accountant fees and services is contained in the Company’s2004 Proxy Statement and is incorporated by reference.

 

**PART IV**

 

**Item 15****.****                            Exhibits,Financial Statement Schedules and Reports on Form 8-K**

 
| The  following documents are filed as part of this Annual Report on Form 10-K: |
|--------------------------------------------------------------------------------|
|                                                                           |   |
| (a)1.                                                                          | **Financial Statements** |
|                                                                           |   |
|                                                                           | ***Reports*** |
|                                                                           | Report of independent auditors with respect to financial statements  for the years ended December 27, 2003 and December 28, 2002 |
|                                                                           | Report of independent public accountants  with respect to the year ended December 31, 2001 |
|                                                                           | ***Financial  Statements*** |
|                                                                           | Consolidated balance sheets as of December 27, 2003 and December 28,  2002 |
|                                                                           | Consolidated statements of income for the  years ended December 27, 2003, December 28, 2002 and December 31, 2001 |
|                                                                           | Consolidated statements of shareholders’  equity for the years ended December 27, 2003, December 28, 2002 and December  31, 2001 |
|                                                                           | Consolidated statements of cash flows for the years ended December  27, 2003, December 28, 2002 and December 31, 2001 |
|                                                                           | Notes to consolidated financial statements |
|                                                                           |   |
| (a)2.                                                                          | **Financial Schedules** |
|                                                                           |   |
|                                                                           | Schedules  have been omitted because of the absence of conditions under which they are  required or because information required is included in the Company’s  financial statements or notes thereto. |
|                                                                           |   |
| (a)3.                                                                          | **Exhibits required by Item 601 of Regulation  S-K:** |

 
| **Exhibit  Number** |   | **Description**                                                                                                                                                   |
|---------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |   |                                                                                                                                                              |
| 3.1 —          |   | Certificate  of Incorporation of the Company filed with the Secretary of State of the  State of Delaware on February 23, 1995. (14)                               |
| 3.2 —          |   | Certificate  of Amendment to the Certificate of Incorporation of the Company filed with  the Secretary of State of the State of Delaware on March 3, 1995. (14)   |
| 3.3 —          |   | Certificate  of Amendment to the Certificate of Incorporation of the Company filed with  the Secretary of State of the State of Delaware on October 7, 1999. (14) |
| 3.4 —          |   | By-Laws of  the Company. (1)                                                                                                                                      |
| 4.1 —          |   | Specimen  Certificate for shares of Common Stock. (1)                                                                                                             |
| 4.2 —          |   | Convertible  Debenture Loan Agreement dated May 31, 1995 by and among the Company (and  certain of its subsidiaries), Renaissance Capital and Wells Fargo. (1)    |
| 4.3 —          |   | 9.00%  Convertible Debenture dated May 31, 1995, issued by the Company to  Renaissance Capital. (1)                                                               |
| 4.4 —          |   | Warrant to  purchase 400,000 shares of Common Stock, issued by the Company to Wabash  Foods on October 7, 1999. (2)                                               |
| 4.5 —          |   | Form of  Revolving Note, Term Note A and Term Note B issued by the Company to U.S.  Bancorp Republic Commercial Finance, Inc. on October 7, 1999. (4)             |

 

25

----

 
| 4.6 —   |   | Warrant to  purchase 50,000 shares of Common Stock, issued by the Company to U.S. Bancorp  Republic Commercial Finance, Inc. on October 7, 1999. (4)                                                                                                                                                         |
|--------------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.1*—  |   | Non-Qualified  Stock Option Agreements dated August 1, 1995, August 31, 1995 and February  29, 1996, by and between the Company and Mark S. Howells. (1)                                                                                                                                                     |
| 10.2*—  |   | Non-Qualified  Stock Option Agreements dated August 1, 1995, August 31, 1995 and February  29, 1996, by and between the Company and Jeffrey J. Puglisi. (1)                                                                                                                                                  |
| 10.3* — |   | Letter  Agreement dated November 5, 1996, amending the Non-Qualified Stock Option  Agreement dated February 29, 1996, by and between the Company and Mark S.  Howells. (1)                                                                                                                                   |
| 10.4*—  |   | Letter  Agreement dated November 5, 1996, amending the Non-Qualified Stock Option  Agreement dated February 29, 1996, by and between the Company and Jeffrey J.  Puglisi. (1)                                                                                                                                |
| 10.5*—  |   | Non-Qualified  Stock Option Agreement dated as of October 22, 1996, by and between the  Company and Mark S. Howells. (1)                                                                                                                                                                                     |
| 10.6*—  |   | Letter  Agreement dated as of November 5, 1996, by and between the Company and  Jeffrey J. Puglisi. (1)                                                                                                                                                                                                      |
| 10.7*—  |   | Letter  Agreement dated November 1, 1996, by and among the Company, Mark S. Howells,  Jeffrey J. Puglisi, David J. Brennan and Parris H. Holmes, Jr. (1)                                                                                                                                                     |
| 10.8*—  |   | Letter  Agreement dated December 4, 1996, by and between the Company and Jeffrey J.  Puglisi, relating to stock options. (1)                                                                                                                                                                                 |
| 10.9*—  |   | Letter  Agreement dated December 4, 1996, by and between the Company and Mark S.  Howells, relating to stock options. (1)                                                                                                                                                                                    |
| 10.10 — |   | Fixed Rate  Note dated June 4, 1997, by and between La Cometa Properties, Inc. and Morgan  Guaranty Trust Company of New York. (3)                                                                                                                                                                           |
| 10.11 — |   | Deed of  Trust and Security Agreement dated June 4, 1997, by and between La Cometa  Properties, Inc. and Morgan Guaranty Trust Company of New York. (3)                                                                                                                                                      |
| 10.12 — |   | Guaranty  Agreement dated June 4, 1997, by and between the Company and Morgan Guaranty  Trust Company of New York.  (3)                                                                                                                                                                                 |
| 10.13 — |   | Agreement  for Purchase and Sale of Limited Liability Company Membership Interests dated  as of August 16, 1999, by and between Pate Foods Corporation, Wabash Foods  and the Company. (2)                                                                                                                   |
| 10.14 — |   | Letter  Agreement dated July 30, 1999 by and between the Company and Stifel, Nicolaus  & Company, Incorporated. (5)                                                                                                                                                                                      |
| 10.15*— |   | Poore  Brothers, Inc. 1995 Stock Option Plan, as amended. (4)                                                                                                                                                                                                                                                |
| 10.16 — |   | Credit  Agreement, dated as of October 3, 1999, by and between the Company and U.S.  Bancorp Republic Commercial Finance, Inc. (4)                                                                                                                                                                           |
| 10.17 — |   | Security  Agreement, dated as of October 3, 1999, by and between the Company and U.S.  Bancorp Republic Commercial Finance, Inc. (4)                                                                                                                                                                         |
| 10.18 — |   | Commercial  Lease, dated May 1, 1998, by and between Wabash Foods, LLC and American  Pacific Financial Corporation. (4)                                                                                                                                                                                      |
| 10.19 — |   | Agreement  for the Purchase and Sale of Assets of Boulder Potato Company dated as of  June 8, 2000, by and among the Company, the shareholders of Boulder Potato  Company, and Boulder Potato Company. (6)                                                                                                   |
| 10.20 — |   | Registration  Rights Agreement dated as of June 8, 2000, by and between Boulder Potato  Company and the Company. (6)                                                                                                                                                                                         |
| 10.21 — |   | First  Amendment, dated as of June 30, 2000, to Credit Agreement, dated as of  October 3, 1999, by and between the Company and U.S. Bancorp. (6)                                                                                                                                                             |
| 10.22 — |   | Second  Amendment to Credit Agreement (dated March 2, 2001), by and between the  Company and U.S. Bank National Association. (7)                                                                                                                                                                             |
| 10.23 — |   | License  Agreement, dated April 3, 2000, by and between the Company and TGI Friday’s  Inc.  (Certain portions of this  exhibit have been omitted pursuant to a confidential treatment request filed  with the Securities and Exchange Commission.) (7)                                             |
| 10.24 — |   | Third  Amendment to Credit Agreement (dated March 30, 2001), by and between the  Company and U.S. Bank National Association. (8)                                                                                                                                                                             |
| 10.25 — |   | First  Amendment to License Agreement, dated as of July 11, 2001, by and between the  Company and TGI Friday’s Inc. (certain portions of this exhibit have been  omitted pursuant to a confidentiality treatment request filed with the  Securities and Exchange Commission). (9)                       |
| 10.26 — |   | Share  Purchase Agreement, dated December 27, 2001, by and between the Company and  BFS US Special Opportunities Trust PLC.   (Incorporated by reference to the Company’s Current Report on Form 8-K  filed with the Securities and Exchange Commission on January 10, 2002.)                      |
| 10.27 — |   | Fourth  Amendment to Credit Agreement (dated as of June 29, 2002), by and between the  Company and U.S. Bank National Association.   (10)                                                                                                                                                               |
| 10.28 — |   | License  Agreement, dated November 20, 2002, by and between the Company and Warner  Bros., a division of Time Warner Entertainment Company, L.P. (Certain  portions of this exhibit have been omitted pursuant to a confidential  treatment request filed with the Securities and Exchange Commission.) (11) |

 

26

----

 
| 10.29 — |   | License  Agreement, dated November 20, 2002, by and between the Company and Warner  Bros., a division of Time Warner Entertainment Company, L.P.  (Certain portions of this exhibit have  been omitted pursuant to a confidential treatment request filed with the  Securities and Exchange Commission.) (11) |
|--------------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.30 — |   | License  Agreement, dated July 19, 2000, by and between the Company and M.J. Quinlan  & Associates Pty. Limited (Certain portions of this exhibit have been  omitted pursuant to a confidential treatment request filed with the  Securities and Exchange Commission.) (11)                                    |
| 10.31*— |   | Executive  Employment Agreement entered into as of January 5, 2003, by and between Poore  Brothers, Inc. and Eric J. Kufel (12)                                                                                                                                                                                    |
| 10.32*— |   | Executive  Employment Agreement entered into as of January 5, 2003, by and between Poore  Brothers, Inc. and Thomas W. Freeze (12)                                                                                                                                                                                 |
| 10.33*— |   | Executive  Employment Agreement entered into as of January 5, 2003, by and between Poore  Brothers, Inc. and Glen E. Flook (12)                                                                                                                                                                                    |
| 10.34 — |   | Fifth  Amendment to Credit Agreement (dated as of September 27, 2003) by and between  the Company and U.S. Bank National Association (13)                                                                                                                                                                          |
| 10.35 — |   | License  Agreement, dated November 10, 2003, by and between the Company and Warner  Bros. Consumer Products Inc. (Certain portions of this exhibit have been  omitted pursuant to a confidential treatment request filed with the  Securities and Exchange Commission.) (14)                                       |
| 10.36 — |   | Commercial  Lease Agreement, dated May 22, 2003, by and between the Company and Westland  Park LLC (14)                                                                                                                                                                                                            |
| 10.37 — |   | Warehouse  Services Agreement, dated June 30, 2003, by and between the Company and  Customized Distribution Services, Inc. (14)                                                                                                                                                                                    |
| 21.1 —  |   | List of  Subsidiaries of the Company. (14)                                                                                                                                                                                                                                                                         |
| 23.1 —  |   | Consent of  Deloitte & Touche, LLP. (14)                                                                                                                                                                                                                                                                       |
| 23.2 —  |   | Notice  Regarding Consent of Arthur Andersen LLP (14)                                                                                                                                                                                                                                                              |
| 31.1 —  |   | Certification  of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15(d)-14(a)  (14)                                                                                                                                                                                                                     |
| 31.2 —  |   | Certification  of Chief Financial Officer and Principal Accounting Officer pursuant to Rule  13a-14(a) or Rule 15(d)-14(a) (14)                                                                                                                                                                                    |
| 32.1 —  |   | Certification  of Chief Executive Officer and Chief Financial Officer and Principal  Accounting Officer pursuant to Rule 13a-14(b) and 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (14)                                                                         |

 

----

| *    | Compensation  plans or arrangements in which directors or executive officers are eligible  to participate.                                                            |
|------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (1)  | Incorporated  by reference to the Company’s Registration Statement on Form SB-2,  Registration No. 333-5594-LA.                                                  |
| (2)  | Incorporated  by reference to the Company’s definitive Proxy Statement on Schedule 14A  filed with the Securities and Exchange Commission on September 15, 1999. |
| (3)  | Incorporated  by reference to the Company’s Quarterly Report on Form 10-QSB for the quarter  ended June 30, 1997.                                                |
| (4)  | Incorporated  by reference to the Company’s Annual Report on Form 10-KSB for the fiscal  year ended December 31, 1999.                                           |
| (5)  | Incorporated  by reference to the Company’s Quarterly Report on Form 10-QSB for the quarter  ended September 30, 1999.                                           |
| (6)  | Incorporated  by reference to the Company’s Quarterly Report on Form 10-QSB for the quarter  ended June 30, 2000.                                                |
| (7)  | Incorporated  by reference to the Company’s Quarterly Report on Form 10-QSB for the quarter  ended March 31, 2001.                                               |
| (8)  | Incorporated  by reference to the Company’s Quarterly Report on Form 10-QSB for the quarter  ended June 30, 2001.                                                |
| (9)  | Incorporated  by reference to the Company’s Quarterly Report on Form 10-QSB for the quarter  ended September 30, 2001.                                           |
| (10) | Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the quarter  ended September 28, 2002.                                             |
| (11) | Incorporated  by reference to the Company’s Annual Report on Form 10-K for the fiscal year  ended December 28, 2002.                                             |
| (12) | Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the quarter  ended June 28, 2003.                                                  |
| (13) | Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the quarter  ended September 27, 2003.                                             |
| (14) | Filed  herewith.                                                                                                                                                      |

 

(b)         Current Reports on Form8-K.

 

(1)          CurrentReport on Form 8-K, announcing the Company’s earnings for the fiscal quarterended September 27, 2003 (filed with the Commission on October 23, 2003).

 

(2)          CurrentReport on Form 8-K, announcing the introduction of Scooby-DooTM Crunch Toons®brand salted snacks in the first quarter of 2004 (filed with the Commission onNovember 17, 2003).

 

27

----

 

**SIGNATURES**

 

Pursuant tothe requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934,the Registrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 
| Dated:   March 23, 2004 | POORE  BROTHERS, INC.                 |
|-----------------------------------|---------------------------------------|
|                              |                                  |
|                              | By:                                   | /s/  Eric J. Kufel |   |
|                              | Eric J. Kufel                         |   |
|                              | President and Chief Executive Officer |   |

 

 

Pursuant tothe requirements of the Securities Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the Registrant, in thecapacities and on the dates indicated.

 
| **Signature**                            |   | **Title**                                        |   | **Date**       |
|------------------------------------------|--------|--------------------------------------------------|--------|----------------|
|                                     |   |                                             |   |           |
| /s/   Eric J. Kufel            |   | President, Chief Executive Officer, and Director |   | March 23, 2004 |
| Eric J. Kufel                            |   | (Principal Executive Officer)                    |   |           |
|                                     |   |                                             |   |           |
| /s/   Thomas W. Freeze         |   | Senior Vice President, Chief Financial Officer,  |   | March 23, 2004 |
| Thomas W. Freeze                         |   | Treasurer, Secretary, and Director               |   |           |
|                                     |   | (Principal Financial Officer and                 |   |           |
|                                     |   | Principal Accounting Officer)                    |   |           |
|                                     |   |                                             |   |           |
| /s/   Mark S. Howells          |   | Chairman, Director                               |   | March 23, 2004 |
| Mark S. Howells                          |   |                                             |   |           |
|                                     |   |                                             |   |           |
| /s/   F. Phillips Giltner, III |   | Director                                         |   | March 23, 2004 |
| F. Phillips Giltner, III                 |   |                                             |   |           |
|                                     |   |                                             |   |           |
| /s/   James W. Myers           |   | Director                                         |   | March 23, 2004 |
| James W. Myers                           |   |                                             |   |           |
|                                     |   |                                             |   |           |
| /s/   Robert C. Pearson        |   | Director                                         |   | March 23, 2004 |
| Robert C. Pearson                        |   |                                             |   |           |
|                                     |   |                                             |   |           |
| /s/   Aaron M. Shenkman        |   | Director                                         |   | March 23, 2004 |
| Aaron M. Shenkman                        |   |                                             |   |           |

 

28

----

 

INDEPENDENTAUDITORS’ REPORT

 

Shareholders and Board of

Directors of Poore Brothers,Inc. and Subsidiaries:

 

We have audited theaccompanying consolidated balance sheets of Poore Brothers, Inc. andsubsidiaries (the “Company”) as of December 27, 2003 and December 28, 2002, andthe related consolidated statements of income, cash flows and shareholders’equity for each of the two years in the period ended December 27, 2003.  These financial statements are the responsibilityof the Company’s management.  Ourresponsibility is to express an opinion on these financial statements based onour audits.  The Company’s consolidatedfinancial statements as of December 31, 2001 and for the year ended December31, 2001, before the reclassifications described in Note 1 and before theinclusion of the disclosures discussed in Note 2 to the consolidated financialstatements, were audited by other auditors who have ceased operations.  Those auditors expressed an unqualifiedopinion on those financial statements in their report dated February 11, 2002.

 

We conducted our audits inaccordance with auditing standards generally accepted in the United States ofAmerica.  Those standards require thatwe plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statementpresentation.  We believe that ouraudits provide a reasonable basis for our opinion.

 

In our opinion, suchconsolidated financial statements present fairly, in all material respects, thefinancial position of Poore Brothers, Inc. and subsidiaries as of December 27,2003 and December 28, 2002, and the results of their operations and their cashflows for the two years in the period ended December 27, 2003 in conformity withaccounting principles generally accepted in the United States of America.

 

As discussed above, thefinancial statements of the Company for the year ended December 31, 2001 wereaudited by other auditors who have ceased operations.  As described in Note 1, those financial statements have beenreclassified to give effect to Emerging Issues Task Force (EITF) Issue No.01-9, Accounting for Consideration Given by a Vendor to a Customer or Resellerof the Vendor’s Products, which was adopted by the Company on January 1,2002.  We audited the reclassificationsdescribed in Note 1 that were applied to conform the 2001 financial statementsto the comparative presentation required by EITF Issue 01-9.  Our audit procedures with respect to the2001 disclosures in Note 1 included (i) comparing the amounts shown as customerincentive costs in Note 1 to underlying accounting analysis obtained frommanagement, and (2) on a test basis, comparing the amounts comprising thecustomer incentive costs obtained from management to independent supportingdocumentation, and (3) testing the mathematical accuracy of the underlyinganalysis.  In our opinion, suchreclassifications have been properly applied. However, we were not engaged to audit, review, or apply any proceduresto the 2001 financial statements of the Company other than with respect to suchreclassifications and, accordingly, we do not express an opinion or any form ofassurance on the 2001 financial statements taken as a whole.

 

As described in Note 2, thesefinancial statements have been revised to include the transitional disclosuresrequired by Statement of Financial Accounting Standards No. 142, Goodwill andOther Intangible Assets (“SFAS 142”), which was adopted by the Company as ofJanuary 1, 2002.  Our audit procedureswith respect to the disclosures in Note 2 with respect to 2001 included (1)comparing the previously reported net income to the previously issued financialstatements and the adjustments to reported net income representing amortizationexpense (including any related tax effects) recognized in those periods relatedto goodwill and intangible assets that are no longer being amortized, as aresult of initially applying SFAS 142 (including any related tax effects) tothe Company’s underlying analysis obtained from management, and (2) testing themathematical accuracy of the reconciliation of adjusted net income to reportednet income and the related earnings-per-share amounts.  In our opinion, the disclosures for 2001 inNote 2 are appropriate.  However, wewere not engaged to audit, review, or apply any procedures to the 2001financial statements of the Company other than with respect to such disclosuresand, accordingly, we do not express an opinion or any other form of assuranceon the 2001 financial statements taken as a whole.

 

 

DELOITTE & TOUCHE LLP

 

March 19, 2004

Phoenix, Arizona

 

29

----

 

**REPORT OF INDEPENDENTPUBLIC ACCOUNTANTS**

 

NOTE:    The report of Arthur Andersen LLP presentedbelow is a copy of a previously issued Arthur Andersen LLP report. This reporthas not been reissued by Arthur Andersen LLP nor has Arthur Andersen LLPprovided a consent to the inclusion of its report in this Form 10-K.

 

To Poore Brothers, Inc.

 

We have audited theaccompanying consolidated balance sheets of POORE BROTHERS, INC. (a Delawarecorporation) and SUBSIDIARIES as of December 31, 2001 and 2000, and the relatedconsolidated statements of operations, shareholders’ equity, and cash flows forthe years then ended.  These financialstatements are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these financial statements based on our audits.

 

We conducted our audits inaccordance with auditing standards generally accepted in the United States.Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement.  An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements.  An audit alsoincludes assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall financial statementpresentation.  We believe that ouraudits provide a reasonable basis for our opinion.

 

In our opinion, the financialstatements referred to above present fairly, in all material respects, thefinancial position of Poore Brothers, Inc. and subsidiaries as of December 31,2001 and 2000, and the results of their operations and their cash flows for theyears then ended in conformity with accounting principles generally accepted inthe United States.

 

 

**ARTHUR ANDERSEN LLP**

 

Phoenix, Arizona,

February 11, 2002

 

30

----

 

**POORE BROTHERS, INC.AND SUBSIDIARIES**

**CONSOLIDATED BALANCE SHEETS**

 
|                                                                                                                                                                           |   | **December  27,  2003** |       | **December  28,  2002** |   |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------|------------|-------------------------|--------|
| **ASSETS**                                                                                                                                                                     |   |                    |       |                    |   |
| Current assets:                                                                                                                                                                |   |                    |       |                    |   |
| Cash and cash equivalents                                                                                                                                                      |   | $                       | 3,239,570  |                    | $      | 1,395,187 |   |
| Accounts receivable, net of allowance of  $347,000 in 2003 and $409,000 in 2002                                                                                                |   | 5,714,106               |       | 4,427,531               |   |
| Inventories                                                                                                                                                                    |   | 2,400,503               |       | 1,760,401               |   |
| Deferred income tax asset                                                                                                                                                      |   | 2,254,996               |       | 421,942                 |   |
| Other current assets                                                                                                                                                           |   | 889,003                 |       | 803,665                 |   |
| Total current assets                                                                                                                                                           |   | 14,498,178              |       | 8,808,726               |   |
|                                                                                                                                                                           |   |                    |       |                    |   |
| Property and equipment, net                                                                                                                                                    |   | 11,755,096              |       | 13,009,948              |   |
| Goodwill                                                                                                                                                                       |   | 5,986,252               |       | 5,565,687               |   |
| Trademarks                                                                                                                                                                     |   | 4,207,032               |       | 4,207,032               |   |
| Other assets, net                                                                                                                                                              |   | 133,762                 |       | 165,233                 |   |
| Total assets                                                                                                                                                                   |   | $                       | 36,580,320 |                    | $      | 31,756,626 |   |
|                                                                                                                                                                           |   |                    |       |                    |   |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                                                                                  |   |                    |       |                    |   |
| Current liabilities:                                                                                                                                                           |   |                    |       |                    |   |
| Accounts payable                                                                                                                                                               |   | $                       | 3,012,059  |                    | $      | 2,937,602 |   |
| Accrued liabilities                                                                                                                                                            |   | 2,703,040               |       | 2,806,149               |   |
| Current portion of long-term debt                                                                                                                                              |   | 932,155                 |       | 1,105,004               |   |
| Total current liabilities                                                                                                                                                      |   | 6,647,254               |       | 6,848,755               |   |
|                                                                                                                                                                           |   |                    |       |                    |   |
| Long-term debt, less current portion                                                                                                                                           |   | 3,139,801               |       | 4,105,118               |   |
| Deferred income tax liability                                                                                                                                                  |   | 1,731,625               |       | 80,512                  |   |
| Total liabilities                                                                                                                                                              |   | 11,518,680              |       | 11,034,385              |   |
|                                                                                                                                                                           |   |                    |       |                    |   |
| Commitments and contingencies (Note 7)                                                                                                                                         |   |                    |       |                    |   |
|                                                                                                                                                                           |   |                    |       |                    |   |
| Shareholders’ equity:                                                                                                                                                     |   |                    |       |                    |   |
| Preferred stock, $100 par value; 50,000  shares authorized; no shares issued or outstanding at December 27, 2003 and  December 28, 2002                                        |   | —                  |       | —                  |   |
| Common stock, $.01 par value; 50,000,000  shares authorized; 18,581,788 and 16,729,911 shares issued and outstanding at  December 27, 2003 and December 28, 2002, respectively |   | 185,817                 |       | 167,299                 |   |
| Additional paid-in capital                                                                                                                                                     |   | 25,673,752              |       | 22,404,835              |   |
| Accumulated deficit                                                                                                                                                            |   | (797,929                | )          | (1,849,893              | )      |
| Total shareholders’ equity                                                                                                                                                |   | 25,061,640              |       | 20,722,241              |   |
| Total liabilities and shareholders’ equity                                                                                                                                |   | $                       | 36,580,320 |                    | $      | 31,756,626 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

31

----

 

**POORE BROTHERS, INC.AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF INCOME**

 
|                                          |   | **Years  Ended**        |       |
|-----------------------------------------------|--------|-------------------------|------------|
|                                          |   | **December  27,  2003** |       | **December  28,  2002** |   | **December  31,  2001** |   |
|                                          |   |                    |       |   |   |   |   |
| Net revenues                                  |   | $                       | 66,417,836 |   | $ | 59,348,471 |   | $ | 53,904,816 |   |
|                                          |   |                    |       |   |   |   |   |
| Cost of revenues                              |   | 52,068,963              |       | 48,036,462 |   | 42,958,822 |   |
|                                          |   |                    |       |   |   |   |   |
| Write-down of equipment                       |   | 1,030,352               |       | — |   | — |   |
|                                          |   |                    |       |   |   |   |   |
| Gross profit                                  |   | 13,318,521              |       | 11,312,009 |   | 10,945,994 |   |
|                                          |   |                    |       |   |   |   |   |
| Selling, general and administrative  expenses |   | 13,290,660              |       | 8,637,652 |   | 8,816,627 |   |
|                                          |   |                    |       |   |   |   |   |
| Operating income                              |   | 27,861                  |       | 2,674,357 |   | 2,129,367 |   |
|                                          |   |                    |       |   |   |   |   |
| Insurance claim settlement income, net        |   | 1,918,784               |       | 259,376 |   | 4,014 |   |
|                                          |   |                    |       |   |   |   |   |
| Interest expense, net                         |   | (252,820                | )          | (539,733 | ) | (1,045,117 | ) |
|                                          |   |                    |       |   |   |   |   |
| Total other income (expense)                  |   | 1,665,964               |       | (280,357 | ) | (1,041,103 | ) |
|                                          |   |                    |       |   |   |   |   |
| Income before income tax benefit  (provision) |   | 1,693,825               |       | 2,394,000 |   | 1,088,264 |   |
|                                          |   |                    |       |   |   |   |   |
| Income tax benefit (provision)                |   | (641,861                | )          | 242,837 |   | (43,000 | ) |
|                                          |   |                    |       |   |   |   |   |
| Net income                                    |   | $                       | 1,051,964  |   | $ | 2,636,837 |   | $ | 1,045,264 |   |
|                                          |   |                    |       |   |   |   |   |
| Earnings per common share:                    |   |                    |       |   |   |   |   |
| Basic                                         |   | $                       | 0.06       |   | $ | 0.16 |   | $ | 0.07 |   |
| Diluted                                       |   | $                       | 0.06       |   | $ | 0.15 |   | $ | 0.06 |   |
|                                          |   |                    |       |   |   |   |   |
| Weighted average number of common shares:     |   |                    |       |   |   |   |   |
| Basic                                         |   | 17,572,951              |       | 16,146,081 |   | 15,050,509 |   |
| Diluted                                       |   | 18,476,486              |       | 17,826,953 |   | 17,198,648 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

32

----

 

**POORE BROTHERS, INC.AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF SHAREHOLDERS’ EQUITY**

** **
|                                                             |   |              |   |       |    | **Additional  Paid-in  Capital** |   | **Accumulated  Deficit** |   | **Total**  |       |
|------------------------------------------------------------------|--------|-------------------|--------|------------|---------|----------------------------------|--------|--------------------------|--------|------------|------------|
|                                                             |   | **Common  Stock** |   |       |    |                             |
|                                                             |   | **Shares**        |   | **Amount** |    |                             |   |                     |
| Balance, December 31, 2000                                       |   | 14,994,765        |   | $          | 149,947 |                             | $      | 19,677,542               |   | $          | (5,531,993 | ) | $ | 14,295,496 |   |
| Exercise of common stock options                                 |   | 76,000            |   | 760        |    | 97,810                           |   | —                   |   | 98,570     |       |
| Issuance of warrants                                             |   | —            |   | —     |    | 16,800                           |   | —                   |   | 16,800     |       |
| Other issuances of common stock                                  |   | 616,753           |   | 6,168      |    | 1,383,333                        |   | —                   |   | 1,389,501  |       |
| Net income                                                       |   | —            |   | —     |    | —                           |   | 1,045,264                |   | 1,045,264  |       |
| Balance, December 31, 2001                                       |   | 15,687,518        |   | 156,875    |    | 21,175,485                       |   | (4,486,729               | )      | 16,845,631 |       |
| Exercise of common stock options                                 |   | 349,016           |   | 3,490      |    | 508,304                          |   | —                   |   | 511,794    |       |
| Other issuances of common stock                                  |   | 693,377           |   | 6,934      |    | 721,044                          |   | —                   |   | 727,978    |       |
| Net income                                                       |   | —            |   | —     |    | —                           |   | 2,636,837                |   | 2,636,837  |       |
| Balance, December 28, 2002                                       |   | 16,729,911        |   | 167,299    |    | 22,404,835                       |   | (1,849,893               | )      | 20,722,241 |       |
| Exercise of common stock options, including  related tax benefit |   | 1,362,633         |   | 13,626     |    | 2,810,606                        |   | —                   |   | 2,824,232  |       |
| Other issuances of common stock                                  |   | 489,244           |   | 4,892      |    | 458,311                          |   | —                   |   | 463,203    |       |
| Net income                                                       |   | —            |   | —     |    | —                           |   | 1,051,964                |   | 1,051,964  |       |
| Balance, December 27, 2003                                       |   | 18,581,788        |   | $          | 185,817 |                             | $      | 25,673,752               |   | $          | (797,929   | ) | $ | 25,061,640 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

33

----

 

**POORE BROTHERS, INC.AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

** **
|                                                                                         |   | **Years  Ended**       |      |
|----------------------------------------------------------------------------------------------|--------|------------------------|-----------|
|                                                                                         |   | **December  27, 2003** |      | **December  28, 2002** |   | **December  31,  2001** |   |
| **Cash flows provided by (used in) operating  activities:**                                  |   |                   |      |   |   |   |   |
| Net income                                                                                   |   | $                      | 1,051,964 |   | $ | 2,636,837 |   | $ | 1,045,264 |   |
| Adjustments to reconcile net income to net  cash provided by (used in) operating activities: |   |                   |      |   |   |   |   |
| Depreciation                                                                                 |   | 1,285,221              |      | 1,288,333 |   | 1,237,260 |   |
| Amortization                                                                                 |   | 31,064                 |      | 33,939 |   | 694,067 |   |
| Allowance for doubtful accounts                                                              |   | 23,822                 |      | 329,996 |   | 53,558 |   |
| Other asset amortization                                                                     |   | 121,413                |      | 423,088 |   | 349,723 |   |
| Deferred income taxes                                                                        |   | 641,861                |      | (341,430 | ) | — |   |
| Tax benefit from exercise of stock options                                                   |   | 830,371                |      | — |   | — |   |
| Write-down of equipment                                                                      |   | 1,030,352              |      | — |   | — |   |
| (Gain) loss on disposition of fixed assets                                                   |   | (926                   | )         | 7,073 |   | (167,450 | ) |
| Change in operating assets and liabilities:                                                  |   |                   |      |   |   |   |   |
| Accounts receivable                                                                          |   | (1,225,065             | )         | 365,782 |   | 240,981 |   |
| Inventories, net of reserve                                                                  |   | (725,434               | )         | (13,045 | ) | (186,238 | ) |
| Other assets and liabilities                                                                 |   | (1,030,146             | )         | (794,934 | ) | (396,916 | ) |
| Accounts payable and accrued liabilities                                                     |   | (28,652                | )         | 1,906,049 |   | (776,807 | ) |
| Net cash provided by operating activities                                                    |   | 2,005,845              |      | 5,841,688 |   | 2,093,442 |   |
| **Cash flows (used in) provided by investing  activities:**                                  |   |                   |      |   |   |   |   |
| Purchase of equipment                                                                        |   | (1,120,795             | )         | (581,087 | ) | (2,655,535 | ) |
| Proceeds from disposition of fixed assets                                                    |   | 61,000                 |      | 6,006 |   | 700,000 |   |
| Net cash (used in) investing activities                                                      |   | (1,059,795             | )         | (575,081 | ) | (1,955,535 | ) |
| **Cash flows provided by (used in) financing  activities:**                                  |   |                   |      |   |   |   |   |
| Proceeds from issuance of common stock                                                       |   | 2,036,499              |      | 627,494 |   | 1,313,571 |   |
| Stock issuance costs                                                                         |   | —                 |      | — |   | (10,774 | ) |
| Payments made on long-term debt                                                              |   | (1,138,166             | )         | (1,954,844 | ) | (2,404,470 | ) |
| Net increase (decrease) in working capital  line of credit                                   |   | —                 |      | (3,438,268 | ) | 1,530,410 |   |
| Net cash provided by (used in) financing  activities                                         |   | 898,333                |      | (4,765,618 | ) | 428,738 |   |
| Net increase in cash and cash equivalents                                                    |   | 1,844,383              |      | 500,989 |   | 566,645 |   |
| Cash and cash equivalents at beginning of  year                                              |   | 1,395,187              |      | 894,198 |   | 327,553 |   |
| Cash and cash equivalents at end of year                                                     |   | $                      | 3,239,570 |   | $ | 1,395,187 |   | $ | 894,198 |   |
|                                                                                         |   |                   |      |   |   |   |   |
| **Supplemental disclosures of cash flow  information:**                                      |   |                   |      |   |   |   |   |
| Cash paid during the year for interest                                                       |   | $                      | 248,587   |   | $ | 521,420 |   | $ | 1,055,248 |   |
| Summary of non-cash investing and financing  activities:                                     |   |                   |      |   |   |   |   |
| Common Stock issued for acquisition earnout                                                  |   | 420,566                |      | 210,786 |   | 185,274 |   |
| Common Stock warrant issued for sales  commissions                                           |   | —                 |      | — |   | 16,800 |   |
| Conversion of Convertible Debenture into  Common Stock                                       |   | —                 |      | 401,497 |   | — |   |
| Note payable issued for purchase of  equipment                                               |   | —                 |      | — |   | 538,308 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

34

----

 

**POORE BROTHERS, INC.AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED****FINANCIALSTATEMENTS**

 

**1. Organization, Business and Summary ofSignificant Accounting Policies:**

 

The Company, aDelaware corporation, was formed in 1995 as a holding company to acquire apotato chip manufacturing and distribution business which had been founded byDonald and James Poore in 1986.

 

In December1996, the Company completed an initial public offering of its CommonStock.  In November 1998, the Companyacquired the business and certain assets (including the Bob’s Texas Style®potato chip brand) of Tejas Snacks, L.P. (“Tejas”), a Texas-based potato chipmanufacturer.  In October 1999, theCompany acquired Wabash Foods, LLC (“Wabash”) including the Tato Skins®,O’Boises®, and Pizzarias® trademarks, and assumed all of Wabash Foods’liabilities.  In June 2000, the Companyacquired Boulder Natural Foods, Inc. (“Boulder”) and the Boulder PotatoCompany® brand of totally natural potato chips.

 

As part of theBoulder acquisition, the Company agreed to a provision that it may be requiredto issue additional unregistered shares of common stock to the seller on eachof the first, second and third anniversaries of the closing of theacquisition.  All such issuances weredependant upon, and were calculated based upon, increases in sales of Boulderproducts as compared to previous periods. In 2003, the Company was required to issue 93,728 shares valued at$420,566 and increased the goodwill recorded from this acquisition.  In 2002, the Company was required to issue88,864 shares pursuant to this provision, which were valued at $210, 786 andincreased the goodwill recorded from this acquisition.  In 2001 the Company was required to issue57,898 shares pursuant to this provision, which were valued at $185, 274 andincreased the goodwill recorded from this acquisition.

 

In October2000, the Company launched its T.G.I. Friday’s® brand salted snacks pursuant toa license agreement with TGI Friday’s Inc., which expires in 2014.

 

On December27, 2001, the Company completed the sale of 586,855 shares of Common Stock atan offering price of $2.13 per share to BFS US Special Opportunities Trust PLC,a fund managed by Renaissance Capital, in a private placement transaction.

 

In November2002, Warner Bros. Consumer Products granted the Company rights to introduce anew brand of salted snacks featuring Looney TunesTM characters.  The Company launched the new brandnationwide in the summer of 2003 under a multi-year agreement that grants theCompany exclusive salted snack category brand licensing and promotional rightsfor Looney TunesTM characters.

 

In November2003, Warner Bros. Consumer Products granted the Company exclusive salted snackcategory brand licensing and promotional rights for Scooby-DooTM to be used inits Crunch Toons® brand salted snacks.

 

EffectiveJanuary 1, 2002, the Company changed its fiscal year from the twelve calendarmonths ending on December 31 each year to the 52-week period ending on the lastSaturday occurring in the month of December of each calendar year.  Accordingly, fiscal 2003 commenced December29, 2002 and ended December 27, 2003.

 

***Business***

 

The Company isengaged in the development, production, marketing and distribution ofinnovative salted snack food products that are sold through grocery retailers,mass merchandisers, club stores, convenience stores and vend distributorsacross the United States.  Althoughcertain of the Company’s subsidiaries have operated for several years, theCompany as a whole has a relatively brief operating history.  The Company had significant operating lossesprior to fiscal 1999.  Successful futureoperations are subject to certain risks, uncertainties, expenses anddifficulties frequently encountered in the establishment and growth of a newbusiness in the snack food industry.  Themarket for salted snack foods, such as potato chips, tortilla chips, popcornand pretzels, is large and intensely competitive.  The industry is dominated by one significant competitor andincludes many other competitors with greater financial and other resources thanthe Company.

 

***Principlesof Consolidation***

 

Theconsolidated financial statements include the accounts of Poore Brothers, Inc.and all of its wholly owned subsidiaries. All significant intercompany amounts and transactions have been eliminated.

 

35

----

 

***Useof Estimates***

 

Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the United States requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities,disclosure of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting period.  We routinely evaluateour estimates, including those related to accruals for customer programs andincentives, product returns, bad debts, income taxes, long-lived assets,inventories and contingencies.  We baseour estimates on historical experience and on various other assumptions thatare believed to be reasonable under the circumstances.  Actual results could differ from thoseestimates.

 

***FairValue of Financial Instruments***

 

At December27, 2003 and December 28, 2002, the carrying value of cash, accountsreceivable, accounts payable, and accrued liabilities approximate fair valuessince they are short-term in nature. The carrying value of the long-term debt approximates fair-value basedon the borrowing rates currently available to the Company for long-termborrowings with similar terms, except for the mortgage loan with interest at9.03%, which has a fair value of approximately $1.4 million at December 27,2003.  The Company estimates fair valuesof financial instruments by using available market information.  Considerable judgment is required ininterpreting market data to develop the estimates of fair value.  Accordingly, the estimates may not beindicative of the amounts that the Company could realize in a current marketexchange.  The use of different marketassumptions or valuation methodologies could have a material effect on theestimated fair value amounts.

 

***Inventories***

 

Inventoriesare stated at the lower of cost (first-in, first-out) or market.

 

***Propertyand Equipment***

 

Property andequipment are recorded at cost.  Costincludes expenditures for major improvements and replacements.  Maintenance and repairs are charged tooperations when incurred.  When assetsare retired or otherwise disposed of, the related costs and accumulateddepreciation are removed from the appropriate accounts, and the resulting gainor loss is recognized.  Depreciationexpense is computed using the straight-line method over the estimated usefullives of the assets, ranging from 2 to 30 years.

 

In accordancewith Financial Accounting Standards Board (“FASB”) Statement of FinancialAccounting Standards (“SFAS”) No. 144, “Accounting for the Impairment orDisposal of Long-Lived Assets”, we evaluate the recoverability of property andequipment not held for sale by comparing the carrying amount of the asset or groupof assets against the estimated undiscounted future cash flows expected toresult from the use of the asset or group of assets and their eventualdisposition.  If the undiscounted futurecash flows are less than the carrying value of the asset or group of assetsbeing evaluated, an impairment loss is recorded.  The loss is measured as the difference between the fair value andcarrying value of the asset or group of assets being evaluated.  Assets to be disposed of are reported at thelower of the carrying amount or the fair value less cost to sell.  The estimated fair value would be based onthe best information available under the circumstances, including prices forsimilar assets or the results of valuation techniques, including the presentvalue of expected future cash flows using a discount rate commensurate with therisks involved.

 

***IntangibleAssets***

 

In June 2001,the Financial Accounting Standards Board (“FASB”) issued Statement of FinancialAccounting Standards (“SFAS”) No. 142, “Goodwill and Other IntangibleAssets”.  SFAS No. 142 changes themethod by which companies recognize intangible assets in purchase businesscombinations and generally requires identifiable intangible assets to berecognized separately from goodwill.  Inaddition, it eliminates the amortization of all existing and newly acquiredgoodwill on a prospective basis and requires companies to assess goodwill forimpairment, at least annually, based on the fair value of the reportingunit.  Upon adoption on January 1, 2002,the Company ceased the amortization of goodwill and other intangible assetswith indefinite lives in accordance with SFAS No. 142.

 

36

----

 

Goodwill isrecorded at cost and reviewed for impairment annually or more frequently ifimpairment indicators arise.  Goodwillamortization expense was approximately $321,000 in 2001.  See Note 2.

 

Trademarks arerecorded at cost and are reviewed for impairment annually or more frequently ifimpairment indicators arise. Amortization expense on these trademarks was approximately $331,000 in2001.  See Note 2.

 

***RevenueRecognition***

 

In accordance withaccounting principles generally accepted in the United States, the Companyrecognizes operating revenues upon shipment of products to customers when titleand risk of loss pass to its customers. Provisions and allowances for salesreturns, promotional allowances and discounts are also recorded as a reductionof revenues in the Company’s consolidated financial statements.

 

All product is shipped withterms FOB-origin and revenue is recognized at the time the shipment leaves theCompany’s docks, which is when title and risk of loss pass to the customer.

 

***Advertisingand Promotion***

 

The Companyexpenses production costs of advertising the first time the advertising takesplace, except for cooperative advertising costs which are expensed when therelated sales are recognized.  Costsassociated with obtaining shelf space (i.e., “slotting fees”) are expensed inthe period in which such costs are incurred by the Company.  Accrued advertising and promotion, which isincluded in the current liabilities section of the accompanying consolidatedbalance sheet, was $1,157,000 and $946,000 in 2003 and 2002, respectively.

 

***IncomeTaxes***

 

Deferred taxassets and liabilities are recognized for the expected future tax consequencesof events that have been included in the financial statements or income taxreturns.  Deferred tax assets andliabilities are determined based on the difference between the financial statementand tax bases of assets and liabilities using enacted rates expected to applyto taxable income in the years in which those differences are expected to berecovered or settled.  The effect ondeferred tax assets and liabilities of a change in tax rates is recognized inthe period that includes the enactment date.

 

***StockOptions***

 

The Company’sstock-based compensation plan, described in Note 8, is accounted for under therecognition and measurement provisions of APB Opinion No. 25, “Accounting forStock Issued to Employees,” and related interpretations.

 

The Companyhas adopted the disclosure-only provisions of SFAS No. 123, “Accounting forStock-Based Compensation,” as amended by SFAS No. 148, “Accounting forStock-Based Compensation – Transition and Disclosure”.  Accordingly, no compensation cost has beenrecognized for the stock option plan. Awards under the plan vest over periods ranging from one to three years,depending on the type of award.  Thefollowing table illustrates the effect on net income and earnings per share ifthe fair value based method had been applied to all option grants, using theBlack-Scholes valuation model, for the years ended December 27, 2003, December28, 2002 and December 31, 2001:

 

37

----

 

 
|                                                                                                                                          |   | **2003** |      | **2002**   |   | **2001**  |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------|--------|----------|-----------|------------|--------|-----------|--------|
| Net income as reported                                                                                                                        |   | $        | 1,051,964 |       | $      | 2,636,837 |   | $ | 1,045,264 |   |
| Deduct:   Total stock-based employee compensation expense determined under fair  value method for all awards, net of related tax effects |   | (382,380 | )         | (1,010,139 | )      | (850,301  | )      |
| Pro forma net income                                                                                                                          |   | $        | 669,584   |       | $      | 1,626,698 |   | $ | 194,963 |   |
|                                                                                                                                          |   |     |      |       |   |      |   |
| Net income per share – basic – as reported                                                                                          |   | $        | 0.06      |       | $      | 0.16      |   | $ | 0.07 |   |
| Pro forma net income per share – basic                                                                                                   |   | $        | 0.04      |       | $      | 0.10      |   | $ | 0.01 |   |
| Net income per share – diluted – as  reported                                                                                       |   | $        | 0.06      |       | $      | 0.15      |   | $ | 0.06 |   |
| Pro forma net income per share – diluted                                                                                                 |   | $        | 0.04      |       | $      | 0.09      |   | $ | 0.01 |   |

 

The fair valueof each option grant is estimated on the date of grant using the Black-Scholesoption-pricing model with the following weighted-average assumptions:  dividend yield of 0%; expected volatility of57%, 44% and 58%; risk-free interest rate of 2.4%, 3.8% and 3.4%; and expectedlives of 3 years for 2003, 2002 and 2001, respectively.  Under this method, the weighted average fairvalue of the options granted was $1.80, $1.27 and $1.59 per share in 2003, 2002and 2001, respectively.

 

***EarningsPer Common Share***

 

Basic earningsper common share is computed by dividing net income by the weighted averagenumber of shares of common stock outstanding during the period.  Exercises of outstanding stock options orwarrants and conversion of convertible debentures are assumed to occur forpurposes of calculating diluted earnings per share for periods in which theireffect would not be anti-dilutive. Earnings per common share was computed as follows for the years endedDecember 27, 2003, December 28, 2002 and December 31, 2001:

 
|                                               |   | **2003**   |      | **2002**   |   | **2001**   |   |
|----------------------------------------------------|--------|------------|-----------|------------|--------|------------|--------|
| **Basic Earnings Per Common Share:**               |   |       |      |       |   |       |   |
| Net income                                         |   | $          | 1,051,964 |       | $      | 2,636,837  |   | $ | 1,045,264 |   |
|                                               |   |       |      |       |   |       |   |
| Weighted average number of common shares           |   | 17,572,951 |      | 16,146,081 |   | 15,050,509 |   |
|                                               |   |       |      |       |   |       |   |
| Earnings per common share                          |   | $          | 0.06      |       | $      | 0.16       |   | $ | 0.07 |   |
|                                               |   |       |      |       |   |       |   |
| **Diluted Earnings Per Common Share:**             |   |       |      |       |   |       |   |
| Net income                                         |   | $          | 1,051,964 |       | $      | 2,636,837  |   | $ | 1,045,264 |   |
|                                               |   |       |      |       |   |       |   |
| Weighted average number of common shares           |   | 17,572,951 |      | 16,146,081 |   | 15,050,509 |   |
| Incremental shares from assumed conversions  -     |   |       |      |       |   |       |   |
| Debentures                                         |   | —     |      | 120,279    |   | —     |   |
| Warrants                                           |   | 325,496    |      | 476,019    |   | 690,428    |   |
| Stock options                                      |   | 578,039    |      | 1,084,574  |   | 1,457,711  |   |
| Adjusted weighted average number of common  shares |   | 18,476,486 |      | 17,826,953 |   | 17,198,648 |   |
|                                               |   |       |      |       |   |       |   |
| Earnings per common share                          |   | $          | 0.06      |       | $      | 0.15       |   | $ | 0.06 |   |

 

38

----

 

Options andwarrants to purchase 327,500, 950,577 and 653,077 shares of Common Stockoutstanding at December 27, 2003, December 28, 2002 and December 31, 2001,respectively, were not included in the computation of diluted earnings pershare because the option and warrant exercise prices were greater than theaverage market price per share of the Common Stock.  For the year ended December 31, 2001 conversion of theconvertible debentures was not assumed, as the effect of the conversion wouldbe anti-dilutive.

 

***NewAccounting Pronouncements***

 

In 2001, theEmerging Issues Task Force (EITF) issued EITF Issue No. 01-9, “Accounting forConsideration Given by a Vendor to a Customer or a Reseller of the Vendor’sProducts,” (EITF Issue No. 01-9).  EITFIssue No. 01-9 addresses the accounting for certain consideration given by avendor to a customer and provides guidance on the recognition, measurement andincome statement classification for sales incentives.  In general, the guidance requires that consideration from avendor to a retailer be recorded as a reduction in revenue unless certaincriteria are met.  The Company adoptedthe provisions of the EITF Issue No. 01-9 effective in the first quarter of2002 and as a result, costs previously recorded as expense are now recorded andreflected as reductions in revenue.  The Company was also required to reclassify amounts in prior periods inorder to conform to the revised presentation of these costs if practicable.  As a result of adopting EITF Issue No. 01-9,the Company reduced both net revenues and selling, general and administrativeexpenses in 2001 by $3,761,072.  Therewas no change to the 2001 previously reported net income as a result of thischange.

 

In November2002, the FASB issued FASB Interpretation (“FIN”) No. 45, “Guarantor’sAccounting and Disclosure Requirements for Guarantees, Including IndirectGuarantees of Indebtedness of Others”. FIN 45 expands the disclosure requirements to be made by a guarantor inits interim and annual financial statements about its obligations under certainguarantees that it has issued.  TheInterpretation also clarifies that a guarantor is required to recognize, at theinception of a guarantee, a liability for the fair value of the obligationundertaken in issuing the guarantee. The Company does not have and does not anticipate issuing any guaranteeswhich would be required to be recognized as a liability under the provisions ofFIN 45 and the adoption of this Interpretation did not have an impact on itsresults of operations or financial position.

 

In January2003, the FASB issued interpretation (“FIN”) No. 46, “Consolidation of VariableInterest Entities – An Interpretation of Accounting Research Bulletin (“ARB”)No. 51.”  This interpretation wassubsequently revised by FIN 46 (Revised 2003) in December 2003.  This revised interpretation states thatconsolidation of variable interest entities will be required by the primarybeneficiary if the entities do not effectively disperse risks among the partiesinvolved.  The requirements are effectivefor fiscal years ending after December 15, 2003 for special-purpose entitiesand for all other types of entities for periods ending after March 31,2004.  We have no variable interestentities and do not believe that FIN No, 46 (R) will impact our futurefinancial results.

 

In May 2003,the FASB issued SFAS No. 150, “Accounting for Certain Financial Instrumentswith Characteristics of both Liabilities and Equity.”  This Statement requires, among other things, the classificationof certain financial instruments previously classified within the equitysection of the balance sheet, to be included in liabilities.  This Statement is effective for financialinstruments entered into or modified after May 31, 2003 and June 15, 2003 forall other instruments.  The adoption ofthis Statement had no impact on our financial position or results ofoperations.

 

**2.****              Goodwilland Trademarks:**

 

Goodwill andtrademarks relate to the 1998, 1999 and 2000 acquisitions described in Note1.  Intangibles not subject toamortization consisted of the following as of December 27, 2003 and December28, 2002:

 
|         |   | **2003**  |       | **2002**  |   |
|--------------|--------|-----------|------------|-----------|--------|
| Goodwill (1) |   | $         | 5,986,252  |      | $      | 5,565,687 |   |
| Trademarks   |   | 4,207,032 |       | 4,207,032 |   |
|         |   | $         | 10,193,284 |      | $      | 9,772,719 |   |

 

----

(1) Additions to goodwill arerelated to the earn-out payment to the previous owners of Boulder NaturalFoods, Inc.

 

39

----

 

In connectionwith the implementation of SFAS No. 142, effective January 1, 2002, the Companyceased amortizing goodwill and other intangible assets with indefinitelives.  The following table shows thepro forma impact of the adoption of SFAS No. 142 for the year ended December31, 2001.

 

|                                                 |   | **2001** |      |
|------------------------------------------------------|--------|----------|-----------|
| **Net Income**                                       |   |     |      |
| As reported                                          |   | $        | 1,045,264 |   |
| Add back:   Goodwill and trademark amortization |   | 652,104  |      |
| Adjusted                                             |   | $        | 1,697,368 |   |
|                                                 |   |     |      |
| **Basic earnings per common share:**                 |   |     |      |
| As reported                                          |   | $        | 0.07      |   |
| Add back:   Goodwill and trademark amortization |   | 0.04     |      |
| Adjusted                                             |   | $        | 0.11      |   |
|                                                 |   |     |      |
| **Diluted earnings per common share:**               |   |     |      |
| As reported                                          |   | $        | 0.06      |   |
| Add back:   Goodwill and trademark amortization |   | 0.04     |      |
| Adjusted                                             |   | $        | 0.10      |   |

 

**3.****              Concentrationsof Credit Risk:**

 

The Company’scash is placed with major banks.  TheCompany, in the normal course of business, maintains balances in excess ofFederal insurance limits.

 

The Company’sprimary concentration of credit risk is related to certain trade accountsreceivable.  In the normal course ofbusiness, the Company extends unsecured credit to its customers.  In 2003 and 2002, substantially all of theCompany’s customers were distributors or retailers whose sales wereconcentrated in the grocery industry, throughout the United States.  The Company investigates a customer’s creditworthiness before extending credit.  AtDecember 27, 2003, two customers accounted for approximately 28% of accountsreceivable in the accompanying Consolidated Balance Sheets.

 

**4.****              Inventories:**

 

Inventoriesconsisted of the following as of December 27, 2003 and December 28, 2002:

 
|           |   | **2003** |      | **2002**  |   |
|----------------|--------|----------|-----------|-----------|--------|
| Finished goods |   | $        | 1,610,776 |      | $      | 713,616 |   |
| Raw materials  |   | 789,727  |      | 1,046,785 |   |
|           |   | $        | 2,400,503 |      | $      | 1,760,401 |   |

 

**5.****              Propertyand Equipment:**

 

Property andequipment consisted of the following as of December 27, 2003 and December 28,2002:

 
|                                            |   | **Useful  Lives**  |   | **2003**   |       | **2002**   |   |
|-------------------------------------------------|--------|--------------------|--------|------------|------------|------------|--------|
| Buildings and improvements                      |   | 20 – 30 years |   | $          | 5,313,578  |       | $      | 5,226,016 |   |
| Equipment                                       |   | 7 – 15 years  |   | 10,700,679 |       | 11,464,258 |   |
| Land                                            |   | —             |   | 272,006    |       | 272,006    |   |
| Vehicles                                        |   | 5 years            |   | 34,893     |       | 11,393     |   |
| Furniture and office equipment                  |   | 2 – 5 years   |   | 1,447,145  |       | 1,207,291  |   |
|                                            |   |               |   | 17,768,301 |       | 18,180,964 |   |
| Less accumulated depreciation and  amortization |   |               |   | (6,013,205 | )          | (5,171,016 | )      |
|                                            |   |               |   | $          | 11,755,096 |       | $      | 13,009,948 |   |

 

40

----

 

Depreciationexpense was $1,285,221, $1,288,333 and $1,237,260 in 2003, 2002 and 2001, respectively.

 

On October 28,2000, the Company experienced a fire at the Goodyear, Arizona manufacturingplant, causing a temporary shutdown of manufacturing operations at thefacility.  There was extensive damage tothe roof and equipment utilities in the potato chip processing area.  Third party manufacturers agreed to providethe Company with production volume to assist the Company in meeting anticipatedcustomers’ needs during the shutdown. The Company continued to season and package the bulk product receivedfrom third party manufacturers.

 

The Companyresumed full production of private label potato chips in early January of 2001and resumed full production of batch-fried potato chips in late March of 2001.During fiscal 2001, the Company recorded approximately $1.4 million ofincremental expenses incurred as a result of the fire, primarily associatedwith outsourcing production.  Theseextra expenses were charged to “cost of revenues” and offset by a $1.4 millioncredit representing insurance proceeds. The Company also incurred approximately $2.3 million in building andequipment reconstruction costs in connection with the fire.  During fiscal 2001, the Company was advanceda total of $3.2 million by the insurance company.  “Insurance claim settlement income, net” on the accompanyingConsolidated Statement of Income for fiscal 2001 includes (i) a gain of$167,000, representing the excess of insurance proceeds over the book value forthe building and equipment of $533,000 damaged by the fire, and (ii) fire relatedexpenses not reimbursed by the insurance company of approximately $163,000.

 

In December2002, the Company received an additional $261,000 from its insurance company inpartial settlement of outstanding claims, which is shown in “Insurance claim settlementincome, net” on the accompanying Consolidated Statement of Income for fiscal2002.  This includes (i) a gain of$121,000, representing additional insurance proceeds over the book value ofequipment previously written off, and (ii) reimbursement of $140,000 forexpenses previously denied by the insurance company.

 

In June 2003,the Company received $2,000,000 from its insurance company as final settlementof outstanding claims, which is shown in “Insurance claim settlement income,net” on the accompanying Consolidated Statement of Income for fiscal 2003.  This includes (i) $1,100,000 asreimbursement for the additional capital equipment costs, and (ii) $900,000 asreimbursement for business interruption. Additionally, the Company incurred expenses as a result of the mediationin the amount of approximately $82,000 which were netted against theproceeds.  The Company does not have anyreceivables related to the fire reflected in the accompanying Consolidated BalanceSheets as of December 27, 2003 or December 28, 2002.

 

Also in June2003, the Company concluded that some of its packaging equipment that hadrecently been replaced by more technologically advanced machinery was no longerlikely to be reinstalled and used. Therefore, in accordance with SFAS 144, “Accounting for the Impairmentor Disposal of Long-lived Assets,” the Company performed an assessment of theequipment’s fair value, which resulted in the need to write-down the equipmentapproximately $1,030,000.

 

**6.****              Long-TermDebt:**

 

Long-term debt consisted of thefollowing as of December 27, 2003 and December 28, 2002:

 
|                                                                                                                                                                                                     |   | **2003**  |      | **2002**   |   |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------|-----------|------------|--------|
| Term loan due in monthly installments  through July 1, 2006; interest at prime rate (4.0% at December 27, 2003);  collateralized by accounts receivable, inventories, equipment and general  intangibles |   | $         | 2,259,377 |       | $      | 3,181,685 |   |
| Mortgage loan due in monthly installments  through July 2012; interest at 9.03%; collateralized by land and building                                                                                     |   | 1,812,579 |      | 1,851,888  |   |
| Capital lease obligations due in monthly  installments through 2003; interest rates ranging from 8.2% to 11.3%;  collateralized by equipment                                                             |   | —    |      | 45,779     |   |
| Capital Expenditures Term loan due in  monthly installments through October 31, 2003; interest at prime plus 1%  (5.0% at December 27, 2003); collateralized by equipment                                |   | —    |      | 130,770    |   |
|                                                                                                                                                                                                     |   | 4,071,956 |      | 5,210,122  |   |
| Less current portion                                                                                                                                                                                     |   | (932,155  | )         | (1,105,004 | )      |
|                                                                                                                                                                                                     |   | $         | 3,139,801 |       | $      | 4,105,118 |   |

 

41

----

 

Annualmaturities of long-term debt as of December 27, 2003 are as follows:

 
| **Year**   |   |      |      |
|------------|--------|-----------|-----------|
| 2004       |   | $         | 932,155   |   |
| 2005       |   | 935,906   |      |
| 2006       |   | 522,463   |      |
| 2007       |   | 52,192    |      |
| 2008       |   | 57,105    |      |
| Thereafter |   | 1,572,135 |      |
|       |   | $         | 4,071,956 |   |

###### ** **

Interestexpense consisted of the following at December 27, 2003, December 28, 2002 andDecember 31, 2001:

 
|                  |   | **2003** |    | **2002** |   | **2001** |   |
|-----------------------|--------|----------|---------|----------|--------|----------|--------|
| Interest expense      |   | $        | 275,619 |     | $      | 541,754  |   | $ | 1,046,215 |   |
| Interest income       |   | (22,799  | )       | (2,021   | )      | (1,098   | )      |
| Interest expense, net |   | $        | 252,820 |     | $      | 539,733  |   | $ | 1,045,117 |   |

 

The Company’sGoodyear, Arizona manufacturing, distribution and headquarters facility issubject to a $1.8 million mortgage loan from Morgan Guaranty Trust Company ofNew York, bears interest at 9.03% per annum and is secured by the building andthe land on which it is located.  Theloan matures on July 1, 2012; however monthly principal and interestinstallments of $18,425 are determined based on a twenty-year amortizationperiod.

 

During 2002,the Company’s remaining outstanding 9% Convertible Debenture due July 1, 2002in the principal amount of $401,497 held by Wells Fargo Small BusinessInvestment Company, Inc. (“Wells Fargo SBIC”) was converted into 401,497 sharesof the Company’s common stock.

 

The U.S.Bancorp Credit Agreement consists of a $5.0 million line of credit, a $0.5million capital expenditure line of credit (“CapEx Term Loan”) and a $5.8million Term Loan A.  At December 27,2003, there were no balances on either the line of credit of the CapEx TermLoan, and $2.3 million outstanding on Term Loan A.  In June 2002, the U.S. Bancorp Credit Agreement was amended toextend the U.S. Bancorp Line of Credit maturity date from October 31, 2003 toOctober 31, 2005 and modify certain financial covenants.

 

The U.S.Bancorp Credit Agreement is secured by accounts receivable, inventories,equipment and general intangibles.  Borrowingsunder the line of credit are limited to 80% of eligible receivables and up to60% of eligible inventories.  AtDecember 27, 2003, the Company had a borrowing base of approximately $3,656,000under the U.S. Bancorp Line of Credit. The U.S. Bancorp Credit Agreement requires the Company to be incompliance with certain financial performance criteria, including a minimumannual operating results ratio, a minimum tangible capital base and a minimumfixed charge coverage ratio.  AtDecember 27, 2003, the Company was in compliance with all of the financialcovenants.  Management believes that thefulfillment of the Company’s plans and objectives will enable the Company toattain a sufficient level of profitability to remain in compliance with thesefinancial covenants. There can be no assurance, however, that the Company willattain any such profitability and remain in compliance.  Any acceleration under the U.S. BancorpCredit Agreement prior to the scheduled maturity of the U.S. Bancorp Line ofCredit or the U.S. Bancorp Term Loans could have a material adverse effect uponthe 

 

42

----

 

Company.  As of December 27, 2003, there was nooutstanding balance on the U.S. Bancorp Line of Credit or CapEx term loan.

 

**7.****              Commitmentsand Contingencies:**

 

The Company isperiodically a party to various lawsuits arising in the ordinary course ofbusiness.  Management believes, based ondiscussions with legal counsel, that the resolution of such lawsuits,individually and in the aggregate, will not have a material adverse effect onthe Company’s financial position or results of operations.

 

The Companyleases a 140,000 square foot facility located on 15 acres of land in Bluffton,Indiana, approximately 20 miles south of Ft. Wayne, Indiana.  The Company has entered into a leaseexpiring in April 2018 with respect to the facility and the lease has twofive-year renewal options.  Currentlease payments are approximately $22,000 per month.  The lease payments are subject to an annual CPI-basedincrease.  The Company produces itsT.G.I. Friday’s® brand salted snacks, Crunch Toons® brand potato snacks andTato Skins® brand potato snacks at the Bluffton, Indiana facility.

 

The Companyalso leases one-half of a 200,000 square foot facility in Bluffton, Indianawhich is used as a distribution center. The Company has entered into a lease expiring in November 2006 withrespect to the facility and the lease has two three-year renewal options.  Current lease payments are approximately$30,000 per month.  The Company also hasentered into a service agreement expiring in December 2008 with a third partyfor warehousing services.

 

In addition tothe Company’s facility leases, the Company has entered into a variety ofoperating leases for equipment and vehicles.

 

Rental expenseunder all operating leases was $1,158,000, $956,000 and $507,000 for each offiscal 2003, 2002 and 2001, respectively. Minimum future rental commitments under non-cancelable leases as ofDecember 27, 2003 are as follows:

 
| **Year**   |   | **Operating  Leases** |      |
|------------|--------|-----------------------|-----------|
| 2004       |   | $                     | 1,562,869 |   |
| 2005       |   | 1,526,496             |      |
| 2006       |   | 1,468,073             |      |
| 2007       |   | 951,372               |      |
| 2008       |   | 509,606               |      |
| Thereafter |   | 2,759,751             |      |
| Total      |   | $                     | 8,778,167 |   |

 

The Companylicenses patented technology from a third party in connection with the manufactureof its T.G.I. Friday’s® and Tato Skins® brand products and has an exclusiveright to use such technology within North America until the patents expirebetween 2004 and 2006.  The Company also licenses patented technologyfrom a third party in connection with the manufacture of its Crunch Toons®brand salted snacks and has an exclusive right to use such technology withinthe United States until the agreement expires. The initial period covered by the agreement extends through 2010 andautomatically renews for five (5) year increments after that, unless terminatedby Licensee.  In considerationfor the use of these patents, the Company is required to make royalty paymentson sales of products manufactured utilizing the patented technology.

 

The Company licenses the T.G.I. Friday’s® brand salted snacks trademarkfrom TGI Friday’s Inc. under a license agreement with a term expiring in2014.  Pursuant to the licenseagreement, the Company is required to make royalty payments on sales of T.G.I.Friday’s® brand salted snack products and is required to achieve certainminimum sales levels by certain dates during the contract term.

 

In November2002, Warner Bros. Consumer Products granted the Company rights to introduce aninnovative new brand of salted snacks (Crunch Toons®) featuring Looney TunesTMcharacters, including Bugs Bunny, Tweety and the Tasmanian 

 

43

----

 

Devil.  The Company launched thenew brand nationwide in the summer of 2003 under a multi-year agreement thatgrants the Company exclusive salted snack category brand licensing andpromotional rights for Looney TunesTM characters.  In November 2003, the Company also acquired the exclusive brandlicensing and promotional rights to Scooby DooTM  characters pursuant to a multi-year agreement with Warner Bros.Consumer Products.  Both agreementsrequire the payment of minimum royalties during the term of the agreements.

 

**8.****              Shareholders’Equity:**

 

***CommonStock***

 

On December27, 2001, the Company completed the sale of 586,855 shares of Common Stock atan offering price of $2.13 per share to BFS US Special Opportunities Trust PLC,a fund managed by Renaissance Capital Group, Inc., in a private placementtransaction.  The net proceeds of thetransaction were utilized by the Company to reduce the Company’s outstandingindebtedness.  The Company has grantedBFS US Special Opportunities Trust PLC both demand and piggyback registrationrights with respect to the shares of Common Stock purchased in the offering.

 

***PreferredStock***

 

The Companyhas authorized 50,000 shares of $100 par value Preferred Stock, none of whichwas outstanding at December 27, 2003 or December 28, 2002.  The Company may issue such shares ofPreferred Stock in the future without shareholder approval.

 

***Warrants***

 

During thefiscal years 2001, 2002 and 2003 warrant activity was as follows:

 
|                       |   | **Warrants  Outstanding** |   | **Weighted  Average  Exercise Price** |   |
|----------------------------|--------|---------------------------|--------|---------------------------------------|--------|
| Balance, December 31, 2000 |   | 1,498,298                 |   | $                                     | 1.59   |   |
| Issued                     |   | 10,000                    |   | 3.62                                  |   |
| Cancelled                  |   | (225,000                  | )      | 4.38                                  |   |
| Balance, December 31, 2001 |   | 1,283,298                 |   | 1.11                                  |   |
| Exercised                  |   | (269,505                  | )      | 1.00                                  |   |
| Balance, December 28, 2002 |   | 1,013,793                 |   | 1.11                                  |   |
| Exercised                  |   | (395,516                  | )      | 1.16                                  |   |
| Cancelled                  |   | (160,277                  | )      | 1.26                                  |   |
| Balance, December 27, 2003 |   | 458,000                   |   | 1.02                                  |   |
|                            |        |                           |        |                                       |        |  |

 

Warrants havebeen issued in connection with prior financings and the acquisition ofWabash.  At December 27, 2003,outstanding warrants had exercise prices ranging from $0.88 to $3.62 and aweighted average remaining term of 0.7 years. Warrants that were exercisable at December 27, 2003 totaled 458,000 witha weighted average exercise price per share of $1.02.

 

As of July 30,1999, the Company agreed to the assignment of a five-year warrant from EverenSecurities, Inc. to Stifel, Nicolaus & Company Incorporated (the Company’sacquisitions and financial advisor) representing the right to purchase 296,155unregistered shares of Common Stock at an exercise price of $.875 pershare.  The warrant provides the holderthereof certain anti-dilution and piggyback registration rights.  The warrant was exercisable as to 50% of theshares when the Company’s pro forma annual sales reached $30 million, which itdid when the Company completed the Wabash acquisition in October 1999.  The remaining 50% of the warrant isexercisable when the Company’s pro forma annual sales reach $100 million.

 

44

----

 

***StockOptions***

 

The Company’s1995 Stock Option Plan (the “Plan”), as amended in May 2001, provides for theissuance of options to purchase 2,500,000 shares of Common Stock.  The options granted pursuant to the Planexpire over a five-year period and generally vest over three years.  In addition to options granted under thePlan, the Company also issued non-qualified options (non-plan options) topurchase Common Stock to certain Directors and officers which are exercisableand expire either five or ten years from date of grant.  All options are issued at an exercise priceof fair market value and are non-compensatory. Fair market value is determined based on the price of sales of CommonStock occurring at the time of the option award.

 

During fiscalyears 2001, 2002 and 2003, stock option activity was as follows:

 
|                       |   | **Plan  Options**        |   | **Non-Plan  Options**                 |   |
|----------------------------|--------|--------------------------|--------|---------------------------------------|--------|
|                       |   | **Options  Outstanding** |   | **Weighted  Average  Exercise Price** |   | **Options  Outstanding** |   | **Weighted  Average  Exercise Price** |   |
| Balance, December 31, 2000 |   | 1,699,650                |   | 1.64                                  |   | 1,645,000 |   | 1.48 |   |
| Granted                    |   | 480,000                  |   | 3.03                                  |   | 50,000 |   | 3.02 |   |
| Canceled                   |   | (143,333                 | )      | 1.63                                  |   | — |   | — |   |
| Exercised                  |   | (26,000                  | )      | 1.71                                  |   | (50,000 | ) | 1.08 |   |
| Balance, December 31, 2001 |   | 2,010,317                |   | 1.97                                  |   | 1,645,000 |   | 1.54 |   |
| Granted                    |   | 367,500                  |   | 2.86                                  |   | — |   | — |   |
| Canceled                   |   | (324,334                 | )      | 2.78                                  |   | (66,667 | ) | 2.61 |   |
| Exercised                  |   | (315,683                 | )      | 1.19                                  |   | (33,333 | ) | 2.61 |   |
| Balance, December 28, 2002 |   | 1,737,800                |   | 2.15                                  |   | 1,545,000 |   | 1.47 |   |
| Granted                    |   | 230,000                  |   | 3.44                                  |   | 117,500 |   | 3.60 |   |
| Canceled                   |   | (28,667                  | )      | 3.03                                  |   | — |   | — |   |
| Exercised                  |   | (782,633                 | )      | 1.51                                  |   | (580,000 | ) | 1.40 |   |
| Balance, December 27, 2003 |   | 1,156,500                |   | 2.82                                  |   | 1,082,500 |   | 1.74 |   |

 

Tax benefits on optionsexercised are recorded as increases to additional paid-in capital and totaled$1.9 million in fiscal 2003.

 

The followingtable summarizes information about stock options outstanding and exercisable atDecember 27, 2003:

 
| **Range of  Exercise Prices** |   | **Options  Outstanding** |   | **Weighted  Average  Remaining  Contractual Life  (in years)** |   | **Weighted  Average  Exercise  Price** |   | **Options  Exercisable** |      | **Weighted  Average  Exercise  Price** |   |
|-------------------------------|--------|--------------------------|--------|----------------------------------------------------------------|--------|----------------------------------------|--------|--------------------------|-----------|----------------------------------------|--------|
| $1.00 -  $1.8438              |   | 1,059,000                |   | 1.26                                                           |   | $                                      | 1.40   |                     | 1,059,000 |                                   | $      | 1.40 |   |
| $2.10 -  $2.995               |   | 587,500                  |   | 3.08                                                           |   | $                                      | 2.75   |                     | 264,996   |                                   | $      | 2.77 |   |
| $3.08 -  $3.60                |   | 572,500                  |   | 3.50                                                           |   | $                                      | 3.36   |                     | 220,001   |                                   | $      | 3.13 |   |
| $4.50 -  $4.94                |   | 20,000                   |   | 4.79                                                           |   | $                                      | 4.78   |                     | —    |                                   | — |   |
|                          |   | 2,239,000                |   | 2.34                                                           |   | $                                      | 2.28   |                     | 1,543,997 |                                   | $      | 1.88 |   |

 

The tablebelow summarized the number of exercisable options outstanding and the weightedaverage exercise prices for each of the previous fiscal years:

 
|              |   | **Plan  Options**                     |   | **Non-Plan  Options**                 |   |
|-------------------|--------|---------------------------------------|--------|---------------------------------------|--------|
|              |   | **Exercisable  Options  Outstanding** |   | **Weighted  Average  Exercise Price** |   | **Exercisable  Options  Outstanding** |   | **Weighted  Average  Exercise Price** |   |
| December 27, 2003 |   | 603,997                               |   | $                                     | 2.51   |   | 940,000 |   | $ | 1.47 |   |
| December 28, 2002 |   | 1,034,793                             |   | $                                     | 1.60   |   | 1,019,999 |   | $ | 1.37 |   |
| December 31, 2001 |   | 1,299,982                             |   | $                                     | 1.56   |   | 1,044,999 |   | $ | 1.39 |   |

 

45

----

 

**9.****              IncomeTaxes:**

 

The benefit(provision) for income taxes consisted of the following for the years endedDecember 27, 2003, December 28, 2002 and December 31, 2001:

 
|                                       |   | **2003** |     | **2002** |   | **2001** |   |
|--------------------------------------------|--------|----------|----------|----------|--------|----------|--------|
| Current:                                   |   |     |     |     |   |     |   |
| Federal                                    |   | $        | —   |     | $      | —   |   | $ | — |   |
| State                                      |   | —   |     | (98,593  | )      | (43,000  | )      |
|                                       |   | $        | —   |     | $      | (98,593  | )      | $ | (43,000 | ) |
| Deferred:                                  |   |     |     |     |   |     |   |
| Federal                                    |   | $        | (559,000 | )        | $      | 413,430  |   | $ | — |   |
| State                                      |   | (82,861  | )        | (72,000  | )      | —   |   |
|                                       |   | $        | (641,861 | )        | $      | 341,430  |   | $ | — |   |
|                                       |   |     |     |     |   |     |   |
| Total (provision) benefit for income taxes |   | $        | (641,861 | )        | $      | 242,837  |   | $ | (43,000 | ) |

 

The followingtable provides a reconciliation between the amount determined by applying thestatutory federal income tax rate to the pretax income amount for the yearsended December 27, 2003, December 28, 2002 and December 31, 2001:

 
|                                                             |   | **2003** |     | **2002**  |   | **2001** |   |
|------------------------------------------------------------------|--------|----------|----------|-----------|--------|----------|--------|
| Provision at statutory rate                                      |   | $        | (575,900 | )         | $      | (813,960 | )      | $ | (370,010 | ) |
| State income tax, net                                            |   | (54,961  | )        | (170,593  | )      | (56,742  | )      |
| Nondeductible expenses                                           |   | (11,000  | )        | (11,983   | )      | (18,722  | )      |
| Net operating loss utilized and reversal of  valuation allowance |   | —   |     | 1,239,373 |   | 402,474  |   |
| Income tax (provision) benefit                                   |   | $        | (641,861 | )         | $      | 242,837  |   | $ | (43,000 | ) |

 

The income taxeffects of loss carryforwards and temporary differences between financial andincome tax reporting that give rise to the deferred income tax asset andliability are as follows as of December 27, 2003 and December 28, 2002:

 
|                                         |   | **2003**   |      | **2002**  |   |
|----------------------------------------------|--------|------------|-----------|-----------|--------|
| **Deferred Tax Asset - current**             |   |       |      |      |   |
| Net operating loss carryforward              |   | $          | 1,707,000 |      | $      | — |   |
| Bad debt expense                             |   | 134,000    |      | 160,000   |   |
| Accrued liabilities                          |   | 174,000    |      | 121,000   |   |
| Other                                        |   | 240,000    |      | 141,000   |   |
|                                         |   | 2,255,000  |      | 422,000   |   |
| **Deferred Tax Liability – noncurrent** |   |       |      |      |   |
| Net operating loss carryforward              |   | —     |      | 1,022,000 |   |
| Depreciation and amortization                |   | (1,732,000 | )         | (966,570  | )      |
| Deferred tax asset valuation allowance       |   | —     |      | (136,000  | )      |
|                                         |   | (1,732,000 | )         | (80,570   | )      |
| Net deferred tax assets                      |   | $          | 523,000   |      | $      | 341,430 |   |

 

The Companyexperienced significant net losses in prior fiscal years resulting in a netoperating loss carryforward (“NOLC”) for federal income tax purposes ofapproximately $4.7 million at December 27, 2003.  The Company’s NOLC will begin to expire in varying amountsbetween 2010 and 2018.

 

Generallyaccepted accounting principles require that a valuation allowance beestablished when it is more likely than not that all or a portion of a deferredtax asset will not be realized.  Changesin valuation allowances from period to period are included in the tax provisionin the period of change.  In determiningwhether a valuation allowance is required, the Company takes into account allpositive and negative evidence with regard to the utilization of a deferred taxasset including our past earnings history, expected future earnings, thecharacter 

 

46

----

 

and jurisdiction of such earnings, unsettled circumstances that, ifunfavorably resolved, would adversely affect utilization of a deferred taxasset, carryback and carryforward periods, and tax strategies that couldpotentially enhance the likelihood of realization of a deferred tax asset.  During the third quarter of 2002, theCompany concluded that it was more likely than not that its deferred tax assetat the time would be realized, and also began providing for income taxes at arate equal to the combined federal and state effective rates, whichapproximated 38% under current tax rates. The $136,000 deferred tax valuation allowance at December 28, 2002relates to certain state NOL carryforwards that expired unused at December 27,2003.

 

**10.****       BusinessSegments and Significant Customers:**

 

For the yearended December 27, 2003, Vistar, a national vending distributor,  and Wal*Mart (including its SAM’s Clubs)accounted for $8,751,000, or 13%, and $13,237,000, or 20%, respectively, of theCompany’s consolidated net revenues.  Forthe years ended December 28, 2002 and December 31, 2001, Vistar and Wal*Martaccounted for $7,784,000, or 13% and $12,414,000, or 21%, respectively, and$6,886,000, or 12% and $9,353,000, or 16%, respectively, of the Company’sconsolidated net revenues.

 

The Company’soperations consist of two segments: manufactured products and distributedproducts.  The manufactured productssegment produces potato chips, potato crisps, and tortilla chips for saleprimarily to snack food distributors and retailers.  The distributed products segment sells snack food productsmanufactured by other companies to the Company’s Arizona snack fooddistributors.  The Company’s reportablesegments offer different products and services.  All of the Company’s revenues are attributable to externalcustomers in the United States and all of its assets are located in the UnitedStates.

 
|                                          |   | **Percent of  Total Revenues** |   |
|-----------------------------------------------|--------|--------------------------------|--------|
|                                          |   | **2003**                       |   | **2002** |   | **2001** |   |
| Branded products                              |   | 91                             | %      | 89 | % | 84 | % |
| Private label products                        |   | 4                              | %      | 5 | % | 7 | % |
| Total manufactured products segment  revenues |   | 94                             | %      | 93 | % | 91 | % |
|                                          |   |                           |   |   |   |   |   |
| Distributed products segment revenues         |   | 6                              | %      | 7 | % | 9 | % |
|                                          |   |                           |   |   |   |   |   |
| Total revenues                                |   | 100                            | %      | 100 | % | 100 | % |

 

In fiscalyears 2003, 2002 and 2001, the T.G.I. Friday’s® brand salted snacks represented61%, 60% and 41%, respectively, of the Company’s total net revenues.  Effective February 1, 2004, the Company hasceased distribution of Snyders’ pretzels which represented approximately 50% ofdistributed products segment revenues in 2003.

 

The accountingpolicies of the segments are the same as those described in the Summary ofSignificant Accounting Policies (Note 1). The Company does not allocate assets, selling, general andadministrative expenses, income taxes or other income and expense to segmentsand has no significant non-cash items other than depreciation and amortization.

 
|                                                            |   | **Manufactured  Products** |       | **Distributed  Products** |       | **Consolidated** |       |
|-----------------------------------------------------------------|--------|----------------------------|------------|---------------------------|------------|------------------|------------|
| **2003**                                                        |   |                       | ** ** |                      | ** ** |             | ** ** |
| Revenues from external customers                                |   | $                          | 62,278,649 |                      | $          | 4,139,187        |       | $ | 66,417,836 |   |
| Depreciation and amortization included in  segment gross profit |   | 943,541                    |       | —                    |       | 943,541          |       |
| Segment gross profit                                            |   | 12,660,767                 |       | 657,754                   |       | 13,318,521       |       |
|                                                            |   |                       | ** ** |                      | ** ** |             | ** ** |
| **2002**                                                        |   |                       | ** ** |                      | ** ** |             | ** ** |
| Revenues from external customers                                |   | $                          | 55,321,985 |                      | $          | 4,026,486        |       | $ | 59,348,471 |   |
| Depreciation and amortization included in  segment gross profit |   | 936,499                    |       | —                    |       | 936,499          |       |
| Segment gross profit                                            |   | 10,797,357                 |       | 514,652                   |       | 11,312,009       |       |
|                                                            |   |                       |       |                      |       |             |       |
| **2001**                                                        |   |                       | ** ** |                      | ** ** |             | ** ** |
| Revenues from external customers                                |   | $                          | 49,116,667 |                      | $          | 4,788,149        |       | $ | 53,904,816 |   |
| Depreciation and amortization included in  segment gross profit |   | 859,776                    |       | —                    |       | 859,776          |       |
| Segment gross profit                                            |   | 10,711,869                 |       | 234,125                   |       | 10,945,994       |       |

 

47

----

 

The following table reconcilesreportable segment gross profit to the Company’s consolidated income beforeincome tax provision for the years ended December 27, 2003, December 28, 2002and December 31, 2001:

 
|                                          |   | **2003**    |       | **2002**   |   | **2001**   |   |
|-----------------------------------------------|--------|-------------|------------|------------|--------|------------|--------|
| Segment gross profit                          |   | $           | 13,318,521 |       | $      | 11,312,009 |   | $ | 10,945,994 |   |
| Unallocated amounts:                          |   |        |       |       |   |       |   |
| Selling, general and administrative  expenses |   | (13,290,660 | )          | (8,637,652 | )      | (8,816,627 | )      |
| Insurance claim settlement income, net        |   | 1,918,784   |       | 259,376    |   | 4,014      |   |
| Interest expense, net                         |   | (252,820    | )          | (539,733   | )      | (1,045,117 | )      |
| Income before income taxes                    |   | $           | 1,693,825  |       | $      | 2,394,000  |   | $ | 1,088,264 |   |

 

**11.****       Litigation:**

 

The Company isperiodically a party to various lawsuits arising in the ordinary course ofbusiness.  Management believes, based ondiscussions with legal counsel, that the resolution of any such lawsuits willnot have a material effect on the financial statements taken as a whole.

 

**12.****       RelatedParty Transactions:**

 

The land and building (140,000square feet) occupied by the Company in Bluffton, Indiana is leased pursuant toa twenty year lease dated May 1, 1998 with American Pacific FinancialCorporation, an affiliate of Pate Foods Corporation from whom the Companypurchased Wabash in October 1999.  Thelease extends through April 2018 and contains two additional five-year leaserenewal periods at the option of the Company. Lease payments are approximately$20,000 per month, plus CPI adjustments, and the Company is responsible for allreal estate taxes, utilities and insurance. American Pacific Financial Corporation is an affiliate of Capital Foods,the single largest shareholder of the Company, currently holding approximately23% of the outstanding shares of Common Stock (without giving effect to thepossible exercise of warrants to purchase 250,000 shares of Common Stock alsoheld by Capital Foods).

 

The resultsfor any single quarter are not necessarily indicative of the Company’s resultsfor any other quarter or the full year.

 
| **(in 000’s, except for share and  per  share data)** |   | **First  Quarter** |   | **Second  Quarter** |   | **Third  Quarter** |   | **Fourth  Quarter** |   | **Full Year** |   |
|------------------------------------------------------------|--------|--------------------|--------|---------------------|--------|--------------------|--------|---------------------|--------|---------------|--------|
| **Fiscal 2003**                                            |   |               |   |                |   |               |   |                |   |          |   |
| Net revenues                                               |   | $                  | 15,218 |                | $      | 18,581             |   | $                   | 16,661 |          | $      | 15,958 |   | $ | 66,418 |   |
| Gross profit                                               |   | 3,031              |   | 3,724               |   | 3,609              |   | 2,955               |   | 13,319        |   |
| Operating income (loss)                                    |   | 558                |   | 1,294               |   | 516                |   | (2,340              | )      | 28            |   |
| Net income (loss)                                          |   | $                  | 303    |                | $      | 1,971              |   | $                   | 288    |          | $      | (1,510 | ) | $ | 1,052 |   |
|                                                       |   |               |   |                |   |               |   |                |   |          |   |
| Earnings (loss) per common share:                          |   |               |   |                |   |               |   |                |   |          |   |
| Basic                                                      |   | $                  | 0.02   |                | $      | 0.12               |   | $                   | 0.02   |          | $      | (0.08 | ) | $ | 0.06 |   |
| Diluted                                                    |   | $                  | 0.02   |                | $      | 0.11               |   | $                   | 0.01   |          | $      | (0.08 | ) | $ | 0.06 |   |
|                                                       |   |               |   |                |   |               |   |                |   |          |   |
| Weighted average number of common shares:                  |   |               |   |                |   |               |   |                |   |          |   |
| Basic                                                      |   | 16,730,642         |   | 16,984,728          |   | 17,997,911         |   | 18,578,407          |   | 17,572,951    |   |
| Diluted                                                    |   | 18,025,514         |   | 18,343,696          |   | 19,369,977         |   | 18,578,407          |   | 18,476,486    |   |

 

48

----

 

**Quarterly Financial Data (unaudited):**

 

Thesum of quarterly earnings per share information may not agree to the annualamount due to the use of the treasury stock method of calculating earnings pershare.

 

Selling,general and administrative expenses increased to $5.3 million in the fourthquarter of 2003, resulting in an operating loss of $2.3 million, up from $2.3million in 2002.  The increase wasdriven by the planned introductory consumer marketing programs and other costsassociated with the launch of Crunch Toons®.

 

49

----

 
| **(in 000’s, except for share and  per share  data)** |   | **First  Quarter** |       | **Second  Quarter** |       | **Third  Quarter** |       | **Fourth  Quarter** |       | **Full Year** |       |
|------------------------------------------------------------|--------|--------------------|------------|---------------------|------------|--------------------|------------|---------------------|------------|---------------|------------|
| **Fiscal 2002**                                            |   |               | ** ** |                | ** ** |               | ** ** |                | ** ** |          | ** ** |
| Net revenues                                               |   | $                  | 14,278     |                | $          | 15,358             |       | $                   | 15,209     |          | $          | 14,503 |   | $ | 59,348 |   |
| Gross profit                                               |   | 2,517              |       | 3,188               |       | 2,564              |       | 3,043               |       | 11,312        |       |
| Operating income                                           |   | 552                |       | 819                 |       | 550                |       | 753                 |       | 2,674         |       |
| Net income                                                 |   | $                  | 380        |                | $          | 640                |       | $                   | 1,051      |          | $          | 565 |   | $ | 2,637 |   |
|                                                       |   |               |       |                |       |               |       |                |       |          |       |
| Earnings per common share:                                 |   |               |       |                |       |               |       |                |       |          |       |
| Basic                                                      |   | $                  | 0.02       |                | $          | 0.04               |       | $                   | 0.06       |          | $          | 0.03 |   | $ | 0.16 |   |
| Diluted                                                    |   | $                  | 0.02       |                | $          | 0.04               |       | $                   | 0.06       |          | $          | 0.03 |   | $ | 0.15 |   |
|                                                       |   |               |       |                |       |               |       |                |       |          |       |
| Weighted average number of common shares:                  |   |               |       |                |       |               |       |                |       |          |       |
| Basic                                                      |   | 15,692,387         |       | 15,833,473          |       | 16,362,344         |       | 16,686,148          |       | 16,146,081    |       |
| Diluted                                                    |   | 17,439,210         |       | 18,079,446          |       | 17,961,882         |       | 18,049,958          |       | 17,826,953    |       |

 

The sum of quarterly earnings per share information may not agree to theannual amount due to the use of the treasury stock method of calculatingearnings per share.

 

**14.****       AccountsReceivable Allowance**

 

Changes to the allowance fordoubtful accounts during the three years ended December 27, 2003 are summarizedbelow:

 
|                            |   | **Balance at  beginning of period** |    | **Charges to  Expense** |    | **Write-offs** |    | **Balance at  end  of period** |   |
|---------------------------------|--------|-------------------------------------|---------|-------------------------|---------|----------------|---------|--------------------------------|--------|
| Allowance for Doubtful Accounts |   |                                |    |                    |    |           |    |                           |   |
| Fiscal 2001                     |   | $                                   | 246,000 |                    | 332,000 |           | 359,000 |                           | $      | 219,000 |   |
| Fiscal 2002                     |   | $                                   | 219,000 |                    | 379,000 |           | 189,000 |                           | $      | 409,000 |   |
| Fiscal 2003                     |   | $                                   | 409,000 |                    | 24,000  |           | 86,000  |                           | $      | 347,000 |   |

 

50

----

 

**EXHIBIT INDEX**

 
| 3.1 —   | Certificate  of Incorporation of the Company filed with the Secretary of State of Delaware  on February 23, 1995                                                                                                                     |
|--------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|         |                                                                                                                                                                                                                                 |
| 3.2 —   | Certificate  of Amendment to the Certificate of Incorporation of the Company filed with  the Secretary of State of the State of Delaware on March 3, 1995                                                                            |
|         |                                                                                                                                                                                                                                 |
| 3.3 —   | Certificate  of Amendment to the Certificate of Incorporation of the Company filed with the  Secretary of State of the State of Delaware on October 7, 1999                                                                          |
|         |                                                                                                                                                                                                                                 |
| 10.35 — | License  Agreement, dated November 10, 2003, by and between the Company and Warner  Bros. Consumer Products Inc.                                                                                                                     |
|         |                                                                                                                                                                                                                                 |
| 10.36 — | Commercial  Lease Agreement, dated May 22, 2003, by and between the Company and Westland  Park LLC                                                                                                                                   |
|         |                                                                                                                                                                                                                                 |
| 10.37 — | Warehouse  Services Agreement, dated June 30, 2003, by and between the Company and  Customized Distribution Services, Inc.                                                                                                           |
|         |                                                                                                                                                                                                                                 |
| 21.1 —  | List of  subsidiaries of Poore Brothers, Inc.                                                                                                                                                                                        |
|         |                                                                                                                                                                                                                                 |
| 23.1 —  | Consent of  Deloitte & Touche LLP                                                                                                                                                                                                |
|         |                                                                                                                                                                                                                                 |
| 23.2 —  | Notice  Regarding Consent of Arthur Andersen LLP                                                                                                                                                                                     |
|         |                                                                                                                                                                                                                                 |
| 31.1 —  | Certification  of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15(d)-14(a)                                                                                                                                             |
|         |                                                                                                                                                                                                                                 |
| 31.2—   | Certification  of Chief Financial Officer and Principal Accounting Officer pursuant to Rule  13a-14(a) or Rule 15(d)-14(a)                                                                                                           |
|         |                                                                                                                                                                                                                                 |
| 32.1—   | Certification  of Chief Executive Officer and Chief Financial Officer and Principal  Accounting Officer pursuant to Rule 13a-14(b) and 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |

 

51

----