##### Table of Contents

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



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FORM 10-Q



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|x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ---------------------------------------------------------------------------------------



| | For the quarterly period ended September 19, 2007
| | -------------------------------------------------

OR



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ----------------------------------------------------------------------------------------



| | For the transition period from
 to
| | ----------------------------------

Commission File Number 0-21203



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DIEDRICH COFFEE, INC.

(Exact Name of Registrant as Specified in Its Charter)



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|                                                               |  |                                  
|-------------------------------------------------------------- |  | ---------------------------------
|Delaware                                                       |  | 33-0086628                       
|(State or Other Jurisdiction of Incorporation or Organization) |  | (IRS Employer Identification No.)

28 Executive Park

Irvine, California 92614

(Address of Principal Executive Offices, Zip Code)

(949) 260-1600

(Registrants Telephone Number, including Area Code)



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Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ̈

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange
Act.

Large Accelerated Filer ̈Accelerated Filer ̈Non-Accelerated Filer  x

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

As of October 26, 2007, there were 5,448,316 shares of common stock of the registrant outstanding.



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##### Table of Contents

TABLE OF CONTENTS



|                                                                                              |  |            
|--------------------------------------------------------------------------------------------- |  | -----------
|                                                                                              |  | Page Number
|PART IFINANCIAL INFORMATION                                                                  |  | 1          
|                                                                                              | 
|Item 1. Financial Statements                                                                  |  | 1          
|                                                                                              | 
|CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)                                             |  | 1          
|                                                                                              | 
|CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)                                   |  | 2          
|                                                                                              | 
|CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)                                   |  | 3          
|                                                                                              | 
|NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)                              |  | 4          
|                                                                                              | 
|Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 12         
|                                                                                              | 
|Item 3. Quantitative And Qualitative Disclosures About Market Risk                            |  | 21         
|                                                                                              | 
|Item 4. Controls and Procedures                                                               |  | 21         
|                                                                                              | 
|PART IIOTHER INFORMATION                                                                     |  | 21         
|                                                                                              | 
|Item 1. Legal Proceedings                                                                     |  | 21         
|                                                                                              | 
|Item 1A. Risk Factors                                                                         |  | 22         
|                                                                                              | 
|Item 2. Unregistered Sales of Equity Securities and Use of Proceeds                           |  | 22         
|                                                                                              | 
|Item 3. Defaults upon Senior Securities                                                       |  | 22         
|                                                                                              | 
|Item 4. Submission of Matters to a Vote of Security Holders                                   |  | 22         
|                                                                                              | 
|Item 5. Other Information                                                                     |  | 22         
|                                                                                              | 
|Item 6. Exhibits                                                                              |  | 22         
|                                                                                              | 
|SIGNATURES                                                                                    |  | 24         



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##### Table of Contents

PART IFINANCIAL INFORMATION

Item 1. Financial Statements

DIEDRICH COFFEE, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS



|                                                                                                                                           |  |                    |             |   |               |   |             |  
|------------------------------------------------------------------------------------------------------------------------------------------ |  | ------------------ | ----------- | - | ------------- | - | ----------- | -
|                                                                                                                                           |  | September 19, 2007 |             |   | June 27, 2007 |  
|                                                                                                                                           |  | (Unaudited)        |             |   |               |  
|Assets                                                                                                                                     |  |                    |             |   |               |   |             |  
|Current assets:                                                                                                                            |  |                    |             |   |               |   |             |  
|Cash                                                                                                                                       |  | $                  | 4,606,000   |   |               | $ | 6,873,000   |  
|Restricted cash                                                                                                                            |  |                    | 675,000     |   |               |   | 669,000     |  
|Accounts receivable, less allowance for doubtful accounts of $367,000 at September 19, 2007 and $163,000 at June 27,
2007                  |  |                    | 4,040,000   |   |               |   | 4,069,000   |  
|Inventories                                                                                                                                |  |                    | 4,380,000   |   |               |   | 4,323,000   |  
|Income tax refund receivable                                                                                                               |  |                    | 533,000     |   |               |   | 533,000     |  
|Current portion of notes receivable, less allowance of $63,000 at September 19, 2007 and June 27, 2007                                     |  |                    | 1,047,000   |   |               |   | 1,031,000   |  
|Advertising fund assets, restricted                                                                                                        |  |                    | 432,000     |   |               |   | 339,000     |  
|Prepaid expenses                                                                                                                           |  |                    | 364,000     |   |               |   | 252,000     |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Total current assets                                                                                                                       |  |                    | 16,077,000  |   |               |   | 18,089,000  |  
|Property and equipment, net                                                                                                                |  |                    | 5,281,000   |   |               |   | 4,437,000   |  
|Goodwill                                                                                                                                   |  |                    | 6,832,000   |   |               |   | 6,832,000   |  
|Notes receivable, less allowance of $75,000 at September 19, 2007 and June 27, 2007                                                        |  |                    | 2,961,000   |   |               |   | 3,386,000   |  
|Cash surrender value of life insurance policy                                                                                              |  |                    | 646,000     |   |               |   | 430,000     |  
|Other assets                                                                                                                               |  |                    | 157,000     |   |               |   | 159,000     |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Total assets                                                                                                                               |  | $                  | 31,954,000  |   |               | $ | 33,333,000  |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Liabilities and Stockholders Equity                                                                                                       |  |                    |             |   |               |   |             |  
|Current liabilities:                                                                                                                       |  |                    |             |   |               |   |             |  
|Liabilities of discontinued operations                                                                                                     |  | $                  | 107,000     |   |               | $ | 125,000     |  
|Accounts payable                                                                                                                           |  |                    | 2,626,000   |   |               |   | 3,814,000   |  
|Accrued compensation                                                                                                                       |  |                    | 1,953,000   |   |               |   | 2,052,000   |  
|Accrued expenses                                                                                                                           |  |                    | 1,331,000   |   |               |   | 1,725,000   |  
|Franchisee deposits                                                                                                                        |  |                    | 669,000     |   |               |   | 674,000     |  
|Deferred franchise fee income                                                                                                              |  |                    | 79,000      |   |               |   | 82,000      |  
|Advertising fund liabilities                                                                                                               |  |                    | 444,000     |   |               |   | 339,000     |  
|Accrued provision for store closure                                                                                                        |  |                    | 908,000     |   |               |   | 686,000     |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Total current liabilities                                                                                                                  |  |                    | 8,117,000   |   |               |   | 9,497,000   |  
|Income tax liabilities                                                                                                                     |  |                    | 245,000     |   |               |   |            |  
|Deferred rent                                                                                                                              |  |                    | 204,000     |   |               |   | 216,000     |  
|Deferred compensation                                                                                                                      |  |                    | 699,000     |   |               |   | 468,000     |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Total liabilities                                                                                                                          |  |                    | 9,265,000   |   |               |   | 10,181,000  |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Commitments and contingencies (Notes 8 and 9)                                                                                              |  |                    |             |   |               |   |             |  
|Stockholders equity:                                                                                                                      |  |                    |             |   |               |   |             |  
|Common stock, $.01 par value; authorized 8,750,000 shares; issued and outstanding 5,448,000 shares at September 19, 2007 and
June 27, 2007 |  |                    | 54,000      |   |               |   | 54,000      |  
|Additional paid-in capital                                                                                                                 |  |                    | 59,723,000  |   |               |   | 59,671,000  |  
|Accumulated deficit                                                                                                                        |  |                    | (37,088,000 | ) |               |   | (36,573,000 | )
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Total stockholders equity                                                                                                                 |  |                    | 22,689,000  |   |               |   | 23,152,000  |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  
|Total liabilities and stockholders equity                                                                                                 |  | $                  | 31,954,000  |   |               | $ | 33,333,000  |  
|                                                                                                                                           |  |                    |             |   |               |   |             |  

See accompanying notes to condensed consolidated financial statements.



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##### Table of Contents

DIEDRICH COFFEE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)



|                                                                                             |  |                                      |            |   |                                      |   |            |  
|-------------------------------------------------------------------------------------------- |  | ------------------------------------ | ---------- | - | ------------------------------------ | - | ---------- | -
|                                                                                             |  | Twelve WeeksEnded September 19, 2007 |            |   | Twelve WeeksEnded September 20, 2006 |  
|                                                                                             |  | (Unaudited)                          |            |   | (Unaudited)                          |  
|Net revenue:                                                                                 |  |                                      |            |   |                                      |   |            |  
|Wholesale and other                                                                          |  | $                                    | 6,464,000  |   |                                      | $ | 5,120,000  |  
|Franchise revenue                                                                            |  |                                      | 629,000    |   |                                      |   | 768,000    |  
|Retail sales                                                                                 |  |                                      | 1,067,000  |   |                                      |   | 944,000    |  
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Total revenue                                                                                |  |                                      | 8,160,000  |   |                                      |   | 6,832,000  |  
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Costs and expenses:                                                                          |  |                                      |            |   |                                      |   |            |  
|Cost of sales and related occupancy costs (exclusive of depreciation shown separately below) |  |                                      | 5,972,000  |   |                                      |   | 4,277,000  |  
|Operating expenses                                                                           |  |                                      | 2,232,000  |   |                                      |   | 1,921,000  |  
|Depreciation and amortization                                                                |  |                                      | 252,000    |   |                                      |   | 259,000    |  
|General and administrative expenses                                                          |  |                                      | 1,455,000  |   |                                      |   | 1,672,000  |  
|Gain on asset disposals                                                                      |  |                                      | (1,000     | ) |                                      |   | (12,000    | )
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Total costs and expenses                                                                     |  |                                      | 9,910,000  |   |                                      |   | 8,117,000  |  
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Operating loss from continuing operations                                                    |  |                                      | (1,750,000 | ) |                                      |   | (1,285,000 | )
|Interest expense                                                                             |  |                                      | (11,000    | ) |                                      |   | (26,000    | )
|Interest and other income, net                                                               |  |                                      | 184,000    |   |                                      |   | 91,000     |  
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Loss from continuing operations before income tax benefit                                    |  |                                      | (1,577,000 | ) |                                      |   | (1,220,000 | )
|Income tax benefit                                                                           |  |                                      | 540,000    |   |                                      |   |           |  
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Loss from continuing operations                                                              |  |                                      | (1,037,000 | ) |                                      |   | (1,220,000 | )
|Discontinued operations:                                                                     |  |                                      |            |   |                                      |   |            |  
|Loss from discontinued operations, net of tax expense of $0                                  |  |                                      |           |   |                                      |   | (426,000   | )
|Gain on sale of discontinued operations, net of tax expense of $507,000                      |  |                                      | 767,000    |   |                                      |   |           |  
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Net loss                                                                                     |  | $                                    | (270,000   | ) |                                      | $ | (1,646,000 | )
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Basic and diluted net income (loss) per share:                                               |  |                                      |            |   |                                      |   |            |  
|Loss from continuing operations                                                              |  | $                                    | (0.19      | ) |                                      | $ | (0.23      | )
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Income (loss) from discontinued operations, net                                              |  | $                                    | 0.14       |   |                                      | $ | (0.08      | )
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Net loss                                                                                     |  | $                                    | (0.05      | ) |                                      | $ | (0.31      | )
|                                                                                             |  |                                      |            |   |                                      |   |            |  
|Weighted average and equivalent shares outstanding:                                          |  |                                      |            |   |                                      |   |            |  
|Basic and diluted                                                                            |  |                                      | 5,448,000  |   |                                      |   | 5,308,000  |  
|                                                                                             |  |                                      |            |   |                                      |   |            |  

See accompanying notes to condensed consolidated financial statements.



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DIEDRICH COFFEE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)



|                                                                             |  |                                      |            |   |                                      |   |            |  
|---------------------------------------------------------------------------- |  | ------------------------------------ | ---------- | - | ------------------------------------ | - | ---------- | -
|                                                                             |  | Twelve Weeks Ended September 19,2007 |            |   | Twelve Weeks Ended September 20,2006 |  
|                                                                             |  | (Unaudited)                          |            |   | (Unaudited)                          |  
|Cash flows from operating activities:                                        |  |                                      |            |   |                                      |   |            |  
|Net loss                                                                     |  | $                                    | (270,000   | ) |                                      | $ | (1,646,000 | )
|Loss from discontinued operations                                            |  |                                      |           |   |                                      |   | 426,000    |  
|Gain on disposal of discontinued operations, net                             |  |                                      | (767,000   | ) |                                      |   |           |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Loss from continuing operations:                                             |  |                                      | (1,037,000 | ) |                                      |   | (1,220,000 | )
|Adjustments to reconcile net loss to net cash used in operating activities:  |  |                                      |            |   |                                      |   |            |  
|Depreciation and amortization                                                |  |                                      | 252,000    |   |                                      |   | 259,000    |  
|Amortization and write off of loan fees                                      |  |                                      |           |   |                                      |   | 7,000      |  
|Provision (recovery) from bad debt                                           |  |                                      | 177,000    |   |                                      |   | (25,000    | )
|Income tax benefit                                                           |  |                                      | (540,000   | ) |                                      |   |           |  
|Provision for inventory obsolescence                                         |  |                                      | 25,000     |   |                                      |   | 9,000      |  
|Provision for asset impairment and restructuring                             |  |                                      |           |   |                                      |   | (2,000     | )
|Provision for store closure                                                  |  |                                      | 236,000    |   |                                      |   | 70,000     |  
|Stock compensation expense                                                   |  |                                      | 52,000     |   |                                      |   | 67,000     |  
|Notes receivable issued                                                      |  |                                      | (29,000    | ) |                                      |   | (89,000    | )
|Gain on disposal of assets                                                   |  |                                      | (1,000     | ) |                                      |   | (12,000    | )
|Changes in operating assets and liabilities:                                 |  |                                      |            |   |                                      |   |            |  
|Accounts receivable                                                          |  |                                      | (148,000   | ) |                                      |   | (580,000   | )
|Inventories                                                                  |  |                                      | (82,000    | ) |                                      |   | 88,000     |  
|Prepaid expenses                                                             |  |                                      | (112,000   | ) |                                      |   | (326,000   | )
|Notes Receivable                                                             |  |                                      | (75,000    | ) |                                      |   | (84,000    | )
|Other assets                                                                 |  |                                      | (214,000   | ) |                                      |   | (45,000    | )
|Accounts payable                                                             |  |                                      | (1,176,000 | ) |                                      |   | 174,000    |  
|Accrued compensation                                                         |  |                                      | 132,000    |   |                                      |   | (236,000   | )
|Accrued expenses                                                             |  |                                      | (361,000   | ) |                                      |   | 148,000    |  
|Deferred franchise fee income and franchisee deposits                        |  |                                      | (8,000     | ) |                                      |   | (39,000    | )
|Accrued provision for store closure                                          |  |                                      | (14,000    | ) |                                      |   |           |  
|Deferred rent                                                                |  |                                      | (12,000    | ) |                                      |   | 3,000      |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Net cash used in continuing operations                                       |  |                                      | (2,935,000 | ) |                                      |   | (1,833,000 | )
|Net cash used in discontinued operations                                     |  |                                      | (18,000    | ) |                                      |   | (264,000   | )
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Net cash used in operating activities                                        |  |                                      | (2,953,000 | ) |                                      |   | (2,097,000 | )
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Cash flows from investing activities:                                        |  |                                      |            |   |                                      |   |            |  
|Capital expenditures for property and equipment                              |  |                                      | (1,096,000 | ) |                                      |   | (378,000   | )
|Proceeds from disposal of property and equipment                             |  |                                      | 1,000      |   |                                      |   | 12,000     |  
|Payments received on notes receivable                                        |  |                                      | 513,000    |   |                                      |   | 568,000    |  
|Investment in restricted money market account                                |  |                                      | (6,000     | ) |                                      |   | (4,000     | )
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Net cash provided by (used in) investing activities of continuing operations |  |                                      | (588,000   | ) |                                      |   | 198,000    |  
|Net cash used in discontinued operations                                     |  |                                      |           |   |                                      |   | (17,000    | )
|Proceeds from sale of discontinued operations, net                           |  |                                      | 1,274,000  |   |                                      |   |           |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Net cash provided by investing activities                                    |  |                                      | 686,000    |   |                                      |   | 181,000    |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Cash flows from financing activities:                                        |  |                                      |            |   |                                      |   |            |  
|Exercise of stock options                                                    |  |                                      |           |   |                                      |   | 34,000     |  
|Borrowings under credit agreement                                            |  |                                      |           |   |                                      |   | 1,000,000  |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Net cash provided by financing activities of continuing operations           |  |                                      |           |   |                                      |   | 1,034,000  |  
|Net cash used in financing activities of discontinued operations             |  |                                      |           |   |                                      |   | (5,000     | )
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Net cash provided by financing activities                                    |  |                                      |           |   |                                      |   | 1,029,000  |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Net decrease in cash                                                         |  |                                      | (2,267,000 | ) |                                      |   | (887,000   | )
|Cash at beginning of year                                                    |  |                                      | 6,873,000  |   |                                      |   | 2,593,000  |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Cash at end of year                                                          |  | $                                    | 4,606,000  |   |                                      | $ | 1,706,000  |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Supplemental disclosure of cash flow information:                            |  |                                      |            |   |                                      |   |            |  
|Cash paid during the period for:                                             |  |                                      |            |   |                                      |   |            |  
|Value of common stock warrants recorded as debt discount                     |  | $                                    |           |   |                                      | $ | 25,000     |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Interest                                                                     |  | $                                    | 12,000     |   |                                      | $ | 16,000     |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Income taxes                                                                 |  | $                                    |           |   |                                      | $ | 58,000     |  
|                                                                             |  |                                      |            |   |                                      |   |            |  
|Non-cash transactions:                                                       |  |                                      |            |   |                                      |   |            |  
|Issuance of notes receivable                                                 |  | $                                    | 29,000     |   |                                      | $ | 89,000     |  
|                                                                             |  |                                      |            |   |                                      |   |            |  

See accompanying notes to condensed consolidated financial statements.



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DIEDRICH COFFEE, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 19, 2007

(UNAUDITED)



|1. | SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
|-- | ------------------------------------------

Basis of
Presentation

The unaudited condensed consolidated financial statements of Diedrich Coffee, Inc. and its subsidiaries (the
Company) have been prepared in accordance with accounting principles generally accepted in the United States of America, as well as the instructions to Form 10-Q and Article 10 of Regulation S-X. These statements should be read in
conjunction with the consolidated financial statements and the notes thereto included in the Companys Annual Report on Form 10-K for the year ended June 27, 2007.

In the opinion of management, all adjustments (consisting of normal, recurring adjustments and accruals) considered necessary for a fair presentation
have been included. Operating results for interim periods are not necessarily indicative of the results expected for a full year.

Discontinued Operations

During the year ended June 27, 2007, the Company transferred leaseholds and related assets of
32 stores to Starbucks Corporation and seven stores to other third parties.

In accordance with Statement of Financial Accounting Standards
(SFAS) 144, Accounting for the Impairment or Disposal of Long-Lived Assets(SFAS 144), the financial results of the retail operations that were sold or closed are reported as discontinued operations for all
periods presented.

The following accounts are reflected in loss from discontinued operations in the condensed consolidated statements of
operations:



| |  |  | Retail revenues for Diedrich Coffee, Inc. and Coffee People, Inc.
| | - |  | -----------------------------------------------------------------



| |  |  | Cost of sales and related occupancy costs
| | - |  | -----------------------------------------



| |  |  | Operating expenses
| | - |  | ------------------



| |  |  | Depreciation and amortization
| | - |  | -----------------------------



| |  |  | General and administrative expenses
| | - |  | -----------------------------------



| |  |  | Interest expense
| | - |  | ----------------



| |  |  | Provision for taxes paid
| | - |  | ------------------------



| |  |  | Impairment of assets
| | - |  | --------------------



| |  |  | Employee termination costs
| | - |  | --------------------------



| |  |  | Operating lease termination costs
| | - |  | ---------------------------------

Liabilities of discontinued operations in the condensed consolidated balance sheets include accrued provision for store closure related to retail stores under the Diedrich Coffee and Coffee People brands.

Recent Accounting Pronouncements

In
July 2006, the Financial Accounting Standards Board issued Interpretation No. 48, Accounting for Uncertainty in Income TaxesAn Interpretation of FASB Statement No. 109 (FIN 48). FIN 48 prescribes a
recognition threshold and measurement methodology to recognize and measure an income tax position taken, or expected to be taken, in a tax return. The evaluation of a tax position is based on a two-step approach. The first step requires an entity to
evaluate whether the tax position would more likely than not be sustained upon examination by the appropriate taxing authority. The second step requires the tax position be measured at the largest amount of tax benefit that is greater
than 50 percent likely of being realized upon ultimate settlement. In addition, previously recognized benefits from tax positions that no longer meet the new criteria would be derecognized. The cumulative effect of applying the provisions of FIN 48
will be reported as an adjustment to the opening balance of retained earnings in the period of adoption. FIN 48 is effective for fiscal years beginning after December 15, 2006. We adopted FIN 48 on June 28, 2007.



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##### Table of Contents

Upon adoption of FIN 48, we analyzed our filing positions for all open tax years in all U.S. federal and
state jurisdictions where we are required to file. At the adoption date of June 28, 2007, we had $200,000 of unrecognized tax benefits. We recorded a cumulative effect adjustment related to the adoption of FIN 48 of approximately $245,000
including interest and penalties, which was accounted for as an adjustment to the beginning balance of accumulated deficit on the condensed consolidated balance sheet. The $200,000 of unrecognized tax benefits, if ultimately recognized, would reduce
the Companys annual effective tax rate. There were no significant changes in unrecognized tax benefits for the quarter ended September 19, 2007.

We file income tax returns in the U.S. federal jurisdiction and various state jurisdictions. In general, we are no longer subject to U.S. federal tax examinations for tax years ended prior to 1999 and for state tax
examinations for tax years ended prior to 2003. We do not believe there will be any material changes in our unrecognized tax positions over the next 12 months.

Our policy is to recognize interest and penalties accrued on any unrecognized tax benefits as a component of income tax expense. As of the date of adoption of FIN 48, the gross amount of interest and penalties
included in the $245,000 of unrecognized tax benefits noted above is approximately $45,000. For the quarter ended September 19, 2007, there was no significant change in accrued interest and penalties related to unrecognized tax benefits.

In September 2006, the FASB issued Statement on Financial Accounting Standards No. 157 Fair Value Measurements
(SFAS 157). SFAS 157 clarifies the definition of fair value for financial reporting, establishes a framework for measuring fair value and requires additional disclosures about the use of fair value measurements. SFAS 157 is effective for
financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. The Company has not yet determined the impact, if any, of adopting SFAS 157 on its consolidated financial statements.

In February 2007, the FASB issued Statement on Financial Accounting Standards No. 159 The Fair Value Option for Financial
Assets and Financial Liabilities (SFAS 159). SFAS 159 permits companies to make a one-time election to carry eligible types of financial assets and liabilities at fair value, even if fair value measurement is not required under
U.S. GAAP. SFAS 159 is effective for fiscal years beginning after November 15, 2007. The Company has not yet determined the impact, if any, of adopting SFAS 159 on its consolidated financial statements.

Income Taxes

The Company accounts
for income taxes under SFAS No. 109, Accounting for Income Taxes (SFAS 109). This statement requires the recognition of deferred tax assets and liabilities for the future consequences of events that have been
recognized in the Companys financial statements or tax returns. The measurement of the deferred items is based on enacted tax laws. In the event the future consequences of differences between financial reporting bases and the tax bases of the
Companys assets and liabilities result in a deferred tax asset, SFAS 109 requires an evaluation of the probability of being able to realize the future benefits indicated by such asset. A valuation allowance related to a deferred tax asset is
recorded when it is more likely than not that some portion or all of the deferred tax asset will not be realized.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could materially differ from those estimates.

Stock-Based Compensation

On October 20, 2000, the Companys board of directors authorized the adoption of the Diedrich Coffee, Inc. 2000 Equity
Incentive Plan (the 2000 Equity Incentive Plan) and the concurrent discontinuation of option grants under the Diedrich Coffee, Inc. Amended and Restated 1996 Stock Incentive Plan and the Diedrich Coffee, Inc. 1996 Non-Employee Directors
Stock Option Plan. The Companys stockholders approved the 2000 Equity Incentive Plan on October 16, 2000. A total of 1,087,500 shares of the Companys common stock may be issued under the 2000 Equity Incentive Plan, as amended. The
board of directors determines the number of shares, terms and exercise periods for awards under the 2000 Equity Incentive Plan on a case by case basis, except for automatic annual grants of options to non-employee directors. Options generally vest
ratably over three years and expire ten years from the date of grant. The exercise price of options is generally equivalent to the fair market value of the Companys common stock on the date of grant.



5



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On June 30, 2005, the Company adopted the provisions of SFAS 123R, Share-Based
Payment (SFAS 123R). SFAS 123R sets accounting requirements for share-based compensation to employees and non-employee directors, including employee stock purchase plans, and requires companies to recognize in
the statement of operations the grant-date fair value of stock options and other equity-based compensation.

The Company chose the
modified-prospective transition alternative in adopting SFAS 123R. Under the modified-prospective transition method, compensation cost is recognized in financial statements issued subsequent to the date of adoption for all stock-based payments
granted, modified or settled after the date of adoption, as well as for any unvested awards that were granted prior to the date of adoption. Because the Company previously adopted only the pro forma disclosure provisions of SFAS 123,
Accounting for Stock-Based Compensation (SFAS 123), it will recognize compensation cost relating to the unvested portion of awards granted prior to the date of adoption using the same estimate of the grant-date fair
value and the same attribution method used to determine the pro forma disclosures under SFAS 123, except that forfeitures rate will be estimated for all options, as required by SFAS 123R.

The fair value of each option award is estimated on the date of grant using a Black-Scholes option valuation model that uses the assumptions noted in the
following table. Expected volatility is based on the historical volatility of the price of the Companys stock. The Company uses historical data to estimate option exercise and employee termination rates within the valuation model. The expected
term of options is derived from the output of the option valuation model and represents the period of time that options are expected to be outstanding. The risk-free rate for periods within the contractual life of the option is based on the U.S.
Treasury yield curve in effect at the time of grant. The fair values of the options were estimated using the Black-Scholes option-pricing model based on the following assumptions:



|                        |  |                    |   |  |                   |  
|----------------------- |  | ------------------ | - |  | ----------------- | -
|                        |  | TWELVE WEEKS ENDED |  
|                        |  | September 19,2007  |   |  | September 20,2006 |  
|Risk free interest rate |  | 4.91               | % |  | 5.29              | %
|Expected life           |  | 2 years            |   |  | 2 years           |  
|Expected volatility     |  | 63                 | % |  | 55                | %
|Expected dividend yield |  | 0                  | % |  | 0                 | %
|Forfeiture rate         |  | 5.45               | % |  | 5.02              | %

A summary of option activity under our stock option plans for the twelve weeks ended
September 19, 2007 is as follows:



|                                          |  |                  |   |  |                               |      |                                                 |     |                             |   |       
|----------------------------------------- |  | ---------------- | - |  | ----------------------------- | ---- | ----------------------------------------------- | --- | --------------------------- | - | ------
|                                          |  | Number ofoptions |   |  | Weightedaverage exerciseprice |      | Weightedaverageremainingcontractual term(years) |     | Aggregateintrinsic Value($)
|Options outstanding at June 27, 2007      |  | 555,000          |   |  | $                             | 4.76 |                                                 |     |                             |   |       
|Less:                                     |  |                  |   |  |                               |      |                                                 |     |                             |   |       
|Options canceled or expired               |  | (84,000          | ) |  |                               | 6.37 |                                                 |     |                             |   |       
|                                          |  |                  |   |  |                               |      |                                                 |     |                             |   |       
|Options outstanding at September 19, 2007 |  | 471,000          |   |  |                               | 4.48 |                                                 | 5.6 |                             | $ | 32,000
|                                          |  |                  |   |  |                               |      |                                                 |     |                             |   |       
|Options exercisable at September 19, 2007 |  | 341,000          |   |  | $                             | 4.64 |                                                 | 4.7 |                             | $ | 27,000
|                                          |  |                  |   |  |                               |      |                                                 |     |                             |   |       

Stock-based compensation expense included in the statement of operations for the twelve weeks
ended September 19, 2007 was approximately $52,000 and for the twelve weeks ended September 20, 2006 was approximately $67,000. As of September 19, 2007, there was approximately $81,000 of total unrecognized stock-based compensation
cost related to options granted under our plans that will be recognized over a weighted average period of 0.6 years. No options were exercised or granted in the twelve weeks ended September 19, 2007. Approximately 62,000 options vested during
the twelve weeks ended September 19, 2007.

Cash Surrender Value of Life Insurance

The change in the cash surrender value (CSV) of company owned life insurance (COLI) contracts, net of insurance premiums paid and
gains realized, is reported in compensation and benefits expense. See Note 11.

Reclassifications

Certain reclassifications have been made to the September 20, 2006 unaudited condensed consolidated financial statements to conform to the
September 19, 2007 presentation.



|2. | ACCOUNTS RECEIVABLE
|-- | -------------------



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During the quarter ended September 19, 2007, the Company provided for $204,000 of additional
allowance for doubtful accounts of which $116,000 resulted from charges for franchise rent and related receivables with the balance of $88,000 from wholesale accounts. No amounts were written off during the twelve weeks ended September 19,
2007.

The following table details the components of net accounts receivable:



|                                              |  |                    |           |   |               |   |           |  
|--------------------------------------------- |  | ------------------ | --------- | - | ------------- | - | --------- | -
|                                              |  | September 19, 2007 |           |   | June 27, 2007 |  
|Wholesale receivables                         |  | $                  | 3,724,000 |   |               | $ | 3,591,000 |  
|Allowance for wholesale receivables           |  |                    | (163,000  | ) |               |   | (79,000   | )
|                                              |  |                    |           |   |               |   |           |  
|                                              |  |                    | 3,561,000 |   |               |   | 3,512,000 |  
|                                              |  |                    |           |   |               |   |           |  
|Franchise and other receivables               |  |                    | 683,000   |   |               |   | 641,000   |  
|Allowance for franchise and other receivables |  |                    | (204,000  | ) |               |   | (84,000   | )
|                                              |  |                    |           |   |               |   |           |  
|                                              |  |                    | 479,000   |   |               |   | 557,000   |  
|                                              |  |                    |           |   |               |   |           |  
|Total accounts receivable, net                |  | $                  | 4,040,000 |   |               | $ | 4,069,000 |  
|                                              |  |                    |           |   |               |   |           |  



|3. | INVENTORIES
|-- | -----------

Inventories consist of the following:



|                                  |  |                    |           |               |   |          
|--------------------------------- |  | ------------------ | --------- | ------------- | - | ---------
|                                  |  | September 19, 2007 |           | June 27, 2007
|Unroasted coffee                  |  | $                  | 2,278,000 |               | $ | 2,101,000
|Roasted coffee                    |  |                    | 910,000   |               |   | 962,000  
|Accessory and specialty items     |  |                    | 109,000   |               |   | 99,000   
|Other food, beverage and supplies |  |                    | 1,083,000 |               |   | 1,161,000
|                                  |  |                    |           |               |   |          
|Total inventory                   |  | $                  | 4,380,000 |               | $ | 4,323,000
|                                  |  |                    |           |               |   |          



|4. | NOTES RECEIVABLE
|-- | ----------------

Notes receivable consist of the
following:



|                                                                                                                                                                                                                                                                                                                                    |  |                    |            |   |               |   |            |  
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------ | ---------- | - | ------------- | - | ---------- | -
|                                                                                                                                                                                                                                                                                                                                    |  | September 19, 2007 |            |   | June 27, 2007 |  
|Notes receivable bearing interest at rates from 0% to 8.0%, payable in monthly installments varying between $115 and $3,869 and due on various
dates through August 2016. Notes are secured by the assets sold under the asset purchase and sale agreements or general security agreement. Amounts are net of a $138,000 allowance. |  | $                  | 179,000    |   |               | $ | 164,000    |  
|Notes receivable from a corporation discounted at an annual rate of 8.0%, payable annually in installments varying between $1,000,000 and
$2,000,000, due between January 31, 2008 and January 31, 2011.                                                                                                                            |  |                    | 3,829,000  |   |               |   | 4,253,000  |  
|Less: current portion of notes receivable                                                                                                                                                                                                                                                                                           |  |                    | (1,047,000 | ) |               |   | (1,031,000 | )
|                                                                                                                                                                                                                                                                                                                                    |  |                    |            |   |               |   |            |  
|Long-term portion of notes receivable                                                                                                                                                                                                                                                                                               |  | $                  | 2,961,000  |   |               | $ | 3,386,000  |  
|                                                                                                                                                                                                                                                                                                                                    |  |                    |            |   |               |   |            |  



|5. | ACCRUED PROVISION FOR STORE CLOSURE
|-- | -----------------------------------

As required by SFAS
146, Accounting for Costs Associated with Exit or Disposal Activities(SFAS 146), the Company records estimated costs for store closures when they are incurred rather than at the date of a commitment to an exit or
disposal plan. These costs primarily consist of the estimated cost to terminate real estate leases.



7



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The following table details the components of accrued provision for store closure:



|                                      |  |                   |         |                            |   |             |  |               |       |  |                |          |   |  |   |          
|------------------------------------- |  | ----------------- | ------- | -------------------------- | - | ----------- |  | ------------- | ----- |  | -------------- | -------- | - |  | - | ---------
|                                      |  | Beginning Balance |         | Amounts Charged to Expense |   | Adjustments |  | Cash Payments |       |  | Ending Balance
|Fiscal Year ended June 27, 2007       |  | $                 | 401,000 |                            | $ | 1,051,000   |  | $             |      |  | $              | (641,000 | ) |  | $ | 811,000  
|Twelve Weeks ended September 19, 2007 |  | $                 | 811,000 |                            | $ | 227,000     |  | $             | 9,000 |  | $              | (32,000  | ) |  | $ | 1,015,000

Of the $811,000 reserve balance for store closures at June 27, 2007, $686,000 and $125,000
are reserved for continuing operations and discontinued operations, respectively. For the twelve weeks ended September 19, 2007, $227,000 was charged to costs of sales and related occupancy costs. Of the $1,015,000 reserve balance for store
closures at September 19, 2007, $908,000 and $107,000 are reserved for continuing operations and discontinued operations, respectively.



|6. | EARNINGS PER SHARE
|-- | ------------------

The following table sets forth the
computation of basic and diluted net loss per share from continuing operations:



|                                          |  |                                       |            |   |                                       |   |            |  
|----------------------------------------- |  | ------------------------------------- | ---------- | - | ------------------------------------- | - | ---------- | -
|                                          |  | Twelve Weeks Ended September 19, 2007 |            |   | Twelve Weeks Ended September 20, 2006 |  
|Numerator:                                |  |                                       |            |   |                                       |   |            |  
|Loss from continuing operations           |  | $                                     | (1,037,000 | ) |                                       | $ | (1,220,000 | )
|                                          |  |                                       |            |   |                                       |   |            |  
|Denominator:                              |  |                                       |            |   |                                       |   |            |  
|Basic weighted average shares outstanding |  |                                       | 5,448,000  |   |                                       |   | 5,308,000  |  
|Effect of dilutive securities             |  |                                       |           |   |                                       |   |           |  
|                                          |  |                                       |            |   |                                       |   |            |  
|Diluted adjusted weighted average shares  |  |                                       | 5,448,000  |   |                                       |   | 5,308,000  |  
|                                          |  |                                       |            |   |                                       |   |            |  
|Basic and diluted net loss per share      |  | $                                     | (0.19      | ) |                                       | $ | (0.23      | )
|                                          |  |                                       |            |   |                                       |   |            |  

For the quarters ended September 19, 2007 and September 20, 2006, employee stock options
of approximately 471,000, and 560,000, respectively, and warrants of 500,000 for each year, were excluded from the computation of diluted earnings per share as their impact would have been anti-dilutive. Approximately 1,275,000 stock purchase
warrants outstanding at September 19, 2007 and approximately 733,000 stock purchase warrants outstanding at September 20, 2006, pursuant to terms of the Contingent Convertible Note Purchase Agreement (as discussed in Note 9) were excluded
from the computation of diluted earnings per share as their impact would have been anti-dilutive.

The following table sets forth the
computation of basic and diluted net loss per share:



|                                          |  |                                      |           |   |                                      |   |            |  
|----------------------------------------- |  | ------------------------------------ | --------- | - | ------------------------------------ | - | ---------- | -
|                                          |  | Twelve Weeks Ended September 19,2007 |           |   | Twelve Weeks Ended September 20,2006 |  
|Numerator:                                |  |                                      |           |   |                                      |   |            |  
|Net loss                                  |  | $                                    | (270,000  | ) |                                      | $ | (1,646,000 | )
|                                          |  |                                      |           |   |                                      |   |            |  
|Denominator:                              |  |                                      |           |   |                                      |   |            |  
|Basic weighted average shares outstanding |  |                                      | 5,448,000 |   |                                      |   | 5,308,000  |  
|Effect of dilutive securities             |  |                                      |          |   |                                      |   |           |  
|                                          |  |                                      |           |   |                                      |   |            |  
|Diluted adjusted weighted average shares  |  |                                      | 5,448,000 |   |                                      |   | 5,308,000  |  
|                                          |  |                                      |           |   |                                      |   |            |  
|Basic and diluted net loss per share      |  | $                                    | (0.05     | ) |                                      | $ | (0.31      | )
|                                          |  |                                      |           |   |                                      |   |            |  



|7. | SEGMENT AND RELATED INFORMATION
|-- | -------------------------------

The Company has three
reportable segments: wholesale operations, franchise operations and retail operations. The Company evaluates performance of its operating segments based on income before provision for asset impairment and restructuring costs, income taxes, interest
expense, depreciation and amortization, and general and administrative expenses.

Summarized financial information concerning the
Companys reportable segments is shown in the following tables. Corporate identifiable assets consist of corporate cash, corporate notes receivable, corporate prepaid expenses, and corporate property and equipment. The corporate component of
segment loss before tax includes corporate general and administrative expenses, depreciation and amortization expense, interest income and interest expense.



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|                                    |  |                    |           |                    |   |          
|----------------------------------- |  | ------------------ | --------- | ------------------ | - | ---------
|                                    |  | TWELVE WEEKS ENDED
|                                    |  | September 19, 2007 |           | September 20, 2006
|Revenue:                            |  |                    |           |                    |   |          
|Wholesale                           |  | $                  | 6,464,000 |                    | $ | 5,120,000
|Franchise                           |  |                    | 629,000   |                    |   | 768,000  
|Retail                              |  |                    | 1,067,000 |                    |   | 944,000  
|                                    |  |                    |           |                    |   |          
|Total revenue                       |  | $                  | 8,160,000 |                    | $ | 6,832,000
|                                    |  |                    |           |                    |   |          
|Interest expense:                   |  |                    |           |                    |   |          
|Wholesale                           |  | $                  |          |                    | $ |         
|Franchise                           |  |                    |          |                    |   |         
|Corporate                           |  |                    | 11,000    |                    |   | 26,000   
|                                    |  |                    |           |                    |   |          
|Total interest expense              |  | $                  | 11,000    |                    | $ | 26,000   
|                                    |  |                    |           |                    |   |          
|Depreciation and amortization:      |  |                    |           |                    |   |          
|Wholesale                           |  | $                  | 145,000   |                    | $ | 111,000  
|Retail                              |  |                    | 29,000    |                    |   | 79,000   
|Corporate                           |  |                    | 78,000    |                    |   | 69,000   
|                                    |  |                    |           |                    |   |          
|Total depreciation and amortization |  | $                  | 252,000   |                    | $ | 259,000  
|                                    |  |                    |           |                    |   |          



|                                                                            |  |                    |            |   |                    |   |            |  
|--------------------------------------------------------------------------- |  | ------------------ | ---------- | - | ------------------ | - | ---------- | -
|                                                                            |  | TWELVE WEEKS ENDED |           
|                                                                            |  | September 19, 2007 |            |   | September 20, 2006 |  
|Segment income (loss) from continuing operations before income tax benefit: |  |                    |            |   |                    |   |            |  
|Wholesale                                                                   |  | $                  | 162,000    |   |                    | $ | 596,000    |  
|Franchise                                                                   |  |                    | (390,000   | ) |                    |   | (121,000   | )
|Retail                                                                      |  |                    | 11,000     |   |                    |   | (32,000    | )
|Corporate                                                                   |  |                    | (1,360,000 | ) |                    |   | (1,663,000 | )
|                                                                            |  |                    |            |   |                    |   |            |  
|Total segment loss from continuing operations before income tax provision   |  | $                  | (1,577,000 | ) |                    | $ | (1,220,000 | )
|                                                                            |  |                    |            |   |                    |   |            |  
|                                                                            |  |                   
|                                                                            |  | September 19, 2007 |            |   | June 27, 2007      |  
|Identifiable assets:                                                        |  |                    |            |   |                    |   |            |  
|Wholesale                                                                   |  | $                  | 11,513,000 |   |                    | $ | 10,711,000 |  
|Franchise                                                                   |  |                    | 1,347,000  |   |                    |   | 1,300,000  |  
|Retail                                                                      |  |                    | 593,000    |   |                    |   | 418,000    |  
|Corporate                                                                   |  |                    | 11,669,000 |   |                    |   | 14,072,000 |  
|                                                                            |  |                    |            |   |                    |   |            |  
|Tangible assets                                                             |  |                    | 25,122,000 |   |                    |   | 26,501,000 |  
|Goodwill  Wholesale                                                        |  |                    | 6,311,000  |   |                    |   | 6,311,000  |  
|Goodwill  Franchise                                                        |  |                    | 521,000    |   |                    |   | 521,000    |  
|                                                                            |  |                    |            |   |                    |   |            |  
|Total assets                                                                |  | $                  | 31,954,000 |   |                    | $ | 33,333,000 |  
|                                                                            |  |                    |            |   |                    |   |            |  



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##### Table of Contents

|8. | LEASE CONTINGENCIES
|-- | -------------------

The Company is liable on the master
real property leases for 62 Gloria Jeans franchise locations. Under the Companys historical franchising business model, the Company executed the master lease for these locations and entered into subleases on the same terms with its
franchisees, which typically pay their rent directly to the landlords. Should any of these franchisees default on their subleases, the Company would be required to make all payments under the master lease. The Companys maximum theoretical
future exposure at September 19, 2007, computed as the sum of all remaining lease payments through the expiration dates of the respective leases, was $16,657,000. This amount does not take into consideration any mitigating measures that the
Company could take to reduce this exposure in the event of default, including re-leasing the location or terminating the master lease by negotiating a lump sum payment to the landlord in an amount that is less than the sum of all remaining future
rents.



|9. | OUTSTANDING FINANCING ARRANGEMENTS AND RESTRICTED CASH
|-- | ------------------------------------------------------

On
May 10, 2004 the Company entered into a $5,000,000 Contingent Convertible Note Purchase Agreement. The agreement provides for the Company to, at its election, issue notes with up to an aggregate principal amount of $5,000,000. The notes are to
be amortized on a monthly basis at a rate that will repay 60% of the principal amount of the note by June 30, 2008. The remaining 40% will mature on that date. Interest is payable at three-month LIBOR plus 5.30%, and a facility fee of 1.00%
annually is payable on the unused portion of the facility. The agreement contains covenants that limit the amount of indebtedness that the Company may have outstanding in relation to its tangible net worth. As of September 19, 2007, the Company
was in compliance with all the covenants in the agreement. Notes are convertible into common stock only upon certain changes of control. For notes issued and repaid, warrants to purchase shares are to be issued with the same rights and restrictions
for exercise as existed for convertibility of the notes at the time of their issuance. Warrants are exercisable only in the event of a change of control and expire on June 30, 2010. The fair value of warrants issued with respect to notes repaid
will be recorded as a discount to debt, at the date of issuance, which will then be amortized using the effective interest method. Warrants to purchase common stock of the Company will be issued only upon a change in control of the Company. The
lender under this agreement is a limited partnership of which the chairman of the Companys board of directors serves as the sole general partner. A total of 1,270,738 warrants are issuable upon a change in control for previous debt repayments
under this facility. The Company has issued 4,219 warrants as of September 19, 2007. As of September 19, 2007, the Company had no amounts outstanding under the facility and $5,000,000 available for borrowing.

On June 30, 2004, the Company entered into Amendment No. 1 to Contingent Convertible Note Purchase Agreement (Amendment No. 1)
which revised the definition of Availability to mean, on any date, the loan amount less the sum of the principal amounts then outstanding under the Note Purchase Agreement. Under the original Note Purchase Agreement, availability was
calculated using a formula that reduced availability over time.



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##### Table of Contents

On November 4, 2005, the Company entered into a new Credit Agreement with Bank of the West. The
agreement provides for a $750,000 letter of credit facility that expires on October 15, 2008. The letter of credit facility is secured by a deposit account at Bank of the West. As of September 19, 2007, this deposit account had a balance
of $675,000, which is shown as restricted cash on the condensed consolidated balance sheets. As of September 19, 2007, $472,000 of letters of credit was outstanding under the letter of credit facility. The agreement contains covenants that,
among other matters, require the Company to submit financial statements to the bank within specified time periods. As of September 19, 2007, the Company was in compliance with all Bank of the West agreement covenants.

On March 31, 2006, the Company entered into Amendment No. 2 to Contingent Convertible Note Purchase Agreement (Amendment
No. 2). Amendment No. 2: (i) contains a waiver with respect to the default of the Minimum EBITDA Covenant as of March 8, 2006 and removes the Minimum EBITDA from the Note Purchase Agreement; (ii) clarifies that
warrants to purchase common stock of the Company will be issued with respect to repaid principal amounts only upon a change in control of the Company; (iii) increases the interest rate applicable to outstanding amounts under the credit facility
by 2%, to LIBOR plus 5.30%; and (iv) extended the exercise date of all warrants issued or to be issued under the Note Purchase Agreement by one year, to May 10, 2009, which was subsequently extended as discussed below. The maturity date
for any notes issued in the future was unaffected by Amendment No. 2. As of September 19, 2007, the Company was in compliance with all agreement covenants as amended by Amendment No 2.

On September 22, 2006, the Company entered into Amendment No. 3 to Contingent Convertible Note Purchase Agreement (Amendment
No. 3). Amendment No. 3 (i) changes the date specified in the definition of Maturity Date from May 10, 2007 to June 30, 2008; (ii) adjusts the calculation of monthly payments to reflect the extended
maturity date; (iii) removes a condition precedent to each loan that previously required there to be no material adverse effect or event reasonably likely to result in a material adverse effect before the obligation of the lender to purchase
any note arose; (iv) amends the events of default so that an event that has, or is reasonably likely to have, a material adverse effect will not be considered such an event of default; (v) amends the notice requirements so that the Company
is not required to give notice to the lender of any event that is reasonably likely to have a material adverse effect; and (vi) extends the exercise date of all warrants issued or to be issued under the Note Purchase Agreement to June 30,
2010.



|10. | DISCONTINUED OPERATIONS
|--- | -----------------------

The Companys strategic
direction is to focus on growing the wholesale business segment and the related distribution channels, including franchise stores.

During
the year ended June 27, 2007, the Company transferred leaseholds and related assets of 32 stores to Starbucks Corporation and seven stores to other third parties.

As part of the asset purchase agreement with Starbucks Corporation, the Company agreed to a non-compete provision that for three years after the closing of the transaction, restricts the Companys ability to
operate or have any interest in the ownership or operation of any entity operating any retail specialty coffee stores in any city where a Company Store was located at the time that the asset purchase agreement was executed. The non-compete provision
applies only to stores opened after the date of the asset purchase agreement and does not apply to (1) any retail stores operated under the Gloria Jeans brand name, (2) wholesale sales to retail businesses that are not
operated by the Company, or other non-retail businesses, or (3) the conversion of Company-operated stores existing on the date of the asset purchase agreement to franchise stores. The Company has also agreed that it will not solicit any
Starbucks Corporation employee to enter the Companys employment for three years after the closing of the transaction.



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In accordance with SFAS 144, the financial results of the retail operations that were sold or closed are
reported as discontinued operations for all periods presented.

The financial results included in discontinued operations were as follows:



|                                                                        |  |                    |         |                    |   |           |  
|----------------------------------------------------------------------- |  | ------------------ | ------- | ------------------ | - | --------- | -
|                                                                        |  | TWELVE WEEKS ENDED |        
|                                                                        |  | September 19, 2007 |         | September 20, 2006 |  
|Net revenue                                                             |  | $                  |        |                    | $ | 6,573,000 |  
|                                                                        |  |                    |         |                    |   |           |  
|Loss from discontinued operations, net of tax expense of $0             |  |                    |        |                    |   | (426,000  | )
|Gain on sale of discontinued operations, net of tax expense of $507,000 |  |                    | 767,000 |                    |   |          |  
|                                                                        |  |                    |         |                    |   |           |  
|Income (loss) from discontinued operations, net                         |  | $                  | 767,000 |                    | $ | (426,000  | )
|                                                                        |  |                    |         |                    |   |           |  



|11. | EMPLOYEE BENEFITS
|--- | -----------------

401(k) Plan

The Company maintains a 401(k) Salary Deferral Plan (the 401(k) Plan) for eligible employees. Employer matching contributions relating to the
401(k) Plan totaled $7,000 and $13,000 for the twelve weeks ended September 19, 2007 and September 20, 2006, respectively.

Deferred Compensation Plan

Effective December 15, 2005, the Company amended its non-qualified deferred compensation
plan. Under the amended plan, plan participants may elect to defer, on a pre-tax basis, a portion (from 0% to 100%) of their base salary, service bonus, and performance-based compensation. Any amounts deferred by a plan participant will be credited
to the plan participants deferred compensation account. The plan further provides that the Company may make discretionary contributions to a plan participants deferred compensation account. Each plan participant will be vested in the
amounts held in the plan participants deferred compensation account as follows: (i) one hundred percent (100%) vested at all times with respect to all amounts of deferred compensation; and (ii) one hundred percent
(100%) vested at all times with respect to all employer discretionary contributions. The Company made no discretionary contributions to plan participants accounts for the twelve weeks ended September 19, 2007 and September 20,
2006.

The plan also provides that any amounts deferred under the plan may not be distributed to a plan participant until the earlier of:
(i) the plan participants separation from service with the Company; (ii) the Plan participants retirement from the Company; (iii) the plan participants disability; (iv) the plan participants death;
(v) the occurrence of a change in control of the Company; (vi) the occurrence of an unforeseeable emergency, as defined in the plan; or (vii) such other date as set forth in the plan participants deferral election, including a
date that occurs prior to the plan participants separation from service with the Company. Any amounts distributed to a plan participant will be paid in a form specified by the plan participant, or in the form of either a lump sum payment in an
amount equal to the plan participants deferred compensation account balance or equal annual installments of the plan participants deferred compensation account balance over a period not to exceed (i) 20 years in the case of a
distribution due to separation from service, death or disability or (ii) five years in the case of a distribution for educational expenses.

The Company has purchased a COLI contract insuring two of the participants in the deferred compensation plan. The policy is held in a trust to provide additional benefit security for the deferred compensation plan. The assets in the trust
are owned by the Company and are subject to claims of its creditors. The gross cash surrender value of these contracts as of September 19, 2007 was $646,000 as shown in the accompanying condensed consolidated balance sheets. Total life
insurance policy death benefits payable was $15,089,000 at September 19, 2007.



|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations.
|------- | --------------------------------------------------------------------------------------

A WARNING ABOUT FORWARD LOOKING STATEMENTS.

We make forward-looking statements
in this quarterly report that are subject to risks and uncertainties. These forward-looking statements include information about possible or assumed future results of our financial condition, operations, plans,



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objectives and performance. Additionally, when we use the words believe, expect, anticipate, estimate or
similar expressions, we are making forward-looking statements. A number of events and factors could affect our future financial results and performance. This could cause our results or performance to differ materially from those expressed in our
forward-looking statements. You should consider these risks when you review this report, along with the following possible events or factors:



| |  |  | the financial and operating performance of our wholesale operations;
| | - |  | --------------------------------------------------------------------



| |  |  | our ability to maintain profitability over time;
| | - |  | ------------------------------------------------



| |  |  | the successful execution of our growth strategies;
| | - |  | --------------------------------------------------



| |  |  | our franchisees adherence to our practices, policies and procedures;
| | - |  | ---------------------------------------------------------------------



| |  |  | the impact of competition; and
| | - |  | ------------------------------



| |  |  | the availability of working capital.
| | - |  | ------------------------------------

Additional risks and uncertainties are described elsewhere in this report and in detail under the caption Risk Factors Relating to Diedrich Coffee and Its Business in our Annual Report on Form 10-K for the fiscal year ended
June 27, 2007 and in other reports that we file with the Securities and Exchange Commission. You are cautioned not to place undue reliance on these forward-looking statements, which reflect managements analysis only as of the date of this
quarterly report. Except as required by law, we undertake no obligation to revise or update any forward-looking statements whether as a result of new information, future events or changed circumstances. Unless otherwise indicated, we,
us, our, and similar terms refer to Diedrich Coffee, Inc. and its subsidiaries.

INTRODUCTION

Managements discussion and analysis of financial condition and results of operations is provided as a supplement to the accompanying unaudited
condensed consolidated financial statements and footnotes to help provide an understanding of our financial condition, the changes in our financial condition and our results of operations. Our discussion is organized as follows:



| |  |  | Overview. This section provides a general description of our business. This section also contains a discussion of trends in our operations and key
performance indicators that we use to evaluate business results.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Results of operations. This section provides an analysis of our results of operations presented in the accompanying unaudited condensed consolidated
statements of operations by comparing the results for the twelve weeks ended September 19, 2007 to the results for the twelve weeks ended September 20, 2006.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Financial condition, liquidity and capital resources. This section provides an analysis of our cash flows and a discussion of our outstanding debt and
commitments, both firm and contingent, that existed as of September 19, 2007. Included in the discussion of outstanding debt is a discussion of our financial capacity to fund our future commitments and a discussion of other financing
arrangements.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Critical accounting estimates. This section contains a discussion of the accounting policies that we believe are important to our financial condition and
results and that require significant judgment and estimates on the part of management in their application. In addition, all of our significant accounting policies are summarized in Note 1 to the accompanying unaudited condensed consolidated
financial statements.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

OVERVIEW

Business

We are a specialty coffee roaster, wholesaler and retailer. Our brands include Diedrich
Coffee, Gloria Jeans, and Coffee People. The majority of our revenue is generated from wholesale customers located across the United States. Our wholesale operation sells a wide variety of whole bean and ground coffee as well as single serve
coffee products through a network of office coffee service (OCS) distributors, chain and independent restaurants, coffeehouses, other hospitality operators and specialty retailers. We operate a large coffee roasting facility in
Castroville, California that supplies freshly roasted coffee to all of our wholesale and retail customers.

We also sell brewed,
espresso-based and various blended beverages primarily made from our own fresh roasted premium coffee beans, as well as light food items, whole bean coffee and accessories, through our company operated and franchised retail locations. The critical
components for each of our retail locations include high quality, fresh roasted coffee and superior customer service by knowledgeable employees. As of September 19, 2007, we owned and operated 7 retail locations and



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franchised 139 other retail locations under the brands described above, for a total of 146 retail coffee outlets. Although the retail specialty coffee
industry is presently dominated by a single company, which operates over ten thousand domestic retail locations, we are one of the nations largest specialty coffee retailers with annual system-wide revenues in excess of $59 million.
System-wide revenues include sales from company operated and franchise locations. Our retail units are located in 30 states.

A table
summarizing the relative sizes of each of our brands, on a unit count basis, and changes in unit count for each brand for fiscal 2007 and fiscal 2008 through the twelve weeks ended September 19, 2007, is set forth below:



|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|---------------------- |  | -------------------- |  | ------ |  | -------------- | - |  | ------------------------------------------------ | - |  | -------------------- |  | ------ |  | ------ | - |  | -------------------------
|                       |  | Units atJune 28,2006 |  | Opened |  | Closed/Sold(A) |   |  | Net transfersbetween theCompany andFranchise (B) |   |  | Units atJune 27,2007 |  | Opened |  | Closed |   |  | Units atSeptember 19,2007
|Gloria Jeans Brand    |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Company Operated       |  | 5                    |  |       |  | (1             | ) |  | 2                                                |   |  | 6                    |  |       |  | (2     | ) |  | 4                        
|Franchise              |  | 139                  |  | 13     |  | (14            | ) |  | (2                                               | ) |  | 136                  |  | 2      |  | (6     | ) |  | 132                      
|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Subtotal Gloria Jeans |  | 144                  |  | 13     |  | (15            | ) |  |                                                 |   |  | 142                  |  | 2      |  | (8     | ) |  | 136                      
|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Diedrich Coffee Brand  |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Company Operated       |  | 26                   |  |       |  | (23            | ) |  |                                                 |   |  | 3                    |  |       |  |       |   |  | 3                        
|Franchise  Domestic   |  | 8                    |  |       |  | (4             | ) |  |                                                 |   |  | 4                    |  |       |  | (1     | ) |  | 3                        
|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Subtotal Diedrich      |  | 34                   |  |       |  | (27            | ) |  |                                                 |   |  | 7                    |  |       |  | (1     | ) |  | 6                        
|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Coffee People Brand    |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Company Operated       |  | 21                   |  |       |  | (18            | ) |  | (3                                               | ) |  |                     |  |       |  |       |   |  |                         
|Franchise  Domestic   |  | 1                    |  |       |  |               |   |  | 3                                                |   |  | 4                    |  |       |  |       |   |  | 4                        
|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Subtotal Coffee People |  | 22                   |  |       |  | (18            | ) |  |                                                 |   |  | 4                    |  |       |  |       |   |  | 4                        
|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          
|Total                  |  | 200                  |  | 13     |  | (60            | ) |  |                                                 |   |  | 153                  |  | 2      |  | (9     | ) |  | 146                      
|                       |  |                      |  |        |  |                |   |  |                                                  |   |  |                      |  |        |  |        |   |  |                          

---

|(A) | During fiscal 2007, the Company transferred 32 retail stores to Starbucks Corporation and seven stores to other third parties.
|--- | ------------------------------------------------------------------------------------------------------------------------------



|(B) | Two Company operated Gloria Jeans and three Company operated Coffee People coffeehouses were transferred to franchisees during fiscal year 2007.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------

Seasonality and Quarterly Results

Our business
experiences some variations in sales from quarter to quarter due to the holiday season and other factors including, but not limited to, general economic trends, competition, marketing programs and the weather. The fall and winter months are
generally the best sales months but our geographic and product line diversity provide for some sales stability in the warmer months when coffee consumption ordinarily decreases. Because of the seasonality of our business, results for any quarter are
not necessarily indicative of the results that may be achieved for the full fiscal year.

RESULTS OF OPERATIONS

Twelve weeks ended September 19, 2007 compared with the twelve weeks ended September 20, 2006

Total Revenue. Total revenue for the twelve weeks ended September 19, 2007 increased by $1,328,000, or 19.4%, to $8,160,000 from
$6,832,000 for the twelve weeks ended September 20, 2006. This result was the net effect of a 26.3% increase in wholesale revenue, a 13.0% increase in retail sales, and an 18.1% decrease in domestic franchise revenue. Each component of total
revenue is discussed below.

Wholesale Revenue. Our wholesale sales for the twelve weeks ended September 19, 2007 increased
by $1,344,000, or 26.3%, to $6,464,000 from $5,120,000 for the twelve weeks ended September 20, 2006. Wholesale sales to OCS and foodservice customers for the twelve weeks ended September 19, 2007 increased by $1,450,000, or 35.7%, to



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$5,516,000 from $4,066,000 for the twelve weeks ended September 20, 2006 led by a 46.6%, or $1,594,000 increase in Keurig K-cup
sales. Sales of roasted coffee to our franchisees decreased $106,000, or 10.0%, for the twelve weeks ended September 19, 2007 as compared to the twelve weeks ended September 20, 2006.

Franchise Revenue. Our franchise revenue consists of initial franchise fees, franchise renewal fees, area development fees, and royalties
received on sales at franchised locations. Franchise revenue decreased by $139,000, or 18.1%, to $629,000 for the twelve weeks ended September 19, 2007 from $768,000 for the twelve weeks ended September 20, 2006. Of the decrease
in domestic franchise revenue, $80,000 of the decrease resulted from a decrease in royalty income and was due to a net decrease in same stores sales of 5.9% for the Gloria Jeans brand in the current quarter compared to the prior year same
quarter. The balance of the decrease of $59,000 was due to fewer new franchise store openings and renewal fees compared to the prior year same quarter.

Retail Sales. Retail sales for the twelve weeks ended September 19, 2007 increased by $123,000, or 13.0%, to $1,067,000 from $944,000 for the prior year period. The increase in sales during the
current quarter was primarily due to an increase in same store sales for Diedrich Coffee company stores of 5.9% and partially offset by a decrease in Gloria Jeans company stores of 7.4% compared to the prior year quarter. Retail sales from our
internet website increased by $85,000, or 41.7%, to $289,000 for the twelve weeks ended September 19, 2007 from $204,000 for the twelve weeks ended September 20, 2006.

Cost of Sales and Related Occupancy Costs. Cost of sales and related occupancy costs for the twelve weeks ended September 19, 2007
increased $1,695,000, or 39.6%, to $5,972,000 from $4,277,000 in the prior year period. As a percentage of total revenue, cost of sales and related occupancy increased from 62.6% for the twelve weeks ended September 20, 2006 to 73.2% in the
current fiscal quarter. Because none of these costs relate to franchise revenue, the most relevant benchmark of these costs is their relationship to total retail and wholesale sales. Using that measure, cost of sales and related occupancy costs
increased as a percentage of total retail and wholesale sales from 70.5% for the twelve weeks ended September 20, 2006 to 79.3% for the twelve weeks ended September 19, 2007. Retail cost of sales increased from 35.7% to 37.4% in the
current fiscal quarter whereas wholesale cost of sales increased from 73.9% to 80.6% of wholesale sales in the current fiscal quarter due to a higher percentage of higher cost Keurig business over the prior year period. Wholesale sales that carry a
higher cost of goods sold than retail sales, also slightly increased as a percentage of the retail and wholesale sales mix from 84.4% to 85.8%. Occupancy costs for the twelve weeks ended September 19, 2007 increased $203,000, to $360,000 from
$157,000 in the prior year period primarily due to an increase in franchise rent expense associated with closed stores.

Operating
Expenses. Total operating expenses for the twelve weeks ended September 19, 2007 increased $311,000 and as a percentage of retail and wholesale sales, increased slightly from 31.7% of retail and wholesale sales to 29.6% for the twelve
weeks ended September 19, 2007. The increase in operating costs primarily resulted from an increase for wholesale of $318,000 resulting in an increase in allowances for doubtful accounts of $110,000, compensation of $66,000, and promotion and
other selling costs of $142,000. Operating costs for retail increased slightly by $57,000 from $449,000 in the prior fiscal quarter to $506,000 in the current year quarter whereas franchise operating costs decreased slightly by $64,000 for the same
period.

Depreciation and Amortization. Depreciation remained relatively flat with a slight decrease of $7,000 to $252,000
for the twelve weeks ended September 19, 2007 as compared to $259,000 for the twelve weeks ended September 20, 2006.

General and Administrative Expenses. Our general and administrative expenses decreased by $217,000, or 13.0%, to $1,455,000 for the twelve weeks ended September 19, 2007 compared to $1,672,000 for the twelve weeks ended
September 20, 2006. As a percentage of total revenue, general and administrative expenses decreased from 24.5% for the twelve weeks ended September 20, 2006 to 17.8% for the twelve weeks ended September 19, 2007 due primarily as a
result of a decrease in compensation costs, outside services and consulting, and other of $203,000, $108,000, and $25,000, respectively, offset by an increase in legal fees of $119,000.

Interest Expense and Other, Net. Interest expense, interest income and other income, net was $173,000 in the twelve weeks ended
September 19, 2007 compared to $65,000 in the twelve weeks ended September 20, 2006. This change was the result of an increase in interest income due to an increase in invested cash compared to the prior year same period.

Income Tax Benefit. We had losses from continuing operations for the twelve weeks ended September 19, 2007 and September 20,
2006. In accordance with SFAS No. 109, Accounting for Income Taxes (SFAS 109), the income tax benefit generated by the loss from continuing operations was $540,000 for the twelve weeks ended September 19,
2007. As of September 19, 2007 net operating loss carryforwards of approximately $8,600,000 and $7,300,000 for federal and state income tax purposes, respectively are available to be utilized against future taxable income for years through
fiscal 2026, subject to annual limitation pertaining to change in ownership rules under the Internal Revenue Code. Based upon the level of



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historical taxable income and projections of future taxable income over the periods which the deferred tax assets are deductible, management believes it is
more likely than not that the Company will not realize the benefits of these deductible differences, and thus has recorded a valuation allowance against the entire deferred tax asset balance.

Results of Discontinued OperationsRetail As a result of the sale and closure of certain retail stores during the
previous fiscal year, the results from this component of our business are presented as discontinued operations for all periods presented in accordance with SFAS 144. During the current fiscal quarter, the Company received proceeds from escrow of
$1,274,000 as part of the transaction with Starbucks in fiscal 2007. For the twelve weeks ended September 19, 2007, gain on sale of discontinued operations was $767,000, net of $507,000 in taxes. Loss from discontinued operations for the twelve
weeks ended September 20, 2006, was $426,000 net of $0 in taxes. The tax expense associated with the discontinued retail operations differed from the statutory federal effective tax rate primarily due to changes in the valuation allowance and
permanently nondeductible goodwill associated with the discontinued operations.

FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES

Current Financial Condition. At September 19, 2007, we had working capital of $7,960,000, long term tax
liabilities, deferred rent and deferred compensation of $1,148,000 and $22,689,000 of stockholders equity, compared to working capital of $8,592,000, total deferred rent and deferred compensation of $684,000 and $23,152,000 of
stockholders equity at June 27, 2007. The decrease in working capital of $632,000 in the current fiscal quarter resulted primarily from losses from continuing operations of $1,037,000 for the twelve weeks ended September 19, 2007.
Available credit under our credit agreements was $5,000,000 as of September 19, 2007 and June 27, 2007.

The accounts receivable
balance of $4,040,000 as of September 19, 2007 is a decrease of $29,000 from the June 27, 2007 balance of $4,069,000. This decrease is due to $204,000 of new reserves for doubtful accounts offset by an increase in our wholesales
receivables of which our wholesale revenue increased over 26% in the current quarter compared to the prior year same quarter. The accounts payable balance of $2,626,000 as of September 19, 2007 is a decrease of $1,188,000 from the June 27,
2007 balance of $3,814,000. This decrease in accounts payable for the current quarter compared to the balance at June 27, 2007, is primarily attributable to the timing of purchases of green coffee and raw materials.

Cash Flows. Net cash used in operating activities for the twelve weeks ended September 19, 2007 totaled $2,953,000 as compared with
$2,097,000 cash used in operating activities for the twelve weeks ended September 20, 2006. The Company has incurred losses from continuing operations of $1,037,000, and $1,220,000 for the twelve weeks ended September 19, 2007 and
September 20, 2006, respectively. Net cash used in continuing operations of $2,935,000 for the twelve weeks ended September 19, 2007 resulted primarily from a decrease in accounts payable and accrued expenses, partially offset by increases
in accounts receivable and inventories, which were primarily attributable to the increased working capital needs due to a more than 26.3% increase in revenue from our wholesale business over the prior year quarter. For the twelve weeks ended
September 20, 2006, cash used in continuing operations was $1,833,000 and was primarily the result of an increase in accounts receivable associated with the increase in wholesale sales and an increase in prepaid expenses related to the
Starbucks transaction.

Net cash provided by investing activities for the twelve weeks ended September 19, 2007 totaled $686,000 as
compared with net cash used of $181,000 for the twelve weeks ended September 20, 2006. During the twelve weeks ended September 19, 2007, a total of $1,096,000 was used to invest in property and equipment primarily related to our
Castroville roasting facility of $643,000, wholesale of $151,000, retail stores of $162,000, and our home office facility $140,000. These expenditures were offset by $513,000 of payments received on notes receivable and $1,274,000 of proceeds from
escrow fund resulting from the sale of retail stores to Starbucks in the prior year. Net cash provided by investing activities of $181,000 for the twelve weeks ended September 20, 2006 was primarily attributable to $568,000 of payments received
on notes receivable offset by $378,000 used to invest in property and equipment.

There were no activities under financing activities for
the twelve weeks ended September 19, 2007 as compared to $1,029,000 of cash provided by financing activities for the twelve weeks ended September 20, 2006. Cash provided by financing activities in the prior year were primarily attributed
to $1,000,000 in borrowings under our contingent convertible note purchase agreement during the twelve weeks ended September 20, 2006.

Outstanding Debt and Financing Arrangements. On May 10, 2004, we entered into a $5,000,000 Contingent Convertible Note Purchase Agreement. The agreement provides for us to, at our election, issue notes with up to an
aggregate



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principal amount of $5,000,000. The notes are to be amortized on a monthly basis at a rate that will repay 60% of the principal amount of the note by
June 30, 2008. The remaining 40% will mature on that date. Interest is payable at three-month LIBOR plus 5.30%, and a facility fee of 1.00% annually is payable on the unused portion of the facility. The agreement contains covenants among others
that limit the amount of indebtedness that we may have outstanding in relation to our tangible net worth. As of September 19, 2007, we were in compliance with all the covenants in the agreement. Notes are convertible into our common stock only
upon certain changes of control. For notes issued and repaid, warrants to purchase shares are to be issued with the same rights and restrictions for exercise as existed for convertibility of the notes at the time of their issuance. Warrants are
exercisable only in the event of a change of control and expire on June 30, 2010. The fair value of warrants issued with respect to notes repaid will be recorded as a discount to debt, at the date of issuance, which will then be amortized using
the effective interest method. Warrants to purchase our common stock will be issued only upon a change in control. The lender under this agreement is a limited partnership of which the chairman of our board of directors serves as the sole general
partner. A total of 1,270,738 warrants are issuable upon a change in control for previous debt repayments under this facility. We have issued 4,219 warrants as of September 19, 2007. As of September 19, 2007, the Company had no amounts
outstanding under the facility and $5,000,000 available for borrowing.

On June 30, 2004, we entered into Amendment No. 1 to
Contingent Convertible Note Purchase Agreement (Amendment No. 1), which revised the definition of Availability to mean, on any date, the loan amount less the sum of the principal amounts then outstanding under the Note
Purchase Agreement. Under the original Note Purchase Agreement, availability was calculated using a formula that reduced availability over time.

On November 4, 2005, we entered into a new Credit Agreement with Bank of the West. The agreement provides for a $750,000 letter of credit facility that expires on October 15, 2008. The letter of credit facility is secured by a
deposit account at Bank of the West. As of September 19, 2007, this deposit account had a balance of $675,000, which is shown as restricted cash on the consolidated balance sheets. As of September 19, 2007, $472,000 of letters of credit
was outstanding under the letter of credit facility. The agreement contains covenants that, among other matters, require us to submit financial statements to the bank within specified time periods. As of September 19, 2007, the Company was in
compliance with all Bank of the West agreement covenants.

On March 31, 2006, we entered into Amendment No. 2 to Contingent
Convertible Note Purchase Agreement (Amendment No. 2). Amendment No. 2: (i) contains a waiver with respect to the default of the Minimum EBITDA Covenant as of March 8, 2006 and removes the Minimum EBITDA from the Note
Purchase Agreement; (ii) clarifies that warrants to purchase our common stock will be issued with respect to repaid principal amounts only upon a change in control; (iii) increases the interest rate applicable to outstanding amounts under
the credit facility by 2%, to LIBOR plus 5.30%; and (iv) extended the exercise date of all warrants issued or to be issued under the Note Purchase Agreement by one year, to May 10, 2009 which was subsequently extended as discussed below.
The maturity date for any notes issued in the future was unaffected by Amendment No. 2. As of September 19, 2007, the Company was in compliance with all agreement covenants as amended by Amendment No. 2.

On September 22, 2006, we entered into Amendment No. 3 to Contingent Convertible Note Purchase Agreement (Amendment No. 3).
Amendment No. 3 (i) changes the date specified in the definition of Maturity Date from May 10, 2007 to June 30, 2008; (ii) adjusts the calculation of monthly payments to reflect the extended maturity date;
(iii) removes a condition precedent to each loan that previously required there to be no material adverse effect or event reasonably likely to result in a material adverse effect before the obligation of the lender to purchase any note arose;
(iv) amends the events of default so that an event that has, or is reasonably likely to have, a material adverse effect will not be considered such an event of default; (v) amends the notice requirements so that the Company is not required
to give notice to the lender of any event that is reasonably likely to have a material adverse effect; and (vi) extends the exercise date of all warrants issued or to be issued under the Note Purchase Agreement to June 30, 2010.

Based on the terms of our credit agreements, as amended, cash received from the sale of Diedrich and Coffee People retail locations, the
focus on growing the wholesale and franchise business segments, the status of our balance sheet and the overall business outlook for us and the specialty coffee market, our management believes that current cash balance, cash from ongoing operations,
and funds available to us from our current credit agreements will be sufficient to satisfy our working capital needs at the anticipated operating levels for at least the next twelve months. Our future capital requirements will depend on many
factors, including the extent and timing of the rate at which our business grows, if at all, with corresponding demands for working capital. We may be required to seek additional funding through either debt financing, or equity financing or a
combination of funding methods to meet our capital requirements and sustain our operations. However, additional funds may not be available on terms acceptable to us or at all.



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Other Commitments. The following represents a comprehensive list of our contractual
obligations and commitments as of September 19, 2007:



|                                                             |  |                        |        |                  |   |           |  |           |       |                   |   |       |  |   |      
|------------------------------------------------------------ |  | ---------------------- | ------ | ---------------- | - | --------- |  | --------- | ----- | ----------------- | - | ----- |  | - | -----
|                                                             |  | Payments Due By Period
|                                                             |  | Total                  |        | Less than 1 year |   | 1-3 years |  | 3-5 years |       | More than 5 years
|                                                             |  | (In thousands)        
|Company operated retail locations and other operating leases |  | $                      | 7,407  |                  | $ | 1,418     |  | $         | 2,499 |                   | $ | 1,468 |  | $ | 2,022
|Franchise operated retail locations operating leases         |  |                        | 16,657 |                  |   | 3,299     |  |           | 5,248 |                   |   | 3,900 |  |   | 4,210
|Green coffee commitments                                     |  |                        | 1,648  |                  |   | 1,454     |  |           | 194   |                   |   |      |  |   |     
|                                                             |  |                        |        |                  |   |           |  |           |       |                   |   |       |  |   |      
|                                                             |  | $                      | 25,712 |                  | $ | 6,171     |  | $         | 7,941 |                   | $ | 5,368 |  | $ | 6,232
|                                                             |  |                        |        |                  |   |           |  |           |       |                   |   |       |  |   |      

As of September 19, 2007, there were employment agreements with two of our officers that
provide for severance payments in the event that these individuals are terminated by us without cause or they terminate their employment as a result of a constructive termination. These severance payments range from six months to one years
salary. Our maximum theoretical liability for severance under the contracts is currently $282,000. In addition, pursuant to an engagement agreement with Stephen V. Coffey, our chief executive officer, a one-time bonus is payable at the end of
Mr. Coffeys engagement, which will be paid in the form of stock (60%) and cash (40%) in an aggregate amount equal to 5.0% of the appreciation of our total market capitalization during the term of the engagement (as measured by
the increase in our stock price). In addition, if we are acquired by any person, other than a current affiliate, within 12 months of the termination date of the engagement, and the per share consideration paid in connection with the acquisition
multiplied by the then-outstanding shares of capital stock is greater than the market capitalization at the end of the engagement, Mr. Coffeys management company will receive an additional bonus equal to 5.0% of the difference of the
disposition value less the termination market capitalization. Because these amounts are contingent, they have not been included in the table above. As of September 19, 2007, no amounts have been accrued under the agreement with Mr. Coffey since
there has been no appreciation in our total market capitalization as defined in this agreement.

As reflected in the table above, we have
obligations under non-cancelable operating leases for our coffeehouses, roasting facility and administrative offices. Lease terms are generally for periods of 10 to 20 years with renewal options, and generally require us to pay a proportionate share
of real estate taxes, insurance, common area, and other operating costs. Some retail leases provide for contingent rental payments based on sales thresholds. In addition, we are liable on the master real property leases for 62 Gloria Jeans
franchise locations. Under our historical franchising business model, we executed the master lease for these locations and entered into subleases on the same terms with our franchisees, which typically pay their rent directly to the landlords. If
any of these franchisees default on their subleases, we would be required to make all payments under the master lease. Our maximum theoretical future exposure at September 19, 2007, computed as the sum of all remaining lease payments through
the expiration dates of the respective leases, was $16,657,000. This amount does not take into consideration any mitigating measures that we could take to reduce this exposure in the event of default, including re-leasing the location or terminating
the master lease by negotiating a lump sum payment to the landlord in an amount that is less than the sum of all remaining future rents.

CRITICAL ACCOUNTING ESTIMATES

The preparation of our unaudited condensed consolidated financial statements requires us to
make estimates and assumptions that affect the reported amounts. The estimates and assumptions are evaluated on an ongoing basis and are based on historical experience and on various other factors that we believe to be reasonable. Accounts
significantly impacted by estimates and assumptions include, but are not limited to, franchise receivables, allowance for bad debt reserves, fixed asset lives, goodwill, intangible assets, income taxes, self-insurance and workers compensation
reserves, store closure reserves, stock-based compensation, the valuation allowance for net deferred tax assets and contingencies. We believe that the following represent the critical accounting policies and estimates that we use in the preparation
of our unaudited condensed consolidated financial statements. The following discussion, however, does not list all of our accounting policies and estimates.

Impairment of Property and Equipment and Other Amortizable Long-Lived Assets Held and Used

Each quarter, we evaluate
the carrying value of individual stores when the operating results have reasonably progressed to a point to adequately evaluate the probability of continuing operating losses or a current expectation that a store will be sold or otherwise disposed
of before the end of its previously estimated useful life. In making these judgments, we consider the period of time since the store was opened or remodeled, and the trend of operations and expectations for future sales growth. For stores selected
for review, we estimate the future estimated cash flows from operating the store over its estimated useful



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life. We make judgments about future same-store sales and the operating expenses and estimated useful life that we would expect with such level of same-store
sales.

The most significant assumptions in our analysis are those used when we estimate a units future cash flows. We generally use
the assumptions in our strategic plan and modify them as necessary based on unit specific information. If our assumptions are incorrect, the carrying value of our operating unit assets may be overstated or understated.

Impairment of Goodwill

At the reporting unit
level, goodwill is tested for impairment annually or whenever an event or circumstance indicates that impairment has likely occurred. We consider the reporting unit level to be the segment level since the components within each segment have similar
economic characteristics, including products and services, production processes, types or classes of customers and distribution methods. The impairment, if any, is measured based on the estimated fair value of the segment. Fair value can be
determined based on discounted cash flows or valuations of similar businesses. Impairment occurs when the carrying amount of goodwill exceeds its estimated fair value.

At fiscal year end 2007, an independent third party analysis of the fair value of the wholesale and franchise operating segments was conducted to determine whether any potential impairment to the goodwill associated
with the operating segments was appropriate. The definition of value used in this analysis was fair value, which is defined as the amount at which an asset or assets could be bought or sold in a current transaction between willing parties,
that is, other than in a forced sale or liquidation. The determination of fair value of the operating segments was based on financial statements and projections supplied by management in addition to current and future economic, market and
competitive conditions, and other relevant factors.

In addition, a sensitivity analysis was completed to determine at what point
impairment of the carrying value of the goodwill associated with the wholesale business segment would be appropriate. Using historical trends and the projected growth rates, the sensitivity analysis indicates that an annual 22% decline in cash flow
into perpetuity would trigger a potential impairment of the goodwill associated with the wholesale business segment. The wholesale business segment has experienced significant revenue growth over the past two years averaging approximately 31%
average annual growth from fiscal year 2005 to fiscal year 2007. This wholesale business segment is not on a declining revenue growth curve, but instead is experiencing significant growth in revenue.

Though the Gloria Jeans domestic franchise operating segment has experienced declining revenue in recent years, the business segment has relatively
few assets other than the associated goodwill. However, the analysis indicates that it would require a significant drop in the franchise store count, approximately 29%, before the Gloria Jeans franchise operations business segment carrying
value exceeded its calculated fair value.

If our assumptions used in performing the impairment test prove inaccurate, the fair value of
the segments may ultimately prove to be significantly higher or lower, thereby causing the carrying value to be less than or to exceed the fair value and indicating impairment has or has not occurred. If our assumptions are incorrect, the carrying
value of our goodwill may be understated or overstated. Our annual impairment measurement date is our fiscal year end. No conditions exist at September 19, 2007 that indicate that goodwill is impaired.

Estimated Liability for Closing Stores

We
make decisions to close stores based on prospects for estimated future profitability and sometimes we are forced to close stores due to circumstances beyond our control (e.g., a landlords refusal to negotiate a new lease). Our management team
evaluates each stores performance every period. When stores continue to perform poorly, we consider the demographics of the location, as well as the likelihood of being able to improve the performance of an unprofitable store. Based on the
management teams judgment, we estimate the future net cash flows. If we determine that the store will not, within a reasonable period of time, operate at break-even cash flow or be profitable, and we are not contractually obligated to continue
operating the store, we may close the store. Additionally, franchisees may close stores for which we are the primary lessee. If the franchisee cannot make payments on the lease, we continue making the lease payments and establish an estimated
liability for the closed store if we decide not to operate it as a company operated store. We established the estimated liability on the actual store closure date which is generally the date on which we cease to receive economic benefit from the
unit. We also review the net cash flows to determine the need to provide for asset impairment.

The estimated liability for closing stores
on properties vacated is generally based on the term of the lease and the lease termination fee that we expect to pay, as well as the estimated maintenance costs that we expect to pay until the lease has been abated. A significant assumption used in
determining the amount of the estimated liability for closing stores is the amount of the estimated liability for future lease payments on vacant stores, which we determine based on our assessment of our ability to successfully negotiate early
terminations of our lease agreements with the lessors or to sublease the property.



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Additionally, we estimate the cost to maintain leased and owned vacant properties until the lease has been abated. If the costs to maintain properties
increase, or it takes longer than anticipated to sell properties or sublease or terminate leases, we may need to record additional estimated liabilities. If the leases on the vacant stores are not terminated or subleased on the terms we used to
estimate the liabilities, we may be required to record losses in future periods. Conversely, if the leases on the vacant stores are terminated or subleased on more favorable terms than we used to estimate the liabilities, we reverse previously
established estimated liabilities through the line item in which it was originally recorded, resulting in an increase in operating income.

Estimated
Liability for Self-Insurance

We are self-insured for a portion of our losses related to workers compensation insurance for
policy years ended prior to October 2006. We obtained stop loss insurance for individual workers compensation claims with a $250,000 deductible per occurrence and a program maximum for all claims of $750,000. Insurance liabilities and reserves
are accounted for based on the present value of actuarial estimates of the amount of incurred and unpaid losses, based approximately on a risk-free interest rate. These estimates rely on actuarial observations of historical claim loss development.
Management, in determining the estimated liability, bases the assumptions on the average historical losses on claims we have incurred. The actual loss development may be better or worse than the development we estimated in conjunction with the
actuary. In that event, we will modify the reserve. As a result, if we experience a higher than expected number of claims or the costs of claims are greater than expected, then we may adjust the expected losses upward and our future self-insurance
expenses will rise. As of October 2006, we are no longer self-insured.

Franchised Operations

We monitor the financial condition of our franchisees and record provisions for estimated losses on receivables when we believe that our franchisees are
unable to make their required payments to us. Each period we perform an analysis to develop estimated bad debts for each franchisee. We then compare the aggregate result of that analysis to the amount recorded in our unaudited condensed consolidated
financial statements as the allowance for doubtful accounts and adjust the allowance as appropriate. Over time, our assessment of individual franchisees may change. For instance, in the past, we have had some franchisees which we had determined
required an estimated loss equal to the total amount of the receivable, but which have paid us in full or established a consistent record of payments (generally one year) such that we subsequently determined that an allowance was no longer required.

Depending on the facts and circumstances, there are a number of different actions we and/or our franchisees may take to resolve franchise
collections issues. These actions may include the purchase of franchise stores by us or by other franchisees, a modification to the franchise agreement, which may include a provision to defer certain royalty payments or reduce royalty rates in the
future, a restructuring of the franchisees business and/or finances (including the restructuring of leases for which we are the primary or secondary obligee), or, if necessary, the termination of the franchise agreement. The allowance is based
on our assessment of the most probable course of action that will occur.

In accordance with SFAS 146, an estimated liability for future
lease obligations on stores operated by franchisees for which we are the primary or secondary obligee is established on the date the franchisee closes the store. Also, we record an estimated liability for subsidized lease payments when we sign a
sublease agreement committing us to the subsidy.

The amount of the estimated liability is established using the methodology described
above under the heading Estimated Liability for Closing Stores. Consistent with SFAS 146, we have not established an additional estimated liability for potential losses not yet incurred. If sales trends or economic conditions worsen for
our franchisees, their financial health may worsen, our collection rates may decline and we may be required to assume the responsibility for additional lease payments on franchised stores. Entering into restructured franchise agreements may result
in reduced franchise royalty rates in the future.

Stock-Based Compensation

As discussed in the notes to the condensed consolidated financial statements, we have various stock-based compensation plans that provide options for
certain employees and outside directors to purchase common shares of stock. Prior to June 30, 2005, we elected to account for stock-based compensation in accordance with Accounting Principles Board (APB) Opinion No. 25,
Accounting for Stock Issued to Employees, which utilizes the intrinsic value method of accounting for stock-based compensation. Starting June 30, 2005, we adopted the provisions of SFAS 123R, which sets accounting
requirements for share-based compensation to employees and non-employee directors, including employee



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stock purchase plans, and requires companies to recognize in the statement of operations the grant-date fair value of stock options and other equity-based
compensation.

We determine the estimated fair value of stock-based compensation on the date of the grant using the Black-Scholes
option-pricing model. The Black-Scholes option-pricing model requires us to apply highly subjective assumptions, including our historical stock price volatility, expected life of the option and the risk-free interest rate. A change in one or more of
the assumptions used in the Black-Scholes option-pricing model may result in a material change to the estimated fair value of the stock-based compensation.

Valuation Allowance for Net Deferred Tax Assets

As discussed above, we have recorded a 100% valuation allowance
against our net deferred tax assets. If we have been profitable for a number of years and our prospects for the realization of our deferred tax assets are more likely than not, we would then reverse our valuation allowance and credit income tax
expense. When circumstances warrant, we assess the likelihood that our net deferred tax assets will more likely than not be realized from future taxable income. As of September 19, 2007, our net deferred tax assets and related valuation
allowance totaled approximately $5,500,000.



|Item 3. | Quantitative And Qualitative Disclosures About Market Risk.
|------- | -----------------------------------------------------------

Market Risk Sensitive Items Entered Into for Trading Purposes

None.

Market Risk Sensitive Items Entered Into for Other Than Trading Purposes

Interest Rate Risk. We are exposed to market risk from changes in interest rates on our outstanding debt. At September 19, 2007, we had no amounts outstanding under our $5,000,000 loan facility.
Should we incur debt on this facility, we could be affected by changes in short term interest rates. Our borrowing rate on our loan facility is based on a three-month LIBOR plus 5.30% (5.24% at September 19, 2007). During the first fiscal
quarter, three month LIBOR rates ranged from 5.24% to 5.73%

Commodity Price Risk. Green coffee, the principal raw material
for our products, is subject to significant price fluctuations caused by a number of factors, including weather, political, and economic conditions. To date, we have not used commodity-based financial instruments to hedge against fluctuations in the
price of green coffee. To ensure that we have an adequate supply of green coffee, however, we enter into agreements to purchase green coffee in the future that may or may not be fixed as to price. At September 19, 2007, we had commitments to
purchase coffee through fiscal year 2008, totaling $1,572,000 for 956,000 pounds of green coffee, the majority of which were fixed as to price. The coffee scheduled to be delivered to us in fiscal year 2008 pursuant to these commitments will satisfy
approximately 14% of our anticipated green coffee requirements for the fiscal year. Assuming we require approximately 5,065,000 additional pounds of green coffee during fiscal 2008 for which no price has yet been fixed, each $0.01 per pound increase
in the price of green coffee could result in $51,000 of additional cost. However, because the price we pay for a portion of our green coffee needs is negotiated with suppliers independent of the commodities market we believe that the commodity
market price for green coffee, in general, would have to increase significantly, by as much as $0.25 per pound, before there would be a significant impact on our costs.



|Item 4. | Controls and Procedures.
|------- | ------------------------

(a) As of the end of the
period covered by this quarterly report, our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act)). Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and
procedures are effective.

(b) There was no change in our internal control over financial reporting that occurred during our most recent
fiscal quarter that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART IIOTHER INFORMATION



|Item 1. | Legal Proceedings.
|------- | ------------------

In the ordinary course of our
business, we may become involved in legal proceedings from time to time. There are no material changes from the legal proceedings disclosure set forth in Part I, Item 3 of our Form 10-K for the fiscal year ended



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June 27, 2007. Please refer to the Form 10-K for the fiscal year ended June 27, 2007 for disclosure regarding legal proceedings.



|Item 1A. | Risk Factors.
|-------- | -------------

There are no material changes from
the risk factors set forth in Part I, Item 1A of our Form 10-K for the fiscal year ended June 27, 2007. Please refer to the Form 10-K for the fiscal year ended June 27, 2007 for disclosure regarding the risks and uncertainties related
to our business.



|Item 2. | Unregistered sales of Equity Securities and use of Proceeds.
|------- | ------------------------------------------------------------

None



|Item 3. | Defaults upon Senior Securities.
|------- | --------------------------------

None



|Item 4. | Submission of Matters to a Vote of Security Holders.
|------- | ----------------------------------------------------

None



|Item 5. | Other Information.
|------- | ------------------

None



|Item 6. | Exhibits.
|------- | ---------

Set forth below is a list of the
exhibits included as part of this quarterly report.



|            |  |                                                                                                                                                                                                                   
|----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |  | Description                                                                                                                                                                                                       
|2.1         |  | Agreement and Plan of Merger, dated March 16, 1999, among Diedrich Coffee, Inc., CP Acquisition Corp., a wholly owned subsidiary of Diedrich Coffee, Inc., and Coffee People, Inc.
(1)                            
|            | 
|3.1         |  | Restated Certificate of Incorporation of Diedrich Coffee, Inc., dated May 11, 2001(2)                                                                                                                             
|            | 
|3.2         |  | Bylaws of Diedrich Coffee, Inc.(3)                                                                                                                                                                                
|            | 
|4.1         |  | Specimen Stock Certificate(4)                                                                                                                                                                                     
|            | 
|4.2         |  | Purchase Agreement for Series A Preferred Stock dated as of December 11, 1992 by and among Diedrich Coffee, Inc., Martin R. Diedrich, Donald M. Holly, SNV Enterprises, and D.C.H.,
LP(5)                         
|            | 
|4.3         |  | Purchase Agreement for Series B Preferred Stock dated as of June 29, 1995 by and among Diedrich Coffee, Inc., Martin R. Diedrich, Steven A. Lupinacci, Redwood Enterprises VII, LP, and Diedrich
Partners I, LP(5)
|            | 
|4.4         |  | Form of Conversion Agreement in connection with the conversion of Series A and Series B Preferred Stock into Common Stock(3)                                                                                      
|            | 
|4.5         |  | Form of Warrant, dated May 8, 2001(2)                                                                                                                                                                             
|            | 
|4.6         |  | Registration Rights Agreement, dated May 8, 2001(2)                                                                                                                                                               
|            | 
|4.7         |  | Form of Common Stock and Option Purchase Agreement with Franchise Mortgage Acceptance Company, dated as of April 3, 1998(6)                                                                                       
|            | 
|10.1        |  | Amendment No. 1 to Contingent Convertible Note Purchase Agreement dated as of June 30, 2004 by and between Diedrich Coffee, Inc. and Sequoia Enterprises, L.P.                                                    
|            | 
|10.2        |  | Severance and Consultant Agreement and General Release dated as of July 10, 2007 by and between Diedrich Coffee, Inc. and Matthew C. McGuinness. *                                                                
|            | 
|31.1        |  | Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                
|            | 
|31.2        |  | Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                



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|     |  |                                                                                                   
|---- |  | --------------------------------------------------------------------------------------------------
|     | 
|32.1 |  | Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
|     | 
|32.2 |  | Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

---

|* | Management contract or compensatory plan or arrangement
|- | -------------------------------------------------------



|(1) | Previously filed as Appendix A to Diedrich Coffees Registration Statement on Form S-4, filed with the Securities and Exchange Commission on April 23, 1999.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------



|(2) | Previously filed as an exhibit to Diedrich Coffees Current Report on Form 8-K, filed with the Securities and Exchange Commission on May 16, 2001.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | Previously filed as an exhibit to Diedrich Coffees Registration Statement on Form S-1/A (Registration No. 333-08633), filed with the Securities and Exchange Commission on
August 28, 1996.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(4) | Previously filed as an exhibit to Diedrich Coffees Registration Statement on Form S-3 (Registration No. 333-66744), filed with the Securities and Exchange Commission on
August 3, 2001.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(5) | Previously filed as an exhibit to Diedrich Coffees Registration Statement on Form S-1 (Registration No. 333-08633), filed with the Securities and Exchange Commission on July
24, 1996 and declared effective September 11, 1996.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(6) | Previously filed as an exhibit to Diedrich Coffees Annual Report on Form 10-K for the fiscal year ended January 28, 1998, filed with the Securities and Exchange Commission on
April 28, 1998.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly authorized.



|                        |  |  |  |                       |  |                                                      
|----------------------- |  |  |  | --------------------- |  | -----------------------------------------------------
|Dated: November 5, 2007 |  |  |  | DIEDRICH COFFEE, INC.
|                        |  |  | 
|                        |  |  |  |                       |  | /s/ Stephen V. Coffey                                
|                        |  |  |  |                       |  | Stephen V. Coffey                                    
|                        |  |  |  |                       |  | Chief Executive Officer (On behalf of the registrant)



| |  |  |  |  |  |                                                                         
| |  |  |  |  |  | ------------------------------------------------------------------------
| |  |  | 
| |  |  |  |  |  | /s/ Sean M. McCarthy                                                    
| |  |  |  |  |  | Sean M. McCarthy                                                        
| |  |  |  |  |  | Vice President and Chief Financial Officer (Principal
financial officer)



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EXHIBIT INDEX



|            |  |                                                                                                                                                               
|----------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |  | Description                                                                                                                                                   
|10.1        |  | Amendment No. 1 to Contingent Convertible Note Purchase Agreement dated as of June 30, 2004 by and between Diedrich Coffee, Inc. and Sequoia Enterprises, L.P.
|            | 
|10.2        |  | Severance and Consultant Agreement and General Release dated as of July 10, 2007 by and between Diedrich Coffee, Inc. and Matthew C. McGuinness.              
|            | 
|31.1        |  | Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                            
|            | 
|31.2        |  | Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                            
|            | 
|32.1        |  | Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                            
|            | 
|32.2        |  | Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                            



25