UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549





FORM
10-Q









QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES


EXCHANGE
ACT OF 1934




For
      The Quarter Ended June 30, 2010
              Commission
      File Number 001-33595







Smart
Balance, Inc.


(Exact
name of registrant as specified in its charter)







Delaware
              
              20-2949397(State
      of or other jurisdiction
                of
      incorporation)
              
              (I.R.S.
      Employer
                Identification
      No.)





115 West Century Road, Suite
      260,
                Paramus, New Jersey
              
              07652(Address
      of principal executive offices)
              
              (Zip
      code)





Registrant’s
telephone number, including area code: (201) 568-9300







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  o
..





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding
12 months (or for such shorter period that the registrant was required to submit
and post such files). Yes  oNo  o




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





Large Accelerated Filer     o
              Accelerated Filer                     xNon-Accelerated Filer       o (Do not check if a smaller reporting company)
              Smaller Reporting Company  o




Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).Yes   oNo   x .




As of
August 2, 2010 the Registrant had 61,443,156 shares of common stock, par value
$.0001 per share, outstanding.










SMART
BALANCE, INC.





INDEX





PagePart
      I.
              Financial
      Information
              3Item 1.
              Financial
      Statements
              3Item 2.
              Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
              21Item 3.
              Quantitative
      and Qualitative Disclosures About Market Risk
              31Item 4.
              Controls
      and Procedures
              32Part
      II.
              Other
      Information
              33Item 1.
              Legal
      Proceedings
              33Item 1A.
              Risk
      Factors
              33Item 6.
              Exhibits
              33





i





Cautionary
Note Regarding Forward Looking Statements




This
document contains forward-looking statements within the meaning of Section 21E
of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). These
statements may be identified by forward-looking words such as “may,” “expect,”
“anticipate,” “contemplate,” “believe,” “estimate,” “intends,” and “continue” or
similar words.  In addition, forward-looking statements are statements
which





·
            discuss future expectations or
      expansions of business
lines;




·
            contain projections of future
      results of operations or financial condition;
    or




·
            state other “forward-looking”
      information.





We
believe that communicating our expectations to our stockholders is important.
However, there are always events in the future that we are not able to
accurately predict or over which we have no control, and consequently, actual
results may differ from those anticipated in the forward-looking
statements.  Important factors that could cause actual results to
differ from our expectations include, but are not limited to, the factors
discussed in the section of this report entitled “Management’s Discussion and
Analysis of Financial Condition and Results of Operations,” the “Risk Factors”
section in our annual report on Form 10-K for the year ended December 31, 2009,
as well as our ability to:




·
            maintain margins during periods
      of commodity cost
fluctuation;





·
            introduce and expand our
      distribution of new
products;





·
            meet marketing and infrastructure
      needs;





·
            respond to changes in consumer
      demand;





·
            respond to adverse publicity
      affecting our company or
industry;





·
            comply with new regulatory
      requirements;





·
            maintain existing relationships
      with and secure new
customers;





·
            continue to rely on third party
      distributors, manufacturers and
  suppliers;





·
            grow
      net sales in a competitive environment and with increasingly price
      sensitive consumers; continue to rely on the estimates or judgments
      related to our impairment analysis, which if changed could have a
      significant impact on recoverability of the Company’s goodwill and could
      have a material impact on its consolidated financial statements;
      and





·
            improve
      future operations in connection with our realignment
    program.





You are
cautioned not to place undue reliance on our forward-looking statements, which
speak only as of the date of this report.




1





All
forward-looking statements included in this report attributable to us are
expressly qualified in their entirety by the cautionary statements contained or
referred to in this section. Except to the extent required by applicable laws
and regulations, we undertake no obligation to update these forward-looking
statements to reflect events or circumstances after the date of this report or
to reflect the occurrence of unanticipated events.




2





Part
I.  Financial Information




Item 1. Financial
Statements




SMART
BALANCE, INC. AND SUBSIDIARY


Consolidated
Balance Sheets


(In
thousands, except share data)





June 30,
                
                
                December
                  31,2010
                
                
                2009(unaudited)AssetsCurrent
      assets:Cash
      and cash equivalents
                
                $
                3,511
                
                
                $
                7,538Accounts
      receivable, net of allowance of: $275 (2010) and $345
    (2009)
                
                
                13,607
                
                
                
                11,970Accounts
      receivable - other
                
                
                778
                
                
                
                650Income
      taxes receivable
                
                
                
                
                
                1,131Inventories
                
                
                5,904
                
                
                
                5,812Prepaid
      taxes
                
                
                1,658
                
                
                
                405Prepaid
      expenses and other assets
                
                
                10,359
                
                
                
                3,392Deferred
      tax asset
                
                
                1,656
                
                
                
                462Total
      current assets
                
                
                37,473
                
                
                
                31,360Property
      and equipment, net
                
                
                4,832
                
                
                
                4,634Other
      assets:Goodwill
                
                
                244,886
                
                
                
                374,886Intangible
      assets, net
                
                
                149,156
                
                
                
                151,089Deferred
      costs, net
                
                
                1,706
                
                
                
                2,111Other
      assets
                
                
                2,228
                
                
                
                985Total
      other assets
                
                
                397,976
                
                
                
                529,071Total
      assets
                
                $
                440,281
                
                
                $
                565,065Liabilities
      and Stockholders' EquityCurrent
      liabilitiesAccounts
      payable and accrued expenses
                
                $
                29,423
                
                
                $
                22,626Income
      taxes payable
                
                325
                
                
                -Current
      portion of long term debt
                
                
                1,700
                
                
                
                5,500Total
      current liabilities
                
                
                31,448
                
                
                
                28,126Long
      term debt
                
                
                51,300
                
                
                
                51,143Deferred
      tax liability
                
                
                41,978
                
                
                
                43,824Other
      liabilities
                
                
                1,058
                
                
                
                965Total
      liabilities
                
                
                125,784
                
                
                
                124,058Commitment
      and contingenciesStockholders'
      equityCommon
      stock, $.0001 par value, 250,000,000 shares authorized; 62,630,683 (2010
      and 2009) issued and61,443,156 and 62,630,683 outstanding in 2010 and
      2009, respectively
                
                
                6
                
                
                
                6Additional
      paid in capital
                
                
                529,008
                
                
                
                523,467Retained
      deficit
                
                
                (209,522
                )
                
                
                (82,466
                )Treasury
      stock at cost (2010 – 1,187,527 shares)
                
                
                (4,995
                )
                
                Total
      stockholders' equity
                
                
                314,497
                
                
                
                441,007Total
      liabilities and stockholders' equity
                
                $
                440,281
                
                
                $
                565,065




See
accompanying notes to the consolidated financial statements




3







SMART
BALANCE, INC. AND SUBSIDIARY


Consolidated
Statements of Operations


(Unaudited)


(In
thousands, except share data)




Three Months Ended
                    June 30,
                  
                  
                  Six Months Ended
                    June 30,2010
                  
                  
                  2009
                  
                  
                  2010
                  
                  
                  2009Net
      sales
                  
                  $
                  55,634
                  
                  
                  $
                  58,185
                  
                  
                  $
                  119,268
                  
                  
                  $
                  120,784Cost
      of goods sold
                  
                  
                  28,771
                  
                  
                  
                  29,912
                  
                  
                  
                  59,057
                  
                  
                  
                  64,257Gross
      profit
                  
                  
                  26,863
                  
                  
                  
                  28,273
                  
                  
                  
                  60,211
                  
                  
                  
                  56,527Operating
      expenses:Marketing
                  
                  
                  10,076
                  
                  
                  
                  8,820
                  
                  
                  
                  20,498
                  
                  
                  
                  17,620Selling
                  
                  
                  4,415
                  
                  
                  
                  4,270
                  
                  
                  
                  9,620
                  
                  
                  
                  8,787General
      and administrative
                  
                  
                  11,195
                  
                  
                  
                  12,664
                  
                  
                  
                  23,127
                  
                  
                  
                  24,393Goodwill
      impairment
                  
                  
                  130,000
                  
                  
                  -
                  
                  
                  
                  130,000
                  
                  
                  
                  -Total
      operating expenses
                  
                  
                  155,686
                  
                  
                  
                  25,754
                  
                  
                  
                  183,245
                  
                  
                  
                  50,800Operating
      income (loss)
                  
                  
                  (128,823
                  )
                  
                  
                  2,519
                  
                  
                  
                  (123,034
                  )
                  
                  
                  5,727Other
      income (expense):Interest
      income
                  
                  -
                  
                  
                  
                  1
                  
                  
                  
                  -
                  
                  
                  
                  2Interest
      expense
                  
                  
                  (767
                  )
                  
                  
                  (1,202
                  )
                  
                  
                  (1,712
                  )
                  
                  
                  (2,335
                  )Other
      expense, net
                  
                  
                  (216
                  )
                  
                  
                  (310
                  )
                  
                  
                  (585
                  )
                  
                  
                  (453
                  )Total
      other income (expense)
                  
                  
                  (983
                  )
                  
                  
                  (1,511
                  )
                  
                  
                  (2,297
                  )
                  
                  
                  (2,786
                  )Income
      (loss) before income taxes
                  
                  
                  (129,806
                  )
                  
                  
                  1,008
                  
                  
                  
                  (125,331
                  )
                  
                  
                  2,941Provision
      for income taxes
                  
                  
                  230
                  
                  
                  
                  15
                  
                  
                  
                  1,725
                  
                  
                  
                  802Net
      income (loss)
                  
                  $
                  (130,036
                  )
                  
                  $
                  993
                  
                  
                  $
                  (127,056
                  )
                  
                  $
                  2,139Income
      (loss) per share:Basic
                  
                  $
                  (2.08
                  )
                  
                  $
                  0.02
                  
                  
                  $
                  (2.03
                  )
                  
                  $
                  0.03Diluted
                  
                  $
                  (2.08
                  )
                  
                  $
                  0.02
                  
                  
                  $
                  (2.03
                  )
                  
                  $
                  0.03Weighted
      average shares outstanding:Basic
                  
                  
                  62,460,844
                  
                  
                  
                  62,630,683
                  
                  
                  
                  62,545,294
                  
                  
                  
                  62,630,683Diluted
                  
                  
                  62,460,844
                  
                  
                  
                  62,820,162
                  
                  
                  
                  62,545,294
                  
                  
                  
                  62,764,122





See
accompanying notes to the consolidated financial statements




4





SMART
BALANCE, INC. AND SUBSIDIARY


Consolidated
Statements of Cash Flows


(Unaudited)


(In
thousands)





Six Months Ended
                        June 30,2010
                      
                      
                      2009Cash
      flows from operating activitiesNet
      (loss) income
                      
                      $
                      (127,056
                      )
                      
                      $
                      2,139Adjustments
      to reconcile net income (loss) to net cash provided by operating
      activities:Depreciation
      and amortization of intangibles
                      
                      
                      2,620
                      
                      
                      
                      2,430Amortization
      of deferred financing costs
                      
                      
                      426
                      
                      
                      
                      263Deferred
      income taxes
                      
                      
                      (3,041
                      )
                      
                      
                      (2,014
                      )Stock
      based compensation
                      
                      
                      5,541
                      
                      
                      
                      8,037Interest
      rate swaps
                      
                      
                      -
                      
                      
                      
                      (1,057
                      )Goodwill
      impairment
                      
                      
                      130,000
                      
                      
                      
                      -Changes
      in assets and liabilities:Accounts
      receivable
                      
                      
                      (1,638
                      )
                      
                      
                      1,224Inventories
                      
                      
                      (92
                      )
                      
                      
                      3,311Income
      taxes receivable
                      
                      
                      1,131
                      
                      
                      
                      -Prepaid
      expenses and other current assets
                      
                      
                      (9,547
                      )
                      
                      
                      (10,082
                      )Accounts
      payable and accrued expenses
                      
                      
                      7,173
                      
                      
                      
                      990Net
      cash provided by operating activities
                      
                      
                      5,517
                      
                      
                      
                      5,241Cash
      flows from investing activitiesPurchase
      of property and equipment
                      
                      
                      (784
                      )
                      
                      
                      (473
                      )Patent
      defense costs
                      
                      
                      (101
                      )
                      
                      
                      -Net
      cash (used in) investing activities
                      
                      
                      (885
                      )
                      
                      
                      (473
                      )Cash
      flows from financing activitiesProceeds
      from issuance of long term debt
                      
                      
                      4,000
                      
                      
                      
                      -Repayment
      of debt
                      
                      
                      (7,643
                      )
                      
                      
                      (5,000
                      )Payments
      for loan costs
                      
                      
                      (21
                      )
                      
                      
                      -Purchase
      of treasury stock
                      
                      
                      (4,995
                      )
                      
                      
                      -Net
      cash (used in) financing activities
                      
                      
                      (8,659
                      )
                      
                      
                      (5,000
                      )Net
      decrease in cash for the period
                      
                      
                      (4,027
                      )
                      
                      
                      (232
                      )Cash
      - Beginning of period
                      
                      
                      7,538
                      
                      
                      
                      5,492Cash
      - End of period
                      
                      $
                      3,511
                      
                      
                      $
                      5,260Cash
      paid during the period for:Income
      taxes
                      
                      $
                      4,590
                      
                      
                      $
                      2,774Interest
                      
                      $
                      1,914
                      
                      
                      $
                      3,208





See
accompanying notes to the consolidated financial statements




5





SMART
BALANCE, INC. AND SUBSIDIARY




Notes
to Consolidated Financial Statements


(Unaudited)


(In
thousands, except share and per share data)




1.
            General




Smart
Balance, Inc. (the “Company”) was incorporated in Delaware on May 31, 2005
under the name Boulder Specialty Brands, Inc. in order to serve as a vehicle for
the acquisition of a then unidentified operating business and/or brand in the
consumer food and beverage industry.  On May 21, 2007, the Company
completed a merger with GFA Brands, Inc. (“GFA”), which owned and marketed the
Smart Balance ® line of
products, among others.  GFA became a wholly-owned subsidiary of the
Company.




The
accompanying condensed consolidated financial statements include all adjustments
(consisting only of normal recurring accruals) which are, in the opinion of
management, considered necessary for a fair presentation of the results for the
periods presented. These financial statements should be read in conjunction with
the consolidated financial statements and notes thereto of Smart Balance, Inc.
included in the Company's 2009 annual report on Form 10-K. The reported results
for the three month and six month periods ended June 30, 2010 are not
necessarily indicative of the results to be expected for the full
year.




2.
            Summary
      of significant accounting
policies




Cash and Cash
Equivalents




The
Company considers all highly liquid investments with original maturities of
three months or less to be cash equivalents.  There were no cash
equivalents as of December 31, 2009 or June 30, 2010.




Accounts
Receivable




Accounts
receivable are carried at original invoice amount less allowances for cash
discounts and doubtful receivables based on a review of all outstanding amounts.
Management determines the allowance for doubtful accounts by regularly
evaluating individual customer receivables and considering a customer’s
financial condition, credit history and current economic conditions. Accounts
receivable are written off when deemed uncollectible.  Recoveries of
receivables previously written off are recorded when received. The Company does
not charge interest on past due receivables.




Inventories




Inventories
are stated at the lower of cost (first-in, first-out) or market and consist
primarily of finished goods.




6




Property and
Equipment





Property
and equipment are stated at cost and depreciated using the straight-line method
over the estimated useful lives of the assets ranging from 5 to 10 years.
Leasehold improvements are amortized using the straight-line method over the
shorter of the lease term or the estimated useful life of the
improvement.  The Company continually evaluates whether events and
circumstances have occurred that indicate the remaining estimated useful life of
long lived assets may warrant revision, or that the remaining balance of these
assets may not be recoverable.  When deemed necessary, the Company
completes this evaluation by comparing the carrying amount of the assets against
the estimated undiscounted future cash flows associated with them.  If
such evaluations indicate that the future undiscounted cash flows of amortizable
long-lived assets are not sufficient to recover the carrying value of such
assets, the assets are adjusted to their estimated fair values.




Goodwill




Goodwill
is tested annually for impairment or more frequently if events or changes in
circumstances indicate that impairment may have occurred. The impairment
analysis for goodwill includes a comparison of the Company’s carrying value
(including goodwill) to the Company’s estimated fair value. If the fair value of
the Company does not exceed its carrying value, then an additional analysis
would be performed to allocate the fair value to all assets and liabilities of
the Company as if the Company had been acquired in a business combination and
the fair value was its purchase price. If the excess of the fair value of the
Company over the fair value of its identifiable assets and liabilities is less
than the carrying value of recorded goodwill, an impairment charge is recorded
for the difference.  We completed our impairment analysis at June 30,
2010 and concluded that our estimated fair value was less than the carrying
value of the recorded goodwill, and, accordingly, the Company recorded an
impairment loss of $130,000 (see footnote 5 for further details).




Intangible
Assets




Other
intangible assets are comprised of both definite and indefinite life intangible
assets. Indefinite life intangible assets are not amortized but are tested
annually for impairment, or more frequently if events or changes in
circumstances indicate that the asset might be impaired. In assessing the
recoverability of indefinite life intangible assets, the Company must make
assumptions about the estimated future cash flows and other factors to determine
the fair value of these assets.




7





An
intangible asset is determined to have an indefinite useful life when there are
no legal, regulatory, contractual, competitive, economic, or any other factors
that may limit the period over which the asset is expected to contribute
directly or indirectly to the future cash flows of the Company. In each
reporting period, the Company also evaluates the remaining useful life of an
intangible asset that is not being amortized to determine whether events and
circumstances continue to support an indefinite useful life. If an intangible
asset that is not being amortized is determined to have a finite useful life,
the asset will be amortized prospectively over the estimated remaining useful
life and accounted for in the same manner as intangible assets subject to
amortization.




The
Company has determined that its Smart Balance ® and
Earth Balance ®
trademarks have indefinite lives and these assets are not being
amortized.  Certain other assets acquired, primarily patent
technology, have been determined to have definite lives ranging from 10 to 20
years and their costs are being amortized over their expected
lives.




The
Company generally expenses legal and related costs incurred in defending or
protecting its intellectual property unless it can be established that such
costs have added economic value to the business enterprise, in which case the
Company capitalizes the costs incurred as part of intangible assets. The primary
consideration in making the determination of whether to capitalize the costs is
whether the Company can prove that it has been successful in defending itself
against such intellectual property challenges.  The second
consideration for capitalization is whether such costs have, in fact, increased
the economic value of the Company’s intellectual property.  Legal
defense costs that do not meet the considerations described above are expensed
as incurred.  Recovery of legal expenses as part of a settlement
agreement will be recorded as a reduction of capitalized legal fees if
previously capitalized with any excess recorded as income.




The
Company has performed its annual assessment of its indefinite lived intangible
assets for impairment at June 30, 2010 and determined there was no
impairment.




Deferred
Costs




Deferred
loan costs associated with the Company’s secured debt financing are being
amortized over the life of the loan, using the effective interest
method.




Revenue
Recognition




Revenue
is recognized when the earnings process is complete and the risks and rewards of
ownership have transferred to the customer, which is generally considered to
have occurred upon the receipt of product by the customer. The earnings process
is complete once the customer order has been placed and approved and the product
shipped has been received by the customer. Product is sold to customers on
credit terms established on an individual basis. The credit factors used include
historical performance, current economic conditions and the nature and volume of
the product.


8




The
Company offers its customers and consumers a variety of sales and incentive
programs, including discounts, allowances, coupons, slotting fees, and co-op
advertising; such amounts are estimated and recorded as a reduction in revenue.
For interim reporting, the Company estimates the total annual sales incentives
for most programs and records a pro rata share in proportion to forecasted
annual revenue.  As a result, the Company has recorded a prepaid asset
at June 30, 2010 of $9,144 which will be charged to expense over the remaining
two quarters.  The Company sells its products to customers without
a right of return and is not obligated to accept any returns.




Earnings per Share of Common
Stock




Basic
earnings per share is computed by dividing net income applicable to common
stockholders by the weighted-average number of shares of common stock
outstanding for the period. Diluted earnings per share is computed by dividing
net income by the number of weighted-average shares outstanding adjusted for any
additional common shares that would have been outstanding if all of the
potential dilutive common shares had been issued. Potential dilutive common
shares outstanding would primarily include stock options.  For the
three and six months ended June 30, 2010, 11,076,625 and 11,142,875 stock
options, respectively, were excluded from the dilutive EPS calculation because
the exercise price was greater than the average market
price.  Additionally, for the three and six months ended June 30,
2010, 208,750 and 142,500 stock options, respectively, were excluded from the
dilutive EPS calculation because the result would be anti-dilutive.




The
following table summarizes stock options not included in the computation of
diluted earnings per share:




Three Months Ended
                  June 30,
                
                
                Six Months Ended
                  June 30,2010
                
                
                2009
                
                
                2010
                
                
                2009Stock
      options excluded due to option price being greater than  market
      value
                
                
                11,076,625
                
                
                
                11,690,000
                
                
                
                11,142,875
                
                
                
                11,690,000Stock
      options excluded due to anti-dilution
                
                
                208,750
                
                
                
                508,348
                
                
                
                142,500
                
                
                
                515,754





Segments




Authoritative
accounting guidance requires segment information to be prepared using the
“management” approach. The management approach is based on the method that
management organizes the segments within the Company for making operating
decisions and assessing performance. The Company evaluates all products, makes
operating decisions and performance assessments based on a total company
approach and therefore considers itself as having only one
segment.  The Company’s buttery spreads business, marketed under Smart
Balance®, Earth Balance®, BestlifeTM, Smart Beat® and Nucoa®, is by far the most
developed product segment and accounted for approximately 69% and 72% of revenue
during the three and six months ended June 30, 2010, respectively, and 75% of
revenue for the three and six months ended June 30, 2009.


9




Fair Value of Financial
Instruments




The
Company’s financial instruments consist of cash and cash equivalents, short term
trade receivables, payables, note payables and accrued expenses. The carrying
value of cash and cash equivalents, short term receivables and payables and
accrued expenses approximate fair value because of their short maturities. The
Company’s debt is determined by comparable quoted market prices and, therefore,
approximates fair value.  The Company measures fair value based on
authoritative accounting guidance for “Fair Value Measurements”, which requires
a three-tier fair value hierarchy that prioritizes inputs to measure fair
value.  These tiers include:  Level 1, defined as inputs,
such as unadjusted quoted prices in an active market for identical assets or
liabilities; Level 2, defined as inputs other than quoted market prices in
active markets that are either directly or indirectly observable; or Level 3,
defined as unobservable inputs for use when little or no market value exists
therefore requiring an entity to develop its own assumptions.When available, the
Company uses quoted market prices to determine the fair value of an asset or
liability. If quoted market prices are not available, the Company measures fair
value using valuation techniques that use, when possible, current market-based
or independently-sourced market parameters.





At June 30, 2010
and December 31,
2009, information about inputs into the fair value measurements of the
Company’s assets and liabilities that are made on a recurring basis was as
follows:





As of June 30, 2010Fair Value Measurements at Reporting Date UsingTotal Fair
                      Value and
                      Carrying Value
                      on Balance
                      Sheet
                  
                  
                  Quoted Prices
                      in Active
                      Markets for
                      Identical
                      Assets
                      (Level 1)
                  
                  
                  Significant
                      Other
                      Observable
                      Inputs
                      (Level 2)
                  
                  
                  Significant
                      Unobservable
                      Inputs
                      (Level 3)Assets:Goodwill
                  
                  $
                  244,886
                  
                  
                  $
                  -
                  
                  
                  $
                  -
                  
                  
                  $
                  244,886Deferred
      compensation
                  
                  
                  900
                  
                  
                  
                  -
                  
                  
                  
                  900
                  
                  
                  
                  -Derivative
      assets
                  
                  
                  383
                  
                  
                  
                  -
                  
                  
                  
                  383
                  
                  
                  
                  -Total
      assets
                  
                  $
                  246,169
                  
                  
                  $
                  -
                  
                  
                  $
                  1,283
                  
                  
                  $
                  244.886Liabilities:Deferred
      compensation
                  
                  $
                  1,058
                  
                  
                  $
                  -
                  
                  
                  $
                  1,058
                  
                  
                  $
                  -





As of December 31, 2009Fair Value Measurements at Reporting Date UsingTotal Fair
                    Value and
                    Carrying Value
                    onBalance
                    Sheet
                
                
                Quoted Prices
                    inActive
                    Markets for
                    Identical
                    Assets
                    (Level 1)
                
                
                Significant
                    Other
                    Observable
                    Inputs
                    (Level 2)
                
                
                Significant
                    Unobservable
                    Inputs
                    (Level 3)Assets:Goodwill
                
                $
                174,886
                
                
                $
                -
                
                
                $
                -
                
                
                $
                374,886Deferred
      compensation
                
                
                857
                
                
                
                -
                
                
                
                857
                
                
                
                -Derivative
      assets
                
                
                155
                
                
                
                -
                
                
                
                155
                
                
                
                -Total
      assets
                
                $
                375,898
                
                
                $
                -
                
                
                $
                1,012
                
                
                $
                374,886Liabilities:Deferred
      compensation
                
                $
                966
                
                
                $
                -
                
                
                $
                966
                
                
                $
                -





Research and
Development




Research
and development expenses are charged to operations when incurred and amounted to
$249 and $184, respectively, for the three months ended June 30, 2010 and 2009
and $435 and $272 for the six months ended June 30, 2010 and 2009,
respectively.




10




Income
Taxes




Deferred
income taxes are provided for the differences between the basis of assets and
liabilities for financial reporting and income tax purposes. A valuation
allowance is established when necessary to reduce deferred tax assets to the
amount expected to be realized. As of June 30, 2010, no valuation allowances
were recorded.




Advertising




Advertising
costs are charged to operations (classified as marketing expenses) and amounted
to $6,154 and $5,454 for the three months ended June 30, 2010 and 2009,
respectively, and $13,261 and $10,611 for the six months ended June 30, 2010 and
2009, respectively.




Use of
Estimates




The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States 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 revenue and expenses during the reporting
period. Actual results could differ from those estimates.




Concentration of Credit
Risk




Financial
instruments which potentially subject the Company to concentrations of credit
risk consist principally of cash, cash equivalents, short term investments and
trade receivables. The Company maintains the majority of its cash and cash
equivalents in the form of demand deposits with financial institutions that
management believes are creditworthy. At June 30, 2010, the cash balances in
these institutions exceeded federally insured amounts. Concentrations of credit
risk relative to trade receivables are limited due to our diverse client base.
The Company does have one customer that accounted for approximately 16% and 18%
of sales during the three and six months ended June 30, 2010, respectively. The
aggregate accounts receivable from this customer amounted to approximately 16%
of the accounts receivable balance outstanding at June 30, 2010. The Company
also has one product, “spreads,” which, accounted for approximately 69% and 72%
of total revenue for the three and six months ended June 30, 2010,
respectively.  Approximately 83% and 82% of the Company’s revenues
during the three and six months ended June 30, 2010, respectively, came from
products utilizing a license from Brandeis University.


11




Recently Issued Accounting
Pronouncements




There
have been no significant developments to recently issued accounting standards,
including the expected dates of adoption and estimated effects on the Company’s
consolidated financial statements from those disclosed in our 2009 Annual Report
on Form 10-K.





3.
            Property
      and equipment




Property
and equipment consist of the following:




June 30,
                      2010
                    
                    
                    December
                      31,
                      2009Software
      development costs
                    
                    $
                    4,300
                    
                    
                    $
                    3,857Equipment
                    
                    
                    1,067
                    
                    
                    
                    771Furniture
      and fixtures
                    
                    
                    1,021
                    
                    
                    
                    976Leasehold
      improvements
                    
                    
                    342
                    
                    
                    
                    3426,730
                    
                    
                    
                    5,946Less:
      accumulated depreciation
                    
                    
                    (1,898
                    )
                    
                    
                    (1,312
                    )Property
      and equipment, net
                    
                    $
                    4,832
                    
                    
                    $
                    4,634





Depreciation
expense was $302 for the three months ended June 30, 2010 compared to $203 for
the three months ended June 30, 2009 and $586 for the six months ended June 30,
2010 compared to $398 for the six months ended June 30, 2009.


12




4.
            Intangible
      assets




The
following is a summary of intangible assets and goodwill as of June 30,
2010:





Gross
                    Carrying
                    Amount
                
                
                Accumulated
                    Amortization
                
                
                Impairment
                
                
                Accumulated
                    Adjustments
                
                
                Net Balance,
                    June 30, 2010Patent
      technology
                
                $
                40,000
                
                
                $
                12,446
                
                
                $
                -
                
                
                $
                33
                
                
                $
                27,567Supply
      relationship
                
                
                1,000
                
                
                
                213
                
                
                
                -
                
                
                
                -
                
                
                
                787Trademarks
                
                
                121,152
                
                
                
                -
                
                
                
                -
                
                
                
                (350
                )
                
                
                120,802Goodwill
                
                
                374,886
                
                
                
                -
                
                
                
                (130,000
                )
                
                
                -
                
                
                
                244,886$
                537,038
                
                
                $
                12,679
                
                
                $
                (130,000
                )
                
                $
                (317
                )
                
                $
                394,042





Adjustments
to trademarks relate to a legal settlement received of $367 and serve to reduce
related costs previously capitalized. Additional spending of $16 during the
period accounted for the difference.  Adjustments to patent technology
primarily relate to the capitalization of legal defense costs associated with
the Company’s licensed patents from Brandeis University.  Amortization
expense was $2,033 for the six months ended June 30, 2010 and
2009.  At June 30, 2010, the Company recognized an impairment loss of
$130,000 (see footnote 5 for further details).





5.
            Goodwill
      Impairment





As
required under ASC Topic 350 “Goodwill and Other Intangible Assets”, the Company
routinely reviews the carrying value of its net assets, including goodwill, to
determine if any impairment has occurred.   A review was
conducted at year-end 2009, at which time, based on existing conditions and
management’s outlook, the Company determined there was no
impairment.





Revenue
and earnings expectations for full year 2010 and the longer-term outlook did not
appreciably change in the first quarter of 2010 from those at year-end 2009.
However, during the second quarter of 2010, it became apparent that some of the
underlying growth rates and market assumptions used in the December 2009 outlook
were not materializing as projected and that an indication of impairment was
likely. The main contributors to this change in outlook were the persistent
softness in U.S. consumer confidence, which the Company believes has heightened
consumer price sensitivity for the premium priced branded products in its
markets.  In addition, in response to the impact of this ongoing
macroeconomic softness, the competitive environment for the Company’s premium
products continued to intensify during the quarter, requiring the Company to
reevaluate and increase its planned levels of marketing and promotional support
to remain competitive.  This change in go-to-market strategy has had a
dampening effect on the Company’s overall financial expectations for the second
quarter as well as its forward-looking financial projections for the balance of
the year.   As a result, the Company issued a press release on
June 14, 2010, revising downward its financial outlook for 2010, which resulted
in a significant reduction in the Company’s share price and related market
capitalization.





Given
this decline, in connection with the preparation of these financial statements,
the Company performed an impairment test of goodwill following a two step
process as defined in ASC Topic 350. The first step in this process compares the
fair value of the Company’s net assets, including goodwill, to their carrying
value. If the carrying value exceeds the fair value, the second step of the
impairment test is performed to measure the impairment. In the second step, the
fair value is allocated to all assets and liabilities to determine the implied
goodwill value. This allocation is similar to a purchase price allocation done
under purchase accounting.





The
Company determined the fair value of its net assets using a discounted cash flow
(income) approach. The Company used growth assumptions it considered reasonable
in light of current conditions and its change in strategies and goals. The
Company also used numerous other assumptions including weighted average costs of
capital to discount cash flows. Accordingly, the carrying value of the Company’s
net assets exceeded the estimated fair value of the Company’s net assets,
indicating the second step of the impairment test was necessary.





To
perform the second step of the impairment test, the Company estimated the fair
value of all its individual assets and liabilities, including identifiable
intangible assets.  The carrying value of current assets and
liabilities, such as receivables, inventories and payables, were considered to
be their fair value given their short-term nature.  The carrying value
of the Company’s fixed assets were considered at their fair value since they
were acquired in the last few years and are being depreciated or amortized in
line with their useful life.  The Company determined the fair value of
its identifiable intangible assets (namely trade names and patents) using
generally accepted valuation methodologies.  The goodwill value
implied form this analysis resulted in a goodwill impairment loss of $130
million at June 30, 2010.





Any
significant adverse change in the assumptions the Company used in determining
fair value could have a further significant impact on the recoverability of the
Company’s goodwill and could have a material impact on its consolidated
financial statements.  The Company’s growth plans include new products
which are highly dependent on consumer acceptance, retail placement and the
Company’s effectiveness in marketing strategies.


13





In
conjunction with performing an impairment test of goodwill, the Company also
performed an impairment test of its indefinite-lived intangible assets, namely
trade-names.  The Company used an income approach (relief-from-royalty
method) to measure the fair value of these intangibles. The result of this
assessment indicated that the fair value of these other intangible assets was
not below their carrying values and therefore no impairment was
recorded.  For other long-lived intangible assets, namely patents, the
Company complied with the general valuation requirements set forth under ASC
Topic 360 “Accounting for the Impairment of Long-Lived Assets.”  The
result of this assessment indicated that no impairment existed.





6.
            Realignment
      and Other Actions





In
connection with the realignment of the Company to improve future operations,
severance charges associated with workforce reductions and other facility
closure and exit costs have been recorded during the second quarter of
2010.  For the three and six months ended June 30, 2010, the
consolidated statement of operations includes realignment charges of $3,191
which are comprised of $2,736 of severance benefits, $401 for abandoned leased
office space costs and $54 in other costs.  These costs are included
within operating expenses and classified as general and administrative charges
on the consolidated income statement.





The
consolidated balance sheet as of June 30, 2010 includes accruals relating to the
realignment program of $3,095.  The following table sets forth the
activity affecting the accrual during the six months ended June 30,
2010:




Severance
                
                
                Other Closure
                    and Exit CostsBalance
      as of December 31, 2009
                
                $
                -
                
                
                $
                -Charges
      incurred
                
                
                2,790
                
                
                
                401Cash
      payments
                
                
                (96
                )
                
                
                -Balance
      as of June 30, 2010
                
                $
                2,694
                
                
                $
                401




The
liabilities for accrued severance as of June 30, 2010 are reflected in accrued
expenses.  The liabilities for other closure and exit costs as of June
30, 2010 are included in accrued expenses and primarily relate to contractually
required lease obligations and other contractually committed costs associated
with abandoned office space.  The Company expects to pay the remaining
realignment obligations within 3.5 years, with the majority of the obligations
being paid within 2 years.





7.
            Accounts
      payable and accrued expenses




Accounts
payable and accrued expenses consist of the following:




June 30,
                    2010
                  
                  
                  December
                    31,
                    2009Accounts
      payable
                  
                  $
                  12,016
                  
                  
                  $
                  8,374Accrued
      expenses
                  
                  
                  17,407
                  
                  
                  
                  14,252Total
                  
                  $
                  29,423
                  
                  
                  $
                  22,626





8.
            Long
      term debt




On
November 4, 2009, the Company, through its wholly-owned subsidiary GFA Brands,
Inc. (the “Borrower”), entered into a Credit Agreement (the “Credit Agreement”)
with the various Lenders named therein (the “Lenders”), and Bank of Montreal, as
Administrative Agent (the “Agent”).  The Credit Agreement provides for
$100 million in secured debt financing consisting of a $55 million term
loan (the “Term Loan”) and a $45 million revolving credit facility (the
“Revolver”).  The Revolver includes a $5 million sublimit for the
issuance of letters of credit and a $5 million sublimit for swing line
loans.  Subject to certain conditions, the Borrower, to the extent
existing Lenders decline to do so by adding additional Lenders, may increase the
Term Loan or increase the commitments under the Revolver (or a combination of
the two) up to an aggregate additional amount of $5 million, at the Borrower’s
option.




The
Credit Agreement replaced the Company’s prior first lien and second lien credit
facilities with Bank of America Securities LLC and Bank of America, N.A. (the
“Prior Facilities”).   Proceeds of the Credit Agreement were used
to repay the debt outstanding under the Prior Facilities and may also be used
for general corporate purposes and general working capital
purposes.


14




The Term
Loan and the loans made pursuant to the Revolver will mature on November 3,
2013.  The Credit Agreement requires annual principal payments on the
Term Loan of $5.5 million.




Loans
outstanding under the Credit Agreement bear interest, at the Borrower’s option,
at either a base rate (defined in the Credit Agreement as the greatest of (i)
2.5%, (ii) the Agent’s prime rate, (iii) the federal funds rate plus 0.50% and
(iv) a reserve adjusted one-month LIBOR rate plus 1.0%) or a Eurodollar rate (of
no less than 1.5%), in each case plus an applicable margin.  The
applicable margin is determined under the Credit Agreement based on the ratio of
the Company’s total funded debt to EBITDA for the prior four fiscal quarters
(the “Leverage Ratio”), and may range from 2.25% to 3.25%, in the case of base
rate loans, and 3.25% to 4.25%, in the case of Eurodollar rate
loans.  The Borrower must also pay a commitment fee on the unused
portion of the Revolver (determined under the Credit Agreement  based
on the ratio of the Company’s Leverage Ratio) which may range from 0.50% to
0.75%.




Subject
to certain conditions, the Borrower may voluntarily prepay the loans under the
Credit Agreement in whole or in part, without premium or penalty (other than
customary breakage costs).  Mandatory prepayments that are required
under the Credit Agreement include:




●
            100% of the net cash proceeds (as
      defined in the Credit Agreement) upon certain dispositions of property or
      upon certain damages or seizures of property, subject to limited
      exceptions;




●
            50% of all net cash proceeds from
      the issuance of additional equity securities of the Company, subject to
      limited exceptions, provided, however, if the Company’s Leverage Ratio is
      less than 2.0 as of the end of the most recently ended quarter, the
      prepayment is limited to 25% of such
  proceeds;




●
            100% of the amount of net cash
      proceeds for certain issuances of additional indebtedness for borrowed
      money; and




●
            beginning on December 31, 2010
      and each fiscal year thereafter, an annual prepayment equal to 25% of
      excess cash flow of the Company (as defined in the Credit Agreement) for
      such fiscal year, provided such prepayment is not required if the Company
      has a Leverage Ratio of 2.0 or less, measured as of the end of such fiscal
      year.




The
Credit Agreement contains covenants that are customary for agreements of this
type.  These covenants include, among others: a limitation on the
incurrence of additional indebtedness; a limitation on mergers, acquisitions,
investments and dividend payments; and maintenance of specified financial
ratios.  Under the Credit Agreement, the Company must maintain (1) a
Leverage Ratio that is not greater than 2.75 to 1.0 until December 30, 2011 and
not greater than 2.50 to 1.0 thereafter and (2) a ratio of EBITDA to Debt
Service (as defined in the Credit Agreement), in each case for the prior four
fiscal quarters, of not less than 2.00 to 1.00.  The Company is also
limited to spending not more than $6 million of capital expenditures per year
with any unspent funds carried over to the next twelve months.  At
June 30, 2010, the Company was in compliance with all of its
covenants.


15




The
failure to satisfy covenants under the Credit Agreement or the occurrence of
other specified events that constitute an event of default could result in the
acceleration of the repayment obligations of the Borrower.  The Credit
Agreement contains customary provisions relating to events of default for
agreements of this type. The events of default include, among others: the
nonpayment of any outstanding principal, interest, fees or other amounts due
under the Credit Agreement; certain bankruptcy events, judgments or decrees
against the Company or the Borrower; cross defaults to other indebtedness
exceeding $5.0 million; a change in control (as defined in the Credit Agreement)
of the Company or the Borrower; and the failure to perform or observe covenants
in the Credit Agreement.




The
obligations under the Credit Agreement are guaranteed by the Company and all
existing and future subsidiaries of the Borrower.  The Borrower, the
Company and the other guarantors granted to the Agent, for the benefit of the
Lenders, a security interest in substantially all of its respective assets,
including, among other things, patents, patent licenses, trademarks and
trademark licenses.




After the
close of the transaction, total debt outstanding under the Credit Agreement
totaled approximately $60.6 million comprised of $55 million of Term Loan debt
and $5.6 million of borrowings under the Revolver.  During the fourth
quarter of 2009, the Company paid approximately $4.0 million on its Revolver and
during the first quarter of 2010 it paid $1.1 million of its scheduled
requirements.  On April 30, 2010 the Company paid $6.5 million of
which $1.6 million reduced the Revolver to zero and $4.9 million was applied
against the Term Loan bringing the total debt outstanding to $49.0
million.  In June 2010, the Company borrowed $4 million under its
Revolver.




The
Company is required to pay the following amounts in each of the next four
years:




2010
                  
                  $
                  -2011
                  
                  
                  5,0002012
                  
                  
                  5,5002013
                  
                  
                  42,500Total
                  
                  $
                  53,000





As of
June 30, 2010, $1,700 is due in the next twelve months.  The interest
rate under the Credit Agreement at June 30, 2010 was 4.75% while the interest
rate on the unused line was 0.5%.





9.
            Stock-based
      compensation




The
Company and its stockholders have authorized the issuance of up to 12,150,000
stock options under its Stock and Awards Plan.  Through June 30, 2010,
2,797,125 have been forfeited, which enabled the Company to grant a total of
12,707,500 stock options under the Stock and Awards Plan.


16




In
addition, during the first quarter of 2008, the compensation committee and
sub-committee of the compensation committee approved the issuance of up to
1,375,000 inducement stock options grants to new employees outside of the
Company’s stock plan pursuant to NASDAQ Marketplace Rule 4350.  During
the twelve months ended December 31, 2008, the Company issued all of the
1,375,000 inducement grant stock options to new employees.





The
Company utilizes two types of stock options, traditional service-based with a
four year graded vesting (25% vest each year) and market condition-based stock
options which vest when the underlying stock price reaches either $16.75 and
$20.25, respectively, and remains there for 20 out of 30 consecutive trading
days. Stock options are granted to recipients at exercise prices not less than
the fair market value of the Company’s stock at the dates of grant and can
consist solely of the service-based options or market conditions-based options
or can consist of a combination of both types of options.  Stock
options granted to employees have a term of 10 years.  The Company
recognizes stock-based compensation expense over the requisite service period of
the individual grants, which generally equals the vesting period, or as
determined by the Monte Carlo valuation model.





Number of
                    Outstanding
                    Shares
                  
                  
                  Weighted
                    Average
                    Exercise
                    Price
                  
                  
                  Weighted
                    Average
                    Remaining
                    Life (Years)Shares
      at December 31, 2008
                  
                  
                  12,045,000
                  
                  
                  $
                  9.47
                  
                  
                  
                  7.03Options
      granted
                  
                  
                  500,000
                  
                  
                  
                  6.46
                  
                  
                  
                  9.56Options
      exercised
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Options
      canceled/forfeited
                  
                  
                  (289,000
                  )
                  
                  
                  9.69
                  
                  
                  
                  7.92Shares
      at December 31, 2009
                  
                  
                  12,256,000
                  
                  
                  $
                  9.34
                  
                  
                  
                  7.78Options
      granted
                  
                  
                  1,347,500
                  
                  
                  
                  7.09
                  
                  
                  
                  9.82Options
      exercised
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Options
      canceled/forfeited
                  
                  
                  (2,318,125
                  )
                  
                  
                  9.52
                  
                  
                  
                  7.32Shares
      at June 30, 2010
                  
                  
                  11,285,375
                  
                  
                  $
                  9.04
                  
                  
                  
                  7.62Shares
      exercisable at June 30, 2010
                  
                  
                  3,414,375
                  
                  
                  $
                  9.45
                  
                  
                  
                  7.15





The
weighted-average grant-date fair values of options granted during 2010 and 2009
were $3.75 and $3.20, respectively.





The
following summarizes non-vested share activity as of June 30,
2010:





Shares
                  
                  
                  Grant-Date
                    Fair ValueNonvested
      at beginning of year
                  
                  
                  9,433,625
                  
                  
                  $
                  4.75Granted
                  
                  
                  1,347,500
                  
                  
                  
                  3.75Vested
                  
                  
                  (1,035,125
                  )
                  
                  
                  4.53Forfeited
                  
                  
                  (1,875,000
                  )
                  
                  
                  4.90Non-vested
      at end of quarter
                  
                  
                  7,871,000
                  
                  
                  $
                  4.57


17




As of
June 30, 2010, the total compensation cost related to non-vested awards not yet
recognized was $16.0 million with a weighted average remaining period of 1.58
years over which it is expected to be expensed.





The
Company accounts for its stock-based compensation awards in accordance with
authoritative accounting guidance for share-based payment, which requires
companies to recognize compensation expense for all equity-based compensation
awards issued to employees that are expected to vest. Compensation cost is based
on the fair value of awards as of the grant date.





Pre-tax
stock-based compensation expense included in reported net income is as
follows:




Three Months Ended
                    June 30,
                  
                  
                  Six Months Ended
                    June 30,2010
                  
                  
                  2009
                  
                  
                  2010
                  
                  
                  2009Service
      period-based
                  
                  $
                  628
                  
                  
                  $
                  1,888
                  
                  
                  $
                  2,548
                  
                  
                  $
                  3,759Market
      price-based $16.75
                  
                  
                  362
                  
                  
                  
                  1,228
                  
                  
                  
                  1,327
                  
                  
                  
                  2,456Market
      price-based $20.25
                  
                  
                  773
                  
                  
                  
                  911
                  
                  
                  
                  1,666
                  
                  
                  
                  1,822Total
                  
                  $
                  1,763
                  
                  
                  $
                  4,027
                  
                  
                  $
                  5,541
                  
                  
                  $
                  8,037





For the
traditional service-based stock options, the Company estimated the fair value,
as of the date of grant, using a Black-Scholes pricing model with the following
assumptions: risk-free interest rate of 3.53% - 4.67%, expected life of 7 years
for the service-based options and 10 years for the market price-based options,
no dividends and volatility of 35.9% - 52.08%. The cost of the service-based
stock options is being amortized over a four year vesting period. In the case of
the market price-based stock options, the Company used the Monte Carlo valuation
model.  The Company recognizes compensation expense for the market
price-based options over the estimated vesting period, which has been determined
to be 2.75 – 4.82 years and 3.68 – 5.53 years for the $16.75 and $20.25 awards,
respectively.





10.
            Stock
      Repurchase Activities




In December 2009, the Company’s Board
of Directors (the “Board”) approved a stock repurchase program which authorized
the Company to repurchase up to $25,000 of its common stock over a two-year
period.  During June 2010, the Company repurchased approximately 1.2
million shares of its common stock at an average price of $4.21 per share for an
aggregate purchase price of $4,995.  As of June 30, 2010, the stock
repurchase program had remaining aggregate authorized funds of
$20,005.  The stock purchase plan will expire on December 31, 2011
unless extended by the Board.





11.
            Interest
      rate derivatives




In
conjunction with the original variable-rate debt arrangement, which was
terminated on November 4, 2009, the Company entered into a notional $80,000
interest rate swap agreement which was designed to provide a constant interest
rate on the variable interest rate debt.  The swap agreement was
settled when the new financing was put in place on November 4,
2009.


18




12.
            License





A
substantial portion of the Company’s business is dependent on its exclusive
worldwide license of certain technology from Brandeis University. This license
agreement, dated June 1996, imposes certain obligations upon the Company, such
as diligently pursuing the development of commercial products under the licensed
technology. The agreement for each country expires at the end of the term of
each patent in such country and contains no minimum commitments. The amount of
royalties due is based on a formula of the percentage of oil and/or fat utilized
in the licensed products. Should Brandeis believe that the Company has failed to
meet its obligations under the license agreement, Brandeis could seek to limit
or terminate the Company’s license rights. Royalties earned by Brandeis in the
first half of 2010 were approximately $491.




13.
            Income
      taxes





The
Company’s effective tax rate for the year is dependent on many factors,
including the impact of enacted tax laws in jurisdictions in which it operates
and the amount of taxable income it earns. The effective tax rate for the second
quarter was zero as a result of recording a goodwill impairment charge of
$130,000, with no related tax benefit ascribed to the
charge.  Excluding this impairment charge, the effective tax rate for
the second quarter was 36.7%, which benefitted from resolution of prior years’
tax issues.  The Company’s effective tax rate for the balance of 2010
is estimated to be 39%.  The deferred tax liability represents
primarily the difference between the tax and accounting basis of intangible
assets acquired in the GFA merger.




14.
            Commitments
      and contingencies





As of
June 30, 2010, the Company had the following commitments and contractual
obligations:




●
            An amended lease agreement for
      the lease of a corporate office facility located in Paramus,
      NJ.  The lease was effective as of June 1, 2008 and has a seven
      year life with the option to extend the lease for two additional five-year
      terms.  The annual rental expense is approximately $500 for the
      first five years.





●
            Three lease agreements for the
      lease of a corporate office facility located in Niwot,
      Colorado.  The leases were effective as of August 1, 2007 and
      have a five-year life with the option to extend each lease for two 36
      month terms.  The annual rental expense is approximately $150
      for the first five years.





●
            Forward purchase commitments for
      a portion of the Company's projected requirement for peanuts and for palm,
      soy and canola oil.  These commitments may be stated at a firm
      price, or as a discount or premium from a future commodity market
      price.  Based on the most recent prices, these commitments would
      total approximately $36.8 million as of June 30, 2010.  The
      commitments are expected to be liquidated by the third quarter of
      2011.




15.
            Legal
      Proceedings





The
Company is currently involved in the following legal
proceedings:


19





On
February 8, 2010 a lawsuit was filed against Smart Balance, Inc. in the Federal
District Court for the Central District in California in Santa Ana,
California.  The complaint alleges, among other things, violations of
California’s unfair competition law, false advertising, and consumer remedies
act and seeks to identify all similarly situated plaintiffs and certify them in
a class action.  The Company has not yet answered the complaint, but
intends to vigorously defend itself.  The Company does not expect that
the resolution of this matter will have a material adverse effect on our
business.





In 2007,
three parties filed Oppositions to European Patent No. 820,307 relating to
increasing the HDL level and the HDL/LDL ratio in Human Serum by Balancing
Saturated and Polyunsaturated Dietary Fatty Acids.  We believe that
neither this proceeding, nor its outcome, will have any adverse effect on our
current business.





We are
not a party to any other legal proceeding that we believe would have a material
adverse effect on our business, results of operations or financial
condition.




20





Item 2.
            Management’s Discussion and
      Analysis of Financial Condition and Results of
      Operations





This
Management’s Discussion and Analysis of Financial Condition and Results of
Operations should be read in conjunction with the June 30, 2010 Condensed
Consolidated Financial Statements and the related Notes contained in this
quarterly report on Form 10-Q and our annual report on Form 10-K for the year
ended December 31, 2009. Forward-looking statements in this section are
qualified by the cautionary statements included under the heading “Cautionary
Note Regarding Forward Looking Information,” above.





Company
Overview





We are a
consumer food products company that competes primarily in the retail branded
food products industry and focuses on providing value-added, functional food
products to consumers. Functional food is defined as a food or a food ingredient
that has been shown to affect specific functions or systems in the body and may
play an important role in disease prevention. We market buttery spreads,
popcorn, peanut butter, cooking oil, mayonnaise, milk, sour cream and other
products primarily under the Smart Balance ®
trademark. In the natural food channel, we sell similar natural and organic
products under the Earth Balance ®
 trademark. Our trademarks are of material importance to our business and
are protected by registration or other means in the United States and a number
of international markets.  Our buttery spreads business, marketed
under Smart Balance ® , Earth
Balance ® ,
SmartBeat ®,
BestlifeTM and Nucoa ® , is by
far our most developed product group and accounted for approximately 72% of
sales for the six months ended June 30, 2010.  Our products are sold
throughout the U.S.  A majority of our products are sold through
supermarket chains and food wholesalers.





We
outsource production of finished goods to third-party
manufacturers.  We do not own or operate any manufacturing
facilities.  Outsourcing allows us to focus our energy and resources
on marketing and sales, while substantially reducing capital expenditures and
avoiding the complication of managing a production work force.  Our
manufacturers supply our products at a price equal to the cost of ingredients
and certain packaging plus a contracted toll charge.  We use third
party distributors and a network of public warehouses to deliver products from
our manufacturers to our customers.





Our goal
is to become a recognized leader in providing nutritious and good tasting
products for a wide variety of consumer needs.  We believe the Smart
Balance ®
brand has the potential to become a broad functional foods platform across
multiple food categories.  Our primary growth strategy is two-fold:
(1) to drive consumer and trade awareness of our brands and (2) to increase
purchase frequency by expanding product offerings and distribution in our core
category of spreads and into other dairy categories.  In order to
drive consumer and trade awareness of our brands and add more households that
prefer our products, we will continue to use marketing and promotional programs
to drive trial and encourage brand loyalty. We spent over $50 million in 2009
for consumer marketing and promotion.  In order to increase purchase
frequency and expand our product offerings and distribution, during 2008 we
launched a successful distribution initiative to increase shelf presence in
retailers.  The effort substantially increased the average number of
our products that retailers have on the shelf, especially in the spreads
category.




21





2009 was
an important year in creating a foundation necessary to support growth over the
next several years.  We increased our market share and profitability
in the core spreads category, established our dairy initiative, lead by our
enhanced milk products, and refinanced our credit facility with a strategically
flexible capital structure.  In 2010, we launched our 3-tier spreads
initiative, with products in all segments of the category.  We also
began expansion of milk distribution in 2010.





In our
core spreads category, for the year ended December 31, 2009 our dollar market
share was up a full point to 14.6% according to Information Resources
Incorporated data for the food channel.  Accordingly, we
were first among competitors in dollar share growth in 2009 and second
behind private label in unit share growth, an accomplishment for a premium
priced product in this economy.  We are now the number two marketer of
spreads in the U.S. on a dollar basis. In the first six months of 2010, our
market share was 15.7%, up 0.2 points, from the same period in the prior
year.  Our strategy has always been to maintain price and product
positioning as a premium brand.  As a result, we lost some volume
opportunities over the last twelve months as consumers continued to be price
sensitive and competitors sought to increase unit share through price
promotion





For our
dairy initiative in 2009, we expanded distribution of milks to the Northeast,
beyond the initial Florida market.  We launched sour cream products
later in the year to increase our positioning in the dairy aisle.  Our
current dairy aisle initiative is the critical part of our growth
plan.  Centered on the high purchase frequency of the milk category,
we believe success in expanding in the dairy aisle will be the driver toward our
growth goals.  In 2010, we have started expansion of the distribution
of milk across the U.S.





We
restructured our long-term debt in November 2009 to give the Company greater
flexibility in strategic areas such as acquisitions and capital structure with
higher available credit and less restrictive financial covenants than our
previous facility.  At the end of June 2010 our debt was $53.0
million.  Our board authorized a two-year, $25 million stock
repurchase program, which became effective starting in March 2010.  As
of June 30, 2010, approximately $5 million was used to repurchase the Company’s
shares.





In 2009,
we signed an exclusive license agreement to use the BestlifeTM brand across
virtually all food and beverage categories.  The Best Life® program
was developed by Bob Greene, Oprah’s trainer and nutritional
advisor.  We believe that this relationship provides us with a
significant opportunity to use a targeted marking approach to penetrate the
value segment of the spreads category and other categories where the Smart
Balance® brand does not participate.  We began distribution of
BestlifeTM brands in March 2010.  In the third quarter of 2010, we
announced the launch of Earth Balance ®organic
soymilk into Whole Foods markets nationwide.  Earth Balance will
become the only brand supported nationally by Whole Foods.  We will
begin to expand Earth Balance ®organic
soymilk to other natural food customers in 2011.




22





In 2010,
we expanded milk and sour cream nationally and are using advertising and other
marketing to drive trial.  However, our ability to build trial for
milk has been slowed by the current economic environment. To continue to grow
our presence in the spreads category, we have developed our three-tier strategy,
which we believe allows us to compete in multiple segments in the spreads
category, with our Earth Balance ®
 brand in the super premium segment,  our Smart Balance ®
brand in the healthy premium segment and our new BestlifeTM brand in the value
segment.  We expect pricing pressure in the spreads category to
continue for at least several quarters due to the economic conditions and
competitive promotional activity that started mid-year in
2009.  Nevertheless, consumer purchases at retail are up for the four
weeks ending July 2010, over the same period in 2009.





Our
results in the past quarter were adversely affected by the continuing weakness
in the US economy which is particularly affecting the premium priced branded
products the Company markets. This along with an unusually strong competitive
environment has had a dampening effect on our overall financial performance,
requiring us to revise our forward-looking business projections downward during
the second quarter of 2010 which, in turn, significantly reduced our market
capitalization. As required under ASC Topic 350, we performed an impairment test
of goodwill and determined the fair value of recorded goodwill was in excess of
implied goodwill and, accordingly, recorded a goodwill impairment loss of $130.0
million at June 30, 2010.





Results
of Operations





The
following discussion should be read in conjunction with our unaudited
consolidated financial statements and related notes thereto included elsewhere
in this Form 10-Q.





Results
of Operations for the Three and Six Months Ended June 30, 2010 and
2009




Three Months Ended
                    
                    
                    Six Months EndedJune 30,
                    
                    
                    June 30,(In
      millions except share data)
                    
                    2010
                    
                    
                    2009
                    
                    
                    2010
                    
                    
                    2009Net
      sales
                    
                    $
                    55.6
                    
                    
                    $
                    58.2
                    
                    
                    $
                    119.3
                    
                    
                    $
                    120.8Cost
      of goods sold
                    
                    
                    28.7
                    
                    
                    
                    29.9
                    
                    
                    
                    59.1
                    
                    
                    
                    64.3Gross
      profit
                    
                    
                    26.9
                    
                    
                    
                    28.3
                    
                    
                    
                    60.2
                    
                    
                    
                    56.5Operating
      expenses
                    
                    
                    155.7
                    
                    
                    
                    25.8
                    
                    
                    
                    183.2
                    
                    
                    
                    50.8Operating
      income (loss)
                    
                    
                    (128.8
                    )
                    
                    
                    2.5
                    
                    
                    
                    (123.0
                    )
                    
                    
                    5.7Other
      expenses, net
                    
                    
                    (1.0
                    )
                    
                    
                    (1.5
                    )
                    
                    
                    (2.3
                    )
                    
                    
                    (2.8
                    )Income
      (loss) before income taxes
                    
                    
                    (129.8
                    )
                    
                    
                    1.0
                    
                    
                    
                    (125.3
                    )
                    
                    
                    2.9Provision
      for income taxes
                    
                    
                    0.2
                    
                    
                    
                    -
                    
                    
                    
                    (1.7
                    )
                    
                    
                    0.8Net
      income (loss)
                    
                    $
                    (130.0
                    )
                    
                    $
                    1.0
                    
                    
                    $
                    (127.0
                    )
                    
                    $
                    2.1Net
      income (loss) per common share - basic and diluted
                    
                    $
                    (2.08
                    )
                    
                    $
                    .02
                    
                    
                    $
                    (2.03
                    )
                    
                    $
                    0.03





Results
of Operations for the Three Months Ended June 30, 2010 Compared to the Three
Months Ended June 30, 2009





Net
Sales:





Our net
sales for the three months ended June 30, 2010 declined 4.4% to $55.6 million
from $58.2 million for the three months ended June 30, 2009.  The
decrease was primarily due to lower volumes for spreads and other grocery
products, partially offset by distribution gains in milk and sour
cream.  Case shipments of our grocery products including cooking oil,
peanut butter, microwave popcorn and mayonnaise were down 11% versus the second
quarter of 2009, as the environment surrounding these product categories
continues to be price promotion driven.  Despite the decrease in
volumes for spreads overall, Earth Balance® spreads were up 27% in dollars for
the 2010 quarter compared to the second quarter of 2009, reflecting strong out
of store performance in the natural foods channel.




23





Cost
of Goods Sold:





Cost of
goods sold for the three months ended June 30, 2010 was $28.7 million, a 4.0%
decrease from the same period in 2009.  The decrease was due to lower
volumes in spreads and grocery products, partially offset by higher volumes due
to distribution increases in milk and sour cream.





Gross
Profit:





Our gross
profit decreased $1.4 million to $26.9 million for the three months ended June
30, 2010 from $28.3 million from the same period in 2009, due to primarily to
lower net sales.





Gross
profit as a percentage of net sales was 48.3% for the three months ended June
30, 2010 compared to 48.5% during the same period in 2009.





Operating
Expenses:





Total
operating expenses for the three months ended June 30, 2010 were $155.7 million
compared to $25.8 million for the corresponding period in
2009.  Included in the 2010 amount are a goodwill impairment charge of
$130 million, a realignment charge of $3.2 million and a one-time benefit in the
change in stock-based compensation expense of $1.3 million.  Excluding
these items, total operating expenses for the three months ended June 30, 2010
were $23.8 million, a decrease of $2.0 million.  The decrease
primarily resulted from lower stock-based compensation and other employee
related costs, partially offset by higher marketing costs.





In
connection with the preparation of the financial statements for the second
quarter of 2010, we reassessed some of the underlying growth rates and market
assumptions we used in December 2009 to prepare our 2010 outlook. Prior to this
reassessment, we had determined that, at December 31, 2009, and March 31, 2010,
there was no impairment of goodwill. However, during the second quarter of 2010,
due to the persistently weak U.S. economic environment which heightened consumer
sensitivity for premium priced branded products we market and the competitive
environment for our premium products which continued to intensify during the
quarter requiring us to increase our planned levels of marketing and promotional
support to remain competitive, we reviewed our outlook we issued in December
2009 and made a determination that was no longer achievable. Accordingly, we
issued a press release on June 14, 2010, revising downward our financial outlook
for 2010, which resulted in a significant reduction in our share price and
related market capitalization.  As required under ASC Topic 350, we
performed an impairment test of goodwill and determined the fair value of
recorded goodwill was in excess of implied goodwill and, accordingly, recorded a
goodwill impairment loss of $130.0 million at June 30, 2010. There was no tax
benefit associated with this loss.





Operating
Income (Loss):





Our
operating loss was $128.8 million for the three months ended June 30, 2010
compared with operating income of $2.5 million for the corresponding period in
2009. Included in the 2010 operating loss are a goodwill impairment charge of
$130 million, a realignment charge of $3.2 million and a one-time benefit in the
change in stock-based compensation expense of $1.3 million.  Excluding
these items, total operating income for the three months ended June 30, 2010 was
$3.1 million, an increase of $0.6 million.  This increase was due
primarily to lower operating expenses partially offset by lower gross
profits.





Other
Income (Expense):





We
incurred other expenses of $1.0 million for the three months ended June 30, 2010
and $1.5 million in the corresponding period in 2009.  The results for
2010 and 2009 included net interest expense of $0.8 and $1.2 million,
respectively.  Included in the 2009 net interest expense was a $0.3
million loss on derivatives related to our interest rate swap.





Income
Taxes:





The
provision for income taxes for the three months ended June 30, 2010 was $0.2
million compared with zero for the corresponding period in 2009.  The
effective tax rate for the three months ended June 30, 2010 was zero as a result
of recording a pre-tax goodwill impairment charge, which had no tax
benefit.  Excluding the impairment charge, the effective tax rate for
the three months ended June 30, 2010 was 36.7% benefitting from resolution of
prior years’ tax issues.




24





Net
Income (Loss):





Our net
loss for the three months ended June 30, 2010 was $130.0 million compared with
net income of $1.0 million for the corresponding period in
2009.  Included in the 2010 net loss are a goodwill impairment charge
of $130 million (with no tax benefit), a realignment charge of $2.0 million
(after taxes) and a one-time benefit in the change in stock-based compensation
expense of $0.8 million (after taxes).  Excluding these items, net
income for the three months ended June 30, 2010 was $1.2 million, an increase of
$0.2 million.  This increase was due primarily to the improvement in
operating income (before giving effect to the goodwill impairment charge, the
realignment charge and the charge in stock-based compensation
expense).





Net
Income (Loss) Per Common Share:





Our basic
and diluted net loss per share for the three months ended June 30, 2010 was
$2.08 compared to net income per share of $0.02 in the corresponding period
in 2009, based on the basic and diluted weighted average shares outstanding of
62.5 million in 2010 and 62.6 million in 2009, respectively.  Included
in the 2010 net loss are a goodwill impairment charge of $2.08, a realignment
charge of $0.03 and a one-time benefit in the change in stock-based compensation
expense of $0.01.  Excluding these items, net income per common share
for the three months ended June 30, 2010 was $0.02.





Results
of Operations for the Six Months Ended June 30, 2010 Compared to the Six Months
Ended June 30, 2009





Our net
sales for the six months ended June 30, 2010 declined 1.3% to $119.3 million
from $120.8 million for the six months ended June 30, 2009.  The
decrease was primarily due to lower volumes in spreads and grocery products
partially offset by increased distribution of milk and sour cream.




25





Cost
of Goods Sold:





Cost of
goods sold for the six months ended June 30, 2010 was $59.1 million, an 8.2%
decrease from the same period in 2009.  The decrease was due to lower
product input costs, partially offset by increased trade promotion
costs.





Gross
Profit:





Our gross
profit increased $3.7 million to $60.2 million for the six months ended June 30,
2010 from $56.5 million from the same period in 2009, due to lower product input
costs partially offset by increased trade promotion costs.





Gross
profit as a percentage of net sales was 50.5% for the six months ended June 30,
2010 compared to 46.8% during the same period in 2009.  This increase
was due primarily to lower product input costs partially offset by increased
trade promotion costs.





Operating
Expenses:





Total
operating expenses for the six months ended June 30, 2010 were $183.2 million
compared to $50.8 million for the corresponding period in
2009.  Included in the 2010 amount are a goodwill impairment charge of
$130 million, a realignment charge of $3.2 million and a one-time benefit in the
change in stock-based compensation expense of $1.3 million.  Excluding
these items, total operating expenses for the six months ended June 30, 2010
were $51.3 million, an increase of $0.5 million.  The increase
primarily resulted from higher marketing costs, partially offset by lower
general and administrative costs.





In
connection with the preparation of the financial statements for the second
quarter of 2010, we reassessed some of the underlying growth rates and market
assumptions we used in December 2009 to prepare our 2010 outlook. Prior to this
reassessment, we had determined that, at December 31, 2009, and March 31, 2010,
there was no impairment of goodwill. However, during the second quarter of 2010,
due to the persistently weak U.S. economic environment which heightened consumer
sensitivity for premium priced branded products we market and the competitive
environment for our premium products which continued to intensify during the
quarter requiring us to increase our planned levels of marketing and promotional
support to remain competitive, we reviewed our outlook we issued in December
2009 and made a determination that was no longer achievable. Accordingly, we
issued a press release on June 14, 2010, revising downward our financial outlook
for 2010, which resulted in a significant reduction in our share price and
related market capitalization.  As required under ASC Topic 350, we
performed an impairment test of goodwill and determined the fair value of
recorded goodwill was in excess of implied goodwill and, accordingly, recorded a
goodwill impairment loss of $130.0 million at June 30, 2010. There was no tax
benefit associated with this loss.





Operating
Income (Loss):





Our
operating loss was $123.0 million for the six months ended June 30, 2010
compared with operating income of $5.7 million for the corresponding period in
2009. Included in the 2010 operating loss are a goodwill impairment charge of
$130 million, a realignment charge of $3.2 million and a one-time benefit in the
change in stock-based compensation expense of $1.3 million.  Excluding
these items, total operating income for the six months ended June 30, 2010 was
$8.9 million, an increase of $3.2 million.  This increase was due
primarily to higher gross profits.





Other
Income (Expense):





We
incurred other expenses of $2.3 million for the six months ended June 30, 2010
and $2.8 million in the corresponding period in 2009.  The results for
2010 and 2009 included net interest expense of $1.7 million and $2.3 million,
respectively.  Included in the 2009 net interest expense was a $0.4
million loss on derivatives related to our interest rate swap.





Income
Taxes:





The
provision for income taxes for the six months ended June 30, 2010 was $1.7
million compared with $0.8 million for the corresponding period in
2009.  The effective tax rate for the six months ended June 30, 2010
was 1.4% as a result of recording a pre-tax goodwill impairment charge, which
had no tax benefit.  Excluding the impairment charge, the effective
tax rate for the six months ended June 30, 2010 was 33.5% benefitting from
resolution of prior years’ tax issues.


26





Net
Income (Loss):





Our net
loss for the six months ended June 30, 2010 was $127.0 million compared with net
income of $2.1 million for the corresponding period in 2009.  Included
in the 2010 net loss are a goodwill impairment charge of $130 million (with no
tax benefit), a realignment charge of $2.1 million (after taxes) and a one-time
benefit in the change in stock-based compensation expense of $0.8 million (after
taxes).  Excluding these items, net income for the six months ended
June 30, 2010 was $4.3, an increase of $2.2 million.  This increase
was due primarily to higher gross profits.





Net
Income (Loss) Per Common Share:





Our basic
and diluted net loss per share for the six months ended June 30, 2010 was $2.03
compared to net income per share of $0.03 in the corresponding period in
2009, based on the basic and diluted weighted average shares outstanding of 62.5
million in 2010 and 62.6 million and 62.8 million in 2009,
respectively.  Included in the 2010 net loss are a goodwill impairment
charge of $2.08, a realignment charge of $0.03 and a one-time benefit in the
change in stock-based compensation expense of $0.01.  Excluding these
items, net income per common share for the three months ended June 30, 2010 was
$0.07.





Organization
Realignment





The
Company previously announced an organizational realignment together with the
retirement of Robert Gluck, Vice Chairman and Chief Operating
Officer.  Associated with this realignment, we recorded a charge to
earnings within operating expenses in the second quarter of $3.2 million, or
$2.0 million after-tax.  The impact on a per share basis was
$0.03.  As a result of the realignment, there was also a $1.3 million
one-time benefit in the change in stock-based compensation, or $0.8 million
after-tax.  The impact on a per share basis was $0.03 and $0.01,
respectively.





Ongoing
cash savings are estimated to be $2.8 million annually.  Any savings
from the organization realignment in 2010 is expected to be used to support
business growth.  Going forward, we expect that general expenses after
the savings will increase due to inflation and support for growth as needed but
will decrease as a percentage of net sales as the business grows.





Cash
Flows





Cash
provided by operating activities was $5.5 million for the six months ended June
30, 2010 compared to $5.2 million in the corresponding period in
2009.  For the first half of 2010, we had a net loss of $127.0
million, which included a goodwill impairment charge of $130.0 million, $5.5
million of non-cash stock-based compensation, and $3.0 million of depreciation
and amortization expense, offset by an increase in working capital of $3.0
million and changes in deferred income taxes of $3.0 million.  For the
first six months of 2009, we had net income of $2.1 million, which included $8.0
million of non-cash stock-based compensation expenses and $2.7 million of
depreciation and amortization expense, offset by increased working capital of
$4.6 million and changes in deferred taxes and derivative liability of $3.1
million.





27





Cash used
in investing activities totaled $0.9 million for the six months ended June 30,
2010, compared to $0.5 million during the six months ended June 30, 2009,
resulting from purchase of software development costs and capitalization of
legal costs.





Cash used
in financing activities for the six months ended June 30, 2010 was $8.7 million,
compared to $5.0 million for the corresponding period in 2009, resulting from
the repayment of debt and purchase of treasury stock, partially offset by new
financing.





Cash Operating
Income





The
Company uses the term “cash operating income” as an important measure of
profitability and performance.   Cash operating income is a non-GAAP
measure defined as operating income excluding stock based compensation,
depreciation, amortization of intangibles, goodwill impairment, realignment
charges and stock option expense.  Our cash operating income was $7.5
million in the second quarter of 2010 compared to $7.7 million in the second
quarter of 2009.  Cash operating income was $18.3 million for the
first six months of 2010 compared to $16.1 million for the corresponding period
of 2009.  Our management uses cash operating income for planning
purposes, and we believe this measure provides investors and securities analysts
with important supplemental information regarding the Company’s profitability
and operating performance.  However, non-GAAP financial measures such as
cash operating income should be viewed in addition to, and not as an alternative
for, the Company's results prepared in accordance with GAAP.  In addition,
the non-GAAP measures the Company uses may differ from non-GAAP measures used by
other companies.  We have included reconciliations of cash operating income
to operating income as calculated in accordance with GAAP.





Three
      Months Ended
                        
                        
                        Six
      Months EndedJune
      30,
                        
                        
                        June
      30,
                        
                        
                        June
      30,
                        
                        
                        June
      30,(in
      millions)
                        
                        2010
                        
                        
                        2009
                        
                        
                        2010
                        
                        
                        2009Operating
      income (loss)
                        
                        $
                        (128.8
                        )
                        
                        $
                        2.5
                        
                        
                        $
                        (123.0
                        )
                        
                        $
                        5.7Add
      back:Depreciation
      and amortization of intangibles
                        
                        
                        1.3
                        
                        
                        
                        1.2
                        
                        
                        
                        2.6
                        
                        
                        
                        2.4Goodwill
      impairment
                        
                        
                        130.0
                        
                        
                        
                        -
                        
                        
                        
                        130.0
                        
                        
                        
                        -Realignment
                        
                        
                        3.2
                        
                        
                        
                        -
                        
                        
                        
                        3.2
                        
                        
                        
                        -Stock
      option expense
                        
                        
                        1.8
                        
                        
                        
                        4.0
                        
                        
                        
                        5.5
                        
                        
                        
                        8.0Cash
      Operating Income
                        
                        $
                        7.5
                        
                        
                        $
                        7.7
                        
                        
                        $
                        18.3
                        
                        
                        $
                        16.1




28





Liquidity and Capital
Resources





Liquidity:





Our
liquidity planning is largely dependent on our operating cash flows, which is
highly sensitive to changes in demand and, to a lesser extent, pricing, for our
major products. While changes in key operating costs, such as outsourced
production, advertising, promotion and distribution, may adversely affect cash
flows, we generate significant cash flows as demand for our products grows. Our
principal liquidity requirements are to finance current operations, pay down
existing indebtedness and fund future expansion.  Under our Credit
Agreement the Company can also repurchase common stock subject to a
determination of its excess cash flow as defined in that agreement. In December
2009, the Board approved the repurchase of up to $25 million of shares over a
two year period.  During the second quarter of 2010, the Company
repurchased approximately $5 million of shares under this
program.  Currently, our primary source of liquidity is cash generated
from operations.





We
believe that cash flows generated from operations, existing cash and cash
equivalents, and borrowing capacity under the revolving credit facility should
be sufficient to finance working capital requirements for our business for the
next twelve months.  As of June 30, 2010, $41.0 million was available
for borrowing under our Revolver and we had $3.5 million of
cash.  Developing and bringing to market other new brands and business
opportunities (such as joint ventures and/or acquisitions) may require
additional outside funding, which may require us to seek out additional
financing arrangements.





Secured
Debt Financing:





On
November 4, 2009, the Company, through its wholly-owned subsidiary GFA Brands,
Inc. (the “Borrower”), entered into a Credit Agreement (the “Credit Agreement”)
with the various Lenders named therein (the “Lenders”), and Bank of Montreal, as
Administrative Agent (the “Agent”).  The Credit Agreement provides for
$100 million in secured debt financing consisting of a $55 million term
loan (the “Term Loan”) and a $45 million revolving credit facility (the
“Revolver”).  The Revolver includes a $5 million sublimit for the
issuance of letters of credit and a $5 million sublimit for swing line
loans.  Subject to certain conditions, the Borrower, to the extent
existing Lenders decline to do so by adding additional Lenders, may increase the
Term Loan or increase the commitments under the Revolver (or a combination of
the two) up to an aggregate additional amount of $5 million, at the Borrower’s
option.





The
Credit Agreement replaced the Company’s prior first lien and second lien credit
facilities with Bank of America Securities LLC and Bank of America, N.A. (the
“Prior Facilities”).  Proceeds of the Credit Agreement were used to
repay the debt outstanding under the Prior Facilities and have also been used
for general corporate purposes and general working capital
purposes.





The Term
Loan and the loans made pursuant to the Revolver will mature on November 3,
2013.  The Credit Agreement requires annual principal payments on the
Term Loan of $5.5 million.





Loans
outstanding under the Credit Agreement will bear interest, at the Borrower’s
option, at either a base rate (defined in the Credit Agreement as the greatest
of (i) 2.5%, (ii) the Agent’s prime rate, (iii) the federal funds rate plus
0.50% and (iv) a reserve adjusted one-month LIBOR rate plus 1.0%) or a
Eurodollar rate (of no less than 1.5%), in each case plus an applicable
margin.  The applicable margin is determined under the Credit
Agreement based on the ratio of the Company’s total funded debt to EBITDA for
the prior four fiscal quarters (the “Leverage Ratio”), and may range from 2.25%
to 3.25%, in the case of base rate loans, and 3.25% to 4.25%, in the case of
Eurodollar rate loans.  The Borrower must also pay a commitment fee on
the unused portion of the Revolver determined under the Credit
Agreement  based on the ratio of the Company’s Leverage Ratio and may
range from 0.50% to 0.75%.




29


Subject
to certain conditions, the Borrower may voluntarily prepay the loans under the
Credit Agreement in whole or in part, without premium or penalty (other than
customary breakage costs).  Mandatory prepayments that are required
under the Credit Agreement include:




●
            100% of the net cash proceeds (as
      defined in the Credit Agreement) upon certain dispositions of property or
      upon certain damages or seizures of property, subject to limited
      exceptions;





●
            50% of all net cash proceeds from
      issuance of additional equity securities of the Company, subject to
      limited exceptions, provided, however, if the Company’s Leverage Ratio is
      less than 2.0 as of the end of the most recently ended quarter, the
      prepayment is limited to 25% of such
  proceeds;





●
            100% of the amount of net cash
      proceeds for certain issuances of additional indebtedness for borrowed
      money; and





●
            Beginning on December 31, 2010
      and each fiscal year thereafter, an annual prepayment equal to 25% of
      excess cash flow of the Company (as defined in the Credit Agreement) for
      such fiscal year, provided such prepayment is not required if the Company
      has a Leverage Ratio of 2.0 or less, measured as of the end of such fiscal
      year.





The
Credit Agreement contains covenants that are customary for agreements of this
type.  These covenants include, among others: a limitation on the
incurrence of additional indebtedness; a limitation on mergers, acquisitions,
investments and dividend payments; and maintenance of specified financial
ratios.  Under the Credit Agreement, the Company must maintain (1) a
Leverage Ratio that is not greater than 2.75 to 1.0 until December 30, 2011 and
not greater than 2.50 to 1.0 thereafter and (2) a ratio of EBITDA to Debt
Service (as defined in the Credit Agreement), in each case for the prior four
fiscal quarters, of not less than 2.00 to 1.00.  The Company is also
limited to spending not more than $6 million of capital expenditures per year
with any unspent funds carried over to the next twelve months.  At
June 30, 2010, the Company was in compliance with all of its
covenants.





The
failure to satisfy covenants under the Credit Agreement or the occurrence of
other specified events that constitute an event of default could result in the
acceleration of the repayment obligations of the Borrower.  The Credit
Agreement contains customary provisions relating to events of default for
agreements of this type. The events of default include, among others: the
nonpayment of any outstanding principal, interest, fees or other amounts due
under the Credit Agreement; certain bankruptcy events, judgments or decrees
against the Company or the Borrower; cross defaults to other indebtedness
exceeding $5.0 million; a change in control (as defined in the Credit Agreement)
of the Company or the Borrower; and the failure to perform or observe covenants
in the Credit Agreement.


30


The
obligations under the Credit Agreement are guaranteed by the Company and all
existing and future subsidiaries of the Borrower.  The Borrower, the
Company and the other guarantors granted to the Agent, for the benefit of the
Lenders, a security interest in substantially all of its respective assets,
including, among other things, patents, patent licenses, trademarks and
trademark licenses.





After the
close of the transaction, total debt outstanding under the Credit Agreement
totaled approximately $60.6 million comprised of $55 million of Term Loan debt
and $5.6 million of borrowings under the Revolver.  During the fourth
quarter of 2009, the Company paid approximately $4.0 million on its Revolver and
during the first quarter of 2010 it paid $1.1 million of its scheduled
requirements.  On April 30, 2010 the Company paid $6.5 million of
which $1.6 million reduced the Revolver to zero and $4.9 million was applied
against the Term Loan bringing the total debt outstanding to $49.0
million.  In June the Company borrowed $4 million under its
Revolver.





The
Company is required to pay the following amounts in each of the next four
years:




2010
                    
                    $
                    -2011
                    
                    
                    5.02012
                    
                    
                    5.52013
                    
                    
                    42.5Total
                    
                    $
                    53.0





The
interest rate under the Credit Agreement at June 30, 2010 was 4.75% while the
interest rate on the unused line was 0.5%.





Contractual
Obligations





There has
been no material change to our contractual obligations as disclosed in the
fiscal year 2009 Form 10-K filed with the SEC on March 10, 2010.





Off
Balance Sheet Arrangements





We do not
have off-balance sheet arrangements, financings, or other relationships with
unconsolidated entities or other persons, also known as “variable interest
entities.”





Item 3.
            Quantitative
      and Qualitative Disclosures About Market
Risk





We are
exposed to financial market risks due primarily to changes in interest rates on
our variable interest rate debt.  Under our Credit Agreement, we are
subject to changes in interest rates, but are not required to enter into an
interest rate swap until the market LIBOR rate exceeds 1.5%.  The
three-month LIBOR rate at June 30, 2010 was 0.50 %.





We
purchase significant amounts of soy, palm and canola oil products to support the
needs of our brands. The price and availability of these commodities directly
impacts our results of operations and can be expected to impact our future
results of operations. We do not engage in any hedging activities because we
enter into agreements that qualify as normal purchases and sales in the normal
course of business.  Accordingly, the agreements do not qualify as
derivatives under existing authoritative accounting guidance, namely,
“Accounting for Derivative Instruments and Hedging Activities.”  Based
on the most recent prices for soy, palm and canola oil products, as of June 30,
2010 we had commitments of $36.8 million.


31


We are
exposed to market risk from changes in interest rates charged on our debt. The
impact on earnings is subject to change as a result of movements in market
rates. A hypothetical increase in interest rates of 100 basis points would
result in potential reduction of future pre-tax earnings of approximately $1.5
million per year.  Our ability to meet our debt service obligations
will be dependent upon our future performance which, in turn, is subject to
future economic conditions and to financial, business and other
factors.





Item 4.
            Controls
      and Procedures





Conclusion regarding the
effectiveness of disclosure controls and procedures . Our management,
with the participation of our Chief Executive Officer and Principal Financial
and Accounting Officers, evaluated the effectiveness of our disclosure controls
and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Exchange Act) as of June 30, 2010. Disclosure controls and procedures include,
without limitation, controls and procedures designed to ensure that information
required to be disclosed by the Company in the reports that we file or submit
under the Exchange Act is accumulated and communicated to our management,
including our Chief Executive Officer and Principal Financial Officer, as
appropriate to allow timely decisions regarding required disclosure. Management
recognizes that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving their objectives
and management necessarily applies its judgment in evaluating the cost-benefit
relationship of possible controls and procedures. Based on management’s
evaluation of our disclosure controls and procedures as of June 30, 2010, our
Chief Executive Officer and Principal Financial Officer concluded that, as of
such date, our disclosure controls and procedures were effective.





Changes in internal control over
financial reporting. During the fiscal quarter ended June 30, 2010, there
was no change in our internal control over financial reporting that has
materially affected, or is reasonably likely to materially affect, our internal
control over financial reporting.


32


Part
      II.
            Other
      Information





Item 1.
            Legal
      Proceedings.





The
Company is currently involved in the following legal proceedings:





On
February 8, 2010 a lawsuit was filed against Smart Balance, Inc. in the Federal
District Court for the Central District in California in Santa Ana,
California.  The complaint alleges, among other things, violations of
California’s unfair competition law, false advertising, and consumer remedies
act and seeks to identify all similarly situated plaintiffs and certify them in
a class action.  The Company has not yet answered the complaint, but
intends to vigorously defend itself.   The Company does not expect
that the resolution of this matter will have a material adverse effect on our
business.





In 2007,
three parties filed Oppositions to European Patent No. 820,307 relating to
increasing the HDL level and the HDL/LDL ratio in Human Serum by Balancing
Saturated and Polyunsaturated Dietary Fatty Acids.  We believe that
neither this proceeding, nor its outcome, will have any adverse effect on our
current business.





We are
not a party to any other legal proceeding that we believe would have a material
adverse effect on our business, results of operations or financial
condition.





Item 1A.
            Risk
      Factors.





An
investment in our securities involves a high degree of risk. There have been no
material changes to the risk factors previously reported under Item 1A of
our annual report on Form 10-K for the year ended December 31,
2009.





Item 6.
            Exhibits.





See the
exhibit index located elsewhere in this quarterly report on Form
10-Q.


33


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.




August
      5, 2010
              SMART
      BALANCE, INC.
                (Registrant)/s/ Stephen B. HughesStephen
      B. Hughes
                Chairman
      and Chief Executive Officer
                (Authorized
      officer of Registrant)/s/ Alan S. GeverAlan
      S. Gever
                Executive
      Vice President and
                Chief
      Financial Officer
                (Principal
      financial officer of
Registrant)


34


Exhibit
Index:





31.1
            Certification
      of Principal Executive Officer Pursuant to Exchange Act Rules 13a-14(a)
      and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200231.2
            Certification
      of Principal Financial Officer Pursuant to Exchange Act Rules 13a-14(a)
      and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200232.1
            Certification
      of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, as
      adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
      200232.2
            Certification
      of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as
      adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
      2002


35