**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-Q**

 
| **ý** |   | **Quarterly Report Pursuant to  Section 13 or 15(d) of the Securities Exchange Act of 1934**  |
|------------|--------|-----------------------------------------------------------------------------------------------|
|       |   |                                                                                          |
|       |   | **For the quarterly period ended October 31,  2003**                                          |
|       |   |                                                                                          |
|       |   | **or**                                                                                        |
|       |   |                                                                                          |
| **o**      |   | **Transition  Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934** |

 

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**Commission File No. 000-50111**

 

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**DAKOTAGROWERS PASTA COMPANY, INC.**

(Exact name of registrant as specified in itscharter)

 

| **North Dakota**         |   | **45-0423511**                    |
|--------------------------|--------|-----------------------------------|
| (State of incorporation) |   | (IRS Employer Identification No.) |

 

**OnePasta Avenue, Carrington, ND 58421**

(Address of principal executive officesincluding zip code)

 

**(701)652-2855**

(Registrant’s telephone number, includingarea code)

 

**NOTAPPLICABLE**

(Former name, former address and formerfiscal year, if changed since last report)

 

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.       Yes ý No o

 

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

 

Asof December 15, 2003, the Registrant had 12,260,291 shares of common stock, parvalue $0.01 per share, outstanding.

 

 

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**PART I – FINANCIAL INFORMATION**

** **

**ITEM1. FINANCIAL STATEMENTS**

** **

**DAKOTA GROWERS PASTA COMPANY, INC.**

**CONSOLIDATED BALANCE SHEETS**

**(In Thousands, Except Share Information)**

 
|                                                                                                                     |   | **(Unaudited)**       |    |               |   |
|--------------------------------------------------------------------------------------------------------------------------|--------|-----------------------|---------|--------------------|--------|
|                                                                                                                     |   | **October 31,  2003** |    | **July 31,  2003** |   |
| **ASSETS**                                                                                                               |   |                  |    |               |   |
|                                                                                                                     |   |                  |    |               |   |
| CURRENT  ASSETS                                                                                                          |   |                  |    |               |   |
| Cash  and cash equivalents                                                                                               |   | $                     | 5       |               | $      | 5 |   |
|                                                                                                                     |   |                  |    |               |   |
| Trade  accounts receivable, less allowance for  cash discounts and doubtful accounts of  $1,126 and $1,012, respectively |   | 13,926                |    | 9,852              |   |
|                                                                                                                     |   |                  |    |               |   |
| Other  receivables                                                                                                       |   | 253                   |    | 1,225              |   |
|                                                                                                                     |   |                  |    |               |   |
| Inventories                                                                                                              |   | 24,875                |    | 28,082             |   |
|                                                                                                                     |   |                  |    |               |   |
| Prepaid  expenses                                                                                                        |   | 4,036                 |    | 3,940              |   |
|                                                                                                                     |   |                  |    |               |   |
| Deferred  income taxes                                                                                                   |   | 569                   |    | 569                |   |
|                                                                                                                     |   |                  |    |               |   |
| Total  current assets                                                                                                    |   | 43,664                |    | 43,673             |   |
|                                                                                                                     |   |                  |    |               |   |
|                                                                                                                     |   |                  |    |               |   |
|                                                                                                                     |   |                  |    |               |   |
| PROPERTY  AND EQUIPMENT                                                                                                  |   |                  |    |               |   |
| In  service                                                                                                              |   | 109,199               |    | 108,263            |   |
| Construction  in process                                                                                                 |   | 366                   |    | 868                |   |
|                                                                                                                     |   | 109,565               |    | 109,131            |   |
| Less  accumulated depreciation                                                                                           |   | (43,304               | )       | (41,799            | )      |
|                                                                                                                     |   |                  |    |               |   |
| Net  property and equipment                                                                                              |   | 66,261                |    | 67,332             |   |
|                                                                                                                     |   |                  |    |               |   |
|                                                                                                                     |   |                  |    |               |   |
|                                                                                                                     |   |                  |    |               |   |
| INVESTMENT  IN COOPERATIVE BANKS                                                                                         |   | 2,413                 |    | 2,413              |   |
|                                                                                                                     |   |                  |    |               |   |
| INTANGIBLE  ASSETS                                                                                                       |   | 502                   |    | 539                |   |
|                                                                                                                     |   |                  |    |               |   |
| OTHER  ASSETS                                                                                                            |   | 7,966                 |    | 8,433              |   |
|                                                                                                                     |   |                  |    |               |   |
|                                                                                                                     |   | $                     | 120,806 |               | $      | 122,390 |   |

 

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|                                                                                                                                                                |   | **(Unaudited)**       |    |               |   |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------|---------|--------------------|--------|
|                                                                                                                                                                |   | **October 31,  2003** |    | **July 31,  2003** |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                       |   |                  |    |               |   |
|                                                                                                                                                                |   |                  |    |               |   |
| CURRENT  LIABILITIES                                                                                                                                                |   |                  |    |               |   |
| Notes  payable                                                                                                                                                      |   | $                     | 14,100  |               | $      | 9,705 |   |
| Current  portion of long-term debt                                                                                                                                  |   | 10,011                |    | 10,011             |   |
| Accounts  payable                                                                                                                                                   |   | 4,646                 |    | 3,793              |   |
| Excess  outstanding checks over cash on deposit                                                                                                                     |   | 2,673                 |    | 2,219              |   |
| Accrued  liabilities                                                                                                                                                |   | 4,210                 |    | 4,516              |   |
|                                                                                                                                                                |   |                  |    |               |   |
| Total  current liabilities                                                                                                                                          |   | 35,640                |    | 30,244             |   |
|                                                                                                                                                                |   |                  |    |               |   |
|                                                                                                                                                                |   |                  |    |               |   |
| COMMITMENTS  AND CONTINGENCIES                                                                                                                                      |   | —                |    | —             |   |
| LONG-TERM  DEBT, net of current portion                                                                                                                             |   | 22,182                |    | 28,263             |   |
| DEFERRED  INCOME TAXES                                                                                                                                              |   | 9,500                 |    | 9,845              |   |
| OTHER  LIABILITIES                                                                                                                                                  |   | 175                   |    | 187                |   |
| MANDATORILY  REDEEMABLE PREFERRED STOCK                                                                                                                             |   |                  |    |               |   |
| Series  A, 6% cumulative, $100 par value, 533 shares  authorized, 300 and 333 shares issued and outstanding  as of October 31, 2003 and July 31, 2003, respectively |   | 30                    |    | 33                 |   |
|                                                                                                                                                                |   |                  |    |               |   |
| Total  liabilities                                                                                                                                                  |   | 67,527                |    | 68,572             |   |
|                                                                                                                                                                |   |                  |    |               |   |
|                                                                                                                                                                |   |                  |    |               |   |
|                                                                                                                                                                |   |                  |    |               |   |
| STOCKHOLDERS’  EQUITY                                                                                                                                          |   |                  |    |               |   |
| Series  D delivery preferred stock, non-cumulative, $.01 par  value, 11,324,377 authorized, 11,275,297 shares issued  and outstanding                               |   | 113                   |    | 113                |   |
| Common  stock, $.01 par value, 75,000,000 shares  authorized, 12,554,747 issued                                                                                     |   | 126                   |    | 126                |   |
| Additional  paid-in capital                                                                                                                                         |   | 60,188                |    | 60,188             |   |
| Treasury  stock at cost, 294,456 shares                                                                                                                             |   | (1,840                | )       | (1,840             | )      |
| Accumulated  deficit                                                                                                                                                |   | (5,308                | )       | (4,769             | )      |
|                                                                                                                                                                |   |                  |    |               |   |
| Total  stockholders’ equity                                                                                                                                    |   | 53,279                |    | 53,818             |   |
|                                                                                                                                                                |   |                  |    |               |   |
| Total  liabilities and stockholders’ equity                                                                                                                    |   | $                     | 120,806 |               | $      | 122,390 |   |

 

See Notes to Consolidated Financial Statements

 

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**DAKOTA GROWERS PASTA COMPANY, INC.**

**CONSOLIDATED STATEMENTS OF OPERATIONS**

**(In Thousands, Except Per Share Amounts)(Unaudited)**

 
|                                                                                |   | **Three Months Ended  October 31,** |   |
|-------------------------------------------------------------------------------------|--------|-------------------------------------|--------|
|                                                                                |   | **2003**                            |   | **2002** |   |
| Net  revenues (net of discounts and allowances  of $4,742 and $4,860, respectively) |   | $                                   | 37,649 |   | $ | 37,331 |   |
|                                                                                |   |                                |   |   |   |
| Cost  of goods sold                                                                 |   | 35,738                              |   | 32,124 |   |
|                                                                                |   |                                |   |   |   |
| Gross  profit                                                                       |   | 1,911                               |   | 5,207 |   |
|                                                                                |   |                                |   |   |   |
| Marketing,  general and administrative expenses                                     |   | 2,003                               |   | 2,316 |   |
|                                                                                |   |                                |   |   |   |
| Operating  income (loss)                                                            |   | (92                                 | )      | 2,891 |   |
|                                                                                |   |                                |   |   |   |
| Other  income (expense)                                                             |   |                                |   |   |   |
| Interest  and other income                                                          |   | 1                                   |   | 41 |   |
| Gain  on disposition of property, equipment and other assets                        |   | 13                                  |   | 13 |   |
| Interest  expense, net                                                              |   | (806                                | )      | (901 | ) |
|                                                                                |   |                                |   |   |   |
| Income  (loss) before income taxes                                                  |   | (884                                | )      | 2,044 |   |
|                                                                                |   |                                |   |   |   |
| Income  tax expense (benefit)                                                       |   | (345                                | )      | 797 |   |
|                                                                                |   |                                |   |   |   |
| Net  income (loss)                                                                  |   | (539                                | )      | 1,247 |   |
| Dividends  on preferred stock                                                       |   | —                              |   | 1 |   |
|                                                                                |   |                                |   |   |   |
| Net  earnings (loss) on common stock                                                |   | $                                   | (539   | ) | $ | 1,246 |   |
|                                                                                |   |                                |   |   |   |
| Net  earnings (loss) per common share                                               |   |                                |   |   |   |
| Basic                                                                               |   | $                                   | (0.04  | ) | $ | 0.10 |   |
|                                                                                |   |                                |   |   |   |
| Diluted                                                                             |   | $                                   | (0.04  | ) | $ | 0.10 |   |
|                                                                                |   |                                |   |   |   |
| Weighted  average common shares outstanding                                         |   |                                |   |   |   |
| Basic                                                                               |   | 12,260                              |   | 12,555 |   |
|                                                                                |   |                                |   |   |   |
| Diluted                                                                             |   | 12,620                              |   | 12,604 |   |

 

See Notes to Consolidated Financial Statements

 

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**DAKOTA GROWERS PASTA COMPANY, INC.**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**(In Thousands) (Unaudited)**

 
|                                                         |   | **Three Months Ended  October 31,** |   |
|--------------------------------------------------------------|--------|-------------------------------------|--------|
|                                                         |   | **2003**                            |   | **2002** |   |
| OPERATING  ACTIVITIES                                        |   |                                |   |   |   |
| Net  income (loss)                                           |   | $                                   | (539   | ) | $ | 1,247 |   |
| Add  (deduct) non-cash items                                 |   |                                |   |   |   |
| Depreciation  and amortization                               |   | 2,229                               |   | 2,400 |   |
| Gain  on disposition of property, equipment and other assets |   | (13                                 | )      | (13 | ) |
| Deferred  income taxes                                       |   | (345                                | )      | 260 |   |
| Payments  for long-term marketing costs                      |   | (125                                | )      | (4,000 | ) |
| Changes  in assets and liabilities                           |   |                                |   |   |   |
| Trade  receivables                                           |   | (4,074                              | )      | 1,108 |   |
| Other  receivables                                           |   | 972                                 |   | 33 |   |
| Inventories                                                  |   | 3,207                               |   | (1,814 | ) |
| Prepaid  expenses                                            |   | (14                                 | )      | (2 | ) |
| Other  assets                                                |   | 2                                   |   | 2 |   |
| Accounts  payable                                            |   | 853                                 |   | (2,632 | ) |
| Excess  outstanding checks over cash on deposit              |   | 454                                 |   | 2,157 |   |
| Other  accrued liabilities                                   |   | (306                                | )      | 428 |   |
|                                                         |   |                                |   |   |   |
| NET  CASH FROM (USED FOR) OPERATING ACTIVITIES               |   | 2,301                               |   | (826 | ) |
|                                                         |   |                                |   |   |   |
| INVESTING  ACTIVITIES                                        |   |                                |   |   |   |
| Purchases  of property and equipment                         |   | (433                                | )      | (490 | ) |
| Payments  for package design costs                           |   | (179                                | )      | (129 | ) |
|                                                         |   |                                |   |   |   |
| NET  CASH USED FOR INVESTING ACTIVITIES                      |   | (612                                | )      | (619 | ) |
|                                                         |   |                                |   |   |   |
| FINANCING  ACTIVITIES                                        |   |                                |   |   |   |
| Net  change in short-term notes payable                      |   | 4,395                               |   | 4,000 |   |
| Payments  on long-term debt                                  |   | (6,081                              | )      | (5,412 | ) |
| Preferred  stock retirements                                 |   | (3                                  | )      | (3 | ) |
| Dividends  paid on preferred stock                           |   | —                              |   | (1 | ) |
|                                                         |   |                                |   |   |   |
| NET  CASH USED FOR FINANCING ACTIVITIES                      |   | (1,689                              | )      | (1,416 | ) |
|                                                         |   |                                |   |   |   |
| NET  CHANGE IN CASH AND CASH EQUIVALENTS                     |   | —                              |   | (2,861 | ) |
|                                                         |   |                                |   |   |   |
| CASH  AND CASH EQUIVALENTS,  BEGINNING OF PERIOD             |   | 5                                   |   | 2,866 |   |
|                                                         |   |                                |   |   |   |
| CASH  AND CASH EQUIVALENTS,  END OF PERIOD                   |   | $                                   | 5      |   | $ | 5 |   |
|                                                         |   |                                |   |   |   |
| SUPPLEMENTAL  DISCLOSURES OF CASH FLOW INFORMATION           |   |                                |   |   |   |
| Cash  payments (refunds) for                                 |   |                                |   |   |   |   |   |
| Interest  (net of amounts capitalized)                       |   | $                                   | 1,366  |   | $ | 1,533 |   |
|                                                         |   |                                |   |   |   |
|                                                         |   |                                |   |   |   |
| Income  taxes                                                |   | $                                   | (972   | ) | $ | 168 |   |

 

See Notes to Consolidated Financial Statements

 

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**DAKOTA GROWERS PASTA COMPANY, INC.**

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

**(Unaudited)**

 

The following notes should be read in conjunction with the notes to thefinancial statements for the year ended July 31, 2003 as filed in the Company’sForm 10-K.

 

**NOTE 1 - ORGANIZATION**

 

Dakota Growers Pasta Company, Inc. (“Dakota Growers” or “the Company”)is a North Dakota corporation that operates as the successor to Dakota GrowersPasta Company, a North Dakota cooperative (the “Cooperative”), and itsoperations are a continuance of the operations of the Cooperative.

 

The Company operates milling and pasta manufacturing facilities inCarrington, North Dakota. In addition, the Company’s wholly owned subsidiary,Primo Piatto, Inc., a Minnesota corporation, operates pasta manufacturingfacilities in New Hope, Minnesota.

 

**NOTE 2 – FINANCIAL STATEMENT PRESENTATION**

 

The unaudited consolidated financial statements included herein havebeen prepared pursuant to the rules and regulations of the Securities andExchange Commission. Accordingly, they do not include all the information andfootnotes required by accounting principles generally accepted in the UnitedStates of America for complete financial statements. In the opinion ofmanagement, all adjustments (consisting of normal recurring accruals)considered necessary for a fair presentation have been included. Operatingresults for the three months ended October 31, 2003 are not necessarilyindicative of the results that may be expected for the year ended July 31,2004. The information included in this Form 10-Q should be read in conjunctionwith Management’s Discussion and Analysis and the consolidated financialstatements and footnotes included in the Company’s Form 10-K for the year endedJuly 31, 2003. The information contained in the balance sheet as of July 31,2003 was derived from the Company’s audited annual report for fiscal year 2003.Reclassifications have been made to facilitate comparability with currentpresentation. Such reclassifications have no effect on the net results ofoperations.

 

The financial information presented herein includes the consolidatedbalance sheets and results of operations of Dakota Growers Pasta Company, Inc.and its wholly owned subsidiary. All significant intercompany balances andtransactions have been eliminated.

 

**NOTE 3 –INVENTORIES**

 

Inventoriesare valued at lower of cost or market. Inventories as of October 31, 2003include raw materials and packaging of $7,210,000 and finished goods of$17,665,000. Inventories at July 31, 2003 include raw materials and packagingof $5,533,000 and finished goods of $22,549,000.

 

**NOTE 4 –**LOAN AGREEMENTS

 

Asof October 31, 2003, the Company was not in compliance with the consolidatedfunded debt to consolidated cash flow ratio of 3.0 to 1.0 set forth in the NotePurchase Agreement (as amended) with the institutional investors. The Companyhas had discussions with its lenders regarding the terms of a waiver andamendment to resolve the noncompliance situation.

###### ** **

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###### **NOTE 5 – EARNINGS PERSHARE**

 

Basic earnings per share (EPS) is calculated by dividing net earningson common stock by the weighted average number of common shares effective andoutstanding during the period. Diluted EPS includes the effect of allpotentially dilutive securities, such as stock options and convertible preferredstock.

 

Dilutivesecurities, consisting of stock options and convertible preferred stock,included in the calculation of diluted weighted average common shares totaled360,000 and 49,000 for the three months ended October 31, 2003 and 2002,respectively. As there is currently no established public trading market forthe Company’s common stock, the Company has assumed the proceeds from theexercise of stock options would reduce debt and, thus, interest expense.

 

###### **NOTE 6 – COMMITMENTS**

 

The Company forward contracts for a certain portion of its future durumwheat requirements. The Company had outstanding commitments for grain purchasestotaling $12,377,000 as of October 31, 2003, related to forward purchasecontracts. These contracts are set price contracts to deliver grain to theCompany’s mill, and are not derivative in nature as they have no net settlementprovision and are not transferable.

 

**NOTE 7 – MANDATORILY REDEEEMABLE PREFERREDSTOCK**

 

TheCompany adopted SFAS No. 150, “Accounting for Certain Financial Instrumentswith Characteristics of Both Liabilities and Equity” effective August 1, 2003.SFAS No. 150 establishes standards for how an issuer classifies and measurescertain financial instruments with characteristics of both liabilities andequity. Many of these instruments were previously classified as equity. SFASNo. 150 requires that an issuer classify a financial instrument that is withinits scope as a liability, or as an asset in some circumstances. This Statementapplies to three types of freestanding financial instruments. One type offinancial instrument to which SFAS No. 150 applies is mandatorily redeemableshares, which the issuing company is obligated to buy back in exchange for cashor assets.

 

The Company had 300 shares of Series A Preferred Stock, $100 par value,outstanding as of October 31, 2003. The Series A Preferred Stock is required tobe redeemed ratably on a quarterly basis through December 2005. As the sharesof Series A Preferred Stock are mandatorily redeemable, these shares have beenclassified as a liability in the Company’s consolidated balance sheet and“dividends” paid on the Series A Preferred Stock have been recorded as interestexpense upon adoption of SFAS No. 150. “Dividends” paid on Series A PreferredStock prior to the adoption of SFAS No. 150 have not been reclassified asinterest cost.

 

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**ITEM2.  MANAGEMENT’S DISCUSSION AND ANALYSISOF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

**Forward-LookingStatements**

 

The following discussion contains forward-looking statements. Suchforward-looking statements include, among others, those statements includingthe words “expect”, “anticipate”, “believe”, “may” and similar expressions.Such statements are based on assumptions by the Company’s management, as of thedate of this Quarterly Report, and are subject to risks and uncertainties,including those discussed in the Company’s Form 10-K for the year ended July31, 2003 under “Risk Factors,” that could cause actual results to differmaterially from those anticipated. The Company cautions readers not to placeundue reliance on such forward-looking statements. The Company will not updateany forward-looking statements in this Quarterly Report to reflect futureevents or developments.

 

**Summary**

 

DakotaGrowers is the third largest producer of dry pasta products in North America.The pasta industry identifies domestic dry pasta into two basic markets: retailand institutional. The Company recognizes the institutional market as being comprisedof foodservice and ingredient sales. We participate in each of the retail,foodservice and ingredient markets. The Company has two production plants,located in Carrington, North Dakota and New Hope, Minnesota. The Company’s costof goods sold consists mainly of raw materials (primarily durum wheat),packaging, and manufacturing and distribution costs.

 

The Company incurred a net loss of $0.5 million for the quarter endedOctober 31, 2003, compared to net earnings of $1.2 million for the quarter endedOctober 31, 2002. The major factors contributing to the decrease in net earnings were higher durumcosts, higher egg costs, higher per unit manufacturing costs primarilyresulting from lower production volumes, and increased inventory carrying costsassociated with higher inventory levels during the quarter ended October 31,2003 compared to the corresponding quarter of the prior year. The durum priceincrease was attributable to the 2002 crop year, while the significant increasein egg pricing is a current phenomenon, beginning in the summer of 2003. TheCompany was able to increase some sales prices over the past year to passthrough the higher cost of durum, and certain price adjustments have been madefor egg costs beginning in the second quarter of fiscal year 2004. However, dueto continued competitive pricing pressures within the dry pasta industry, wewere unable to fully recover the higher costs incurred.

 

A shift in the image of pasta from a health-conscious food to ahigh-carbohydrate food has developed into a major trend with obvious negativeimpacts on traditional pasta sales.  TheCompany is working with a group that includes food technology experts todevelop a low-carbohydrate pasta alternative.

 

**Critical AccountingPolicies**

 

The accompanying discussion and analysis of our results of operationsand financial condition are based upon our consolidated financial statements,which have been prepared in accordance with accounting principles generallyaccepted in the United States. The preparation of these financial statementsrequires management to make estimates and judgments that affect the reportedamounts of assets, liabilities, revenues and expenses, and related disclosureof contingent assets and liabilities. These estimates form the basis for makingjudgments about the carrying values of assets and liabilities that are notreadily apparent from other sources. We base our estimates and judgments onhistorical experience and on various other assumptions that we believe arereasonable under the circumstances. However, future events are subject tochange and the best estimates and judgments may require adjustment. For acomplete description of the Company’s significant accounting policies, pleasesee Note 1 to the consolidated financial statements included in the Company’sForm 10-K for the year ended July 31, 2003. Our critical accounting policiesare those that have meaningful impact on the reporting of our financialcondition and results, and that require significant management judgment and estimates.These policies include our accounting for (a) allowance for doubtful accounts,(b) asset impairment, and (c) income taxes.

 

*Allowance for Doubtful Accounts*

 

We evaluate the collectibility of our accounts receivable based on acombination of factors. In cases where we are aware of circumstances that mayimpair a specific customer’s ability to meet its financial obligations to us,we

 

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record a specific allowance against amounts due to us, and thereby reducethe net recognized receivable to the amount we reasonably believe will becollected. For all other customers, we recognize allowances for doubtfulaccounts based on the length of time the receivables are past due and ourhistorical experience. If the financial condition of our customers woulddeteriorate, additional allowances may be required in the future which couldhave an adverse impact on our future operating results.

 

*Asset Impairment*

 

We are required to evaluate our long-lived assets for impairmentwhenever indicators of impairment exist, and write down the value of any assetsif they are determined to be impaired. Evaluating the impairment of long-livedassets involves management judgment in estimating the future cash flows andfair values related to these assets. Future events could cause management toconclude that impairment indicators exist and that the value of certainlong-lived assets is impaired.

 

*Income Taxes*

 

In determining income (loss) for financial statement purposes,management must make certain estimates and judgments in calculating taxliabilities and in determining the recoverability of certain deferred taxassets. Deferred tax assets must be reduced by a valuation allowance, if basedon the weight of available evidence, it is more likely than not that someportion or all of the recorded deferred tax assets will not be realized infuture periods. Management believes it is more likely than not that thedeferred tax assets as of October 31, 2003 will be realized through the generationof future taxable income and tax planning strategies.

 

**Results of Operations**

 

*Comparison of theThree Months Ended October 31, 2003 and 2002*

 

***Net Revenues.***Net revenues totaled $37.6 million for thethree months ended October 31, 2003, an increase of $0.3 million, or 0.9%,compared to $37.3 million for the three months ended October 31, 2002. Theincrease primarily resulted from higher pasta per unit selling prices relatedto the pass through of higher durum costs.

 

Revenuesfrom the retail market, a portion of which includes co-pack and governmentalsales, decreased $0.5 million, or 1.9%, primarily as a result of a 4.1%decrease in sales volumes offset by higher per unit selling prices. Foodservicerevenues increased $0.6 million, or 5.9%, primarily due to a 7.4% increase inper unit selling prices. Ingredient revenues increased $0.6 million, or 25.1%, mainly as aresult of a 26.2% increase in sales volumes.

 

The Companymarkets semolina production in excess of its own requirements as well asby-products of the durum milling process. Revenues from semolina and by-productsales decreased $0.4 million for the three months ended October 31, 2003, whencompared to the same period of the prior year. The decrease primarily resulted from lower sales volumes.

 

***Cost of Goods Sold.***Cost of goods sold increased $3.6 million, or 11.3%, to $35.7 million for thethree months ended October 31, 2003, compared to $32.1 million for the threemonths ended October 31, 2002. Theincrease resulted mainly from higher durum costs, higher per unit manufacturingcosts primarily resulting from lower production volumes, and increasedinventory carrying costs associated with higher inventory levels during thequarter ended October 31, 2003 compared to the corresponding quarter of the prioryear. Gross profit as a percentage of net revenues decreased from 13.9%to 5.1% as a result of these factors.

 

***Marketing, General,and Administrative (“MG&A”) Expenses.*** MG&Aexpenses decreased $0.3 million, or 13.5%, to $2.0 million for the quarter endedOctober 31, 2003, compared to $2.3 million for the quarter ended October 31,2002. MG&A expenses as a percentage of net revenues decreased from 6.2% to5.3%.

 

***Interest Expense.***Interest expense for the three months ended October 31, 2003 totaled $0.8 million,down $0.1 million from the corresponding period of the prior year.

 

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***Income Taxes.***Income tax benefit for the three monthsending October 31, 2003, was $345,000, compared to income tax expense of $797,000for the three months ending October 31, 2002. The income tax expense and benefit reflect an effective corporate incometax rate of approximately 39%.

 

***Net Income (Loss).***The Companyincurred a net loss of $0.5 for the three months ending October 31, 2003compared to net income of $1.2 million for the three months ending October 31,2002. The decrease in earnings resulted primarily from cost increases asnoted above.

 

**Liquidity and CapitalResources**

 

Our primary sources of liquidity are cash provided by operations andborrowings under our credit facility. Working capital as of October 31, 2003totaled $8.0 million compared to $13.4 million as of July 31, 2003.

 

The Company has a $19.0 million revolving credit facility with CoBank.The balance outstanding on the line of credit was $14.1 million as of October31, 2003.

 

Thevarious debt agreements with CoBank and the institutional investors obligatethe Company to maintain or achieve certain amounts of equity and certainfinancial ratios and impose certain restrictions on the Company. As of October31, 2003, the Company was not in compliance with the consolidated funded debtto consolidated cash flow ratio of 3.0 to 1.0, determined as of the end of thefiscal quarter for the immediately preceding four fiscal quarters, set forth inthe Note Purchase Agreement (as amended) with the institutional investors. TheCompany has had discussions with its lenders regarding the terms of a waiverand amendment to resolve the noncompliance situation.

 

Asnoted in previous public filings with the Securities and Exchange Commission,sales volumes to the Company’s largest customer, U.S. Foodservice, increasedsignificantly in October through December of 2002 when compared to historicallevels and then fell off dramatically. Sales volumes to U.S. Foodservice weredown 67% in the second half of fiscal 2003 compared to first half of fiscal2003. The Company was led to believe the increased sales to U.S. Foodservice inOctober through December 2002 were being fueled by increased demand by U.S.Foodservice customers for dry pasta products. In addition, the Company hadreceived information suggesting that its third fiscal quarter 2003 sales toU.S. Foodservice, while below second fiscal quarter 2003 levels, would berelatively consistent with historical third quarter U.S. Foodservice sales.While the Company had no reason to question the reliability of this informationat that time, we subsequently learned the information was inaccurate. U.S.Foodservice sales volumes did not return to normalized historical levels untilthe end of fiscal year 2003. Based on published news reports, certainmanagement personnel at U.S. Foodservice were investigated for allegedaccounting improprieties. The Company believes that if U.S. Foodservice had notshifted their purchasing pattern from normalized historical quarterly levels,the Company would have remained in compliance with all financial covenants asof October 31, 2003.

 

Net cash from operating activities totaled $2.3 million for the threemonths ended October 31, 2003 compared to net cash used for operatingactivities of $0.8 million for the three months ended October 31, 2002. The netincrease was primarily due to the reduction in inventory and lower payments forlong-term marketing costs offset by the decrease in net earnings and anincrease in accounts receivable.

 

 Net cash used for investing activitiestotaled $0.6 million for the three months ended October 31, 2003 and 2002, andrelated primarily to the purchase and installation of milling and pastaequipment.

 

Net cash used for financing activities totaled $1.7 million and $1.4million for the three months ended October 31, 2003 and 2002, respectively.Substantially all of these amounts related to debt principal payments offset bynet borrowings under the Company’s revolving credit facility.

 

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The Company forward contracts for a certain portion of its future durumwheat requirements. At October 31, 2003, the Company had outstanding commitmentsfor grain purchases totaling $12.4 million related to forward purchasecontracts. These contracts are set price contracts to deliver grain to theCompany’s mill, and are not derivative in nature as they have no net settlementprovision and are not transferable.

 

The following table summarizes the Company’s contractual obligations asof October 31, 2003 (in thousands):

 
| **Contractual Obligations** |   | **Total** |   | **Payments  Due in Less  Than 1 Year** |   | **Payments  Due in  1-3 Years** |   | **Payments  Due in  4-5 Years** |   | **Payments  Due After  5 Years** |   |
|-----------------------------|--------|-----------|--------|----------------------------------------|--------|---------------------------------|--------|---------------------------------|--------|----------------------------------|--------|
|                        |   |      |   |                                   |   |                            |   |                            |   |                             |   |
| Long-term  debt             |   | $         | 32,193 |                                   | $      | 10,011                          |   | $                               | 15,408 |                             | $      | 5,774 |   | $ | 1,000 |   |
| Durum  purchase obligations |   | 12,377    |   | 12,377                                 |   | —                          |   | —                          |   | —                           |   |
| Operating  leases           |   | 3,863     |   | 1,320                                  |   | 2,465                           |   | 78                              |   | —                           |   |
|                        |   |      |   |                                   |   |                            |   |                            |   |                             |   |
|                        |   | $         | 48,433 |                                   | $      | 23,708                          |   | $                               | 17,873 |                             | $      | 5,852 |   | $ | 1,000 |   |

 

Management believes that net cash currently available and to beprovided by operating activities, along with its available line of credit, willbe sufficient to meet the Company’s expected capital and liquidity requirementsfor the foreseeable future.

 

TheU.S. Customs Service (Customs) has published a notice of intention todistribute antidumping and countervailing duties assessed on certain pastaimported from Italy and Turkey from October 1, 2002 to September 30, 2003, to affecteddomestic producers pursuant to the Continued Dumping and Subsidy Offset Act of2000 (the “Act”). The Company received a net payment of $966,000 from Customsunder the Act in December 2002 for duties assessed from October 1, 2001 throughSeptember 30, 2002. At this time, the Company anticipates it will again receivea payment under the Act in the latter portion of calendar year 2003, althoughwe cannot reasonably estimate the potential amount, if any, that may bereceived in the future as these receipts are based upon future events overwhich we have little or no control, including, but not limited to, the amountof expenditures by domestic pasta producers and the amount of antidumping andcountervailing duties collected by Customs.

 

**ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK**

 

Market risk is the risk of loss to future earnings, to fair values orto future cash flows that may result from changes in the price of a financialinstrument. The value of a financial instrument may change as a result ofchanges in interest rates, commodity prices, exchange rates, equity prices andother market changes. Market risk is attributed to all market-risk sensitivefinancial instruments, including long-term debt.

 

TheCompany forward contracts for a certain portion of its future durum wheatrequirements. These contracts are set price contracts to deliver grain to theCompany’s mill, and are not derivative in nature as they have no net settlementprovision and are not transferable. The Company does not believe it is subjectto any material market risk exposure with respect to interest rates, commodityprices, exchange rates, equity prices, or other market changes that wouldrequire disclosure under this item.

 

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**ITEM 4.  CONTROLS AND PROCEDURES**

 

***Evaluationof Disclosure Controls and Procedures***

 

The Company’s Chief Executive Officer and Chief Financial Officer havereviewed the Company’s disclosure controls and procedures within 90 days priorto the filing of this quarterly report. Based upon this review, these officersbelieve that the Company’s disclosure controls and procedures are effective inensuring that material information related to the Company is made known to themby others within the Company.

 

***Changesin Internal Controls***

 

There were no significant changes in theCompany’s internal controls or in other factors that could significantly affectthese controls subsequent to the date of the most recent evaluation.

 

 

**PARTII – OTHER INFORMATION**

 

**ITEM 6. EXHIBITS ANDREPORTS ON FORM 8-K**

 

**Exhibits**

 

10.1                                   Non-Revolving CreditSupplement dated October 28, 2003 between the Company and CoBank, ACB.

 

31.1                                   Certification ofChief Executive Officer required by Securities and Exchange Commission Rule13a-14(a) or 15d-14(a).

 

31.2                                   Certification ofChief Financial Officer required by Securities and Exchange Commission Rule13a-14(a) or 15d-14(a).

 

32.1                                   Certification of Chief Executive Officerpursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350.

 

32.2                                   Certification of Chief Financial Officerpursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C.Section 1350.

 

**Reports onForm 8-K**

 

None.

 

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**SIGNATURES**

 

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

 
|   |   | DAKOTA GROWERS PASTA COMPANY, INC. |   |
|--------|--------|------------------------------------|--------|
|   |   | (Registrant)                       |   |

 

 
| **Signature**         |   | **Title**                             |   | **Date**          |
|-----------------------|--------|---------------------------------------|--------|-------------------|
|                  |   |                                  |   |              |
| /s/ Timothy J. Dodd   |   | President and Chief Executive Officer |   |              |
| Timothy J. Dodd       |   | (Principal Executive                  |   | December 15, 2003 |
|                  |   | Officer)                              |   |              |
|                  |   |                                  |   |              |
|                  |   |                                  |   |              |
|                  |   |                                  |   |              |
| /s/ Thomas P. Friezen |   | Chief Financial Officer               |   |              |
| Thomas P. Friezen     |   | (Principal Financial                  |   | December 15, 2003 |
|                  |   | Officer)                              |   |              |
|                  |   |                                  |   |              |
|                  |   |                                  |   |              |
|                  |   |                                  |   |              |
| /s/ Edward O. Irion   |   | Vice President – Finance and     |   |              |
| Edward O. Irion       |   | Chief Accounting Officer              |   | December 15, 2003 |
|                  |   | (Principal Accounting Officer)        |   |              |

 

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