**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

 

**Washington,D.C. 20549**

 

**FORM 10-QSB**

 

**ý****Quarterly report underSection 13 or 15(d) of the Securities Exchange Act of 1934.**

 

**For thequarterly period ended September 30, 2005.**

 

**OR**

 

**o****Transition report under Section 13or 15(d) of the Exchange Act.**

 

**Commission file number 000-51278**

** **

**EAST KANSAS AGRI-ENERGY, L.L.C.**

(Exact name of small businessissuer as specified in its charter)

 
| **Kansas**                                                      | ** ** | **48-1251578**                       |
|-----------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (I.R.S. Employer Identification No.) |

 
| **P.O. Box  225,  1304 S. Main Street, Garnett, Kansas 66032** |
|--------------------------------------------------------------------------|
| (Address of  principal executive offices)                                |
|                                                                     |
| **(785) 448-2888**                                                       |
| (Issuer’s  telephone number)                                        |

 

Check whether the issuer:  (1) filedall reports required to be filed by Section 13 or 15(d) of theExchange Act during the past 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days.              ý  Yes               o  No

 

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

 

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

 

State the number of shares outstanding for each of the issuer’s classesof common equity as of the latest practicable date:  As of November 14, 2005, there were 23,798 membership units outstanding.

 

Transitional Small Business Disclosure Format (Check one):              o  Yes               ý  No

 

 

----

 

**INDEX**

 
| ** **                             | ** **  | ** **                                               | **Page No.** |
|----------------------------------------|-------------|----------------------------------------------------------|--------------|
|                                   |        |                                                     |         |
| **PART I. FINANCIAL INFORMATION** | 3           |
| ** **                             | ** **  | ** **                                               |         |
| ** **                             | **Item 1.** | **Financial Statements**                                 | 3            |
| ** **                             | **Item 2.** | **Management’s  Discussion and Analysis**           | 18           |
| ** **                             | **Item 3.** | **Controls and  Procedures**                             | 27           |
| ** **                             | ** **  | ** **                                               |         |
| **PART II. OTHER  INFORMATION**   | 27          |
| ** **                             | ** **  | ** **                                               |         |
| ** **                             | **Item 1.** | **Legal Proceedings**                                    | 27           |
| ** **                             | **Item 2.** | **Changes in  Securities**                               | 27           |
| ** **                             | **Item 3.** | **Defaults  Upon Senior Securities**                     | 28           |
| ** **                             | **Item 4.** | **Submission  of Matters to a Vote of Security Holders** | 28           |
| ** **                             | **Item 5.** | **Other Information**                                    | 28           |
| ** **                             | **Item 6.** | **Exhibits**                                             | 28           |
| ** **                             | ** **  | ** **                                               |         |
| **SIGNATURES**                         | 28          |

 

2

----

 

**PART I.**    **FINANCIAL INFORMATION**

 

**Item 1.    Financial Statements**

 

**EASTKANSAS AGRI-ENERGY, LLC**

**BALANCESHEET (UNAUDITED)**

**SEPTEMBER30, 2005**

 
| **ASSETS**                                                                                                         |   |       |       |
|--------------------------------------------------------------------------------------------------------------------|--------|------------|------------|
|                                                                                                               |   |       |       |
| CURRENT  ASSETS                                                                                                    |   |       |       |
| Cash and cash equivalents                                                                                          |   | $          | 2,651,348  |   |
| Trade accounts receivable - related party                                                                          |   | 2,564,686  |       |
| Inventory                                                                                                          |   | 1,230,463  |       |
| Investment in commodity contracts                                                                                  |   | 380,539    |       |
| Prepaid expense                                                                                                    |   | 544,160    |       |
| Restricted cash                                                                                                    |   | 250,000    |       |
|                                                                                                               |   |       |       |
| Total current assets                                                                                               |   | 7,621,196  |       |
|                                                                                                               |   |       |       |
| PROPERTY,  PLANT AND EQUIPMENT                                                                                     |   |       |       |
| Land                                                                                                               |   | 580,322    |       |
| Land improvements                                                                                                  |   | 1,432,268  |       |
| Office equipment                                                                                                   |   | 255,394    |       |
| Buildings                                                                                                          |   | 1,648,478  |       |
| Equipment                                                                                                          |   | 41,653,372 |       |
| Vehicles                                                                                                           |   | 22,476     |       |
| Construction in progress                                                                                           |   | 638,390    |       |
|                                                                                                               |   | 46,230,700 |       |
| Less accumulated depreciation                                                                                      |   | (888,707   | )          |
|                                                                                                               |   |       |       |
| Total property, plant, and equipment                                                                               |   | 45,341,993 |       |
|                                                                                                               |   |       |       |
| OTHER ASSETS                                                                                                       |   |       |       |
| Financing costs                                                                                                    |   | 588,736    |       |
| Less accumulated amortization                                                                                      |   | (1,635     | )          |
| Total other assets                                                                                                 |   | 587,101    |       |
|                                                                                                               |   |       |       |
| Total assets                                                                                                       |   | $          | 53,550,290 |   |
|                                                                                                               |   |       |       |
| **LIABILITIES  AND MEMBERS’ EQUITY**                                                                          |   |       |       |
|                                                                                                               |   |       |       |
| CURRENT  LIABILITIES                                                                                               |   |       |       |
| Current portion of long-term debt                                                                                  |   | 2,513,035  |       |
| Accounts payable                                                                                                   |   |       |       |
| Trade                                                                                                              |   | 574,164    |       |
| Related parties                                                                                                    |   | 1,454,272  |       |
| Accrued payroll, taxes and withholdings                                                                            |   | 65,830     |       |
| Other accrued expenses                                                                                             |   | 269,151    |       |
| Accrued interest                                                                                                   |   | 110,395    |       |
|                                                                                                               |   |       |       |
| Total current liabilities                                                                                          |   | 4,986,847  |       |
|                                                                                                               |   |       |       |
| LONG-TERM  DEBT (less current maturities)                                                                          |   | 25,247,239 |       |
|                                                                                                               |   |       |       |
| MEMBERS’  EQUITY                                                                                              |   |       |       |
| Capital contributions, 40,000 units  authorized, 23,798 units issued and outstanding as of September 30, 2005 |   | 24,707,100 |       |
| Retained earnings (accumulated deficit)                                                                            |   | (1,390,896 | )          |
|                                                                                                               |   |       |       |
| Total members’ equity                                                                                         |   | 23,316,204 |       |
|                                                                                                               |   |       |       |
| Total liabilities and members’ equity                                                                         |   | $          | 53,550,290 |   |

 

See Notes to Unaudited Financial Statements

 

3

----

 

**EASTKANSAS AGRI-ENERGY, LLC**

**STATEMENTSOF OPERATIONS (UNAUDITED)**

 
| ** **                          | ** ** | **Three Months  Ended  September 30,  2005** | ** **     | **Nine Months  Ended  September 30,  2005** | ** ** | **Three Months  Ended  September 30,  2004** | ** ** | **Nine Months  Ended  September 30,  2004** | ** ** |
|-------------------------------------|------------|---------------------------------------------------|----------------|--------------------------------------------------|------------|---------------------------------------------------|------------|--------------------------------------------------|------------|
|                                |       |                                              |           |                                             |       |                                              |       |                                             |       |
| REVENUE                             |       |                                              |           |                                             |       |                                              |       |                                             |       |
| Related parties                     | ** ** | **$**                                             | **14,977,726** | ** **                                       | **$**      | **15,716,708**                                    |       | $                                                | —     |   | $ | — |   |
| Incentive funds                     | ** ** | **(23,003**                                       | **)**          | **81,714**                                       | ** ** | **—**                                        | ** ** | **—**                                       | ** ** |
| ** **                          | ** ** | **14,954,723**                                    | ** **     | **15,798,422**                                   | ** ** | ** **                                        | ** ** | ** **                                       | ** ** |
| ** **                          | ** ** | ** **                                        | ** **     | ** **                                       | ** ** | ** **                                        | ** ** | ** **                                       | ** ** |
| COST OF  SALES                      | ** ** | **(11,970,090**                                   | **)**          | **(12,958,696**                                  | **)**      | **—**                                        | ** ** | **—**                                       | ** ** |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| GROSS PROFIT                        | ** ** | **2,984,633**                                     | ** **     | **2,839,726**                                    | ** ** | **—**                                        | ** ** | **—**                                       | ** ** |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| OPERATING  EXPENSES                 |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| General and administrative expenses | ** ** | **375,277**                                       | ** **     | **422,657**                                      | ** ** | —                                            |       | —                                           |       |
| Start-up expenses                   | ** ** | **—**                                        | ** **     | **926,057**                                      | ** ** | 42,725                                            |       | 176,726                                          |       |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| ** **                          | ** ** | **375,277**                                       | ** **     | **1,348,714**                                    | ** ** | 42,725                                            |       | 176,726                                          |       |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| OTHER INCOME  (EXPENSE)             |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| Interest income                     | ** ** | **25,024**                                        | ** **     | **25,906**                                       | ** ** | 13,197                                            |       | 39,573                                           |       |
| Interest expense                    | ** ** | **(1,177,132**                                    | **)**          | **(1,222,550**                                   | **)**      | (1,185                                            | )          | (3,656                                           | )          |
| Other income                        | ** ** | **—**                                        | ** **     | **2,200**                                        | ** ** | —                                            |       | —                                           |       |
| ** **                          | ** ** | **(1,152,108**                                    | **)**          | **(1,194,444**                                   | **)**      | 12,012                                            |       | 35,917                                           |       |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| NET INCOME                          | ** ** | **$**                                             | **1,457,248**  | ** **                                       | **$**      | **296,568**                                       | ** ** | $                                                | (30,713    | ) | $ | (140,809 | ) |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| BASIC INCOME  PER UNIT              | ** ** | **$**                                             | **65**         | ** **                                       | **$**      | **14**                                            | ** ** | $                                                | (2         | ) | $ | (15 | ) |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| DILUTED  INCOME PER UNIT            | ** ** | **$**                                             | **63**         | ** **                                       | **$**      | **14**                                            | ** ** | $                                                | (2         | ) | $ | (15 | ) |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| WEIGHTED  AVERAGE UNITS OUTSTANDING |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| BASIC                               | ** ** | **22,568**                                        | ** **     | **21,500**                                       | ** ** | 12,729                                            |       | 9,294                                            |       |
|                                |       |                                              |           |                                             | ** ** |                                              |       |                                             |       |
| DILUTED                             | ** ** | **23,180**                                        | ** **     | **21,294**                                       | ** ** | 12,729                                            |       | 9,294                                            |       |

 

See Notes to Unaudited Financial Statements

 

4

----

 

**EAST KANSAS AGRI-ENERGY, LLC**

**STATEMENTS OF CASH FLOWS (UNAUDITED)**

 
| ** **                                                                  | ** ** | **Nine Months  Ended  September 30,  2005** | ** **    | **Nine Months  Ended  September 30,  2004** | ** ** |
|-----------------------------------------------------------------------------|------------|--------------------------------------------------|---------------|--------------------------------------------------|------------|
| CASH FLOWS  FROM OPERATING ACTIVITIES                                       |       |                                             |          |                                             |       |
| Net income (loss)                                                           | ** ** | **$**                                            | **296,568**   | ** **                                       | $          | (140,809 | ) |
| Adjustments to reconcile net loss to net  cash used in operating activities |       |                                             | ** **    |                                             |       |
| Depreciation                                                                | ** ** | **881,889**                                      | ** **    | 2,469                                            |       |
| Amortization                                                                | ** ** | **1,635**                                        | ** **    | —                                           |       |
| Non-cash compensation for capital units                                     | ** ** | **—**                                       | ** **    | 30,000                                           |       |
| (Increase) decrease in current assets                                       |       |                                             | ** **    |                                             |       |
| Accounts receivable                                                         | ** ** | **(2,564,686**                                   | **)**         | —                                           |       |
| Inventory                                                                   | ** ** | **(1,230,463**                                   | **)**         | —                                           |       |
| Commodity contracts                                                         | ** ** | **(380,539**                                     | **)**         | —                                           |       |
| Grants receivable                                                           | ** ** | **54,906**                                       | ** **    | (75,526                                          | )          |
| Prepaid expense                                                             | ** ** | **(539,222**                                     | **)**         | (9,741                                           | )          |
| Interest receivable                                                         | ** ** | **—**                                       | ** **    | (30,846                                          | )          |
| Increase (decrease) in current liabilities:                                 |       |                                             | ** **    |                                             |       |
| Accounts payable                                                            | ** ** | **911,514**                                      | ** **    | 1,685                                            |       |
| Accrued expenses                                                            | ** ** | **386,585**                                      | ** **    | (1,049                                           | )          |
| NET CASH  USED IN OPERATING ACTIVITIES                                      | ** ** | **(2,181,813**                                   | **)**         | (223,817                                         | )          |
|                                                                        |       |                                             | ** **    |                                             |       |
| CASH FLOWS  FROM INVESTING ACTIVITIES                                       |       |                                             | ** **    |                                             |       |
| Purchase of plant and equipment, including construction  in progress        | ** ** | **(36,532,924**                                  | **)**         | (4,049,386                                       | )          |
| Purchase of land and land option payments                                   | ** ** | **(390,000**                                     | **)**         | (10,001                                          | )          |
| NET CASH  USED IN INVESTING ACTIVITIES                                      | ** ** | **(36,922,924**                                  | **)**         | (4,059,387                                       | )          |
|                                                                        |       |                                             | ** **    |                                             |       |
| CASH FLOWS  FROM FINANCING ACTIVITIES                                       |       |                                             | ** **    |                                             |       |
| Cost of raising capital                                                     | ** ** | **(168,483**                                     | **)**         | (1,260                                           | )          |
| Payment of financing fees                                                   | ** ** | **(36,351**                                      | **)**         | (46,477                                          | )          |
| Proceeds from notes payable                                                 | ** ** | **90,000**                                       | ** **    | —                                           |       |
| Repayment of notes payable                                                  | ** ** | **(90,000**                                      | **)**         | —                                           |       |
| Proceeds from long-term debt                                                | ** ** | **25,750,000**                                   | ** **    | —                                           |       |
| Repayment of long-term debt                                                 | ** ** | **—**                                       | ** **    | (75,000                                          | )          |
| Proceeds from units subject to redemption                                   | ** ** | **6,250,000**                                    | ** **    | —                                           |       |
| Redemption of units converted to a  liability                               | ** ** | **(6,250,000**                                   | **)**         | —                                           |       |
| Capital contributions                                                       | ** ** | **10,000,100**                                   | ** **    | 13,457,000                                       |       |
|                                                                        |       |                                             | ** **    |                                             |       |
| NET CASH  PROVIDED BY FINANCING ACTIVITIES                                  | ** ** | **35,545,266**                                   | ** **    | 13,334,263                                       |       |
|                                                                        |       |                                             | ** **    |                                             |       |
| NET INCREASE  (DECREASE) IN CASH AND CASH EQUIVALENTS                       | ** ** | **(3,559,471**                                   | **)**         | 9,051,059                                        |       |
|                                                                        |       |                                             | ** **    |                                             |       |
| CASH AND  CASH EQUIVALENTS, BEGINNING OF PERIOD                             | ** ** | **6,210,819**                                    | ** **    | 42,587                                           |       |
|                                                                        |       |                                             | ** **    |                                             |       |
| CASH AND  CASH EQUIVALENTS, END OF PERIOD                                   | ** ** | **$**                                            | **2,651,348** | ** **                                       | $          | 9,093,646 |   |

 

See Notes to UnauditedFinancial Statements

 

5

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**EAST KANSAS AGRI-ENERGY, LLC**

**STATEMENTS OF CASH FLOWS (UNAUDITED)**

 
| ** **                                                                                                | ** ** | **Nine Months  Ended  September 30,  2005** | ** **    | **Nine Months  Ended  September 30,  2004** | ** ** |
|-----------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------|---------------|--------------------------------------------------|------------|
|                                                                                                      |       |                                             |          |                                             |       |
| SUPPLEMENTAL  DISCLOSURE OF CASH FLOW INFORMATION                                                         |       |                                             |          |                                             |       |
| Cash paid for interest, net of capitalized  interest of $254,282 for 2005                                 | ** ** | **$**                                            | **1,112,155** |                                             | $          | 3,338 |   |
|                                                                                                      |       |                                             |          |                                             |       |
| NON CASH  INVESTING AND FINANCING ACTIVITIES                                                              |       |                                             |          |                                             |       |
|                                                                                                      |       |                                             |          |                                             |       |
| Property, plant, and equipment costs incurred                                                             | ** ** | **$**                                            | **1,009,961** |                                             | $          | 46,670 |   |
|                                                                                                      |       |                                             |          |                                             |       |
| Accrued interest payable capitalized                                                                      | ** ** | **$**                                            | **34,164**    |                                             | $          | — |   |
|                                                                                                      |       |                                             |          |                                             |       |
| Restricted cash financed by note payable                                                                  | ** ** | **$**                                            | **250,000**   |                                             | $          | — |   |
|                                                                                                      |       |                                             |          |                                             |       |
| Property, plant, and equipment financed by  a note payable                                                | ** ** | **$**                                            | **1,760,274** |                                             | $          | — |   |
|                                                                                                      |       |                                             |          |                                             |       |
| Units subject to redemption converted to a  liability                                                     | ** ** | **$**                                            | **6,250,000** |                                             | $          | — |   |
|                                                                                                      |       |                                             |          |                                             |       |
| Cost of raising capital reclassified to  members’ Equity                                             | ** ** | **$**                                            | **168,483**   |                                             | $          | 264,129 |   |
|                                                                                                      |       |                                             |          |                                             |       |
| Capital contributions issued for  compensation Expensed during the 9 months ended September 30, 2004 | ** ** | **$**                                            | **—**    |                                             | $          | 15,000 |   |
| Liability converted to capital units                                                                      | ** ** | **—**                                       |          | 15,000                                           |       |
| ** **                                                                                                |       | **$**                                            | **—**    |                                             | $          | 30,000 |   |

 

See Notes to UnauditedFinancial Statements

 

6

----

 

**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

**Note 1 - Summary ofSignificant Accounting Policies**

 

*Nature of Business*

 

East Kansas Agri-Energy, LLC, (a Kansaslimited liability company) located in Garnett, Kansas, was organized to own andoperate a 35 million gallon ethanol plant with distribution within the UnitedStates. East Kansas Agri-Energy, LLC (the Company) was formally organized as alimited liability company as of October 16, 2001. Prior to that date theCompany operated as a general partnership with no formal partnership agreement.The Company began its principal operations in June 2005.  Prior to that date, the Company wasconsidered to be in development stage.

 

*Basis of Accounting*

* *

The unaudited financialstatements contained herein have been prepared pursuant to the rules andregulations of the Securities and Exchange Commission. Accordingly, they do notinclude all the information and footnotes required by accounting principlesgenerally accepted in the United States of America.

 

In the opinion of management,all adjustments considered necessary for a fair presentation have been includedin the accompanying financial statements. The results of operations for thenine months ended September 30, 2005 and 2004, are not necessarilyindicative of the results expected for a full year.

 

These financial statements should be read in conjunction with thefinancial statements and notes included in the Company’s financial statementsfor the year ended December 31, 2004.

 

*Accounts Receivable*

 

Accounts receivable are presented at face value, net of the allowancefor doubtful accounts.  The allowance fordoubtful accounts is established through provisions charged against income andis maintained at a level believed adequate by management to absorb estimatedbad debts based on historical experience and current economic conditions.  Management believes all receivables will becollected and therefore the allowance has been established to be zero at September 30,2005.

 

The Company’s policy is to charge simpleinterest on trade receivables past due balances; accrual of interest isdiscontinued when management believes collection is doubtful.  Receivables are considered past due basedupon payment terms set forth at the date of the related sale.  The Company has no receivables accruinginterest at September 30, 2005.

 

*Prepaid Offering Costs*

* *

Costs incurred related to the sale of units are recorded as prepaidoffering costs until the related units are issued. Upon issuance of unitsoffering costs are deducted from additional paid-in capital, with any remainingamount applied to retained earnings. Offering costs include direct costs related to the offering such aslegal fees, cost of meetings and materials and related costs associated withthe Company’s private offering and initial public offering.

 

7

----

 

**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

*Estimates*

* *

Management uses estimates and assumptions inpreparing financial statements. Those estimates and assumptions affect thereported amounts of assets and liabilities, the disclosure of contingent assetsand liabilities at the date of the financial statements, and the reportedamounts of revenues and expenses. Actual results could differ from theestimates used. 

 

*Earnings Per Unit*

* *

Earnings per unit are calculated based on theperiod of time units have been issued and outstanding. For purposes ofcalculating diluted earnings per capital unit, units subscribed for but notissued are included in the computation of outstanding capital units. 

 

*Stock Based Compensation*

* *

The Company records stock based compensation basedon the fair value of the units issued for the compensation.

 

*General and administrative expenses*

 

The primary components of general andadministrative expenses are management fees, insurance expense and payroll.

 

*Revenue Recognition*

 

Revenue from the production of ethanol and relatedproducts is recorded upon transfer of title to our customers.  The transfer takes place at the plant siteand therefore shipping terms are FOB shipping point.  Interest income is recognized as earned.  Income from federal and state incentives arerecognized when received due to uncertainty of available funds and pro-rationsused by the sponsoring organizations.

 

*Cost of Sales*

 

The primary components of cost of sales from theproduction of ethanol and related products are corn expense, energy expense(natural gas and electricity), raw materials expense (chemicals anddenaturant), labor and depreciation on process equipment.

 

*Shipping and Handling*

* *

Shipping and handling costs are expensed asincurred and are included in the cost of sales.

 

**Note 2 - Incentivereceivable**

** **

Revenue from federal andstate incentive programs is recorded upon receipt of the program payment.  Due to changing pro-ration factors that arenot published prior to the incentive fund allocations, management cannotestimate with a high level of certainty the revenue to be recognized andtherefore has chosen to record these revenues on the cash basis for the threemonths ended September 30, 2005, and for all future periods.  The federal program is managed by theCommodity Credit Corporation and is designed to expand the production of fuelgrade ethanol by offering incentives for incremental production compared to thesame quarter of the prior year.  Theannually funded program runs through fiscal year 2006 and incentive paymentsare pro-rated if applications for incentives exceed the annual funding.  The maximum annual incentive program paymentsthe Company can receive is $7,500,000; individual producers are also subject toan annual limitation of 5% of the total funding.

 

8

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

At June 30, 2005, theCompany had recognized $104,717 of income related to these incentives althoughno payment had yet been received.  In September theCompany received payment of $81,714.  Thedifference between the amount previously recognized and the amount received isrecorded as a reduction to revenue for the three months ended September 30,2005.

 

**Note 3 - Property andequipment**

 

The Company initiated operations on June 15, 2005.  Depreciation is computed over the estimateduseful life of each asset using the straight-line method.  Estimated useful lives generally used incomputing depreciation are:

 
| Land improvements       |   | 15 to 20 years |
|-------------------------|--------|----------------|
| Buildings               |   | 40 years       |
| Machinery and equipment |   | 7 to 15 years  |
| Office equipment        |   | 5 to 10 years  |
| Computers and software  |   | 3 to 5 years   |
| Vehicles                |   | 5 years        |

 

**Note 4 - inventory**

 

Inventory is stated at the lower of cost, determined on a first in,first out basis, or market value.  

 

As of September 30, 2005, inventory consists of:

 
| Raw Material      |   | $       | 822,448   |   |
|-------------------|--------|---------|-----------|--------|
| Work in  Progress |   | 265,623 |      |
| Finished  Goods   |   | 142,392 |      |
|              |   |    |      |
|              |   | $       | 1,230,463 |   |

 

**Note 5 - INVESTMENT INCOMMODITY CONTRACTS**

 

SFAS No. 133 requires acompany to evaluate its contracts to determine whether the contracts arederivatives. Certain contracts that literally meet the definition of aderivative may be exempted from SFAS No. 133 as normal purchases or normalsales. Normal purchases and normal sales are contracts that provide for thepurchase or sale of something other than a financial instrument or derivativeinstrument that will be delivered in quantities expected to be used or soldover a reasonable period in the normal course of business. Contracts that meetthe requirements of normal are documented as normal and exempted from theaccounting and reporting requirements of SFAS No. 133. 

 

The Company enters intoshort-term cash grain, option and futures contracts as a means of securing cornfor the ethanol plant and managing exposure to changes in commodity prices. Allderivatives are designated as non-hedge derivatives. Although the contracts areeffective economic hedges of specified risks, they are not designated as andaccounted for as hedging instruments. 

 

As part of its tradingactivity, the Company uses futures and option contracts offered throughregulated commodity exchanges to reduce risk and is exposed to risk of loss inthe market value of inventories. To reduce that risk, the Company generallytakes positions using cash and futures contracts and options. 

 

9

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

During the period ended September 30,2005 this activity resulted in net gains of $78,815 which are reported in costof sales.

 

**Note 6 - unITS subject toREDEmption**

 

On October 11, 2004, the Company executed aUnit Purchase and Redemption Agreement with ICM, Inc. and Fagen, Inc.in which the Company agreed to issue a total of 6,250 units to them in exchangefor their combined capital contribution of $6,250,000. The Company also agreedto redeem all 6,250 units from ICM, Inc. and Fagen, Inc. using theproceeds from the sale of units in a future registered offering or, to theextent the future offering is unsuccessful, from cash flow generated byoperations subject to certain loan covenants, restrictions and tax distributions.The redemption price will be $1,100 per unit if the Company is able to raise atleast $6,875,000 in the future offering. Otherwise, the redemption price willbe based on a current fair market value of the units. In connection with thiscapital contribution, the Company amended the Operating Agreement to allow ICM, Inc.and Fagen, Inc. to appoint a total of three directors to the Company’sboard of directors, subject to the Company’s ability to terminate one of theirdirector positions for every $2,000,000 dollars in redemption payments made toeither or both of ICM, Inc. and Fagen, Inc. On January 19, 2005,the Company closed on the purchase of these units by ICM, Inc. and Fagen, Inc.and issued 3,125 units to Fagen, Inc. and 3,125 units to ICM, Inc. ata purchase price of $1,000 per unit. The purchases were made with cash and thetotal amount of cash consideration for those securities was $6,250,000.  On August 1, 2005, the Company redeemedthe 6,250 units from ICM, Inc. and Fagen, Inc. at a price of $1,100per unit for a total of $6,875,000.

 

On December 16, 2004, the Company filed aregistration statement on Form SB-2 (Commission File 333-121323) withpre-effective amendments to the registration statement on February 1,2005, April 6, 2005 and April 19, 2005, which became effective April 20,2005. 

 

The Company accepted units for an aggregate price of$10,000,100 and used the proceeds of the registered offering to redeem theunits from ICM, Inc. and Fagen, Inc. in accordance with the agreementand retained the balance of the proceeds for working capital.  The $6,250,000 of equity associated with theunits subject to redemption was converted to a liability.  Interest expense of $625,000 was recorded forthe period ended September 30, 2005 when the liability was paid.

 

**Note 7 - long-term DEBT**

 

Long-term obligations of the Company aresummarized as follows at September 30, 2005:

 
| Term note payable - see below           |   | $          | 21,000,000 |   |
|-----------------------------------------|--------|------------|------------|--------|
| USDA note  payable - see below          |   | 5,000,000  |       |
| Equipment  note payable - related party |   | 1,760,274  |       |
|                                    |   |       |       |
| Less current portion                    |   | (2,513,035 | )          |
|                                    |   |       |       |
| Long-term portion                       |   | $          | 25,247,239 |   |

 

The estimated maturities of long-term debt atSeptember 30, 2005, under the construction financing as drawn on September 20,2005, when it was converted to term loans are as follows:

 

10

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 
| **12 Month Period Ending 9/30** | ** ** | **Amount** | ** ** |
|---------------------------------|------------|------------|------------|
|                            |       |       |       |
| 2006                            |       | $          | 2,513,035  |   |
| 2007                            |       | 2,443,918  |       |
| 2008                            |       | 2,605,155  |       |
| 2009                            |       | 2,204,671  |       |
| 2010                            |       | 14,983,430 |       |
| Thereafter                      |       | 3,010,065  |       |
|                            |       |       |       |
|                            |       | $          | 27,760,274 |   |

 

Included in the current portion of long portion oflong-term debt is $61,286 which represents 75% of the Commodity CreditCorporation payment received through September 30, 2005.  

 

At September 30, 2005 the Company had $250,000in an escrow account (restricted cash) reserved for the final payment on theconstruction contract.  

 

On November 23, 2004, the Company entered intoa Credit Agreement with Home Federal Savings Bank, establishing a constructionloan facility for the construction of a 35 million gallon per year ethanolplant. The construction financing is in the amount of $26,000,000 consisting ofa $21,000,000 conventional term loan and a $5,000,000 USDA 80% guaranteed loan,and is secured by substantially all of our assets. 

 

During the construction phase, the Company mademonthly payments of interest only at a variable interest rate equal to primeplus 1.75% with a floor of 6%. On September 20, 2005, following constructioncompletion, the loan was segmented into two loans (1) a $5,000,000 USDA80% guaranteed loan, and (2) a $21,000,000 conventional term loan. The$5,000,000 USDA guaranteed loan will have an amortization period and maturitydate of 10 years. The Company will make monthly payments of principal andinterest on the $5,000,000 loan at a variable interest rate of prime plus1.75%. This variable rate will be adjusted quarterly. The $21,000,000conventional loan will have an amortization period of ten years but will matureat the end of five years. The Company will make monthly payments of principaland interest on the $21,000,000 loan at a variable rate equal to prime plus1.75% with a floor of 6%. 

 

The Company will pay a $30,000 annual administrationfee related to the credit facility. The credit facility is secured by amortgage on our real property and a security interest in all personal andintangible assets of the Company, including assignment of all materialcontracts.

 

The $5,000,000 USDA 80% guaranteed loan imposes aprepayment penalty depending on the year of refinancing starting with the 5%penalty in year one and decreasing to 1% in year five. With respect to the$21,000,000 conventional loan, a prepayment penalty will be imposed startingwith a 3% penalty in year one and decreasing to 1% in year three. 

 

During the term of the loan, all deposit accountsrelated to the Company must be maintained at Home Federal Savings Bank. TheCompany will also be subject to certain financial loan covenants consisting ofminimum working capital, minimum fixed charge coverage, minimum current ratio,minimum debt service, minimum net worth and maximum debt to net worth covenantsduring the term of the loan. The Company will also be prohibited from makingdistributions to their members; however, the Company will be allowed todistribute 40% of our net income to our members after our lender has receivedaudited financial statements for the fiscal year. The Company must be incompliance with all financial ratio requirements and loan covenants before andafter any distributions to the members.

 

11

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

TheCompany is only allowed to make annual capital expenditures up to $400,000annually without the lender’s prior approval. During the term of the loan, theCompany is required to pay to the lender an annual amount equal to the greaterof: 1) 75% of any Commodity Credit Corporation Bio-Energy income payments receivedduring the year, or 2) 25% of the Company’s free cash flow for each year.Payments consisting of USDA Commodity Credit Corporation Bio-Energy income mustbe paid to the lender within 15 days of receipt of any such payments. Thesepayments will continue until an aggregate sum of $7,500,000 has been receivedby the lender.  The lender temporarily waived, through September 30,2005, the requirement to remit payments received from the Commodity CreditCorporation Bio-Energy program.  At such time as the Company receives apayment from the Commodity Credit Corporation Bio-Energy program after September 30,2005, 75% of the cumulative amounts received will need to be remitted within 15days of receipt. With the waiver, the Company is in compliance with the applicableloan covenants as of September 30, 2005.

 

On May 10, 2005 the Company entered into acontract with ICM, Inc. to purchase a steam turbine electric generator for$1,760,274.  The note is payable inquarterly installments of $146,689.50 plus interest at a variable rate of primeplus 1%, starting October 1, 2005 and maturing July 1, 2008.  The variable interest rate will be adjustedquarterly on the first day of January, April, July and October.  The note is secured by the equipment.

 

**Note 8 - MEMBERS’ EQUITY**

 

As specified in the Company’s Operating Agreement, voting rights areone vote for each voting unit registered in the name of such Member as shown onthe Membership Registration maintained by the Company. No Member shall directlyor indirectly own or control more than 25% of the issued and outstanding votingmembership interest in the Company at any time. 

 

Income and losses of the Company shall be allocated among the Membersin proportion to each Member’s respective percentage of units when comparedwith the total Units issued. 

 

The Company’s cash flow shall first be applied to the payment of theCompany’s operating expenses (including debt service) and then to maintenanceof adequate cash reserves as determined by the board of directors in its solediscretion, and then shall be distributed from time to time to the Members inproportion to their respective percentage units. No member has the right todemand and receive any distribution from the Company other than in cash. Nodistribution shall be made if, as a result thereof, the Company would be inviolation of any loan agreement, and of if the Company would be in violation ofany loan agreement, of if the Company’s total assets would be less than the sumof its total liabilities. 

 

Transfer, disposition or encumbrance of Capital Units is subject tocertain restrictions, including approval by the board of directors.

 

In addition to transactions discussed in Note 6, the Company issuedduring 2004 a total of 30 units for compensation. The former projectcoordinator received 15 units in exchange for amounts previously owed forservices. 

 

The current project coordinator (who is a full time employee of theCompany) and former treasurer (who was a full time employee of the Company)received a total of 15 units as a bonus for their services related to thedevelopment and financing of the Company. Compensation expense related to thisbonus totaled $15,000 for the nine months ended September 30, 2004.

 

12

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

During September 2004, the Company amended its Operating Agreementwhereby the number of authorized units was increased from 20,000 to 40,000units. In addition, the amendments to the Operating Agreement provide for twoclasses of members of the board of directors, Class A and Class B. Class Amembers of the board of directors consist of previously existing members of theboard of directors, prior to amendment. Up to (3) Class B members ofthe board of directors may be appointed by Fagen, Inc., ICM, Inc., orboth of these parties in conjunction with their agreement to purchase units.

 

Upon issuance of the units related to theinitial public offering, costs related to the issuance of the units of $264,129was charged to members’ equity.  Uponissuance of the units related to the second public offering, costs related tothe issuance of the units of $168,453 was charged to members’ equity.

 

**Note 9 - Concentration ofcredit risk**

 

The Company maintains cash balances at four financial institutions inits trade area. The account is secured by the Federal Deposit InsuranceCorporation up to $100,000. At times, the Company’s bank balance may exceed$100,000.

 

**Note 10 - Related PartyTransactions**

 

The former project coordinator (Note 8) purchased membership unitsduring the period ended December 31, 2002. 

 

Other agreements with relatedparties and affiliates are discussed in Note 11.

 

**Note 11 - commitments andContingencies**

 

The Company has entered into an optionagreement to purchase approximately 10 acres of land. The option was originallypurchased for $5,000, plus $5,000 for an extension during 2003, and providesfor a purchase price of $9,000 per acre, plus the cost to replace boundaryfencing and relocate an existing structure along with water and electricutilities. The option was extended to September 1, 2004 and the Companypaid an additional $5,000 for the extension. On September 1, 2004, theoption was extended until such time as closing on the property would occur. Thepurchase price of the land will be reduced by amounts previously paid for theoption and extension. On November 17, 2004, the Company exercised the land option andpurchased approximately 19 acres of real estate in Anderson County, Kansas. TheCompany paid $170,010, which excluded the cost to replace boundary fencing andrelocate an existing structure along with water and electric utilities.Previous deposits totaling $20,000 were applied to the purchase price of theland and a sum of $150,010 was paid at closing. During the period ended September 30,2005, the Company incurred costs totaling $20,311 for construction of boundaryfencing and structural improvements.

 

On May 14, 2002, the Company enteredinto an option to purchase real property for the plant site with a fair valueof approximately $172,500. The option was for the purchase of approximately 23acres within the Golden Prairie Industrial Park of the City of Garnett, Kansasfor $1. On May 27, 2004, the Company gave notice of exercise of theoption, and received title to the property on September 1, 2004. 

 

During the year ended December 31, 2003, the Company terminatedits agreement with Value Added Ventures, LLC (VAV). The Company has beennotified by VAV requesting payment for services from the inception of thecontract through the date of termination totaling $33,380. The Company and VAVare negotiating settlement of this contract. The Company has a liabilityrelated to this agreement of $5,847 as of September 30, 2005.

 

13

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

During the year ended December 31, 2003, the Company negotiatedwith a board member to perform certain consulting services, which were to beginon October 1, 2003. The parties did not execute a contract for theseservices. Subsequent to December 31, 2003, the board member resigned andthe Company received a claim for the payment of approximately $50,000,consisting of approximately $2,000 and 48 units of the Company. The Companycontends that since a contract was not executed and services were not performedrelated to the proposed agreement, no liability exists. The Company intends tovigorously defend itself against the claim. 

 

The Company completed its initial publicoffering and escrow was broken in March 2004. A total of 13,457 units weresubscribed and paid for during the year ended December 31, 2004.  The Company completed its second publicoffering and escrow was broken in July 2005.  A total of 9,091 units were subscribed andpaid for during the period ended September 30, 2005.

 

The Company has entered into a design-buildcontract with ICM, Inc., a related party, for a fixed price of$35,900,000, subsequently amended to $35,977,582, excluding certain ownerfurnished costs, pursuant to an agreement for the construction of the 35million gallon annual capacity ethanol plant. As of September 30, 2005,the remaining obligation on the contract was approximately $250,000 and theCompany had incurred and paid for costs of $35,727,582. The Company also has anaccounts payable for time and materials construction totaling $832,225 as of September 30,2005.

 

On September 3, 2004, the Companyentered into an agreement with Antioch International, Inc. for designservices related to the railroad spur for a fixed price of $32,486,subsequently amended to $50,876. As of September 30, 2005, the Companyincurred and paid for costs under the contract of $50,876 and additionalservices of $30,214.

 

OnNovember 12, 2004, the Company entered into a Trading Agreement withUnited Bio Energy Trading, LLC, an affiliated related party, in which UnitedBio Energy Trading, LLC will provide market information and consulting servicesfor the Company. The Company anticipates that the term of the agreement will befor at least five years and will pay a monthly fee of $6,000. 

 

OnNovember 12, 2004, the Company entered into a Distillers Grains MarketingAgreement with United Bio Energy Ingredients, LLC, an affiliated related party,pursuant to which United Bio Energy Ingredients, LLC will purchase all driedand wet distillers grains produced at the plant for a term of at least fiveyears at a price of 98% of the FOB plant price United Bio Energy Ingredients,LLC charges its buyers of dried distillers grains, and 96% of the FOB plantprice United Bio Energy Ingredients, LLC charges its buyers of wet distillersgrains. United Bio Energy Ingredients, LLC, will use its best efforts toachieve the highest resale price available under prevailing market conditions.The Company is responsible for supplying all labor and equipment to load orunload trucks or rail cars without charge to United Bio Energy Ingredients, LLCand is required to provide storage for at least 10 days production of wet anddry distiller grains. In addition, the distiller grains must meet qualityrequirements so that they will meet current industry standards for primaryanimal feed ingredients. If the Company fails to supply distiller grains thatcomply with industry standards, United Bio Energy Ingredients, LLC may rejectthem.

 

OnNovember 12, 2004, the Company entered into a Raw Grains Agreement withUnited Bio Energy Ingredients, LLC, an affiliated related party. The Raw GrainsAgreement provides for the Company to purchase all raw grains necessary forethanol production from United Bio Energy Ingredients, LLC for a period of atleast five years. Pursuant to the agreement, United Bio Energy Ingredients, LLCwill use its best efforts to arrange for the purchase of grain at the lowestprice available under prevailing market conditions and we will supply all laborand equipment necessary to load or unload trucks or rail cars. For its service,the Company will pay United Bio Energy Ingredients, LLC the actual cash procurementprice and all reasonable and necessary expenses to get the grain to the plantplus a $.02 per bushel fee. The title, risk of loss, and responsibility for thequality of grain will transfer to the Company when it unloads the grain at theplant. Prior to that time, United Bio Energy Ingredients, LLC will bear therisk of loss. All grain delivered to the plant shall meet certain qualitystandards and the

 

14

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

Companywill have the option to reduce the price the Company will pay or fully rejectany delivery that fails to conform to these standards, depending upon theseverity of the noncompliance.

 

OnNovember 12, 2004, the Company also entered into an Ethanol Agreement withUnited Bio Energy Fuels, LLC, an affiliated related party. The terms of theagreement provide that United Bio Energy Fuels, LLC will market all fuel-gradeethanol produced at our plant. In exchange, the Company agrees to pay UnitedBio Energy Fuels, LLC a fee of $.01 for each gallon of ethanol produced at theCompany’s plant during the term of the agreement. The Company expects that theterm of the agreement will be at least 5 years. United Bio Energy Fuels, LLCalso agreed to use its best efforts to obtain the highest price for ethanolavailable under prevailing market conditions.

 

OnNovember 12, 2004, the Company entered into a Management Agreement withUnited Bio Energy Management, LLC, a related party, in which United Bio EnergyManagement, LLC will supervise and direct the general operations of the plantfor an anticipated period of at least five years. United Bio Energy Management,LLC will provide the services of a full-time general manager to the plant. UnitedBio Energy Management, LLC is wholly owned by ICM, Inc. and Fagen, Inc.Accordingly, the Company may not be able to negotiate any further transactionsat arms length, as the Company would be able to do with an independent party.The Company has agreed to compensate United Bio Energy Management, LLC anannual fee of $250,000 for these services payable in monthly installments of$20,833, plus an incentive bonus based on the attainment of certain financialbenchmarks. United Bio Energy Management, LLC will appoint a general manager tobe based on site at our plant, and shall work exclusively for us. In the eventof a dispute, the Management Agreement provides that the Company will firstattempt to amicably settle any dispute or difference privately between UnitedBio Energy Management, LLC and the Company. If the Company cannot resolve thedispute as a result of the discussions, then the Company must submit the matterto non-binding mediation. In the event that the dispute is not settled throughmediation, the matter must be resolved by non-appealable arbitration inaccordance with the rules of the American Arbitration Association asapplicable in the State of Kansas. The determination of the arbitrator isexpected to be final and may not be appealed to any court. The prevailing partyin any arbitration proceeding is entitled to recover reasonable attorneys’ feesand expenses incurred. The agreement commenced during March 2005. For theperiod ended September 30, 2005, the Company incurred and paid for costsof $149,390 related to this agreement including reimbursable expenses. 

 

On February 24, 2005, the Company entered into a facilityconstruction, ownership and operating agreement with Southern Star Central GasPipeline. Inc. to construct, install, operate and maintain a measurementstation capable of flowing natural gas in sufficient hourly quantities to meetthe total daily requirements and design specifications requested by theCompany. The Company will pay for the actual cost of construction of thefacilities which is currently estimated to be $312,471 less the deposit of$25,000 already paid by the Company. As of September 30, 2005, the Companyincurred and paid total costs of $312,471.

 

On February 28, 2005, the Company entered into an agreement withKansas City Power & Light Company to provide electric utility serviceand install electrical facilities to the plant. The Company has agreed to haveKansas City Power & Light Company provide electric service to theplant for a term of fifteen years. In exchange for the installation ofelectrical facilities to the plant and the electric service agreement, theCompany has agreed to pay Kansas City Power & Light Company $515,720payable in five equal installments. In addition, the Company is liable foractual costs incurred that exceed $515,720 as a direct result of discoveringrock during the installation of the facilities. However, the Company’s totalliability for the project is limited to $813,837. As of September 30,2005, the Company has recognized and paid the total cost of $515,720.

 

On March 25, 2005, the Company entered into an agreement with GasDistribution Contractors to construct a connecting gas pipeline system thatreceives natural gas from Southern Star Central Gas Pipeline facilities anddelivers this gas to the plant for a price of $39,000. As of September 30,2005, the Company had incurred and paid forcosts of $43,503 under the contract .

 

15

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

On March 30, 2005, the Company entered into two agreements withKinder Morgan Interstate Gas Transmission LLC for discounted interruptiblestorage service of natural gas. The contracts provide for a maximum storagequantity totaling 191,500 dth for the period from April 1, 2005 through February 28,2006 at a cost of $.0338 per dth daily average storage. 

 

On March 31, 2005, the Company entered into an agreement withShafer, Kline & Warren, Inc. to provide engineering services inconnection with the construction of the natural gas pipeline system to theplant. The amount of the contract is for $16,000 plus reimbursable material andexpenses. As of September 30, 2005, $32,579 had been incurred and paidunder the contract.

 

The Company has an agreement with the City of Garnett, Kansas to sharethe cost of certain highway improvements. Management estimates the obligationunder this agreement will be approximately $135,000.

 

On April 18, 2005, the Company entered into an agreement with ICM, Inc.to provide services enumerated in the agreement related to a Safety and HealthProgram for the Company for the period from April 18, 2005 until November 11,2005. The amount due to ICM, Inc. related to this agreement is$20,000.  As of September 30, 2005costs of $20,000 had been incurred and paid under the contract.

 

On July 28, 2005, The Company entered into an agreement with HDBConstruction, Inc. for additional work on the railroad spur project not toexceed an amount of $1,567,268.  As of September 30,2005 costs related to the project of $543,825 had been incurred, of which$142,736 is included in accounts payable**.**

 

The Company had an agreement with a member in which the Company wouldconstruct a pond on the member’s property in exchange for the Company’s unlimiteduse of dirt from this same property.  TheCompany has entered into an agreement to pay a cash settlement in the amount of$300,000 to the member instead of constructing the pond.  The Company will make 3 monthly payments of$100,000 beginning in October 2005. At September 30, 2005, the full amount is recorded in accountspayable. 

 

The Company is negotiating with the City of Garnett to issue IndustrialRevenue Bonds in the amount of $50,000,000 and $525,000.  The $50,000,000 bond issue will be purchasedby the Company and is being sought to receive a property tax exemption.  The $525,000 bond will be used to finance thewaste water project. At September 30, 2005 no commitments have been madeon either bond issue.

 

The following is a schedule of the annual commitments related tothe above agreements.

 

**12 months ending September 30,**

 

| 2006       |   | $         | 761,008   |   |
|------------|--------|-----------|-----------|--------|
| 2007       |   | 664,108   |      |
| 2008       |   | 664,108   |      |
| 2009       |   | 664,108   |      |
| 2010       |   | 476,275   |      |
| Thereafter |   | 1,550,495 |      |
|       |   |      |      |
|       |   | $         | 4,780,102 |   |

 

16

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**EAST KANSAS AGRI-ENERGY, LLC**

**NOTES TO UNAUDITED FINANCIAL STATEMENTS**

 

**Note 12 - value addedgrant**

 

During the year ended December 31, 2003,the Company received notification of award of a United States Department ofAgriculture Value-Added Agricultural Product Market Development Grant (theGrant) for approximately $450,000. The Grant can be used to pay for certainorganizational, offering and start-up costs related to the formation andcapitalization of the Company. For the nine months ended September 30,2005 the Company did not qualify for any reimbursement of costs incurred. Forthe nine months ended September 30, 2004 the Company qualified forreimbursement of $132,149 of which $1,409 related to cost of raising capital.

 

17

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**Item 2.****    Management’sDiscussion And Analysis**

 

This report contains forward-lookingstatements that involve future events, our future performance and our expectedfuture operations and actions.  In some cases you can identifyforward-looking statements by the use of words such as “may,” “should,” “anticipate,”“believe,” “expect,” “will,” “plan,” “future,” “intend,” “could,” “estimate,” “predict,”“hope,” “potential,” “continue,” or the negative of these terms or othersimilar expressions.  These forward-looking statements are only ourpredictions and involve numerous assumptions, risks and uncertainties. Our actual results or actions may differ materially from these forward-lookingstatements for many reasons, including the following factors:

 

•      Changes in theavailability and price of corn;

•      Increases ordecreases in the supply and demand for ethanol;

•      Changes in theenvironmental regulations that apply to our plant operations;

•      Delays in plantconstruction or increases in the cost of construction;

•      Changes ininterest rates or the availability of credit;

•      Changes in ourbusiness strategy, capital improvement or development plans;

•      Changes inplant production capacity or technical difficulties in operating the plant;

•      Changes ingeneral economic conditions or the occurrence of certain events causing aneconomic impact in the agriculture, oil or automobile industries;

•      Changes in theavailability and price of natural gas;

•      Increases ordecreases in the supply and demand for distiller grains; and

•      Changes andadvances in ethanol production technology.

 

We are notunder any duty to update the forward-looking statements contained in thisreport.  We cannot guarantee future results, levels of activity,performance or achievements.  We caution you not to put undue reliance onany forward-looking statements, which speak only as of the date of thisreport.  You should read this report and the documents that we referencein this report and have filed as exhibits, completely and with theunderstanding that our actual future results may be materially different fromwhat we currently expect.  We qualify all of our forward-lookingstatements by these cautionary statements.

 

**Overview**

 

East Kansas Agri-Energy, LLC was formed as a Kansaslimited liability company on October 16, 2001, for the purpose ofconstructing and operating an ethanol plant near Garnett, Kansas.  Since June 2005, we have beenengaged in the production of ethanol and distillers grains. Our revenues arederived from the sale and distribution of our ethanol and distillers grainsthroughout the continental United States.

 

On October 11, 2004, to supplement our debtfinancing and complete our capitalization plan we entered into a Unit Purchaseand Redemption Agreement with ICM, Inc. of Colwich, Kansas and Fagen, Inc.of Granite Falls, Minnesota.  In the UnitPurchase and Redemption Agreement we agreed to issue up to 6,250 of our unitsto ICM, Inc. and Fagen, Inc. at a purchase price of $1,000 per unitin exchange for a combined capital contribution from them of up to $6,250,000. Wealso agreed to redeem all 6,250 units from ICM, Inc. and Fagen, Inc.using the proceeds from the sale of units in a registered offering or, to theextent the offering is unsuccessful, from cash flow generated by operations subjectto certain loan covenants, restrictions and tax distributions.  Toraise the proceeds necessary to redeem the units, we commenced a registeredoffering for additional membership units. Our registered offering became effective on April 20, 2005 and wasclosed on July 20, 2005.  During the offering, we sold 9,091units for an aggregate price of $10,000,100. On August 1, 2005, we used the proceeds of the public offering toredeem 3,125 units each from ICM, Inc. and Fagen, Inc. at a totalredemption price of $6,875,000 in accordance with the Unit

 

18

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Purchase Agreement executed with ICM, Inc.and Fagen, Inc and retained the balance of the proceeds for working capital.

 

We expect to fund our operations during thenext 12 months using cash flow from continuing operations, the remainingbalance of our recent public offering and our credit facilities.

 

We are subject to industry-wide factors thataffect our operating and financial performance.  These factors include, but are not limited to,the available supply and cost of corn from which our ethanol and distillersgrains are processed; the cost of natural gas, which we use in the productionprocess; dependence on our ethanol marketer and distillers grains marketer tomarket and distribute our products; the intensely competitive nature of theethanol industry; possible legislation at the federal, state and/or locallevel; changes in federal ethanol tax incentives and the cost of complying withextensive environmental laws that regulate our industry.

 

Since we only recently became operational, wedo not yet have comparable income, production and sales data for the ninemonths ended September 30, 2005. Accordingly, we do not provide a comparison of our financial resultsbetween reporting periods in this report. If you undertake your own comparison of the first nine months of 2004and the first nine months of 2005, it is important that you keep this in mind.

 

**Results of Operations**

 

The following tables showsthe results of our operations and the percentage of revenues, cost of goodssold, operating expenses and other items to total revenues in our statement ofoperations for the fiscal quarter ended September 30, 2005 and the ninemonths ended September 30, 2005:

 

**Results for Quarter EndingSeptember 30, 2005**

 

| ** **              | ** ** | **Amount**  | ** ** | **%**  | ** ** |
|-------------------------|------------|-------------|------------|--------|------------|
| Revenues                |       | $           | 14,977,726 |   | 100.0      | % |
| Cost of  Sales          |       | (11,970,090 | )          | 79.9   | %          |
| Gross Profit            |       | 2,984,633   |       | 19.9   | %          |
|                    |       |        |       |   |       |
| Operating  Expenses     |       | 375,277     |       | 2.5    | %          |
|                    |       |        |       |   |       |
| Operating  Income       |       | 2,609,356   |       | 17.1   | %          |
|                    |       |        |       |   |       |
| Other Income  (Expense) |       | (1,152,108  | )          | 7.7    | %          |
|                    |       |        |       |   |       |
| Net Income              |       | 1,457,248   |       | 9.7    | %          |
|                         |            |             |            |        |            |  |

 

**Results for Nine Months EndingSeptember 30, 2005**

 

| ** **              | ** ** | **Amount**  | ** ** | **%**  | ** ** |
|-------------------------|------------|-------------|------------|--------|------------|
| Revenues                |       | $           | 15,716,708 |   | 100.0      | % |
| Cost of  Sales          |       | (12,958,696 | )          | 82.5   | %          |
| Gross Profit            |       | 2,839,726   |       | 18.1   | %          |
|                    |       |        |       |   |       |
| Operating  Expenses     |       | 1,348,714   |       | 8.6    | %          |
|                    |       |        |       |   |       |
| Operating  Income       |       | 1,491,012   |       | 9.5    | %          |
|                    |       |        |       |   |       |
| Other Income  (Expense) |       | (1,194,444  | )          | 7.6    | %          |
|                    |       |        |       |   |       |
| Net Income              |       | 296,568     |       | 1.6    | %          |
|                         |            |             |            |        |            |  |

 

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

 

We expect to spend the next12 months operating the ethanol plant to produce and sell ethanol anddistillers grains.  Our primary focuswill be concentrated on three main areas: (i) operating the plant andcompleting any unfinished site work; (ii) making sure the plant isoperating as efficiently as possible; and (iii) cost-effective purchasingof important manufacturing inputs such as corn and natural gas.

 

*Plant Operations*

 

Our plantpassed performance testing and became fully operational on July 15,2005.  Since that date, our plant hasconsistently met or exceeded its nameplate production capacity of 35 milliongallons of ethanol per year, as measured on a pro rata basis.   While management continues to direct its effortstoward increasing production and operating efficiencies while maintaining ordecreasing operating costs, there is no assurance or guarantee that we will beable to consistently satisfy these objectives.

 

We are subjectto ongoing environmental regulations and testing.  On October 24,2005, we completed and passed all air emission and associated compliancetesting for the plant.  In addition, asa condition of our NDPES Wastewater Discharge Permit, we must submit monthlymonitoring reports to KDHE.   We arecurrently in compliance with all NDPES compliance testing for the plant.

 

As of September 30,2005, there was no outstanding balance on the plant design-build contractexcept for retainage of $250,000 and accounts payable for time and materialsconstruction totaling $832,225.  We areholding retainage of $250,000 pending final completion of all of the designbuilder’s obligations.

 

As owner of the project, we are responsible forseveral non-operational construction projects. As of September 30, 2005, we still need to complete theconstruction of the storm water pond and grey water recycling project, railsite preparation and rail spur construction, road improvements, finishedproducts logistics flow and electric service facilities.  We expect to complete these items over thenext few months without interruption or delay of plant operations.  Pending completion of our permanent electricservice facilities, a back-up system has been installed and is in operation.  On August 1, 2005, we were able to moveinto our administration building although construction of the administrationbuilding was not yet substantially complete. As of September 30, 2005, construction of the administrationbuilding had been completed.

 

On April 5, 2005, we received an easement fromthe State of Kansas in exchange for $1.00 which will allow us to construct andoperate a railroad spur line across state park property owned by the State ofKansas.  We have received and areevaluating final track plans and crossings from Union Pacific Railroad. Pendingcompletion of our evaluation and our acceptance of the track plans andcrossing, we have begun the dirt work**for the railsiding to connect our plant to the main rail line.  Weexpect to be reliant upon trucks to transport grain and ethanol until our railservice is completed.  This maynegatively affect our ability to make a profit due to the higher costassociated with transport by trucks.

 

In June 2005, we entered into a preliminary verbalagreement with Mike Burns, a member of the Company, for compacted fill.  Subsequent to the period covered by thisreport, on October 11, 2005, we entered into a definitive written agreementwith Mr. Burns for approximately 720,000 cubic yards of compacted fill inexchange for payment of $300,000 to be paid in three equal payments of$100,000.  The first payment was due andpaid upon execution of the agreement and the remaining payments are due on November 15,2005 and December 15, 2005.  As of September 30,2005, we have not completed our removal of dirt from the property.  We anticipate that we will complete the dirtremoval by the end of November or first part of December.

 

On July 28, 2005 we engaged HDB Construction, Inc.for rail spur site preparation work in exchange for payment of an aggregate costnot to exceed $1,556,468 and instructed HDB to commence work on rail sitepreparation.

 

During the next 12 months, we expect to focuson producing ethanol and distillers grains at our plant.  We have engaged United Bio EnergyManagement, LLC; United Bio Energy Fuels, LLC; United Bio Energy Ingredients,LLC; and United Bio Energy Trading, LLC for various services for the ethanolplant. United Bio Energy Management, LLC will manage the ethanol plant andUnited Bio Energy Fuels, LLC will provide us ethanol marketing services.

 

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United Bio Energy Ingredients, LLC willprovide us distillers grains marketing and grain origination services. UnitedBio Energy Trading, LLC will provide us with overall risk management. Thesecompanies are owned by US BioEnergy Corporation of Brookings, South Dakota.

 

For the period ending September 30, 2005, wehave incurred and paid for costs of $149,390, including reimbursable expenses,for management services provided by United Bio Energy Management, LLC.

 

*Administration andEmployees*

 

We currentlyhave 33 full-time employees and do not expect a significant change in thisnumber over the next twelve months.

 

*Trends and Uncertainties Impacting the Corn and Natural Gas Markets andOur Future Cost of Goods Sold*

 

Corn yields nationwide have been much betterthan expected.  Timely rains in mostareas of the country have facilitated excellent corn yields, which will lead toexcess supply and low corn prices for the time being.  Excess supply projections have again beenincreased to nearly 2.5 billion bushels.  United BioEnergy Ingredients, LLC has contracted, on our behalf, forapproximately 90% of our corn supply for October through December 2005,and 17% of our corn supply for 2006. Management believes that the next majorsignal for corn prices will come in the spring, when the expected number ofcorn acres for next year’s crop is reported. Increased cost of fuel and fertilizer may reduce the amount of acres ofcorn planted next season, thus increasing the potential for price volatility incorn.  On the contrary, should acreageremain relatively unchanged, management believes the additional suppliescurrently on hand will limit corn price increases.  Increases in corn prices negatively impactour profitability by increasing our cost of goods and reducing our netoperating income.  Although we attempt touse hedging strategies to minimize our exposure to corn price movements, thereis no guarantee or assurance that our hedging strategies will be effective.

 

Natural gas is also animportant input commodity to our manufacturing process.  We estimate that our natural gas usage willbe approximately 4,000 British thermal units (mmbtu) per day when dryingthe distillers grains.  We use natural gasto dry our distiller’s grain products to moisture contents at which they can bestored for long periods of time, and can be transported greater distances.  Dry distiller’s grains have a much broadermarket base, including the western cattle feedlots, and the dairies ofCalifornia and Florida.  Recently, theprice of natural gas has followed other energy commodities to historically highlevels.

 

Current natural gas prices are considerablyhigher than the 10-year average.  In August andSeptember 2005, Hurricanes Katrina and Rita caused considerable damage tonatural gas production areas in the Gulf of Mexico, contributing to the currentvolatility of natural gas prices.  Globaldemand for natural gas is expected to continue to increase, which may further driveup prices.  As a result, we expectnatural gas prices to remain higher than average in the short to mid term.  Increases in the price of natural gasincreases our cost of production and negatively impacts our profit margins.

 

*CommodityPrice Risk Protection*

 

We seek to minimize the risks from fluctuations in the prices of rawmaterial inputs, such as corn and natural gas, and finished products, such asethanol and distillers grains, through the use of hedging instruments.  As we move forward, we will continue tomonitor our risk, and adjust our hedging strategies as appropriate.  Although we believe our hedge positionsaccomplish an economic hedge against our future purchases, they do not qualifyfor hedge accounting, which would match the gain or loss on our hedge positionsto the specific commodity purchase being hedged.  We are using fair value accounting for ourhedge positions, which means as the current market price of our hedge positionschanges, the gains and losses are immediately recognized in our cost of goodssold.  For example, it is likely and wewould generally expect that a positive 10% increase in the cash price of cornwould produce a positive increase of approximately 10% in the fair value of ourderivative instruments and vice versa.  The immediate recognition of hedging gains andlosses under fair value accounting can cause net income to be volatile fromquarter to quarter due to the timing of the change in value of the derivativeinstruments relative to the cost and use of the commodity being hedged.  There are several variables that could affectthe extent to which our derivative instruments are impacted by pricefluctuations in the cost of corn or natural gas.  However, it is likely that

 

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commodity cash prices will have the greatestimpact on the derivatives instruments with delivery dates nearest the currentcash price.

 

As of September 30,2005, United Bio Energy Trading, LLC has entered into forward corn purchasecontracts for the purchase of approximately 900,000 bushels of corn at variousdates through December 2005 on our behalf. As we move forward, additional protection may be necessary.  As corn prices move in reaction to markettrends and information, our income statement will be affected depending on theimpact such market movements have on the value of our derivativeinstruments.  Depending on marketmovements, crop prospects and weather, these price protection positions maycause immediate adverse effects but are expected to produce long-term positivegrowth for the Company.

 

As of September 30, 2005, we have entered into options contractsto purchase approximately 170,000 British thermal units (mmbtu) of natural gasthrough November 2005 and February 2006.  Additional price protection for natural gaspurchases may be necessary as we attempt to further reduce our susceptibilityto price increases.  However, we may notbe able to secure natural gas for prices less than current market priceparticularly during the peak of the winter season and we may not recover highcosts of production resulting from high natural gas prices, which may raise ourcosts of production.

 

*Trends andUncertainties Impacting the Ethanol Industry and Our Future Revenues*

 

Our revenues consist of sales of ethanol anddistillers grains.  We expect ethanolsales to constitute the bulk of our revenues. Last quarter and continuing through the first two thirds of thisquarter, the demand for ethanol increased relative to supply causing upwardpressure on ethanol market prices.  Inthe last month of the quarter some of those gains have been reduced, but pricesremain historically strong.  Increaseddemand, firm crude oil and gas markets, public acceptance, and positivepolitical signals have all contributed to a strengthening of ethanolprices.  In order to sustain these higherprice levels however, management believes the industry will need to continue togrow demand to offset the increased supply brought to the market place byadditional production.

 

We also expect to benefit from federal ethanolsupports and federal tax incentives. Changes to these supports or incentivescould significantly impact demand for ethanol.  On August 8,2005, President George W. Bush signed into law the Energy Policy Act of 2005 (the“Act”).  The Act contains numerousprovisions that are expected to favorably impact the ethanol industry byenhancing both the production and use of ethanol.  Most notably, the Act created a 7.5 billiongallon renewable fuels standard (the “RFS”). The RFS is a national renewable fuels mandate as to the total amount ofnational renewable fuels usage but allows flexibility to refiners by allowingthem to use renewable fuel blends in those areas where it is mostcost-effective rather than requiring renewable fuels to be used in anyparticular area or state.  The RFS will begin at 4 billion gallons in2006, and increase to 7.5 billion gallons by 2012.  According to the Renewable Fuels Association,the Act is expected to lead to about $6 billion in new investment in ethanolplants across the country.

 

The Act also expands who qualifies as a smallethanol producer for purposes of the small ethanol producer tax credit.  Historically, small ethanol producers wereallowed a 10-cent per gallon production income tax credit on up to 15 milliongallons of production annually.  The sizeof the plant eligible for the tax credit was limited to 30 milliongallons.  Under the Act, the size limitationon the production capacity for small ethanol producers increases from 30 milliongallons per year to 60 million gallons per year.  The credit can be taken on the first 15million gallons of production.  The taxcredit is capped at $1.5 million per year per producer.  The credit is effective for taxable yearsending after the date of enactment through 2008.  Since we expect to now qualify as a smallethanol producer under the Act, we expect to be eligible for this tax creditthis taxable year.

 

Demand for ethanol may also increase as aresult of increased consumption of E85 fuel.  E85 fuel is a blend of 70% to 85% ethanol andgasoline.  According to the EnergyInformation Administration, E85 consumption is projected to increase from anational total of 11 million gallons in 2003 to 47 million gallons in2025.  E85 is used as an aviation fueland as a hydrogen source for fuel cells. In the U.S., there are currently about 3 million flexible fuel vehiclescapable of operating on E85 and 400 retail stations supplying it.  Automakers have indicated plans to produce anestimated 2 million more flexible fuel vehicles per year.

 

Ethanol production continues to grow asadditional plants become operational. According to the Renewable FuelsAssociation, there are currently 88 ethanol plants in operation nationwide thathave the capacity to annually

 

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produce 4.2 billiongallons.  In addition, there are 21 newethanol plants and 8 expansions of existing ethanol plants under constructionconstituting another 1.4 billion gallons of annual capacity.  In addition, ADM has recently announced itsplan to add 500 million gallons of ethanol production, clearly indicating itsdesire to maintain a significant share of the ethanol market.  Since our current national ethanol productioncapacity exceeds the 2006 RFS requirement, it is management’s belief that othermarket factors are primarily responsible for current ethanol prices.  Accordingly, it is possible that the RFSrequirements may not significantly impact ethanol prices in the short-term.  However, the increased requirement of 7.5billion by 2012 is expected to support ethanol prices in the long term.  A greater supply of ethanol on the marketfrom these additional plants and plant expansions could reduce the price we areable to charge for our ethanol.  This mayhave a negative impact on our revenues.

 

Demand for ethanol has beensupported by higher oil prices and its refined components and by clean airstandards mandated by federal agencies have required highly populated areas toblend ethanol into their gasoline supplies as an oxygenate. The intent of theair standards is to reduce harmful emissions into the atmosphere. Thesemandates have been challenged in several metropolitan areas, and are currentlybeing reviewed by the courts. In the future, the combination of additionalsupply, successful challenges to the clean air standards and stagnant orreduced demand may damage our ability to generate revenues and maintainpositive cash flows.

 

Although the Energy PolicyAct of 2005 did not impose a national ban of methyl tertiary butyl ether (“MTBE”),the primary competitor of ethanol as a fuel oxygenate, the Act’s failure toinclude liability protection for manufacturers of MTBE could result in refinersand blenders using ethanol as an oxygenate rather than MTBE to satisfy theClean Air Act’s reformulated gasoline oxygenate requirement.  While this may create some additional demandin the short term, the Act repeals the Clean Air Act’s 2% oxygenate requirementfor reformulated gasoline immediately in California and 270 days afterenactment elsewhere.  However, the CleanAir Act also contains an oxygenated fuel requirement for areas classified ascarbon monoxide non-attainment areas. These areas are required to establish an oxygenated fuels program for aperiod of no less than three months each winter.  The minimum oxygen requirement for gasolinesold in these areas is 2.7% by weight. This is the equivalent of 7.7% ethanol by volume in a gasolineblend.  This requirement was unaffectedby the Act and a number of states, including California, participate in thisprogram.

 

Consumer resistance to theuse of ethanol may affect the demand for ethanol which could affect our abilityto market our product and reduce the value of your investment.  Certain individuals believe that use ofethanol will have a negative impact on prices at the pump.  Many also believe that ethanol adds to airpollution and harms car and truck engines. Still other consumers believe that the process of producing ethanolactually uses more fossil energy, such as oil and natural gas, than the amountof ethanol that is produced.  Theseconsumer beliefs could potentially be wide-spread.  If consumers choose not to buy ethanol, itwould affect the demand for the ethanol we produce which could negativelyaffect our ability sell our product and negatively affect our profitability.

 

*Technology Developments*

 

A new technology hasrecently been introduced by Vortex Dehydration Technology of Hanover, Maryland,to remove corn oil from concentrated thin stillage (a byproduct of “dry milling”ethanol processing facilities) which would be used as an animal feed supplementor possibly as an input for bio-diesel production.  Although the recovery of oil from the thinstillage may be economically feasible, it fails to produce the advantages ofremoving the oil prior to the fermentation process.  The FWS Group of Companies, headquartered outof Canada with offices in the United States, is currently working on a starchseparation technology that would economically separate a corn kernel into itsmain components. The process removes the germ, pericarp and tip of the kernelleaving only the endosperm of kernel for the production of ethanol.  This technology has the capability to reducedrying costs and the loading of volatile organic compounds.  The separated germ would also be availablethrough this process for other uses such as high oil feeds or bio-dieselproduction.  Each of these new technologiesis currently in its early stages of development.  There is no guarantee that either technologywill be successful or that we will be able to implement the technology in ourethanol plant.

 

**Application of Critical Accounting Policies**

 

Management uses estimates and assumptions inpreparing our financial statements in accordance with generally acceptedaccounting principles.  These estimatesand assumptions affect the reported amount of assets and

 

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liabilities, the disclosure of contingentassets and liabilities, and the reported revenues and expenses. Actual amountscould differ from the estimates used.  Ofthe significant accounting policies described in the notes to our financialstatements, we believe that the following are the most critical:

 

*Commodity Credit CorporationBioenergy Program*

 

Commodity Credit Bioenergy Program incentives arerecorded upon receipt of the program payment. Payments under the program are subject to pro rata reduction ifaggregate payments to all producers in any fiscal year exceed the maximumannual funding of the program.  Due tochanging pro-ration factors that are not published prior to incentive fundallocations, we cannot estimate with a high level of certainty the revenue tobe recognized and have to chosen to record these revenues on a cash basis forthe period ending September 30, 2005 and for all future periods.  At June 30, 2005, we had recognized$104,717 of income related to these incentives although we had not yet receivedany payment.  On September 9, 2005,we received payment of $81,714 from the CCC Bioenergy Program.  The difference between the amount previouslyrecognized and the amount received is recorded as a reduction to revenue forthe three months ended September 30, 2005. We were not eligible for Bioenergy Program payments prior tocommencement of production in June 2005.

 

*DerivativeInstruments*

 

We enter into derivative instruments to hedgeour exposure to price risk related to forecasted corn and natural gas purchasesand forward corn purchase contracts.  Wedo not typically enter into derivative instruments other than for hedgingpurposes.  All derivative instruments arerecognized on the September 30, 2005 balance sheet at their fair marketvalue.  Currently, none of our derivativeinstruments is classified as cash-flow hedges for accounting purposes.  On the date the derivative instrument isentered into, we will designate the derivative as either a hedge of thevariability of cash flows of a forecasted transaction or will not designate thederivative as a hedge.  Changes in thefair value of a derivative that is designated as, and meets all of the requiredcriteria for, a cash flow hedge are recorded in accumulated other comprehensiveincome and reclassified into earnings as the hedged items affect earnings.  Changes in the fair value of a derivativethat is not designated as a hedge are recorded in current period earnings.  Although certain derivative instruments maynot be designated as, and accounted for, as a cash flow hedge, we believe ourderivative instruments are effective economic hedges of specified risks.

 

We have recorded a combined realized andunrealized gain for derivatives of $78,815 for the period ending September 30,2005.  Since we have now transitionedfrom a development-stage company to a fully operational company, we now recordchanges in the fair value of our derivative instruments not designated as cashflow hedges in cost of goods sold.

 

**Liquidity and Capital Resources**

 

As of September 30, 2005,we had current assets of $7,621,196, including cash and cash equivalents of$2,651,348, and we had total assets of $53,550,290.  As of September 30,2005, we had current liabilities of $4,986,847 and long term liabilities of$25,247,239.  We converted our construction loan to a termloan on September 20, 2005.  As of September 30,2005, our members’ contributions, net of costs related to capitalcontributions, were $24,707,100.  The accumulated deficit from inceptionthrough September 30, 2005, was $1,390,896.  Total members’ equity as of September 30,2005, was $23,316,204.

 

On April 20, 2005, our second public offeringbecame effective and we began our efforts to sell the registered membershipunits shortly thereafter.  On July 20,2005 we sold 9,091 units an aggregate price of $10,000,100 and closed our secondpublic offering.  On August 1, 2005we redeemed all 3,125 units each from ICM, Inc. and Fagen, Inc. at atotal redemption price of $6,875,000 using proceeds from the sale of our secondpublic offering and retained the balance of the proceeds for working capital.

 

### *Short-Term and Long-Term Debt Sources*

 

In November 23,2004, we entered into a Credit Agreement with Home Federal Savings Bank ofRochester, Minnesota, establishing a construction loan facility in the amountof $26,000,000 and secured by substantially all of our assets. We converted theconstruction loan into two term loans on September 20, 2005, consisting of(1) a

 

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$21,000,000 conventional term loan, and (2) a$5,000,000 USDA 80% guaranteed loan.  Theconventional loan will have an amortization period of 10 years but willmature at the end of 5 years. We will make monthly payments of principaland interest on the conventional loan at a variable rate equal to prime plus1.75% with a floor of 6%.  With respectto the conventional loan, a prepayment penalty will be imposed starting with a3% penalty in year one and decreasing to 1% in year 3.  The USDA guaranteed loan will have anamortization period and maturity date of 10 years. We will make monthlypayments of principal and interest on the USDA guaranteed loan at a variableinterest rate of prime plus 1.25%. This variable rate will be adjustedquarterly. The USDA guaranteed loan will impose a prepayment penalty dependingon the year of refinancing starting with the 5% penalty in year one anddecreasing to 1% in year 5.

 

As of September 30, 2005, the principal balanceon the converted conventional loan is $21,000,000 and the interest rate is8.5%.  As of September 30, 2005, theprincipal balance on the converted USDA guaranteed loan is $5,000,000 and theinterest rate is 8.5%.

 

We will be subject to certain financial loancovenants consisting of minimum working capital, minimum fixed coverage,minimum current ratio, minimum net worth and maximum debt/net worth covenantsduring the term of the loan. We will also be prohibited from makingdistributions to our members, however, we will be allowed to distribute 40% ofour net income to our members after our lender has received audited financialstatements for the fiscal year. We must be in compliance with all financial ratiorequirements and loan covenants before and after any distributions to themembers.  As of September 30, 2005,we are in compliance with the financial ratio covenants set forth by the bank,however, we do not anticipate making any distributions to members duringcalendar year 2005.

 

In addition, now that we have converted to termloans, the Company will only be allowed to make annual capital expenditures upto $400,000 annually without the lender’s prior approval. During the term ofthe loan, we are required to pay to the lender an annual amount equal to thegreater of (1) 75% of any Commodity Credit Corporation Bio Energy incomepayments received during the year or (2) 25% of the Company’s free cashflow for each year. Payments consisting of USDA Commodity Credit CorporationBio Energy income must be paid to the lender within 15 days of receipt ofany such payments. These payments will continue until an aggregate sum of$7,500,000 has been received by the lender.

 

On May 10, 2005, we executed a promissory notefor $1,760,274 at an interest rate of 1% plus the prime rate payable toICM, Inc and granted a security interest in a steam turbine generator toICM, Inc. as collateral for the loan. Under the terms of the promissory note, we agree to make quarterlyinstallment payments of principal and interest with the balance due on July 1,2008.  We also entered into asubordination agreement with Home Federal Savings Bank (“Home Federal”), oursenior lender, in which Home Federal agrees ICM, Inc.’s security interestin the generator is senior to the security interest of Home Federal SavingsBank in the generator.

 

As of September 30, 2005, the principal balanceon the promissory note is $1,760,274 and the interest rate is 7.25%.

 

*Raising Additional Capital*

 

We issued units to ICM, Inc. and Fagen, Inc.in exchange for their combined capital contribution of $6,250,000. Pursuant toa Unit Purchase and Redemption Agreement executed with ICM, Inc. and Fagen, Inc.,we have agreed to redeem all 6,250 units from ICM, Inc. and Fagen, Inc.using the proceeds from the sale of units in a registered offering or, to theextent the offering is unsuccessful, from cash flow generated by operationssubject to certain loan covenants, restrictions and tax distributions.

 

To raise the proceeds necessary to redeem the unitsin accordance with the terms of Unit Purchase and Redemption Agreement, wecommenced a registered offering for additional membership units.  Our registered offering became effective on April 20,2005 and we began our efforts to sell the registered membership units shortlythereafter.  On July 20, 2005 weclosed our public offering.  During the offering, we sold 9,091units an aggregate price of $10,000,100. On August 1, 2005 we used the proceeds of the public offering toredeem 3,125 units each from ICM, Inc. and Fagen, Inc. at a totalredemption price of $6,875,000 in accordance with the Unit Purchase andRedemption Agreement executed with ICM, Inc. and Fagen, Inc and retainedthe balance of the proceeds for working capital.

 

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In connection with the capital contributionby ICM, Inc. and Fagen, Inc., we amended our Operating Agreement toallow ICM, Inc. and Fagen, Inc. to appoint a total of three directorsto our board of directors, subject to the termination of one of their directorpositions for every $2,000,000 dollars in redemption payments made to either orboth of ICM, Inc. and Fagen, Inc. Two of our initial directorsresigned from our board in January 2005, and ICM, Inc. and Fagen, Inc.appointed their three directors on February 1, 2005.  As we previously reported in our Amended 8-Kfiled August 11, 2005, the terms of directors Brian Thome, JerryJones, and Dave Vander Griend expired on August 1, 2005 when we redeemedall 6,250 units from ICM, Inc. and Fagen, Inc.  Mr. Thomeand Mr. Vander Griend are no longer serving on the Company’s board ofdirectors.  As we previouslyreported in our 8-K filed August 25, 2005, the board of directors re-appointed Jerry Jones to the board ofdirectors on August 22, 2005 for a term ending with the election ofdirectors by our members at the 2006 annual meeting of members.

 

On May 5, 2005, we entered into an agreementwith Ethanol Capital Partners, L.P. in which we agreed to accept EthanolCapital Partners, L.P.’s subscription for 4,550 units in our public offeringand to appoint two representatives from Ethanol Capital Partners, L.P. to ourinitial board of directors.  Pursuant tothis agreement, the appointed directors will serve for a term ending with theelection of directors by our members at the 2006 annual meeting ofmembers.  Our obligations under thisagreement are contingent upon Ethanol Capital Partners, L.P.’s fulfillment ofall of its outstanding obligations owed under its subscription agreement andpromissory note.  In July 2005,Ethanol Capital Partners, L.P. fulfilled all of its outstanding obligationsowed under its subscription agreement and promissory note.  On July 20, 2005 we accepted EthanolCapital Partners, L.P.’s subscription for 4,550 units and have issued the unitsto Ethanol Capital Partners, L.P.  Aswe previously reported in our 8-K filed August 25, 2005, our board of directors appointed ScottBrittenham, and Charles Torrey, representatives of Ethanol Capital Partners,L.P., to fill these seats on August 22, 2005.  Their terms will end with the election ofdirectors by our members at the 2006 annual meeting of members.

 

*Grants, Government Programs and Tax Rebates*

 

The City of Garnett, Kansas intends to apply for aneconomic development grant and loan through for $1.5 million to assist withrail spur infrastructure at the plant site. The City of Garnett, Kansas has not yet applied for or received a firmcommitment or approval for this grant and we have no assurance that these fundswill be available to us.

 

We have applied for a grant from the USDA’sCommodity Credit Corporation. Under the grant program, the Commodity CreditCorporation will reimburse eligible ethanol producers of less than65 million gallons of bioenergy one bushel of corn for every two andone-half bushels of corn used for the increased production of ethanol. Underthe program, no eligible producer may receive more than $7,500,000 in anyfiscal year. However, some ethanol producers have received more than thisamount when the start-up period has extended over more than one fiscal year ofthe U.S. government. Because we expect to be an eligible producer and toannually utilize approximately 13 million bushels of corn in the increasedproduction of ethanol, we expect to potentially receive a maximum award ofapproximately $7,500,000. However, the Commodity Credit Corporation may awardonly $150,000,000 annually and any award we receive may be reduced based uponthe volume of applications from other eligible producers. In addition, paymentsunder the program in any one fiscal year may be less if Congress does not fullyfund the program for that fiscal year (funding for the program is subject to anannual appropriation). According to the Farm Service Agency, payments under theprogram in fiscal year 2004 totaled nearly $150,000,000 and approved federalfunding for fiscal year 2005 is set at $100,000,000. We expect to be eligible toreceive an award under the program only once during the life of our project.The Commodity Credit Corporation Bio Energy Program is scheduled to expire on September 30,2006. The grants available under the program may not continue beyond theirscheduled expiration date or if they do continue, the grants may not be at thesame level.

 

**Off-Balance Sheet Arrangements**

 

We do not haveany off-balance sheet arrangements other than those described in the notes toour Financial Statements as of September 30, 2005 located in Note 5 above.

 

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**Item 3.  Controls And Procedures**

 

An evaluation of the Company's disclosurecontrols and procedures (as defined in Rules 13(a)-15(e) and 15(d)-15(e) of theSecurities Exchange Act of 1934 (the "Exchange Act")) was carried outunder the supervision and with the participation of our Principal ExecutiveOfficer, Principal Financial Officer and General Manager. Our PrincipalExecutive Officer, Principal Financial Officer and General Manager concludedthat, except for the material weaknesses disclosed in the following paragraph,our disclosure controls and procedures as currently in effect are effective inensuring that the information required to be disclosed by us in the reportsthat we file or submit under the Exchange Act is (i) accumulated andcommunicated to Company management (including the Principal Executive Officer,Principal Financial Officer and General Manager) in a timely manner, and(ii) recorded, processed, summarized and reported within the time periodsspecified in the Security and Exchange Commission's rules and forms.

 

The Principal Executive Officer, PrincipalFinancial Officer and General Manager have agreed that the Company has materialweaknesses in its controls over the financial reporting processes including theaccurate reporting and disclosure of amounts and other disclosure items in ourfinancial statements. The officers have agreed that the Company has thefollowing material weaknesses: 1) there is a lack of segregation of dutiesdue to the limited number of personnel involved in processing of accountingdata; 2) disclosures included in the notes to the draft financial statementsprepared by the Company included incorrect information significant to thefinancial presentation; 3) it was necessary for the auditor to propose significantadjustments to the Company's financial statements in order to comply withgenerally accepted accounting principles. In light of the foregoing, managementis in the process of developing additional procedures to help address theseissues. In designing and evaluating the disclosure controls and procedures, thePrincipal Executive Officer, Principal Financial Officer and General Managerrecognize that any controls and procedures, no matter how well designed andoperated, can provide only reasonable assurance of achieving the desiredcontrol objectives, and management is necessarily required to apply judgment inevaluating the cost-benefit relationship of possible controls and objectives.

 

During the Company's third fiscal quarterended September 30, 2005, there have not been any significant changes inthe Company's internal control over financial reporting or in other factorsthat have materially affected, or are reasonably likely to materially affect,the Company's internal control over financial reporting.

 

**PART II. OTHER INFORMATION**

 

**Item 1.****    Legal Proceedings**

 

None.

 

**Item 2.****    UnregisteredSales of Equity Securities and Use of Proceeds**

 

*Unregistered Sales of Equity Securities*

 

We previouslydisclosed on Form 8-K filed October 15, 2004 the unregistered sale ofour units to ICM, Inc. and Fagen, Inc. pursuant to the Unit Purchaseand Redemption Agreement entered into on October 11, 2004.  The units were issued to ICM, Inc.and Fagen, Inc. in exchange for their combined capital contribution of$6,250,000 on January 19, 2005. Pursuant to the Unit Purchase andRedemption Agreement, we agreed to redeem all 6,250 units from ICM, Inc.and Fagen, Inc. using the proceeds from the sale of units in a registeredoffering or, to the extent the offering is unsuccessful, from cash flowgenerated by operations subject to certain loan covenants, restrictions and taxdistributions.  On August 1, 2005 we redeemed all 6,250units from ICM, Inc. and Fagen, Inc. at a total redemption price of$6,875,000 using proceeds from the sale of our public offering which wascompleted on July 20, 2005.

 

*Use of Proceeds*

 

On December 16, 2004,we filed a registration statement on Form SB-2 (Commission File 333-121323).  The Securities and Exchange Commissiondeclared our registration statement effective on April 20, 2005.  We commenced our public offering shortlythereafter.  On July 20, 2005 we closed our publicoffering and stopped sellingunits registered under our registration statement.

 

The followingis a breakdown of units registered and the membership units sold in thatoffering:

 
| **Amount Registered** | ** ** | **Aggregate price of the  amount registered** | ** **     | **Amount Sold** | ** ** | **Aggregate price of the  amount sold to date** | ** ** |
|-----------------------|------------|-----------------------------------------------|----------------|-----------------|------------|-------------------------------------------------|------------|
| **9,091**             | ** ** | **$**                                         | **10,000,100** | ** **      | **9,091**  | ** **                                      | **$**      | **10,000,100** | ** ** |
|                       |            |                                               |                |                 |            |                                                 |            |  |  |

 

During the offering, we sold9,091 units an aggregate price of $10,000,100.  On August 1, 2005, we broke escrow inaccordance with the procedures outlined in the Escrow Agreement between theCompany and Mission Bank dated April 15, 2005 and the Company registrationstatement.

 

27

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On August 1,2005 we used the proceeds of the public offering to redeem 3,125 units eachfrom ICM, Inc. and Fagen, Inc. at a total redemption price of$6,875,000 in accordance with the Unit Purchase and Redemption Agreement executed with ICM, Inc.and Fagen, Inc. and retained the balance of the proceeds for workingcapital.

 

*Repurchases of Equity Securities*

 

The followingis a breakdown of the units repurchased during the period:

 
| **Period**            | ** ** | **Total Number of  Units Purchased(1)** | ** ** | **Average Price Paid  per Unit** | ** ** | **Total Units Purchased as  Part of Publicly Announced  Plans or Programs****(2)** | ** ** | **Max. Units that May Yet  be Purchased Under the  Plans or Programs****(2)** | ** ** |
|-----------------------|------------|-----------------------------------------|------------|----------------------------------|------------|-----------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|
| **Aug. 1, 2005** | ** ** | **6,250**                               | ** ** | **$**                            | **1,100**  | ** **                                                                              | **0**      | ** **                                                                         | **0**      | ** ** |
|                       |            |                                         |            |                                  |            |                                                                                         |            |                                                                                    |            |  |

 

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(1)  Redemption of 3,125 units each from ICM, Inc. and Fagen, Inc. in accordancewith the Unit Purchase andRedemption Agreement.

 

(2)  We do not have anyplans or programs to repurchase units.

 

**Item 3.  Defaults Upon SeniorSecurities**

 

None.

 

**Item 4.  Submission of Matters to a Vote of Security Holders**

 

None.

 

**Item 5.  Other Information**

 

None.

 

**Item 6.  Exhibits.**

 

The following exhibits are filed as part of this report.  Exhibits previously filed are incorporated byreference, as noted.

 
| **Exhibit No.** | ** ** | **Exhibit**                                             |
|----------------------|------------|---------------------------------------------------------|
| ** **           | ** ** | ** **                                              |
| 10.1                 |       | Agreement with Mike Burns  dated October 11, 2005. |
|                 |       |                                                    |
| 31.1                 |       | Certificate  Pursuant to 17 CFR 240.13(a)-14(a)         |
|                 |       |                                                    |
| 31.2                 |       | Certificate  Pursuant to 17 CFR 240.13(a)-14(a)         |
|                 |       |                                                    |
| 31.3                 |       | Certificate  Pursuant to 17 CFR 240.13(a)-14(a)         |
|                 |       |                                                    |
| 32.1                 |       | Certificate  Pursuant to 18 U.S.C. Section 1350    |
|                 |       |                                                    |
| 32.2                 |       | Certificate  Pursuant to 18 U.S.C. Section 1350    |
|                 |       |                                                    |
| 32.3                 |       | Certificate  Pursuant to 18 U.S.C. Section 1350    |

 

**SIGNATURES**

 

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

 

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|   |                   | EAST KANSAS AGRI-ENERGY, LLC                                          |
|--------|------------------------|-----------------------------------------------------------------------|
|   |                   |                                                                  |
|   |                   |                                                                  |
| Date:  | November 14, 2005 |                                                                  |   | /s/ William Pracht |
|   |                   | William Pracht                                                        |
|   |                   | President   (Principal Executive Officer)                             |
|   |                   |                                                                  |
|   |                   |                                                                  |
| Date:  | November 14, 2005 |                                                                  |   | /s/ Thomas Leitnaker |
|   |                   | Thomas Leitnaker                                                      |
|   |                   | Chief Financial Officer  (Principal Financial and Accounting Officer) |
|   |                   |                                                                  |
|   |                   |                                                                  |
| Date:  | November 14, 2005 |                                                                  |   | /s/ Michael Goblirsch |
|   |                   | Michael Goblirsch                                                     |
|   |                   | General Manager                                                       |

 

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