**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

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**FORM 10-Q**

**(Mark one)**

**x**                              QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF1934

**Forthe quarterly period ended June 30, 2006**

**OR**

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

**Forthe transition period from               to               **

**Commissionfile number 001-32596**

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**REDDY ICE HOLDINGS, INC.**

(Exact name of registrantas specified in its charter)

| **DELAWARE**                    | **56-2381368**                        |
|---------------------------------|---------------------------------------|
| (State or other jurisdiction of | (I.R.S. Employer  Identification No.) |
| incorporation or organization)  |                                  |

 

**8750 N. CENTRALEXPRESSWAY, SUITE 1800DALLAS, TEXAS 75231**

(Address of principalexecutive offices)

**(214) 526-6740**

(Registrant’s telephonenumber, including area code)

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

Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer,or a non-accelerated filer. See definition of “accelerated filer and largeaccelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

| Large accelerated  filer  **o** |   | Accelerated  filer  **o** |   | Non-accelerated  filer  x |
|-------------------------------------------|--------|-------------------------------------|--------|-------------------------------------|

 

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

Thenumber of shares of registrant’s common stock outstanding as of July 25,2006 was 21,637,020.

 

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**REDDY ICE HOLDINGS,INC. AND SUBSIDIARYQUARTERLY REPORT ON FORM 10-QFOR THE PERIOD ENDED JUNE 30, 2006**

**TABLEOF CONTENTS**
|                                             | ** ** |                                                                                                                                | ** ** | **Page**   | ** ** |
|---------------------------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|
| **PART I—FINANCIAL  INFORMATION** |       |
| Item  1.                                    |       | Condensed  Consolidated Financial Statements                                                                                   |       |       |       | ** ** |   |
|                                        |       | Condensed Consolidated Balance Sheets as of  June 30, 2006 and December 31, 2005 (unaudited)     |       |       | 2          | ** ** |   |
|                                        |       | Condensed Consolidated Statements of Operations for  the three and six months ended June 30, 2006 and 2005 (unaudited)    |       |       | 3          | ** ** |   |
|                                        |       | Condensed Consolidated Statement of Stockholders’  Equity for the six months ended June 30, 2006 (unaudited)         |       |       | 4          | ** ** |   |
|                                        |       | Condensed Consolidated Statements of Cash Flows for  the six months ended June 30, 2006 and 2005 (unaudited)              |       |       | 5          | ** ** |   |
|                                        |       | Notes to the Condensed Consolidated Financial  Statements                                                                      |       |       | 6          | ** ** |   |
| Item 2.                                     |       | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                                    |       |       | 17         | ** ** |   |
| Item 3.                                     |       | Quantitative and Qualitative Disclosures about Market  Risk                                                                    |       |       | 32         | ** ** |   |
| Item 4.                                     |       | Controls and Procedures                                                                                                        |       |       | 32         | ** ** |   |
| **PART II—OTHER  INFORMATION**    |       |
| Item  1.                                    |       | Legal  Proceedings                                                                                                             |       |       | 33         | ** ** |   |
| Item 1A.                                    |       | Risk Factors                                                                                                                   |       |       | 33         | ** ** |   |
| Item 2.                                     |       | Unregistered Sales of Equity Securities and Use of  Proceeds                                                                   |       |       | 34         | ** ** |   |
| Item 3.                                     |       | Defaults Upon Senior Securities                                                                                                |       |       | 34         | ** ** |   |
| Item 4.                                     |       | Submission of Matters to a Vote of Security Holders                                                                            |       |       | 34         | ** ** |   |
| Item  5.                                    |       | Other  Information                                                                                                             |       |       | 34         | ** ** |   |
| Item 6.                                     |       | Exhibits                                                                                                                       |       |       | 34         | ** ** |   |
| SIGNATURES                                  |       |                                                                                                                           | 35         | ** ** |       |
| INDEX TO  EXHIBITS                          |       |                                                                                                                           | 36         | ** ** |       |

 

1

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**PART I—FINANCIALINFORMATION**

**Item 1. *Financial Statements***

**REDDY ICE HOLDINGS, INC. AND SUBSIDIARYCONDENSED CONSOLIDATED BALANCE SHEETS(Unaudited)**

| ** **                                                                                                                                                                            | ** ** | **June 30,  2006 **             | ** ** | **December 31,  2005 ** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|-----------------------------------|------------|
| ** **                                                                                                                                                                            | ** ** | **(in thousands,  except share amounts)** | ** ** |
| ***ASSETS***                                                                                                                                                                          |       |
| CURRENT ASSETS:                                                                                                                                                                       |       |                                      |       |                              |       |   |   |
| Cash and cash equivalents                                                                                                                                                             |       | $                                         | 12,637     |                              |       | $ | 33,997 |   |   |
| Accounts receivable, net                                                                                                                                                              |       | 50,355                                    |       |                              | 23,376     |   |   |
| Inventories                                                                                                                                                                           |       | 12,409                                    |       |                              | 10,087     |   |   |
| Prepaid expenses and other current assets                                                                                                                                             |       | 2,605                                     |       |                              | 2,356      |   |   |
| Deferred tax assets                                                                                                                                                                   |       | 2,432                                     |       |                              | 2,740      |   |   |
| Total current assets                                                                                                                                                                  |       | 80,438                                    |       |                              | 72,556     |   |   |
| PROPERTY AND  EQUIPMENT, net                                                                                                                                                          |       | 235,515                                   |       |                              | 231,816    |   |   |
| GOODWILL                                                                                                                                                                              |       | 218,445                                   |       |                              | 214,968    |   |   |
| OTHER  INTANGIBLES, net                                                                                                                                                               |       | 82,261                                    |       |                              | 82,345     |   |   |
| OTHER ASSETS                                                                                                                                                                          |       | 5,748                                     |       |                              | 2,079      |   |   |
| TOTAL                                                                                                                                                                                 |       | $                                         | 622,407    |                              |       | $ | 603,764 |   |   |
| ***LIABILITIES AND STOCKHOLDERS’  EQUITY***                                                                                                                                      |       |
| CURRENT LIABILITIES:                                                                                                                                                                  |       |                                      |       |                              |       |   |   |
| Current portion of long-term obligations                                                                                                                                              |       | $                                         | 74         |                              |       | $ | 65 |   |   |
| Revolving credit facility                                                                                                                                                             |       | 9,000                                     |       |                              | —     |   |   |
| Accounts payable                                                                                                                                                                      |       | 20,229                                    |       |                              | 12,962     |   |   |
| Accrued expenses                                                                                                                                                                      |       | 18,970                                    |       |                              | 18,150     |   |   |
| Dividends payable                                                                                                                                                                     |       | 8,655                                     |       |                              | 8,296      |   |   |
| Total current liabilities                                                                                                                                                             |       | 56,928                                    |       |                              | 39,473     |   |   |
| LONG-TERM  OBLIGATIONS                                                                                                                                                                |       | 358,766                                   |       |                              | 352,895    |   |   |
| DEFERRED TAX  LIABILITIES, net                                                                                                                                                        |       | 30,876                                    |       |                              | 28,213     |   |   |
| COMMITMENTS AND  CONTINGENCIES (Note 10)                                                                                                                                              |       | —                                    |       |                              | —     |   |   |
| STOCKHOLDERS’ EQUITY:                                                                                                                                                            |       |                                      |       |                              |       |   |   |
| Common stock: $0.01 par value; 75,000,000 shares authorized;  21,637,020 and 21,690,042 shares issued and outstanding at June 30, 2006  and December 31, 2005, respectively |       | 216                                       |       |                              | 217        |   |   |
| Additional paid-in capital                                                                                                                                                            |       | 214,558                                   |       |                              | 213,096    |   |   |
| Unearned compensation                                                                                                                                                                 |       | —                                    |       |                              | (52        | ) |   |
| Accumulated deficit                                                                                                                                                                   |       | (44,522                                   | )          |                              | (32,065    | ) |   |
| Accumulated other comprehensive income                                                                                                                                                |       | 5,585                                     |       |                              | 1,987      |   |   |
| Total stockholders’ equity                                                                                                                                                       |       | 175,837                                   |       |                              | 183,183    |   |   |
| TOTAL                                                                                                                                                                                 |       | $                                         | 622,407    |                              |       | $ | 603,764 |   |   |

 

See notes to condensed consolidated financial statements.

2

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARYCONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS(Unaudited)**

| ** **                                     | ** ** | **Three Months Ended  June 30, **                 | ** ** | **Six Months Ended  June 30,** | ** ** |
|------------------------------------------------|------------|-----------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                     | ** ** | **2006**                                                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                     | ** ** | **(in thousands, except per share amounts)** | ** ** |
| Revenues                                       |       | $                                                                     | 113,576    |                                          | $          | 93,123 |   | $ | 158,384 |   | $ | 132,367 |   |
| Cost of sales  (excluding depreciation)        |       | 64,144                                                                |       | 53,099                                        |       | 98,557 |   | 84,778 |   |
| Depreciation  expense related to cost of sales |       | 4,947                                                                 |       | 4,734                                         |       | 9,661 |   | 9,475 |   |
| Gross profit                                   |       | 44,485                                                                |       | 35,290                                        |       | 50,166 |   | 38,114 |   |
| Operating  expenses                            |       | 14,098                                                                |       | 9,300                                         |       | 25,187 |   | 18,134 |   |
| Depreciation and  amortization expense         |       | 1,471                                                                 |       | 1,452                                         |       | 2,899 |   | 2,867 |   |
| Loss on  dispositions of assets                |       | 11                                                                    |       | 38                                            |       | 115 |   | 187 |   |
| Impairment of  assets                          |       | 370                                                                   |       | 5,725                                         |       | 370 |   | 5,725 |   |
| Income from  operations                        |       | 28,535                                                                |       | 18,775                                        |       | 21,595 |   | 11,201 |   |
| Interest expense                               |       | 7,378                                                                 |       | 9,829                                         |       | 14,332 |   | 19,137 |   |
| Income (loss)  before income taxes             |       | 21,157                                                                |       | 8,946                                         |       | 7,263 |   | (7,936 | ) |
| Income tax  benefit (expense)                  |       | (8,444                                                                | )          | (3,551                                        | )          | (2,789 | ) | 3,151 |   |
| Net income (loss)                              |       | $                                                                     | 12,713     |                                          | $          | 5,395 |   | $ | 4,474 |   | $ | (4,785 | ) |
| Basic net income  (loss) per share:            |       |                                                                  |       |                                          |       |   |   |   |   |
| Net income (loss)                              |       | $                                                                     | 0.60       |                                          | $          | 0.39 |   | $ | 0.21 |   | $ | (0.35 | ) |
| Weighted average common shares outstanding     |       | 21,360                                                                |       | 13,934                                        |       | 21,316 |   | 13,832 |   |
| Diluted net  income (loss) per share:          |       |                                                                  |       |                                          |       |   |   |   |   |
| Net income (loss)                              |       | $                                                                     | 0.59       |                                          | $          | 0.36 |   | $ | 0.21 |   | $ | (0.35 | ) |
| Weighted average common shares outstanding     |       | 21,663                                                                |       | 14,840                                        |       | 21,642 |   | 13,832 |   |
| Cash dividends  declared per share             |       | $                                                                     | 0.40       |                                          | $          | — |   | $ | 0.7825 |   | $ | — |   |

 

See notes to condensed consolidated financial statements.

3

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARYCONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY(Unaudited)**

| ** **                                                                       | ** ** | ** **              | ** ** | ** **     | ** ** | ** **  | ** ** | ** **       | ** ** | ** **      | ** ** | **Accumulated**   | ** ** | ** ** | ** ** |
|----------------------------------------------------------------------------------|------------|-------------------------|------------|----------------|------------|-------------|------------|------------------|------------|-----------------|------------|-------------------|------------|------------|------------|
| ** **                                                                       | ** ** | **Common Stock**   | ** ** | **Additional** | ** ** | ** **  | ** ** | ** **       | ** ** | **Other**       | ** ** | ** **        | ** ** |
| ** **                                                                       | ** ** | **Number**              | ** ** | **Par**        | ** ** | **Paid-In** | ** ** | **Unearned**     | ** ** | **Accumulated** | ** ** | **Comprehensive** | ** ** | ** ** | ** ** |
| ** **                                                                       | ** ** | **of Shares**      | ** ** | **Value**      | ** ** | **Capital** | ** ** | **Compensation** | ** ** | **Deficit**     | ** ** | **Income**        | ** ** | **Total**  | ** ** |
| ** **                                                                       | ** ** | **(in thousands)** | ** ** |
| Balance at January 1, 2006                                                  |       |                    | 21,690     |           |       |        | $          | 217              |       |            |       | $                 | 213,096    |       |       |   | $ | (52 | ) |   |   | $ | (32,065 | ) |   |   | $ | 1,987 |   |   | $ | 183,183 |   |
| Reclassification of unearned compensation upon  adoption of SFAS No. 123(R) |       |                    | —     |           |       |        | —     |             |       |            | (52        | )                 |       |       | 52         |   |   |   | — |   |   |   | — |   |   | — |   |
| Compensation expense related to stock-based awards                               |       |                    | —     |           |       |        | —     |             |       |            | 2,548      |              |       |       | —     |   |   |   | — |   |   |   | — |   |   | 2,548 |   |
| Cash dividends declared                                                          |       |                    | —     |           |       |        | —     |             |       |            | —     |              |       |       | —     |   |   |   | (16,931 | ) |   |   | — |   |   | (16,931 | ) |
| Repurchase and retirement of common stock                                        |       |                    | (53        | )              |       |        | (1         | )                |       |            | (1,034     | )                 |       |       | —     |   |   |   | — |   |   |   | — |   |   | (1,035 | ) |
| Comprehensive income:                                                            |       |                    |       |           |       |        |       |             |       |            |       |              |       |       |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Net income                                                                       |       |                    | —     |           |       |        | —     |             |       |            | —     |              |       |       | —     |   |   |   | 4,474 |   |   |   | — |   |   | 4,474 |   |
| Change in fair value of derivative                                               |       |                    | —     |           |       |        | —     |             |       |            | —     |              |       |       | —     |   |   |   | — |   |   |   | 3,598 |   |   | 3,598 |   |
| Total comprehensive income                                                       |       |                    | —     |           |       |        | —     |             |       |            | —     |              |       |       | —     |   |   |   | — |   |   |   | — |   |   | 8,072 |   |
| Balance at  June 30, 2006                                                   |       |                    | 21,637     |           |       |        | $          | 216              |       |            |       | $                 | 214,558    |       |       |   | $ | — |   |   |   | $ | (44,522 | ) |   |   | $ | 5,585 |   |   | $ | 175,837 |   |

 

See notes to condensed consolidated financial statements.

4

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARYCONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS(Unaudited)**

| ** **                                                                                | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                                | ** ** | **2006**                                      | ** ** | **2005** | ** ** |
| ** **                                                                                | ** ** | **(in thousands)**                       | ** ** |
| CASH FLOWS FROM OPERATING ACTIVITIES:                                                     |       |                                          |       |   |   |
| Net income (loss)                                                                         |       | $                                             | 4,474      |   | $ | (4,785 | ) |
| Adjustments to reconcile net income (loss) to net  cash provided by operating activities: |       |                                          |       |   |   |
| Depreciation and  amortization                                                            |       | 12,560                                        |       | 12,342 |   |
| Amortization of debt  issue costs and debt discounts                                      |       | 6,643                                         |       | 6,838 |   |
| Loss on dispositions of  assets                                                           |       | 115                                           |       | 187 |   |
| Impairment of assets                                                                      |       | 370                                           |       | 5,725 |   |
| Stock-based compensation  expense                                                         |       | 2,548                                         |       | 569 |   |
| Deferred taxes                                                                            |       | 2,789                                         |       | (3,151 | ) |
| Change in assets and liabilities, net of the effects  of acquisitions:                    |       |                                          |       |   |   |
| Accounts receivable,  inventory and prepaid expenses                                      |       | (29,394                                       | )          | (23,974 | ) |
| Accounts payable,  accrued expenses and other                                             |       | 8,317                                         |       | 6,469 |   |
| Net cash provided by  operating activities                                                |       | 8,422                                         |       | 220 |   |
| CASH FLOWS FROM INVESTING ACTIVITIES:                                                     |       |                                          |       |   |   |
| Property and equipment  additions                                                         |       | (11,474                                       | )          | (11,636 | ) |
| Proceeds from  dispositions of property and equipment                                     |       | 445                                           |       | 441 |   |
| Cost of acquisitions                                                                      |       | (10,112                                       | )          | — |   |
| Net cash used in  investing activities                                                    |       | (21,141                                       | )          | (11,195 | ) |
| CASH FLOWS FROM FINANCING ACTIVITIES:                                                     |       |                                          |       |   |   |
| Proceeds from the  exercise of employee stock options                                     |       | —                                        |       | 1,799 |   |
| Repurchase and  retirement of common stock                                                |       | (1,035                                        | )          | — |   |
| Cash dividends paid                                                                       |       | (16,572                                       | )          | — |   |
| Borrowings under the  credit facility, net                                                |       | 9,000                                         |       | 14,550 |   |
| Repayment of long-term  obligations                                                       |       | (34                                           | )          | (6,325 | ) |
| Net cash provided by  (used in) financing activities                                      |       | (8,641                                        | )          | 10,024 |   |
| NET DECREASE IN CASH AND  CASH EQUIVALENTS                                                |       | (21,360                                       | )          | (951 | ) |
| CASH AND CASH  EQUIVALENTS, BEGINNING OF PERIOD                                           |       | 33,997                                        |       | 4,478 |   |
| CASH AND CASH  EQUIVALENTS, END OF PERIOD                                                 |       | $                                             | 12,637     |   | $ | 3,527 |   |
| SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:                                         |       |                                          |       |   |   |
| Cash payments for  interest                                                               |       | $                                             | 7,670      |   | $ | 12,127 |   |
| Borrowings under the  credit facility                                                     |       | $                                             | 30,280     |   | $ | 44,500 |   |
| Repayments on the credit  facility                                                        |       | $                                             | (21,280    | ) | $ | (29,950 | ) |
| Cash dividends declared,  not paid                                                        |       | $                                             | 8,655      |   | $ | — |   |
| Increase in fair value  of derivative                                                     |       | $                                             | 3,598      |   | $ | — |   |
| Additions to property  and equipment included in accounts payable                         |       | $                                             | 531        |   | $ | — |   |
| Issuances of notes payable                                                                |       | $                                             | —     |   | $ | 88 |   |

 

See notes to condensed consolidated financial statements.

5

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

**1. General**

The condensed consolidated financial statements ofReddy Ice Holdings, Inc. and its wholly owned subsidiary (together, the “Company”)included herein are unaudited; however, the balance sheet as of December 31,2005 has been derived from the audited financial statements for that date.These financial statements have been prepared by the Company pursuant to the rules andregulations of the Securities and Exchange Commission (“SEC”). As applicableunder the SEC’s regulations, certain information and footnote disclosuresnormally included in financial statements prepared in accordance withaccounting principles generally accepted in the United States of America havebeen condensed or omitted. All significant intercompany balances andtransactions have been eliminated upon consolidation, and all adjustmentswhich, in the opinion of management, are necessary for a fair presentation ofthe financial position, results of operations and cash flows for the periodscovered have been made and are of a normal and recurring nature. The financialstatements included herein should be read in conjunction with the consolidatedfinancial statements and the related notes thereto included in the Company’sannual report on Form 10-K for the year ended December 31,2005. Operating results for the three and six months ended June 30, 2006are not necessarily indicative of the results to be achieved for the full year.

Reddy Ice Holdings, Inc., a Delaware corporation(“Reddy Holdings”), and its wholly owned subsidiary, Cube Acquisition Corp. (“Cube”),a Texas corporation, were formed on behalf of Trimaran Fund Management LLC (“Trimaran”)and Bear Stearns Merchant Banking (“Bear Stearns”) on May 8, 2003 for thepurpose of acquiring Packaged Ice, Inc. (“Packaged Ice”) and effectingcertain capital transactions in connection with such acquisition. On August 15,2003, Cube merged with and into Packaged Ice, with Packaged Ice being thesurviving corporation. As a result of the merger, Packaged Ice was delistedfrom the American Stock Exchange. Reddy Holdings and Cube conducted nooperations during the period from May 8, 2003 through August 14,2003. In connection with the merger, Packaged Ice was renamed Reddy Ice Group, Inc.(“Reddy Group”). Reddy Holdings and its wholly owned subsidiary, Reddy Group,are referred to collectively herein as the “Company”.

On August 12, 2005, Reddy Holdings completed aninitial public offering of its common stock (see Note 6). As a result ofthe offering, Reddy Holdings’ common shares are publicly traded on the New YorkStock Exchange under the ticker symbol “FRZ”.

The Company manufactures and distributes packaged iceproducts and bottled water and owns and operates refrigerated warehouses. TheCompany is the largest manufacturer of packaged ice products in the UnitedStates. The Company serves approximately 82,000 customer locations in 31 statesand the District of Columbia.

On August 2, 2005,the Company effected a 138 for 1 stock split and, in conjunction therewith,amended and restated the Company’s certificate of incorporation to increase thenumber of authorized shares of the Company’s common stock and preferred stock.All common share and per common share amounts in these condensed consolidatedfinancial statements prior to August 2, 2005 have been retroactivelyadjusted for all periods presented to give effect to the stock split.

**2. Acquisitions**

Duringthe six months ended June 30, 2006, the Company purchased seven icecompanies. Including direct acquisition costs, the total acquisitionconsideration was $10.1 million. The total purchase price was 

6

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

allocated to the acquired assets and assumedliabilities based upon estimates of their respective fair values as of therespective closing dates using valuations and other studies. The followingtable summarizes the estimated fair values of the assets acquired and theliabilities assumed at the date of acquisition (dollars in millions):

| Total assets  acquired     |   | $   | 4.1    |   |
|----------------------------|--------|-----|--------|--------|
| Total liabilities  assumed |   | 0.3 |   |
| Net assets acquired        |   | $   | 3.8    |   |

 

The excess of the aggregate purchase price over thenet assets acquired of $6.3 million was allocated to goodwill ($3.5 million)and other intangible assets ($2.8 million). Other intangible assets arecomprised of customer lists, which are being amortized on a straight line basisover useful lives of 8 to 30 years.

During 2005, the Company purchased two ice companiesfor total acquisition consideration of $0.9 million. The results ofoperations of the 2005 and 2006 acquisitions are included in the Company’sconsolidated results of operations from the date of each acquisition, whichoccurred on August 1, 2005 and September 30, 2005 and on variousdates throughout 2006.

Thefollowing unaudited pro forma information presents the Company’s consolidatedresults of operations (i) for the three months and six months ended June 30,2006 as if the 2006 acquisitions had all occurred on January 1, 2006 and (ii) forthe three months and six months ended June 30, 2005 as if the 2006 and2005 acquisitions had all occurred on January 1, 2005:

| ** **                   | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                   | ** ** | **2006**                                        | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                   | ** ** | **(in thousands)**                         | ** ** |
| Pro forma  revenues          |       | $                                               | 114,446    |                                          | $          | 95,018 |   | $ | 159,819 |   | $ | 134,928 |   |
| Pro forma net income  (loss) |       | 12,795                                          |       | 5,640                                         |       | 4,588 |   | (4,680 | ) |
|                              |            |                                                 |            |                                               |            |  |  |  |  |  |  |  |  |

 

Additionally, unauditedpro forma revenues for the full year 2005, assuming the 2006 and 2005acquisitions had all occurred on January 1, 2005, was $325,945,000.

**3. Inventories**

Inventoriesconsist of raw materials, supplies and finished goods. Raw materials andsupplies consist of ice packaging materials, spare parts, bottled watersupplies and merchandiser parts. Finished goods consist of packaged ice andbottled water. Inventories are valued at the lower of cost or market andinclude overhead allocations. Cost is determined using the first-in, first-outand average cost methods.

| ** **                  | ** ** | **June 30,**       | ** ** | **December 31,** | ** ** |
|-----------------------------|------------|-------------------------|------------|-----------------------|------------|
| ** **                  | ** ** | **2006**                | ** ** | **2005**              | ** ** |
| ** **                  | ** ** | **(in thousands)** | ** ** |
| Raw materials and  supplies |       | $                       | 9,879      |                  |       | $ | 7,801 |   |   |
| Finished goods              |       | 2,530                   |       |                  | 2,286      |   |   |
| Total                       |       | $                       | 12,409     |                  |       | $ | 10,087 |   |   |

 

7

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

In November 2004, theFinancial Accounting Standards Board (“FASB”) issued Statement of FinancialAccounting Standards (“SFAS”) No. 151, “Inventory Costs—an amendment ofARB No. 43, chapter 4”. SFAS No. 151 seeks to clarify the accountingfor abnormal amounts of idle facility expense, freight, handling costs, andwasted material (spoilage) in the determination of inventory carrying costs.The statement requires such costs to be treated as a current period expense.The Company adopted SFAS No. 151 on January 1, 2006. The adoption ofSFAS No. 151 did not have a material effect on the Company’s results ofoperations and financial position.

**4. Accrued Expenses**

| ** **                                                                                                     | ** ** | **June 30,**       | ** ** | **December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------|------------|
| ** **                                                                                                     | ** ** | **2006**                | ** ** | **2005**              | ** ** |
| ** **                                                                                                     | ** ** | **(in thousands)** | ** ** |
| Accrued  compensation and employee benefits, including payroll taxes and workers’  compensation insurance |       | $                       | 8,612      |                  |       | $ | 9,758 |   |   |
| Accrued interest                                                                                               |       | 3,648                   |       |                  | 3,329      |   |   |
| Accrued property,  sales and other taxes                                                                       |       | 1,862                   |       |                  | 539        |   |   |
| Accrued utilities                                                                                              |       | 1,890                   |       |                  | 1,425      |   |   |
| Other accrued  insurance                                                                                       |       | 1,543                   |       |                  | 1,940      |   |   |
| Other                                                                                                          |       | 1,415                   |       |                  | 1,159      |   |   |
| Total                                                                                                          |       | $                       | 18,970     |                  |       | $ | 18,150 |   |   |

 

**5. Revolving CreditFacility and Long-Term Obligations**

*101⁄2%Senior Discount Notes.**  *OnOctober 27, 2004, Reddy Holdings issued $151 million at maturity of 101⁄2% Senior Discount Notes due 2012(the “Discount Notes”) in a private placement offering. Each Discount Note hadan initial accreted value of $663.33 per $1,000 principal amount at maturity.The accreted value of each Discount Note will increase from the date ofissuance until November 1, 2008 at a rate of 101⁄2% per annum such that theaccreted value will equal the stated principal amount at maturity on November 1,2008. Thereafter, cash interest will accrue and be payable semi-annually at arate of 101⁄2% per annum.

The Discount Notesare unsecured obligations of Reddy Holdings and are:

·       not guaranteed by any ofReddy Holdings’ subsidiaries;

·       senior in right of paymentto all of Reddy Holdings’ future subordinated indebtedness;

·       equal in right of payment withany of Reddy Holdings’ existing and future unsecured senior indebtedness;

·       effectively subordinated toReddy Holdings’ existing and future secured debt, including Reddy Holdings’guarantee of Reddy Group’s senior credit facility; and

·       structurally subordinatedto all obligations and preferred equity of Reddy Holdings’ subsidiaries.

The Discount Notes include customary covenants thatrestrict, among other things, Reddy Holdings’ ability to incur additional debtor issue certain preferred stock, pay dividends or redeem, repurchase or retireits capital stock or subordinated indebtedness, make certain investments,create liens, enter into 

8

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

arrangements that restrictdividends from its subsidiaries, merge or sell all or substantially all of itsassets or enter into various transactions with affiliates. Prior to November 1,2007, Reddy Holdings may redeem up to 35% of the principal amount of theDiscount Notes at a redemption price of 110.5% of the accreted value thereof,plus accrued and unpaid interest to the date of redemption, with funds raisedin equity offerings that are specified in the indenture governing the DiscountNotes. From and after November 1, 2008, Reddy Holdings may redeem any orall of the Discount Notes by paying a redemption premium, which is initially5.25% of the principal amount at maturity of the notes and declines annually to0% for the period commencing on November 1, 2010 and thereafter. If achange of control occurs prior to November 1, 2007, Reddy Holdings may, atits option, redeem all, but not less than all, of the Discount Notes at aredemption price equal to the sum of (i) the accreted value of the notesas of the redemption date, (ii) a premium equal to 125% of one year’scoupon payment and (iii) any accrued and unpaid interest to the date ofredemption. If Reddy Holdings experiences a change of control and does notelect to make the optional redemption described in the previous sentence, ReddyHoldings will be required to make an offer to repurchase the Discount Notes ata price equal to 101% of their accreted value, plus accrued and unpaidinterest, if any, to the date of purchase. Reddy Holdings may also be requiredto make an offer to purchase the senior discount notes with proceeds of assetsales that are not reinvested in the Company’s business or used to repay otherindebtedness.

The Discount Notes were registered with the SECeffective August 26, 2005, pursuant to the Registration Rights Agreement(the “Rights Agreement”) entered into at the time of issuance.

On July 28, 2005, Reddy Holdings obtained therequisite consents from the holders of the Discount Notes to amend thedefinition of “Consolidated Net Income” in the indenture governing the DiscountNotes in order to exclude certain one-time costs and expenses associated withReddy Holdings’ initial public offering of its common stock (see Note 6).

On August 26, 2005, Reddy Holdings paid $0.4million to purchase and retire Discount Notes with an aggregate principalamount at maturity of $0.5 million. A loss of $0.046 million was recognized inconnection with this transaction.

*8**7**¤**8% SeniorSubordinated Notes.**  *OnJuly 17, 2003, Cube completed the sale of $152 million of 8*7**¤**8*% Senior Subordinated Notes due August 1, 2011 (the “SubordinatedNotes”) in connection with a private placement offering. The Subordinated Noteswere priced at 99.297%, which resulted in gross proceeds of $150.9 million. Atthe closing of the merger on August 15, 2003 (see Note 1), Reddy Groupassumed Cube’s obligations under the Subordinated Notes and the relatedindenture and received the net proceeds of the offering. In connection with theclosing of Reddy Holdings’ initial public offering of its common stock,substantially all the outstanding Subordinated Notes were redeemed (seediscussion below in “Senior Credit Facility” for further information).

*SeniorCredit Facility.**  *OnAugust 15, 2003, Reddy Group entered into a $170 million senior securedcredit facility with the lenders being a syndicate of banks, financialinstitutions and other entities (the “Old Credit Facility”). The Old CreditFacility provided for a  six-year termloan in the amount of $135 million and a five-year revolving credit in theamount of $35 million. On November 6, 2003, the Old Credit Facility wasamended to increase the size of the term loan by $45 million.

On August 12, 2005, Reddy Group amended andrestated its credit facility with a syndicate of banks, financial institutionsand other entities as lenders, including Credit Suisse First Boston, asAdministrative 

9

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

Agent, Canadian ImperialBank of Commerce, Bear Stearns Corporate Lending, Inc. and Lehman Brothers, Inc.(the “Credit Facility”), to increase the maximum amount of the revolving creditfacility to $60 million (the “Revolving Credit Facility”), provide for a $240million term loan (the “Term Loan”), reduce the applicable margins on both the RevolvingCredit Facility and Term Loan and extend the maturity of the Revolving CreditFacility to August 12, 2010 and the Term Loan to August 12, 2012.Borrowings under the Revolving Credit Facility and the Term Loan, along withproceeds from the Company’s initial public offering (see Note 6), were used torepay the Old Credit Facility, repurchase substantially all of the Company’sexisting Subordinated Notes and fund other related transactions. A loss onextinguishment of debt of $28.1 million was incurred in connection with thesetransactions. The loss was due to the payment of tender premiums and consentfees to the holders of the Subordinated Notes ($17.3 million), the write-off ofdeferred debt costs and original issue discount related to the SubordinatedNotes and the Old Credit Facility ($10.6 million) and other fees and expenses($0.2 million).

At June 30, 2006, the Company had$44.3 million of availability under the Revolving Credit Facility, whichwas net of an outstanding balance of $9.0 million and standby letters of creditof $6.7 million. The standby letters of credit are used primarily to securecertain insurance obligations.

Principal balances outstanding under the CreditFacility bear interest per annum, at Reddy Group’s option, at the sum of thebase rate plus 0.75% or LIBOR plus 1.75%. The base rate is defined as thegreater of the prime rate (as announced from time to time by the AdministrativeAgent) or the federal funds rate plus 0.5%. At June 30, 2006, the weightedaverage interest rate of borrowings outstanding under the Credit Facility was6.8%. Interest on base rate loans is payable on the last day of each quarter.Interest on LIBOR loans is payable upon maturity of the LIBOR loan or on thelast day of the quarter if the term of the LIBOR loan exceeds 90 days.Reddy Group pays a quarterly fee on the average availability under theRevolving Credit Facility at an annual rate of 0.5%.

The Revolving Credit Facility and Term Loan do notrequire any scheduled principal payments prior to their stated maturity dates.Subject to certain conditions, mandatory repayments of the Revolving CreditFacility and Term Loan (and if the Term Loan is no longer outstanding,mandatory commitment reductions of the Revolving Credit Facility) are requiredto be made with portions of the proceeds from (1) asset sales, (2) theissuance of debt securities and (3) insurance and condemnation awards,subject to various exceptions. In the event of a change in control, as definedin the Credit Facility, an event of default will occur under the CreditFacility. Under the Credit Facility, Reddy Group may only pay dividends toReddy Holdings if Reddy Group’s leverage ratio for the most recently endedfiscal quarter is less than or equal to 3.75 to 1.0. In addition, the CreditFacility precludes Reddy Group from declaring any dividends if an event ofdefault under the Credit Facility has occurred and is continuing. Inparticular, it will be an event of default if Reddy Group’s leverage ratioexceeds 4.0 to 1.0 or Reddy Group’s interest coverage ratio is less than 3.25to 1.0.

The Credit Facility contains financial covenants,which include the maintenance of certain financial ratios, as defined in theCredit Facility, and is collateralized by substantially all of Reddy Group’s assetsand the capital stock of all of its subsidiaries. Reddy Holdings guarantees theCredit Facility and such guarantee is secured by the capital stock of ReddyGroup. At June 30, 2006, Reddy Group was in compliance with thesecovenants.

10

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

*InterestRate Hedging Agreement.**  *Effective September 12, 2005, Reddy Groupentered into an interest rate hedging agreement (the “Hedge”) to fix theinterest rate on a portion of its Term Loan. The Hedge has a term of threeyears and ten months and an initial notional balance of $220 million. Thenotional balance decreases by $20 million on October 12 of each of thenext three years, beginning on October 12, 2006. Reddy Group pays a fixedrate of 4.431% on the notional balance outstanding and receives an amount equalto 3-month LIBOR. Any net payable or receivable amount is settledquarterly. If Reddy Group had been required to settle the Hedge as ofJune 30, 2006, it would have received $5.6 million. The fair value of theHedge is included in the caption “Other Assets” in the consolidated balancesheet. Changes in the fair value of the Hedge are recorded as “OtherComprehensive Income” in the consolidated statement of stockholders’ equity.Reddy Group is exposed to risk of loss in the event of non-performance by thecounterparty to the Hedge; however, it does not anticipate non-performance bythe counterparty.

AtJune 30, 2006 and December 31, 2005, long-term obligations consistedof the following:

| ** **                                                          | ** ** | **June 30,**       | ** ** | **December 31,** | ** ** |
|---------------------------------------------------------------------|------------|-------------------------|------------|-----------------------|------------|
| ** **                                                          | ** ** | **2006**                | ** ** | **2005**              | ** ** |
| ** **                                                          | ** ** | **(in thousands)** | ** ** |
| Credit  facility—Term Loan                                     |       | $                       | 240,000    |                  |       | $ | 240,000 |   |   |
| 101⁄2% Senior  Discount Notes                                    |       | 150,500                 |       |                  | 150,500    |   |   |
| Less: Unamortized  debt discount on 101⁄2% Senior Discount Notes |       | (31,932                 | )          |                  | (37,846    | ) |   |
| Other                                                               |       | 272                     |       |                  | 306        |   |   |
| Total long-term  obligations                                        |       | 358,840                 |       |                  | 352,960    |   |   |
| Less: Current  maturities                                           |       | 74                      |       |                  | 65         |   |   |
| Long-term  obligations, net                                         |       | $                       | 358,766    |                  |       | $ | 352,895 |   |   |

 

**6. Capital Stock**

*CommonStock.**  *ReddyHoldings is authorized to issue up to 75,000,000 shares of common stock, parvalue $0.01 per share. Holders of Reddy Holdings’ common stock are entitled toone vote per share on all matters to be voted on by stockholders and areentitled to receive dividends, if any, as may be declared from time to time bythe Board of Directors of Reddy Holdings. Upon any liquidation or dissolutionof Reddy Holdings, the holders of common stock are entitled, subject to anypreferential rights of the holders of preferred stock, to receive a pro ratashare of all of the assets remaining available for distribution to stockholdersafter payment of all liabilities.

On February 11, 2005, Reddy Holdings filed aregistration statement on Form S-1 with the SEC for a proposed initialpublic offering of its common stock. The registration statement was declaredeffective by the SEC on August 10, 2005. Reddy Holdings sold 6,911,765shares and received proceeds from the offering, net of issuance costs, of$116.2 million on August 12, 2005. An additional 3,288,235 shares weresold by certain of Reddy Holdings’ stockholders.

On March 17, 2005, certain employees exercisedstock options granted under the 2003 Stock Option Plan to purchase 248,198shares of Reddy Holdings’ common stock for an aggregate purchase price ofapproximately $1.8 million. On August 8, 2005, Reddy Holdings amendedthe 2003 Stock Option Plan to accelerate the schedule for vesting of time-basedoptions, immediately vest all outstanding performance-

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

based options, allowunvested options to be exercised for restricted stock with identical vestingschedules and provide for accelerated vesting of options upon the terminationof an option holder’s employment under certain circumstances. During the threemonths ended September 30, 2005, a charge of $0.5 million was recorded in “OperatingExpenses” in the consolidated statements of operations in connection with theacceleration of vesting schedules.

On August 12, 2005, certain employees anddirectors performed a cashless exercise of stock options granted under the 2003Stock Option Plan, which resulted in the issuance of 808,818 shares of commonstock, 465,651 of which were restricted shares. In accordance with the 2003Stock Option Plan, as amended, restricted shares vest on the followingschedule: 40% on February 28, 2006, 40% on January 16, 2007and 20% on July 1, 2007. In connection with the scheduled vesting on February 28,2006, the Company purchased and retired 51,256 shares of common stock fromemployees for $1.0 million to provide the employees with funds to satisfy theirminimum statutory federal and state tax withholding obligations related to thevesting of their restricted stock on that date. The purchase price was $20.20per share, the closing market price on February 28, 2006.

Since August 1,2005, the board of directors of Reddy Holdings has declared the followingdividends on the Company’s common stock:

| ** **                | ** ** | ** **               | ** ** | **Dividend**           | ** ** | **Dividend**          | ** ** | **Total**          | ** ** |
|---------------------------|------------|--------------------------|------------|------------------------|------------|-----------------------|------------|--------------------|------------|
| **Declaration Date** | ** ** | ** **               | ** ** | **Record Date**   | ** ** | **Payable Date** | ** ** | **Per share** | ** ** | **Dividend** | ** ** |
| August 11,  2005     |       | September 30,  2005 |       | October 17,  2005 |       | $                     | 0.20788    |               | $          | 4.5 million |   |
| December 15,  2005   |       | December 30,  2005  |       | January 17,  2006 |       | $                     | 0.3825     |               | $          | 8.3 million |   |
| March 15,  2006      |       | March 31,  2006     |       | April 17,  2006   |       | $                     | 0.3825     |               | $          | 8.3 million |   |
| June 15, 2006        |       | June 30, 2006       |       | July 17, 2006     |       | $                     | 0.4000     |               | $          | 8.7 million |   |
|                           |            |                          |            |                        |            |                       |            |                    |            |  |  |  |  |

 

*Preferred Stock.**  *Reddy Holdings is authorized toissue up to 25,000,000 shares of $0.01 par value preferred stock, all of whichis currently undesignated and unissued.

**7.  Employee Benefit Plans**

*2005Equity Incentive Plan.**  *OnAugust 8, 2005, the board of directors and stockholders of Reddy Holdingsapproved the 2005 Equity Incentive Plan. Under the 2005 Equity Incentive Plan,up to 750,000 shares of common stock may be issued to employees, directors andcertain third parties in connection with various incentive awards, includingstock options, restricted shares and restricted share units. On October 18,2005, Reddy Holdings filed a Registration Statement on Form S-8 withthe SEC to cover the reoffer and resale of up to 750,000 shares of ReddyHoldings’ common stock that Reddy Holdings may issue in the future toparticipants in the 2005 Equity Incentive Plan.

On November 3, 2005, 9,300 unrestricted commonshares were granted to certain employees under the 2005 Equity Incentive Plan.Restricted share units (“RSUs”) have been granted to certain employees and theindependent directors of Reddy Holdings in the following amounts: 682,000 RSUson November 3, 2005,  10,000 RSUs on November 15, 2005 and 9,625RSUs on February 22, 2006. Each RSU provides for the grant of one share ofunrestricted common stock on the date that the vesting terms of each RSU issatisfied.

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

Generally, fifty percent of each award of RSUs (the “Time-vestedRSUs”) will vest in four equal annual installments beginning on August 12,2006 and continuing on August 12 of each of the following three years,provided the recipient remains employed with the Company through such vestingdates. The remaining fifty percent of each award of RSUs (the “Performance-vestedRSUs”) will vest in four equal annual installments beginning on August 12,2006 and continuing on August 12 of each of the following three years,provided the recipient remains employed with the Company through such vestingdates and the applicable performance condition for the applicable vestingperiod is met. The performance condition for each vesting period will be basedon the Company’s earned distributable cash per share (as defined in the relatedrestricted share unit agreement) for such vesting period. Each vesting periodwill begin on July 1 and end on June 30 of the subsequent year. AllRSUs will immediately vest in full, and shares will be distributed, at the timeof a Change in Control (as defined in the 2005 Equity Incentive Plan). If inany performance period the performance condition for a subsequent performanceperiod is achieved, Performance-vested RSUs will be entitled to dividendequivalent rights in the subsequent performance period equal to the dividendswhich would be payable on the shares of common stock represented by the RSUssubject to vesting in that period. Payments of such dividend equivalents willbe made in cash to the holders of RSUs at the time of actual dividend paymentsand will not be subject to vesting. Time-vested RSUs will not be entitled todividend equivalent rights. Based on the Company’s financial results for thevesting period ended June 30, 2006, the performance condition for thePerformance-vested RSUs eligible for vesting on August 12, 2006 was met. Furthermore,the performance targets for the remaining three vesting periods were met as of June 30,2006. Therefore, the holders of unvested Performance-based RSUs will beentitled to dividend equivalent payments for the period from July 1, 2006to June 30, 2007.

Compensation expense associated with the 2005 EquityIncentive Plan was $1.0 million and $2.0 million during the three and sixmonths ended June 30, 2006. Such compensation expense was recorded in “OperatingExpenses” in the consolidated statements of operations. Approximatelytwenty-five percent of the Time-vested RSUs are being expensed during eachtwelve-month period ending August 12 in 2006 to 2009. Performance-vestedRSUs are being expensed on the same basis as the first annual installment metthe performance condition as of June 30, 2006 and it is management’sbelief that the performance condition for each subsequent period will also bemet. As of June 30, 2006, 693,625 shares were reserved for issuance and47,075 shares were available for grant under the 2005 Equity Incentive Plan.

*2003Stock Option Plan.**  *The2003 Stock Option Plan was amended on August 8, 2005 (see Note 6). On August 12,2005, all outstanding options under the 2003 Stock Option Plan were exercisedin exchange for restricted shares (see Note 6). At June 30, 2006, 57,883shares of common stock were available for grant under the 2003 Stock OptionPlan. The Company does not intend to make any additional grants under thisplan. Compensation expense associated with the 2003 Stock Option Plan was $0.3million during the three months ended June 30, 2006 and 2005 and $0.6million during the six months ended June 30, 2006 and 2005. Suchcompensation expense was recorded in “Operating Expenses” in the consolidatedstatements of operations.

Effective January 1, 2005, the Company adoptedthe fair value recognition provisions of SFAS No. 123, “Accountingfor Stock-Based Compensation”, as amended by SFAS No. 148, “Accounting forStock-Based Compensation—Transition and Disclosure”. Under the provisions ofSFAS No. 148, the Company selected the modified prospective method ofadoption and therefore began recognizing stock-based employee compensation costrelated to all employee equity grants outstanding at the date of adoption, aswell as grants made or modified thereafter.

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

In December 2004, the FASB issued SFAS No. 123(R),“Share-Based Payment”, which established accounting standards for alltransactions in which an entity exchanges its equity instruments for goods andservices. SFAS No. 123(R) generally requires companies to measure thecost of employee services received in exchange for an award of equityinstruments based on the fair value of the award on the date of the grant. Thestandard requires grant date fair value to be estimated using either anoption-pricing model which is consistent with the terms of the award or amarket observed price, if such a price exists. Such cost must be recognizedover the period during which an employee is required to provide service inexchange for the award, which is usually the vesting period. The standard alsorequires the Company to estimate the number of instruments that will ultimatelybe issued, rather than accounting for forfeitures as they occur.

The Company adopted SFAS No. 123(R) onJanuary 1, 2006 using the modified prospective method and straight lineamortization of compensation cost. The adoption of this standard did not have amaterial effect on the Company’s results of operations and financial position.

**8.  Earnings Per Share**

Thecomputation of net income (loss) per share is based on net income (loss) dividedby the weighted average number of shares outstanding. For the six months ended June 30,2005, there were 1.6 million shares of dilutive securities which are notincluded in the computation of diluted net loss per share as their effect wouldbe anti-dilutive.

| ** **                                                                              | ** ** | **Three Months Ended  June 30, **                 | ** ** | **Six Months Ended  June 30,** | ** ** |
|-----------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                              | ** ** | **2006**                                                              | ** ** | **2005**                                      | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                                                              | ** ** | **(in thousands, except per share amounts)** | ** ** |
| Earnings (loss)  for basic and diluted computation:                                     |       |                                                                  |       |                                          |       |   |   |   |   |
| Net income (loss)                                                                       |       | $                                                                     | 12,713     |                                          | $          | 5,395 |   | $ | 4,474 |   | $ | (4,785 | ) |
| Basic earnings (loss) per share:                                                        |       |                                                                  |       |                                          |       |   |   |   |   |
| Weighted average common shares outstanding                                              |       | 21,360                                                                |       | 13,934                                        |       | 21,316 |   | 13,832 |   |
| Net income (loss)                                                                       |       | $                                                                     | 0.60       |                                          | $          | 0.39 |   | $ | 0.21 |   | $ | (0.35 | ) |
| Diluted earnings (loss) per share:                                                      |       |                                                                  |       |                                          |       |   |   |   |   |
| Weighted average common shares outstanding                                              |       | 21,360                                                                |       | 13,934                                        |       | 21,316 |   | 13,832 |   |
| Shares issuable from assumed conversion of  restricted stock and restricted stock units |       | 303                                                                   |       | 906                                           |       | 326 |   | — |   |
| Weighted average common shares outstanding, as adjusted                            |       | 21,663                                                                |       | 14,840                                        |       | 21,642 |   | 13,832 |   |
| Net income (loss)                                                                       |       | $                                                                     | 0.59       |                                          | $          | 0.36 |   | $ | 0.21 |   | $ | (0.35 | ) |

 

**9. Income Taxes**

The Company’s effective tax rate differs from thefederal statutory income tax rate of 35% due to state income taxes and theeffect of permanent differences, primarily the non-deductible portion of theinterest expense recognized on the 101⁄2% Senior Discount Notes. Furthermore, thedifference in the effective rate between the three months ended March 31,2006 and the three and six months ended June 30, 2006 is primarily due to recent Texas corporate tax legislation,enacted on May 18, 2006, which 

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

changesthe existing Texas franchise tax from a tax based on net income or taxablecapital to an income tax based on a defined calculation of gross margin (the “MarginTax”). The effective date of the new legislation is January 1, 2008, whichmeans that the Company will file its first Margin Tax return on May 15,2008 based on its 2007 results.

In connection with thevesting of restricted stock on February 28, 2006 (see Note 6), the Companyrealized an excess tax benefit of $1.3 million. Because the Company is notcurrently making cash payments for income taxes due to its net operating loss (“NOL”)carryforwards, such excess benefit has not been recognized in the Company’sfinancial statements and is being reported as a “suspended NOL carryforward” inthe footnotes to the consolidated financial statements in accordance with SFAS No. 123(R).

**10. Commitments andContingencies**

The Company is involved invarious claims, lawsuits and proceedings arising in the ordinary course ofbusiness. There are uncertainties inherent in the ultimate outcome of suchmatters and it is impossible to presently determine the ultimate costs that maybe incurred. Management believes the resolution of such uncertainties and theincurrence of such costs will not have a material adverse effect on the Company’sconsolidated financial position, results of operations or cash flows.

**11. SegmentInformation**

The Company has two reportable segments: (1) iceproducts and (2) non-ice products and services. Ice products include themanufacture and distribution of packaged ice products through traditional icemanufacturing and delivery and The Ice Factory®, which is a proprietary machinethat produces, packages, stores and merchandises ice at the point of salethrough an automated, self-contained system. Non-ice products and servicesinclude refrigerated warehouses and the manufacturing and distribution ofbottled water.

The Company evaluates the performance of each segmentbased on earnings before interest, taxes, depreciation, amortization, gain orloss on disposition of assets, impairment of assets, loss on extinguishment ofdebt and management agreement termination fees and transaction bonuses andexpenses (“Segment EBITDA”). Segment assets are not a factor in the evaluationof performance. There were no intersegment sales during the three and sixmonths ended June 30, 2006 and 2005.

Segmentinformation for the three months ended June 30, 2006 and 2005 was asfollows:

| ** **                              | ** ** | **Three Months Ended  June 30, 2006** | ** ** | **Three Months Ended  June 30, 2005** | ** ** |
|-----------------------------------------|------------|-----------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                              | ** ** | **Ice**                                                   | ** ** | **Non-Ice**                                               | ** ** | **Total** | ** ** | **Ice** | ** ** | **Non-Ice** | ** ** | **Total** | ** ** |
| ** **                              | ** ** | **(in thousands)**                                   | ** ** |
| Revenues                                |       | $                                                         | 109,848    |                                                      | $          | 3,728 |   | $ | 113,576 |   | $ | 89,587 |   | $ | 3,536 |   | $ | 93,123 |   |
| Cost of sales  (excluding depreciation) |       | 61,918                                                    |       | 2,226                                                     |       | 64,144 |   | 50,908 |   | 2,191 |   | 53,099 |   |
| Operating  expenses                     |       | 13,580                                                    |       | 518                                                       |       | 14,098 |   | 8,847 |   | 453 |   | 9,300 |   |
| Segment EBITDA                          |       | $                                                         | 34,350     |                                                      | $          | 984 |   | $ | 35,334 |   | $ | 29,832 |   | $ | 892 |   | $ | 30,724 |   |
| Total assets                            |       | $                                                         | 597,539    |                                                      | $          | 24,868 |   | $ | 622,407 |   | $ | 575,874 |   | $ | 27,281 |   | $ | 603,155 |   |

 

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**REDDY ICE HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued) FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 and 2005**

Segmentinformation for the six months ended June 30, 2006 and 2005 was asfollows:

| ** **                              | ** ** | **Six Months Ended  June 30, 2006 ** | ** ** | **Six Months Ended  June 30, 2005 ** | ** ** |
|-----------------------------------------|------------|---------------------------------------------------------------|------------|---------------------------------------------------------------|------------|
| ** **                              | ** ** | **Ice**                                                       | ** ** | **Non-Ice**                                                   | ** ** | **Total** | ** ** | **Ice** | ** ** | **Non-Ice** | ** ** | **Total** | ** ** |
| ** **                              | ** ** | **(in thousands)**                                       | ** ** |
| Revenues                                |       | $                                                             | 151,586    |                                                          | $          | 6,798 |   | $ | 158,384 |   | $ | 125,576 |   | $ | 6,791 |   | $ | 132,367 |   |
| Cost of sales  (excluding depreciation) |       | 94,269                                                        |       | 4,288                                                         |       | 98,557 |   | 80,372 |   | 4,406 |   | 84,778 |   |
| Operating  expenses                     |       | 24,280                                                        |       | 907                                                           |       | 25,187 |   | 17,164 |   | 970 |   | 18,134 |   |
| Segment EBITDA                          |       | $                                                             | 33,037     |                                                          | $          | 1,603 |   | $ | 34,640 |   | $ | 28,040 |   | $ | 1,415 |   | $ | 29,455 |   |
| Total assets                            |       | $                                                             | 597,539    |                                                          | $          | 24,868 |   | $ | 622,407 |   | $ | 575,874 |   | $ | 27,281 |   | $ | 603,155 |   |

 

Thereconciliation of Total Segment EBITDA to net income (loss) for the three andsix month periods ended June 30, 2006 and 2005 was as follows:

| ** **                                     | ** ** | **Three Months Ended  June 30, ** | ** ** | **Six Months Ended  June 30, ** | ** ** |
|------------------------------------------------|------------|-------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                     | ** ** | **2006**                                              | ** ** | **2005**                                            | ** ** | **2006** | ** ** | **2005** | ** ** |
| ** **                                     | ** ** | **(in thousands)**                               | ** ** |
| Total Segment  EBITDA                          |       | $                                                     | 35,334     |                                                | $          | 30,724 |   | $ | 34,640 |   | $ | 29,455 |   |
| Loss on  dispositions of assets                |       | (11                                                   | )          | (38                                                 | )          | (115 | ) | (187 | ) |
| Depreciation  expense related to cost of sales |       | (4,947                                                | )          | (4,734                                              | )          | (9,661 | ) | (9,475 | ) |
| Depreciation and  amortization expense         |       | (1,471                                                | )          | (1,452                                              | )          | (2,899 | ) | (2,867 | ) |
| Impairment of  assets                          |       | (370                                                  | )          | (5,725                                              | )          | (370 | ) | (5,725 | ) |
| Interest expense                               |       | (7,378                                                | )          | (9,829                                              | )          | (14,332 | ) | (19,137 | ) |
| Income tax  benefit (expense)                  |       | (8,444                                                | )          | (3,551                                              | )          | (2,789 | ) | 3,151 |   |
| Net income (loss)                              |       | $                                                     | 12,713     |                                                | $          | 5,395 |   | $ | 4,474 |   | $ | (4,785 | ) |

 

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

The following discussionand analysis of our financial condition and results of operations should beread in conjunction with our condensed consolidated financial statements andthe related notes and other information included elsewhere in this Form 10-Qand our Annual Report on Form 10-K for the year ended December 31,2005, previously filed with the SEC. As used in this section, “Reddy Group”refers to Reddy Ice Group, Inc., formerly known as Packaged Ice, Inc.,and not its subsidiaries, and “Reddy Holdings” refers to Reddy Ice Holdings, Inc.and not its subsidiaries.

**Uncertainty ofForward Looking Statements and Information**

Other thanstatements of historical facts, statements made in this Form 10-Q,statements made by us in periodic press releases, oral statements made by ourmanagement to analysts and stockholders and statements made in the course ofpresentations about our company constitute “forward-looking statements”intended to qualify for the safe harbor from liability established by thePrivate Securities Litigation Reform Act of 1995. We believe the expectationsreflected in such forward-looking statements are accurate. However, we cannotassure you that such expectations will occur. These forward-looking statementsinvolve known and unknown risks, uncertainties and other factors that may causeour actual results, performance or achievements to be materially different fromfuture results expressed or implied by the forward-looking statements. Factorsyou should consider that could cause these differences are:

·       general economic trends andseasonality;

·       weather conditions;

·       the ability of oursubsidiaries to make distributions to us in amounts sufficient to make dividendpayments to our stockholders in accordance with our dividend policy;

·       our substantial leverageand ability to service our debt and pay dividends;

·       the restrictive covenantsunder our indebtedness;

·       the availability of capitalsources;

·       fluctuations in ouroperating costs, including in the prices of electricity, fuel, polyethylene andother required expenses;

·       competitive practices inthe industry in which we compete;

·       changes in laborconditions;

·       our capital expenditurerequirements;

·       the risks associated withacquisitions and the failure to integrate acquired businesses;

·       technological changes andinnovations;

·       costs associated withpotential product liability claims or liabilities under environmental laws;

·       legislative or regulatoryrequirements; and

·       all the other factorsdescribed herein under Item 1A of Part II and in Item 1A ofPart I of our Annual Report on Form 10-K.

You should not unduly relyon these forward-looking statements, as they speak only as of the date of this report.Except as required by law, we are not obligated to publicly release anyrevisions to these forward-looking statements to reflect events orcircumstances occurring after the date of this report or to 

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reflectthe occurrence of unanticipated events. Important factors that could cause ouractual results to differ materially from our expectations are discussedelsewhere in this report.

**General**

***Overview.******  ***We are thelargest manufacturer and distributor of packaged ice in the United States andcurrently serve approximately 82,000 customer locations in 31 states and theDistrict of Columbia. We operate in two business segments—ice products andnon-ice products and operations. Ice products accounted for approximately 96%of our revenues in the six months ended June 30, 2006 and 95% of revenuesin the six months ended June 30, 2005. Our ice products business consistsof:

·       the traditional manufactureand delivery of ice from a central point of production to the point of sale;and

·       the installation andoperation of The Ice Factory®, our proprietary equipment located in ourcustomers’ high volume locations that produces, packages and stores ice throughan automated, self-contained system.

Our other business segment, non-ice products andoperations, consists of refrigerated warehousing for third parties and themanufacture and sale of bottled water.

***Seasonality.******  ***The packagedice business is highly seasonal, characterized by peak demand during the warmermonths of May through September, with an extended peak selling season inthe southern United States. Approximately 69%, 68% and 66% of our annualrevenues occurred during the second and third calendar quarters in each of2005, 2004 and 2003. Approximately 68% of our annual revenues also occurredduring the second and third calendar quarters of 2002, 2001 and 2000. Thehigher level of revenues in 2005 was primarily due to the effects of thehurricane season, which caused a significant increase in revenues during thethird quarter of 2005. The decrease in 2003 was primarily due to the timing ofour acquisitions, which occurred in the fourth quarter of that year. As a resultof seasonal revenue declines and a less than proportional decline in expensesduring the first and fourth quarters, we typically experience lower marginsresulting in losses during these periods. In addition, because our operatingresults depend significantly on revenues during our peak season, our quarterlyresults of operations may fluctuate significantly as a result of adverseweather during this peak selling period if the weather is unusually cool orrainy on a national or regional basis.

***Revenues.******  ***Our revenuesprimarily represent sales of packaged ice, packaged ice bags for use in our IceFactory equipment, bottled water and cold storage services. There is no rightof return with respect to these products or services. A portion of our revenuesalso represents fees earned under management agreements for Ice Factorieslocated outside our primary territories that are recognized as earned undercontract terms.

***Cost of Sales (Excluding Depreciation).******  ***Our cost ofsales (excluding depreciation) consists of costs related to the manufacture anddistribution of our products, including, in particular:

·       manufacturing anddistribution labor costs;

·       raw materials (primarily ofpolyethylene-based plastic bags);

·       product delivery expenses,including fuel and vehicle rental expense related to products delivered by ourown distribution network, as well as fees paid to distributors who deliver iceto our customers on our behalf;

·       utility expenses (primarilyelectricity used in connection with the manufacturing, storage and distributionprocesses); and

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·       Ice Factory-related costsassociated with customer service representatives and machine technicians (note,however, that Ice Factories generally do not increase our plant occupancy,delivery or utility costs).

***DepreciationExpense Related to Cost of Sales and Depreciation and Amortization Expense.******  ***Depreciationand amortization are divided into two line items—depreciation expense relatedto cost of sales and depreciation and amortization expense. Depreciationexpense related to cost of sales consists of depreciation expense for ourproduction and distribution equipment. Depreciation and amortization expenseconsists of depreciation and amortization expense for our selling, general andadministrative functions.

***Operating Expenses.******  ***Our operatingexpenses are costs associated with selling, general and administrativefunctions. These costs include executive officers’ compensation, office andadministrative salaries, insurance, legal and other professional services andcosts associated with leasing office space. Labor costs, including associatedpayroll taxes and benefit costs but excluding non-cash stock-based compensationexpense, included in operating expenses represented approximately 8% and 7% ofrevenues in the six months ended June 30, 2006 and 2005, respectively.

***Facilities.******  ***At June 30,2006, we owned or operated 60 ice manufacturing facilities, 56 distributioncenters, approximately 79,000 merchandisers (cold storage units installed atcustomer locations), approximately 3,000 Ice Factories, five refrigeratedwarehouses and one bottled water plant. As of the same date, we had anaggregate daily ice manufacturing capacity of approximately 17,000 tons.

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**Three Months Ended June 30, 2006 Compared toThree Months Ended June 30, 2005**

| ** **                                     | ** ** | **Three Months Ended  June 30,** | ** ** | **Change from  Last Year** | ** ** |
|------------------------------------------------|------------|-------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                     | ** ** | **2006**                                        | ** ** | **2005**                             | ** ** | **Dollars** | ** ** | **%** | ** ** |
| ** **                                     | ** ** | **(in thousands)**                         | ** ** |
| ***Consolidated  Results***                    | ** ** | ** **                                      | ** ** | ** **                           | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenues                                       |       | $                                               | 113,576    |                                 | $          | 93,123 |   | $ | 20,453 |   | 22.0 |   |
| Cost of sales  (excluding depreciation)        |       | 64,144                                          |       | 53,099                               |       | 11,045 |   | 20.8 |   |
| Depreciation  expense related to cost of sales |       | 4,947                                           |       | 4,734                                |       | 213 |   | 4.5 |   |
| Gross profit                                   |       | 44,485                                          |       | 35,290                               |       | 9,195 |   | 26.1 |   |
| Operating  expenses                            |       | 14,098                                          |       | 9,300                                |       | 4,798 |   | 51.6 |   |
| Depreciation and  amortization expense         |       | 1,471                                           |       | 1,452                                |       | 19 |   | 1.3 |   |
| Loss on  dispositions of assets                |       | 11                                              |       | 38                                   |       | (27 | ) | (71.1 | ) |
| Impairment of  assets                          |       | 370                                             |       | 5,725                                |       | (5,355 | ) | (93.5 | ) |
| Income from  operations                        |       | 28,535                                          |       | 18,775                               |       | 9,760 |   | 52.0 |   |
| Interest expense                               |       | 7,378                                           |       | 9,829                                |       | (2,451 | ) | (24.9 | ) |
| Income before  income taxes                    |       | 21,157                                          |       | 8,946                                |       | 12,211 |   | 136.5 |   |
| Income tax  expense                            |       | (8,444                                          | )          | (3,551                               | )          | (4,893 | ) | (137.8 | ) |
| Net income                                     |       | $                                               | 12,713     |                                 | $          | 5,395 |   | $ | 7,318 |   | 135.6 |   |
| ***Ice Operations:***                          |       |                                            |       |                                 |       |   |   |   |   |
| Revenues                                       |       | $                                               | 109,848    |                                 | $          | 89,587 |   | $ | 20,261 |   | 22.6 |   |
| Cost of sales  (excluding depreciation)        |       | 61,918                                          |       | 50,908                               |       | 11,010 |   | 21.6 |   |
| Depreciation  expense related to cost of sales |       | 4,698                                           |       | 4,461                                |       | 237 |   | 5.3 |   |
| Gross profit                                   |       | 43,232                                          |       | 34,218                               |       | 9,014 |   | 26.3 |   |
| Operating  expenses                            |       | 13,580                                          |       | 8,847                                |       | 4,733 |   | 53.5 |   |
| ***Non-Ice Operations:***                      |       |                                            |       |                                 |       |   |   |   |   |
| Revenues                                       |       | $                                               | 3,728      |                                 | $          | 3,536 |   | $ | 192 |   | 5.4 |   |
| Cost of sales  (excluding depreciation)        |       | 2,226                                           |       | 2,191                                |       | 35 |   | 1.6 |   |
| Depreciation  expense related to cost of sales |       | 249                                             |       | 273                                  |       | (24 | ) | (8.8 | ) |
| Gross profit                                   |       | 1,253                                           |       | 1,072                                |       | 181 |   | 16.9 |   |
| Operating expenses                             |       | 518                                             |       | 453                                  |       | 65 |   | 14.3 |   |

 

*Revenues:**  *Revenues increased $20.5 millionfrom the three months ended June 30, 2005 to the three months ended June 30,2006. This increase is primarily due to increases in ice volume sales due to significantly warmer and drieraverage weather conditions in our markets (especially during the months of April andMay 2006), the continuing positive effects of package sizing initiatives,which consists primarily of converting a portion of our ice sales from seven toten pound bags, the effects of the higher average pricing, and the effects ofacquisitions completed during the six months ended June 30, 2006. Approximately$0.9 million of the increase was due to acquisitions. Within our non-icesegment, cold storage revenues increased $0.7 million over the prior year as werebuilt the customer base after the loss of a significant customer in late 2004.Revenues in our bottled water operation decreased $0.5 million from the prioryear due to reduced sales volumes to our largest bottled water customer. Thiscustomer has informed us that it intends to cease purchasing bottled water fromus in the third quarter of 2006. If this occurs, we will assess the impact ofthat event and the potential consequences for the bottled water operation atthat time.

*Costof Sales (Excluding Depreciation):*   Cost of sales(excluding depreciation) increased $11.0 million from the three months ended June 30,2005 to the three months ended June 30, 2006. This increase in cost ofsales is primarily due to increased costs of plastic bags, electricity, fuel,ice transport and third party 

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distribution expenserelated to sales volume increases. Bag costs and fuel costs also increased dueto higher market prices of energy related items. Acquired ice operationsrepresented approximately $0.5 million of the increase.

Labor costs, including associated payroll taxes andbenefit costs (including health insurance), accounted for approximately 20% and22% of revenues in the three months ended June 30, 2006 and 2005,respectively. Cost of plastic bags represented approximately 7% of revenues inthe three months ended June 30, 2006 and 2005. Fuel expenses represented approximately 4% and 3% of revenues inthe three months ended June 30, 2006 and 2005, respectively. Expenses forindependent third party distribution services represented approximately 6% ofrevenues in the three months ended June 30, 2006 and 2005. Electricityexpense represented approximately 5% of revenues in the three months ended June 30,2006 and 2005.

*DepreciationExpense Related to Cost of Sales:**  *Depreciation expense related tocost of sales increased  $0.2 million dueto additional depreciation expense associated with production and distributionequipment placed in service during 2005 and early 2006, partially offset by theeffect of asset dispositions and assets becoming fully depreciated.

*OperatingExpenses:**  *Operatingexpenses increased $4.8 million from the three months ended June 30, 2005to the three months ended June 30, 2006. This increase is primarily due toan increase of $1.0 million in non-cash stock-based compensation expense, anincrease of $2.3 million in accrued incentive compensation, an additional $0.3million in labor and an increase of $1.1 million in professional services andinsurance.  Included in professionalservices is $0.6 million related to the secondary stock offering completed in May 2006.

*Depreciationand Amortization:**  *Depreciationand amortization increased $0.02 million from the three months ended June 30,2005 to the three months ended June 30, 2006. This increase is primarilydue to additional amortization expense associated with the intangible assetsrecorded in connection with the acquisitions completed in 2005 and the sixmonths ended June 30, 2006.

*Impairmentof assets:*   During the three months ended June 30,2006, we reviewed two pieces of real estate in our ice business segment inaccordance with SFAS No. 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets”, as a result of a pending sale of one propertyand physical damage to another. As a result of this review, we recorded animpairment charge of $0.4 million. During the three months ended June 30,2005, we recorded a non-cash impairment charge of $5.7 million  inthe cold storage portion of our non-ice business segment in accordance withSFAS No. 142, “Goodwill and Other Intangibles” in connection with the lossof a significant customer.

*Interest Expense:*   Interestexpense decreased $2.5 million from the three months ended June 30, 2005to the three months ended June 30, 2006, primarily due to the repurchaseof substantially all of our 87¤8%senior subordinated notes on August 15, 2005, partially offset by a $1.6million increase in term loan interest related to increased principle balancessubsequent to the refinancing of the credit facility in August 2005 andthe effect of higher interest rates.

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**Six Months Ended June 30, 2006 Compared to Six MonthsEnded June 30, 2005**

| ** **                                     | ** ** | **Six Months Ended  June 30, ** | ** ** | **Change from  Last Year ** | ** ** |
|------------------------------------------------|------------|-----------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                     | ** ** | **2006**                                            | ** ** | **2005**                                   | ** ** | **Dollars** | ** ** | **%** | ** ** |
| ** **                                     | ** ** | **(in thousands)**                             | ** ** |
| ***Consolidated  Results***                    | ** ** | ** **                                          | ** ** | ** **                                 | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenues                                       |       | $                                                   | 158,384    |                                       | $          | 132,367 |   | $ | 26,017 |   | 19.7 |   |
| Cost of sales  (excluding depreciation)        |       | 98,557                                              |       | 84,778                                     |       | 13,779 |   | 16.3 |   |
| Depreciation  expense related to cost of sales |       | 9,661                                               |       | 9,475                                      |       | 186 |   | 2.0 |   |
| Gross profit                                   |       | 50,166                                              |       | 38,114                                     |       | 12,052 |   | 31.6 |   |
| Operating  expenses                            |       | 25,187                                              |       | 18,134                                     |       | 7,053 |   | 38.9 |   |
| Depreciation and  amortization expense         |       | 2,899                                               |       | 2,867                                      |       | 32 |   | 1.1 |   |
| Loss on  dispositions of assets                |       | 115                                                 |       | 187                                        |       | (72 | ) | (38.5 | ) |
| Impairment of  assets                          |       | 370                                                 |       | 5,725                                      |       | (5,355 | ) | (93.5 | ) |
| Income from  operations                        |       | 21,595                                              |       | 11,201                                     |       | 10,394 |   | 92.8 |   |
| Interest expense                               |       | 14,332                                              |       | 19,137                                     |       | (4,805 | ) | (25.1 | ) |
| Income (loss)  before income taxes             |       | 7,263                                               |       | (7,936                                     | )          | 15,199 |   | 191.5 |   |
| Income tax  benefit (expense)                  |       | (2,789                                              | )          | 3,151                                      |       | (5,940 | ) | (188.5 | ) |
| Net income (loss)                              |       | $                                                   | 4,474      |                                       | $          | (4,785 | ) | $ | 9,259 |   | 193.5 |   |
| ***Ice  Operations:***                         |       |                                                |       |                                       |       |   |   |   |   |
| Revenues                                       |       | $                                                   | 151,586    |                                       | $          | 125,576 |   | $ | 26,010 |   | 20.7 |   |
| Cost of sales  (excluding depreciation)        |       | 94,269                                              |       | 80,372                                     |       | 13,897 |   | 17.3 |   |
| Depreciation  expense related to cost of sales |       | 9,162                                               |       | 8,926                                      |       | 236 |   | 2.6 |   |
| Gross profit                                   |       | 48,155                                              |       | 36,278                                     |       | 11,877 |   | 32.7 |   |
| Operating  expenses                            |       | 24,280                                              |       | 17,164                                     |       | 7,116 |   | 41.5 |   |
| ***Non-Ice  Operations:***                     |       |                                                |       |                                       |       |   |   |   |   |
| Revenues                                       |       | $                                                   | 6,798      |                                       | $          | 6,791 |   | $ | 7 |   | 0.1 |   |
| Cost of sales  (excluding depreciation)        |       | 4,288                                               |       | 4,406                                      |       | (118 | ) | (2.7 | ) |
| Depreciation  expense related to cost of sales |       | 499                                                 |       | 549                                        |       | (50 | ) | (9.1 | ) |
| Gross profit                                   |       | 2,011                                               |       | 1,836                                      |       | 175 |   | 9.5 |   |
| Operating expenses                             |       | 907                                                 |       | 970                                        |       | (63 | ) | (6.5 | ) |

 

*Revenues:*   Revenues increased $26.0 million fromthe six months ended June 30, 2005 to the six months ended June 30,2006. This increase is primarily due to increases in ice volume sales due to significantly warmer and drieraverage weather conditions in our markets (especially during the months of April andMay 2006), the continuing positive effects of package sizing initiatives,which consists primarily of converting a portion of our ice sales from seven toten pound bags, the effects of the higher average pricing, and the effects ofacquisitions completed during the six months ended June 30, 2006.Approximately $1.0 million of the increase was due to acquisitions. Within ournon-ice segment, cold storage revenues increased $1.0 million over the prioryear as we rebuilt the customer base after the loss of a significant customerin late 2004. Revenues in our bottled water operation decreased $1.0 millionfrom the prior year due to reduced sales volumes to our largest bottled watercustomer. This customer has informed us that it intends to cease purchasingbottled water from us in the third quarter of 2006. If this occurs, we willassess the impact of that event and the potential consequences for the bottledwater operation at that time.

*Costof Sales (Excluding Depreciation):*   Cost of sales(excluding depreciation) increased $13.8 million from the six months ended June 30,2005 to the six months ended June 30, 2006. This increase in cost of salesis primarily due to increased costs of plastic bags, electricity, fuel, icetransport and third party 

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distribution expenserelated to sales volume increases. Bag costs and fuel costs also increased dueto higher market prices of energy related items. Acquired ice operationsrepresented approximately $0.6 million of the increase.

Labor costs, including associated payroll taxes andbenefit costs (including health insurance), accounted for approximately 23% and26% of revenues in the six months ended June 30, 2006 and 2005,respectively. The ratio of labor costs to revenues decreased as a result ofreductions in employee benefit costs, including health insurance. Cost ofplastic bags represented approximately 7% of revenues in the six months ended June 30,2006 and 2005. Fuel expenses represented approximately 4%  and 3% of revenues in the six months ended June 30,2006 and 2005, respectively. Expenses for independent third party distributionservices represented approximately 6% of revenues in the six months ended June 30,2006 and 2005. Electricity expense represented approximately 5% of revenues inthe six months ended June 30, 2006 and 2005.

*DepreciationExpense Related to Cost of Sale:**  *Depreciation expense related tocost of sales increased  $0.2 million dueto additional depreciation expense associated with production and distributionequipment placed in service during 2005 and early 2006, partially offset by theeffect of asset dispositions and assets becoming fully depreciated.

*OperatingExpenses:*   Operating expenses increased$7.1 million from the six months ended June 30, 2005 to the sixmonths ended June 30, 2006. This increase is primarily due to an increaseof $2.0 million in non-cash stock-based compensation expense, an increase of$3.1 million in accrued incentive compensation, an additional $0.3 million inlabor costs and an increase of $1.6 million in professional services andinsurance, which was partially offset by reductions in bad debt expense.Included in professional services is $0.6 million related to the secondarystock offering completed in May 2006 and $0.5 million related to anacquisition which was not completed.

*Depreciationand Amortization:*   Depreciation and amortizationincreased $0.03 million from the six months ended June 30, 2005 tothe six months ended June 30, 2006. This increase was primarily due to additionalamortization expenseassociated with the intangible assets recorded in connection with theacquisitions completed in 2005 and the first six months of 2006.

*Impairmentof assets:*   During the six months ended June 30,2006, we reviewed two pieces of real estate in our ice business segment inaccordance with SFAS No. 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets”, as a result of a pending sale of oneproperty and physical damage to another. As a result of this review, werecorded an impairment charge of $0.4 million. During the six months ended June 30,2005, we recorded a non-cash impairment charge of $5.7 million  inthe cold storage portion of our non-ice business segment in accordance withSFAS No. 142, “Goodwill and Other Intangibles” in connection with thesignificant reduction in cold storage sales volumes related to the loss of aparticular customer.

*Interest expense:**  *Interest expense decreased $4.8 million from the sixmonths ended June 30, 2005 to the six months ended June 30, 2006,primarily due to the repurchase of substantially all of our 87¤8% seniorsubordinated notes on August 15, 2005, partially offset by a $3.1 millionincrease in term loan interest related to increased principle balancessubsequent to the refinancing of the credit facility in August 2005 andthe effect of higher interest rates.

**Liquidity andCapital Resources**

We generate cash from the sale of packaged ice throughtraditional delivery methods, by which we manufacture, package and store ice ata central facility and transport it to our customers’ retail locations whenneeded, and through Ice Factories, which manufacture, package and store ice inour customers’ retail locations. Our primary uses of cash are (a) cost ofsales, (b) operating expenses, (c) debt service, 

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(d) dividends on ourcommon stock, (e) capital expenditures related to replacing andmodernizing the capital equipment in our traditional ice plants and acquiringand installing additional Ice Factories and (f) acquisitions.Historically, we have financed our capital and working capital requirements,including our acquisitions, through a combination of cash flows fromoperations, borrowings under our revolving credit facilities and operatingleases.

Our ability to generate cash from our operations issubject to weather, general economic, financial, competitive, legislative,regulatory and other factors that are beyond our control. As a result, wecannot assure you that our business will generate sufficient cash flow fromoperations in amounts sufficient to enable us to service our debt and to fundour other liquidity needs. If we do not have sufficient liquidity, we will haveto take actions such as reducing or delaying the payment of dividends to ourcommon stockholders, strategic acquisitions, investments and joint ventures,selling assets, restructuring or refinancing our debt or seeking additionalequity capital. We cannot assure you that any of these remedies could, ifnecessary, be effected on commercially reasonable terms, or at all. In addition,the terms of existing and future debt instruments may restrict us from adoptingsome of these alternatives.

During the six months ended June 30, 2006,capital expenditures totaled $11.5 million. As we have consolidatedacquisitions into the existing company infrastructure, we have identifiednon-core and excess assets which can be disposed of. From time to time, we alsodispose of other assets which are no longer useful in our operations. As aresult of dispositions of these non-core and excess assets, we realizedproceeds of approximately $0.4 million in the six months ended June 30,2006. As a result, our net capital expenditures in the six months ended June 30,2006 were $11.0 million.

In the six months ended June 30,2006, we completed the acquisitions of seven ice companies for a total cashpurchase price of approximately $10.1 million, including direct acquisitioncosts of $0.2 million. We will continue to evaluate acquisition opportunitiesas they become available. In conjunction with these evaluations, we willconsider our liquidity, availability under Reddy Group’s senior creditfacility, mandatory principal repayments under our debt agreements andavailability of other capital resources.

**Cash Flows for theSix Months Ended June 30, 2006 and 2005**

Net cash provided by operating activities was$8.4 million and $0.2 million in the six months ended June 30,2006 and 2005, respectively. The increase was primarily due to an increase innet income of $9.3 million, from a loss of $4.8 million in the six months endedJune 30, 2005 to net income of $4.5 million in the six months ended June 30,2006. Offsetting this increase was a $1.2 million increase in cash used bychanges in working capital.

Net cash used in investing activities was$21.1 million and $11.2 million in the six months ended June 30,2006 and 2005, respectively. The increase in net cash used in investingactivities was primarily due to an increase in acquisitions. During the sixmonths ended June 30, 2006, we completed seven acquisitions for a totalcost of $10.1 million. During the same period in 2005, we did not complete anyacquisitions.

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Net cash provided used byfinancing activities was $8.6 million in the six months ended June 30,2006, compared to cash provided by financing activities of $10.0 million in thesix months ended June 30, 2005. The change in cash flows from financingactivities is primarily due to the payment of $16.6 million of dividends to ourcommon stockholders and the repurchase of common stock for $1.0 million in sixmonths ended June 30, 2006, while no such transactions occurred in thecomparable period of 2005.

**Long-term Debt andOther Obligations**

***Overview.******  ***AtJune 30, 2006, we had approximately $367.8 million of total debtoutstanding as follows (in thousands):

| Credit  Facility—Term Loans due 2012                                              |   | $       | 240,000 |   |
|----------------------------------------------------------------------------------------|--------|---------|---------|--------|
| Revolving Line of  Credit due 2010                                                     |   | 9,000   |    |
| 101⁄2% Senior Discount  Notes due 2012, net of unamortized discount of $31,932 |   | 118,568 |    |
| Other                                                                                  |   | 272     |    |
| Total debt                                                                             |   | $       | 367,840 |   |

 

***Senior Discount Notes.******  ***OnOctober 27, 2004, Reddy Holdings issued $151.0 million in aggregateprincipal amount at maturity of 101¤2 senior discount notes due 2012 in aprivate placement offering. Each senior discount note had an initial accretedvalue of $663.33 per $1,000 principal amount at maturity. The accreted value ofeach senior discount note increases from the date of issuance until November 1,2008 at a rate of 101⁄2% per annum such that the accreted value will equal thestated principal amount at maturity on November 1, 2008. Thereafter, cashinterest will accrue and be payable semi-annually at a rate of 101⁄2% per annum.The senior discount notes are unsecured obligations of Reddy Holdings and are:

·       not guaranteed by any ofReddy Holdings’ subsidiaries;

·       senior in right of paymentto all of Reddy Holdings’ future subordinated indebtedness;

·       equal in right of paymentwith any of Reddy Holdings’ existing and future unsecured senior indebtedness;

·       effectively subordinated toReddy Holdings’ existing and future secured debt, including Reddy Holdings’guarantee of Reddy Group’s senior credit facility; and

·       structurally subordinatedto all obligations and preferred equity of Reddy Holdings’ subsidiaries.

The senior discount notes include customary covenantsthat restrict, among other things, the ability to incur additional debt orissue certain preferred stock, pay dividends or redeem, repurchase or retireour capital stock or subordinated indebtedness, make certain investments, incurliens, enter into arrangements that restrict dividends from our subsidiaries,merge or sell all or substantially all of the assets or enter into varioustransactions with affiliates. Prior to November 1, 2007, we may redeem upto 35% of the principal amount of the senior discount notes at a redemptionprice of 110.5% of the accreted value amount thereof, plus accrued and unpaidinterest to the date of redemption, with funds raised in equity offerings thatare specified in the indenture governing the senior discount notes. From andafter November 1, 2008, we may redeem any or all of the senior discountnotes by paying a redemption premium which is initially 5.25% of the principalamount at maturity of the notes, and will decline annually to zero commencingon November 1, 2010. If a change of control occurs on or prior toNovember 1, 2007, we may, at our option, redeem all, but not less thanall, of the senior discount notes at a redemption price equal to the sum of(i) the accreted value of the notes as of the redemption date, (ii) apremium equal to 125% of one year’s coupon payment and (iii) any accruedand unpaid interest to the date of redemption. If we experience a change ofcontrol and do not elect to make the optional redemption described in theprevious sentence, we 

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will be required to makean offer to repurchase the senior discount notes at a price equal to 101% oftheir accreted value, plus accrued and unpaid interest, if any, to the date ofpurchase. We may also be required to make an offer to purchase the seniordiscount notes with proceeds of asset sales that are not reinvested in ourbusiness or used to repay other indebtedness.

The indenturegoverning our senior discount notes restricts the amount of dividends,distributions and other restricted payments we may pay. Under the indenture, weare restricted from paying dividends on our common stock unless, at the time ofsuch payment:

·       no default or event of defaulthas occurred and is continuing or would occur as a consequence thereof;

·       the consolidated coverageratio set forth in the indenture governing our senior discount notes exceeds2.0 to 1.0; and

·       there is sufficientcapacity under the buildup amount under the indenture governing our seniordiscount notes.

In addition, regardless of whether we could make anyrestricted payments under the buildup amount provision referred to above, wemay (1) make dividend payments at any time in an aggregate amount of up to$15.0 million if no default has occurred and is continuing under theindenture and (2) following our initial public offering, pay dividends onour capital stock of up to 6.0% per year of the cash proceeds (net ofunderwriters’ fees, discounts, commissions or other expenses paid by us)received by us from all such public equity offerings subject to specifiedconditions. Accordingly, we are able to pay approximately $7.0 millionannually in dividends under this 6.0% provision. However, the amount of dividendpayments permitted under this 6.0% provision will correspondingly reduce theamount we would otherwise have available to us under the buildup amount forrestricted payments, including dividends. At June 30, 2006, Reddy Holdingshad $8.3 million of cash on hand that was not subject to any restrictionsunder Reddy Group’s senior credit facility.

The consolidated coverage ratio under the indenturegoverning our senior discount notes means the ratio of our EBITDA for the mostrecent four fiscal quarters to our consolidated interest expense for such fourquarter period. “EBITDA” under the indenture governing our senior discountnotes is defined as the sum of our consolidated net income plus our income taxexpense, our interest expense, our depreciation and amortization expense,unrealized non-cash gains or losses or non-cash charges in respect of hedgingobligations required to be taken under generally accepted accountingprinciples, unrealized foreign currency translation gains or losses and allother non-cash charges, except to the extent representing an accrual or reservefor a future cash expenditure). “Consolidated net income” under the indenturegoverning our senior discount notes is defined as net income of Reddy Holdingsand its restricted subsidiaries: plus or minus cash dividends received oninvestments or equity in net losses of persons other than restrictedsubsidiaries, respectively; provided that the following are not included inconsolidated net income: (i) net income or loss of subsidiaries acquiredin pooling of interests transactions for any period prior to the date of theiracquisition, (ii) any net income of a subsidiary restricted in the paymentof a dividend (other than certain permitted restrictions, including those underour existing credit facilities and our new credit facilities), (iii) gainsor losses from non-ordinary course asset sales, (iv) extraordinary gainsor losses, (v) the cumulative effect of changes in accounting principles, (vi) non-recurringfees and expenses and write offs of deferred financing costs related to thefinancing transactions in connection with the 2003 merger with Packaged Iceand, (vii) any fees, charges, costs or expenses relating to our initialpublic offering and the related transactions and paid in cash, to the extentdeducted in the determination of consolidated net income. “Consolidatedinterest expense” under the indenture governing our senior discount notes isdefined as total interest expense plus, to the extent not included in totalinterest expense, (i) interest expense attributable to capital leases, (ii) amortizationof debt discount and issuance costs, (iii) capitalized interest, (iv) non-cashinterest expense, (v) fees on letters of credit, (vi) net payments 

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pursuant to hedgingobligations, (vii) dividends accrued on certain disqualified stock (viii) interestincurred in connection with investments in discontinued operations, (ix) intereston guaranteed indebtedness and (x) cash contributions to employee stockownership plans to the extent they are used to pay interest or fees onindebtedness incurred by such plans. We are generally required to calculate ourconsolidated coverage ratio on a pro forma basis to give effect to incurrencesand repayments of indebtedness as well as acquisitions and dispositions.

The buildup amount equals 50% of our consolidated netincome accrued during the period (treated as one accounting period) from July 1,2003 to the end of the most recent fiscal quarter for which internal financialstatements are available (or, if such consolidated net income is a deficit,minus 100% of such deficit), plus, the net cash proceeds of the issuance ofcapital stock, subject to certain exceptions, and any cash capital contributionreceived by us from our stockholders in each case after August 15, 2003plus the amount by which our indebtedness is reduced on our balance sheet as aresult of the conversion or exchange of such indebtedness for our capitalstock, plus the net reduction in certain restricted investments made by us,less the amount of certain restricted payments we make from time to time,including, among other things, the payment of cash dividends.

***Senior CreditFacility.******  ***On August 12, 2005, Reddy Groupentered into an amended and restated senior credit facility in an aggregateamount of $300.0 million, with the lenders being a syndicate of banks,financial institutions and other entities, which currently includes Credit Suisse,Cayman Islands Branch, as Administrative Agent, Bear Stearns Corporate Lending, Inc.,Canadian Imperial Bank of Commerce, Lehman Brothers Inc. and Wachovia Bank, N.A.The senior credit facility provides for a seven-year term loan in the amount of$240.0 million and a five-year revolving credit facility in the amount of$60.0 million.

At June 30, 2006, we had $44.3 million ofavailability under the revolving credit facility, which was net of anoutstanding balance of $9.0 million and outstanding standby letters of creditof $6.7 million. The standby letters of credit are used primarily tosecure certain insurance obligations. In connection with renewal of certaininsurance policies in the second and third quarters of 2006, our outstandingstandby letters of credit will increase through the first quarter of 2007. However,later in 2006, this additional new collateral will be partially offset byreductions in collateral related to earlier policy years. We currently expectoutstanding standby letters of credit to reach a maximum of approximately $7.7million during the fourth quarter of 2006.

Principal balances outstanding under the revolvingcredit facility bear interest per annum, at our option, at the sum of the baserate plus 0.75% or LIBOR plus 1.75%. The base rate is defined as the greater ofthe prime rate (as announced from time to time by the Administrative Agent) orthe federal funds rate plus 0.5%. At June 30, 2006, the weighted averageinterest rate of borrowings outstanding under the senior credit facility was6.8%. Interest on base rate loans is payable on the last day of each quarter.Interest on LIBOR loans is payable upon maturity of the LIBOR loan or on thelast day of the quarter if the LIBOR loan exceeds 90 days. Reddy Grouppays a quarterly fee on the average availability under our existing revolvingcredit facility based on an annual rate of 0.5%. Except as described below, theterms of the senior credit facility prohibit Reddy Group from paying dividendsand otherwise transferring assets to Reddy Holdings, except for certain limiteddividends, the proceeds of which must be used to maintain Reddy Holdings’corporate existence.

The senior credit facility does not require anyscheduled principal payments prior to the stated maturity dates. Subject tocertain conditions, mandatory repayments of the revolving credit facility andterm loan (and if the term loan is no longer outstanding, mandatory commitmentreductions of the revolving credit facility) are required to be made withportions of the proceeds from (1) asset sales, (2) the issuance ofdebt securities and (3) insurance and condemnation awards, subject tovarious exceptions. In the event of a change in control, as defined in thesenior credit facility, an event of default will occur under the senior creditfacility. Under the senior credit facility, Reddy Group may only pay dividendsto Reddy 

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Holdings if Reddy Group’stotal leverage ratio for the most recently ended fiscal quarter is less than orequal to 3.75 to 1.0. In addition, the senior credit facility precludes ReddyGroup from declaring any dividends if an event of default under the seniorcredit facility has occurred and is continuing. In particular, it will be anevent of default if Reddy Group’s leverage ratio exceeds 4.0 to 1.0 or ReddyGroup’s interest coverage ratio is less than 3.25 to 1.0.

The senior credit facility contains financialcovenants, which include the maintenance of certain financial ratios, asdefined in the senior credit facility, and is collateralized by substantiallyall of Reddy Group’s assets and the capital stock of all of its subsidiaries.Reddy Holdings guarantees Reddy Group’s senior credit facility and suchguarantee is secured by the capital stock of Reddy Group. At June 30,2006, Reddy Group was in compliance with these covenants.

Under the restricted payments covenant in Reddy Group’ssenior credit facility, we generally are restricted from paying dividends.However, the covenant includes an exception for paying dividends in an amountnot greater than our Cumulative Distributable Cash for the period (taken as oneaccounting period) from July 1, 2005 to the end of our most recently-endedfiscal quarter for which a covenant compliance certificate under Reddy Group’ssenior credit facility has been delivered to the lenders.

“CumulativeDistributable Cash” is defined under Reddy Group’s senior credit facility as:

(a)    $10,000,000,plus

(b)   “AvailableCash” for the period (taken as one accounting period) from July 1, 2005 tothe end of our most recently-ended fiscal quarter for which a covenantcompliance certificate under Reddy Group’s senior credit facility has beendelivered to the lenders, plus

(c)    the amountof any net cash proceeds received by Reddy Holdings from issuances of shares ofReddy Holdings capital stock after the closing of our initial public offeringto the extent we have contributed such proceeds to Reddy Group, less

(d)   (i) theamount of payments made by Reddy Group to Reddy Holdings to fund dividendpayments on, or repurchases of, Reddy Holdings capital stock or to pay cashinterest expense on, or redeem or repurchase, Reddy Holdings notes, (ii) amountsused to make restricted investments, less

(e)    to theextent occurring after the end of the most recently ended reference period anduntil taken into account in determining Available Cash for the fiscal quarterin which such event has occurred, (i) cash payments for acquisitions(except to the extent funded with indebtedness or proceeds of asset sales orcasualty events) and (ii) mandatory repayment of loans under our newcredit facilities (other than under the revolving credit facility) during adividend suspension period.

“Available Cash”for any fiscal quarter is defined under Reddy Group’s senior credit facilityas:

(a)    AdjustedEBITDA for such fiscal quarter, plus,

(b)   to theextent not included in net income used to calculate for any fiscal quarter suchAdjusted EBITDA, the cash amount realized in respect of extraordinary,non-recurring or unusual gains, and less

(c)    (i) tothe extent included in net income used to calculate for any fiscal quarter suchAdjusted EBITDA, the amount of Reddy Group’s cash interest expense, Reddy Group’scash tax expense, the cash cost of any extraordinary, nonrecurring or unusuallosses, cash payments on account of non-cash losses or non-cash charges, (ii) capitalexpenditures (except to the extent funded with indebtedness (other than therevolving credit facility) or proceeds of asset sales or casualty events), (iii) cashpayments for acquisitions (except to the extent funded with indebtedness orproceeds of asset sales or casualty events) and (iv) payments andprepayments of the principal amount of indebtedness (other 

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than payments andprepayments of the revolving credit facility) other than to the extent funded withindebtedness (other than indebtedness under our revolving credit facility).

“Adjusted EBITDA”is defined under Reddy Group’s senior credit facility to be the sum of:

(a)    netincome, plus

(b)   to theextent deducted in determining net income, the sum of (i) amountsattributable to depreciation and amortization, (ii) income tax expense, (iii) interestexpense, (iv) any other non-cash charges (less non-cash income) for whichno cash reserves (or receivables) have been or will be set aside (or created)including non-cash compensation expenses, (v) any loss from theextinguishment of indebtedness, (vi) any fees paid prior to the closingdate of our initial public offering in respect of the monitoring agreement, (vii) transactionadjustments (as defined in Reddy Group’s senior credit facility and includingthe fees and expenses incurred in connection with our initial public offeringand the related transactions), (viii) all fees and expenses incurred inconnection with permitted acquisitions to the extent accounted for as expenses,(ix) for the four fiscal quarters ending after September 30, 2004, anamount equal to the sum of (x) the special transaction payments paid tocertain members of management and certain directors in connection with theissuance of the senior discount notes not to exceed $1.3 million plus (y) anamount not to exceed $4.0 million for other expenses incurred in connectionwith the issuance of the senior discount notes and the related amendment toReddy Group’s senior credit facility which was in effect at the time of thesenior discount notes offering.

Under Reddy Group’s senior credit facility, ReddyGroup may only pay dividends to us to make dividend payments on our commonstock if Reddy Group’s total leverage ratio for the most recently ended fiscalquarter for which a covenant compliance certificate has been delivered is lessthan or equal to 3.75 to 1.0. If at the end of any fiscal quarter, Reddy Group’sleverage ratio is greater than 3.75 to 1.0, and therefore Reddy Group is notpermitted to pay dividends, Reddy Group will be required by Reddy Group’ssenior credit facility to apply 50% of Reddy Group’s Available Cash generatedduring each such quarter to make a mandatory prepayment of the loans underReddy Group’s senior credit facility.

In addition, we and Reddy Group will be precluded frompaying any dividends if an event of default under Reddy Group’s senior creditfacility has occurred and is continuing. In particular, it will be an event ofdefault if Reddy Group’s total leverage ratio exceeds 4.0 to 1.0 or Reddy Group’sinterest coverage ratio is less than 3.25 to 1.0.

Thefollowing table presents Adjusted EBITDA on a pro forma basis after givingeffect to the adjustments permitted under the description of the definition ofAdjusted EBITDA set forth above. Adjusted EBITDA is different from EBITDA thatis derived solely from GAAP components. Adjusted EBITDA should not be construedas an alternative to net loss, cash flows from operations or net cash fromoperating or investing activities as defined by GAAP, and it is not necessarilyindicative of cash available to fund our cash needs as determined in accordancewith GAAP. In addition, not all companies use identical calculations, and thispresentation may not be comparable to similarly titled measures of othercompanies. A reconciliation of net loss to EBITDA and Adjusted EBITDA followsthe table.

| ** **                 | ** ** | **Twelve Months**       | ** ** |
|----------------------------|------------|------------------------------|------------|
| ** **                 | ** ** | **Ended June 30,** | ** ** |
| ** **                 | ** ** | **2006**                     | ** ** |
| ** **                 | ** ** | **(in thousands)**      | ** ** |
| Pro forma  adjusted EBITDA |       |                         | $          | 93,390 |   |   |
| Total leverage  ratio      |       |                         | 2.75:1.0   |   |   |
| Interest coverage ratio    |       |                         | 5.82:1.0   |   |   |

 

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Thefollowing table sets forth a reconciliation of net loss to EBITDA and AdjustedEBITDA:

| ** **                                     | ** ** | **Twelve Months**       | ** ** |
|------------------------------------------------|------------|------------------------------|------------|
| ** **                                     | ** ** | **Ended June 30,** | ** ** |
| ** **                                     | ** ** | **2006**                     | ** ** |
| ** **                                     | ** ** | **(in thousands)**      | ** ** |
| Net loss                                       |       |                         | $          | (2,857 | ) |   |
| Depreciation  expense related to cost of sales |       |                         | 19,024     |   |   |
| Depreciation and  amortization expense         |       |                         | 5,723      |   |   |
| Interest expense                               |       |                         | 29,616     |   |   |
| Income tax  benefit                            |       |                         | (1,308     | ) |   |
| EBITDA                                         |       |                         | 50,198     |   |   |
| Other non-cash  charges:                       |       |                         |       |   |   |
| Stock-based compensation expense               |       |                         | 4,450      |   |   |
| Loss on dispositions of assets                 |       |                         | 1,776      |   |   |
| Loss on extinguishment of debt                 |       |                         | 28,189     |   |   |
| Impairment of assets                           |       |                         | 370        |   |   |
| Monitoring  fees(a)                            |       |                         | 74         |   |   |
| Transaction  expenses(b)                       |       |                         | 6,820      |   |   |
| Adjusted EBITDA                                |       |                         | $          | 91,877 |   |   |
| Acquisition  adjustments(c)                    |       |                         | $          | 1,439 |   |   |
| Elimination of  lease expense(d)               |       |                         | 74         |   |   |
| Pro forma adjusted  EBITDA                     |       |                         | $          | 93,390 |   |   |

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        (a) Represents the elimination of monitoring fees paid to affiliates ofour former majority stockholders prior to the closing of our initial publicoffering on August 12, 2005.

       (b) Represents (i) $6.2 million of costs incurred in connectionwith our initial public offering and related transactions, including$0.5 million of non-cash stock-based compensation expense related to agrant of common stock to certain employees, and (ii) $0.6 million of costsrelated to the secondary stock offering which closed on May 30, 2006. Thesecondary offering costs were paid by Reddy Holding from the excess cashremaining from the initial public offering of its common stock in August 2005.

        (c) Represents the incremental Adjusted EBITDA of acquired businesses asif each acquisition had been consummated on the first day of the periodpresented. All acquisitions included herein were consummated on or before June 30,2006.

       (d) Represents the elimination of historical leaseexpense resulting from the purchase of certain leased real estate in the thirdquarter of 2005.

***Interest Rate Hedging Agreement***

Effective September 12,2005, Reddy Group entered into an interest rate hedging agreement (the “Hedge”)to fix the interest rate on a portion of our term loan facility. The Hedge hasa term of three years and ten months and an initial notional balance of$220 million. The notional balance decreases by $20 million on October 12of each of the next three years, beginning on October 12, 2006. ReddyGroup pays a fixed rate of 4.431% on the notional balance outstanding andreceives an amount equal to 3-month LIBOR. Any net payable or receivableamount is settled quarterly. If Reddy Group had been required to settle theHedge as of June 30, 2006, it would have received $5.6 million. Thefair value of the Hedge is included in the caption “Other Assets” in theconsolidated balance sheet. Changes in the fair value of the Hedge are recordedas “Other Comprehensive Income” in the consolidated statement of stockholders’equity. Reddy Group is exposed to risk of loss in the event of non-performanceby the counterparty to the Hedge; however, we do not anticipate non-performanceby the counterparty.

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***Liquidity Outlook***

Due to the seasonal nature of our business, we recordthe majority of our revenues and profits during the months of May throughSeptember. The majority of the cash generated from those operations is receivedbetween July and November.

We estimate that our capital expenditures for 2006will be approximately $16 million to $18 million, which willprimarily be used to maintain and expand our traditional ice operations. Therecan be no assurance that our capital expenditures will not exceed thisestimate. In the normal course of our business, we dispose of obsolete,worn-out and unneeded assets. As a result of dispositions of excess assets, weestimate that we will generate proceeds of approximately $2 million to $3million in 2006 for net capital expenditures of approximately $13 millionto $16 million.

Based on our expectedlevel of operations, we believe that cash flows from operations, together withavailable borrowings under our revolving credit facility, will be adequate tomeet our future liquidity needs for at least the next twelve months. As of July 25,2006, we had approximately $44.1 million of availability under ourrevolving credit facility, which reflected a $9.2 million outstanding balanceunder our revolving credit facility and standby letters of credit of$6.7 million. During the next two months, we expect that the availabilityunder our revolving credit facility will increase to $53.3 million as we repayall outstanding amounts. As part of our ongoing acquisition program, we arecurrently pursuing several small acquisition opportunities which are in variousstages of negotiations. If we are successful in completing any of thesetransactions, additional borrowings under our revolving credit facility may berequired.

**Off-Balance SheetArrangements**

We have no off-balancesheet arrangements that have or are reasonably likely to have a current orfuture effect on our financial condition, changes in financial condition,revenues or expenses, results of operations, liquidity, capital expenditures orcapital resources.

**General EconomicTrends and Seasonality**

Our results of operations are generally affected bythe economic trends in our market area, but results to date have not beensignificantly impacted by inflation. If we experience an extended period ofhigh inflation, which affects multiple expense items, we believe that we willbe able to pass on these higher costs to our customers.

The ice business is highlyseasonal, with the bulk of demand coming in the warmer spring and summermonths. Accordingly, we experience seasonal fluctuations in our net sales andprofitability. We make a disproportionate amount of our sales in the second andthird calendar quarters. We also typically have net income in these sameperiods, whereas we typically experience net loss in the first and fourth calendarquarters. We believe that over two-thirds of our revenues will occur during thesecond and third calendar quarters when the weather conditions are generallywarmer and demand is greater, while less than one-third of our revenues willoccur during the first and fourth calendar quarters when the weather isgenerally cooler. This belief is consistent with historical trends. As a resultof seasonal revenue declines and the lack of proportional corresponding expensedecreases, we will most likely experience lower profit margins and even lossesduring the first and fourth calendar quarters. In addition, because ouroperating results depend significantly on sales during our peak season, ourquarterly results of operations may fluctuate significantly as a result ofadverse weather during this peak selling period if the weather is unusuallycool or rainy on a more national or regional basis.

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**ITEM 3. *Quantitative and Qualitative Disclosures About Market Risks***

Market risk generally represents the risk that lossesmay occur in the value of financial instruments as a result of movements ininterest rates, foreign currency exchange rates and commodity prices. Our mainmarket risk category is interest rate risk.

We are exposed tosome market risk due to the floating interest rates under Reddy Group’s seniorcredit facility. Principal balances outstanding under the term loan and therevolving credit facility bear interest, at our option, at the LondonInter-Bank Offered Rate (“LIBOR”) plus 1.75% or the prime rate (as announcedfrom time to time by the administrative agent) plus 0.75%.

Effective September 12, 2005, we entered into aninterest rate hedging agreement (the “Hedge”) to fix the interest rate on aportion of the term loan outstanding under the senior credit facility. TheHedge has a term of three years, ten months and an initial notional balance of$220 million. The notional balance decreases by $20 million on each October 12during 2006-2008. We pay a fixed rate of 4.431% on the notional amountand receive an amount equal to 3-month LIBOR. Any net payable orreceivable amount is settled quarterly. If we had been required to settle theHedge as of June 30, 2006, we would have received $5.6 million. ReddyGroup is exposed to risk of loss in the event of non-performance by thecounterparty to the Hedge. However, we do not anticipate non-performance by thecounterparty.

As of June 30, 2006,the senior credit facility had an outstanding principal balance of$240.0 million at a weighted average interest rate of 6.8% per annum. At June 30,2006, the 30-day LIBOR rate was 5.3%. If LIBOR were to increase by 1%from that level, the annual increase in interest expense, given our principalbalances at June 30, 2006 and the effect of the Hedge, would beapproximately $0.2 million.

**Item 4. *Controls and Procedures***

The Company, under the supervision and with theparticipation of its management, including the Chief Executive Officer andChief Financial Officer, evaluated the effectiveness of the design andoperation of our “disclosure controls and procedures” (as defined in Rules 13a-15(e) and15d-15(e) under the Securities Exchange Act of 1934 (the “ExchangeAct”)) as of the end of the period covered by this report. Based on thatevaluation, the Chief Executive Officer and the Chief Financial Officerconcluded that our disclosure controls and procedures were effective as of June 30,2006 to ensure that information relating to us and our consolidatedsubsidiaries required to be disclosed in our reports filed or submitted underthe Exchange Act is recorded, processed, summarized and reported within thetime periods specified in the SEC’s rules and forms, and that suchinformation is accumulated and communicated to our management, including ourChief Executive Officer and Chief Financial Officer, as appropriate to allowtimely discussions regarding required disclosure. It should be noted, however,that the design of any system of controls is limited in its ability to detecterrors, and there can be no assurance that any design will succeed in achievingits stated goals under all potential future conditions, regardless of howremote. There has been no change in our internal control over financialreporting during the quarter ended June 30, 2006 that has materiallyaffected, or is reasonably likely to materially affect, our internal controlover financial reporting.

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**PART II—OTHERINFORMATION**

**Item 1. *Legal Proceedings***

We are from time to timeparty to legal proceedings that arise in the ordinary course of business. We donot believe that the resolution of any such threatened or pending legalproceedings will have a material adverse affect on our financial position,results of operations or liquidity.

**Item 1A. *Risk Factors***

In addition to therisk factors previously disclosed in Part I, Item 1A of the Company’s AnnualReport on Form 10-K for the fiscal year ended December 31, 2005, theCompany has identified the following new and updated risk factors:

***Future sales of our shares could depress the marketprice of our common stock.***

Sales of a substantial number of shares of commonstock in the public market by our current stockholders, or the threat thatsubstantial sales may occur, could cause the market price of our common stockto decrease significantly or make it difficult for us to raise additionalcapital by selling stock. In connection with the secondary stock offeringcompleted in May 2006, our directors and executive officers, as well asthe selling stockholders in the offering, entered into 90-day lock-upagreements at the request of the underwriters. Subject to extension undercertain circumstances, on August 21, 2006, those parties will be able tosell in the public market an aggregate of 5,004,251 shares of our common stockthat they held after the offering, subject to the applicable volume, manner ofsale, holding period and other limitations of Rule 144 under theSecurities Act of 1933.

Bear, Stearns & Co. Inc. and LehmanBrothers Inc., underwriters for the secondary stock offering, may alsoconsent to the release of some or all of these shares that are subject tolock-up agreements for sale prior to the expiration of the applicable lock-upagreement.

We cannot predict the sizeof future issuances of our common stock or the effect, if any, that futureissuances and sales of shares of our common stock will have on the market priceof our common stock. Sales of substantial amounts of our common stock(including shares issued in connection with an acquisition), or the perceptionthat such sales could occur, may adversely affect prevailing market prices forour common stock.

***Ownership of ourcommon stock is concentrated among a few stockholders who could act in a waythat favors their interests to the detriment of our interests and those ofother stockholders.***

Prior to the secondary stockoffering completed on May 30, 2006, each of Bear Stearns Merchant Banking(“BSMB”) and Trimaran Fund Management L.L.C. (“Trimaran”) beneficially owned20% of our outstanding shares of common stock. As a result of their sales inthe offering, each of BSMB and Trimaran  currentlybeneficially own 9.9% of our outstanding shares of common stock. Nonetheless,our executive officers, directors, BSMB and Trimaran still, in the aggregate,hold approximately 24.5% of our outstanding shares. None of our otherstockholders beneficially owns more than 7.1% of our common stock. In the eventthat all or some of our executive officers, directors, BSMB or Trimaran decidedto act in concert, they could influence the outcome of certain corporateactions, such as the election of our directors and extraordinary corporatetransactions.

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***Limited tradingvolume of our common stock may contribute to its price volatility.***

For the first six monthsof 2006, the average daily trading volume for our common stock as reported bythe New York Stock Exchange was approximately 110,000 shares. As a result,relatively small trades may have a significant impact on the price of ourcommon stock.

**Item2.***Unregistered****Sales**of EquitySecurities and Use of Proceeds***

None.

**Item 3. *Defaults Upon Senior Securities***

None.

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

On May 18,2006, we held our annual meeting of stockholders. At the annual meeting, thefollowing matters were voted upon:

1.                Election of tendirectors to hold office until the next annual meeting of stockholders anduntil their respective successors are duly elected and qualified.

2.                A proposal to ratifythe appointment of Deloitte & Touche LLP as the company’s independentauditors for the fiscal year ending December 31, 2006.

A total of 21,637,020 shares of the company’s commonstock, par value $0.01 per share, were entitled to vote at the meeting. Ofthese shares, 20,475,928 shares were represented in person or by proxy at themeeting and voted as follows:

Withrespect to each of the following ten nominees for election to the Board ofDirectors, shares were voted as follows:

| ** **            | ** ** | **Votes For** | ** ** | **Votes Withheld** | ** ** |
|-----------------------|------------|--------------------|------------|-------------------------|------------|
| William P. Brick      |       | 17,776,133         |       |                    | 2,699,795  |   |   |
| Andrew R. Heyer       |       | 16,642,146         |       |                    | 3,833,782  |   |   |
| Theodore J. Host      |       | 20,324,498         |       |                    | 151,430    |   |   |
| David E. King         |       | 17,408,021         |       |                    | 3,067,907  |   |   |
| Douglas R. Korn       |       | 16,638,246         |       |                    | 3,837,682  |   |   |
| Michael S.  McGrath   |       | 20,338,518         |       |                    | 137,410    |   |   |
| Tracy L. Noll         |       | 20,293,348         |       |                    | 182,580    |   |   |
| William P.  Phoenix   |       | 17,408,046         |       |                    | 3,067,882  |   |   |
| Robert N.  Verdecchio |       | 20,180,854         |       |                    | 295,074    |   |   |
| Jimmy C. Weaver       |       | 17,667,491         |       |                    | 2,798,437  |   |   |

 

With respect to theappointment of Deloitte & Touche LLP as the company’s independentauditors for the fiscal year ending December 31, 2006, shares were votedas follows: 20,187,669 for; 279,624 votes against; and 8,635 votes withheld.

**Item 5. *Other Information***

None.

**Item 6. *Exhibits***

See Index to Exhibits which follows the signature page hereto.

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**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.
|                          |   | **REDDY ICE HOLDINGS, INC.**             |
|--------------------------|--------|------------------------------------------|
| Date: July 27, 2006 | By:    | /s/ WILLIAM P. BRICK                     |   |
|                     |   | William P. Brick                         |
|                     |   | *Chief Executive Officer*                |
| Date: July 27, 2006 | By:    | /s/ STEVEN J. JANUSEK                    |   |
|                     |   | Steven J. Janusek                        |
|                     |   | *Chief Financial and Accounting Officer* |

 

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**INDEX TO EXHIBITS**
| Exhibit No. | ** ** | **Description** | ** ** |
|------------------|------------|-----------------|------------|
|             | 31.1† |            |       | Rule 15d-14(a) Certification  of Chief Executive Officer. |   |
|             | 31.2† |            |       | Rule 15d-14(a) Certification  of Chief Financial Officer. |   |
|             | 32.1† |            |       | Rule 1350  Certification of Chief Executive Officer. |   |
|             | 32.2† |            |       | Rule 1350 Certification of Chief Financial  Officer. |   |

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†                    Filedherewith.

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