**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 
| **ý**                                                                                                                                                                                                                                                                                                                                                                                | **QUARTERLY REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-----------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                          |
| **For the quarterly period ended June 30, 2003**                                                                                                                                                                                                                                                                                                                                          |
|                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                          |
| **or**                                                                                                                                                                                                                                                                                                                                                                                    |
|                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                          |
| **o**                                                                                                                                                                                                                                                                                                                                                                                     | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                          |
| **For the transition period from                                to                             ** |
|                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                          |
| **Commission File Number: 333-63722**                                                                                                                                                                                                                                                                                                                                                     |

 

**MICHAELFOODS, INC.**

(Exact name ofregistrant as specified in its charter)

 

| **Minnesota**                                                   |   | **41-0498850**                        |
|-----------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of incorporation or organization) |   | (I.R.S. Employer  Identification No.) |
|                                                            |   |                                  |
| **401 Carlson Parkway  Suite 300  Minnetonka, MN**              |   | **55305**                             |
| (Address of  principal executive offices)                       |   | (Zip code)                            |
|                                                            |   |                                  |
| **(952) 258-4000**                                              |
| (Registrant’s  telephone number, 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 the SecuritiesExchange Act of 1934 (“Exchange Act”) during the preceding 12 months (or forsuch shorter period that the registrant was required to file such reports), and(2) has been subject to such filing requirements for the past 90 days.      ý     Yes       o      No

 

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

 

 

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PART I - FINANCIALINFORMATION

 

**ITEM 1.  FINANCIALSTATEMENTS**

 

MICHAEL FOODS,INC.

(A wholly-ownedsubsidiary of M-Foods Holdings, Inc.)

CondensedConsolidated Balance Sheets

(Unaudited,dollars in thousands)

 
|                                                                            |   | **June 30,  2003** |    | **December  31,  2002** |   |
|---------------------------------------------------------------------------------|--------|--------------------|---------|-------------------------|--------|
| ASSETS                                                                          |   |               |    |                    |   |
| Current  assets                                                                 |   |               |    |                    |   |
| Cash  and equivalents                                                           |   | $                  | 24,245  |                    | $      | 20,572 |   |
| Accounts  receivable, less allowances                                           |   | 92,475             |    | 101,579                 |   |
| Inventories                                                                     |   | 86,224             |    | 95,807                  |   |
| Prepaid  expenses and other                                                     |   | 9,561              |    | 13,571                  |   |
| Assets  held for sale                                                           |   | 59,533             |    | —                  |   |
| Total  current assets                                                           |   | 272,038            |    | 231,529                 |   |
| Property,  plant and equipment, net                                             |   | 238,387            |    | 282,353                 |   |
| Other  assets                                                                   |   |               |    |                    |   |
| Goodwill                                                                        |   | 338,944            |    | 341,028                 |   |
| Joint  ventures and other assets                                                |   | 33,200             |    | 38,112                  |   |
|                                                                            |   | 372,144            |    | 379,140                 |   |
|                                                                            |   | $                  | 882,569 |                    | $      | 893,022 |   |
| LIABILITIES AND SHAREHOLDER’S EQUITY                                       |   |               |    |                    |   |
| Current  liabilities                                                            |   |               |    |                    |   |
| Current  maturities of long-term debt                                           |   | $                  | 16,101  |                    | $      | 17,671 |   |
| Accounts  payable                                                               |   | 57,002             |    | 65,990                  |   |
| Accrued  liabilities                                                            |   |               |    |                    |   |
| Compensation                                                                    |   | 10,820             |    | 15,251                  |   |
| Insurance                                                                       |   | 8,163              |    | 7,855                   |   |
| Customer  programs                                                              |   | 34,372             |    | 26,484                  |   |
| Income  taxes                                                                   |   | 8,329              |    | 7,403                   |   |
| Interest                                                                        |   | 9,148              |    | 9,336                   |   |
| Hedging  derivative liability                                                   |   | 8,930              |    | 11,001                  |   |
| Other                                                                           |   | 10,760             |    | 11,393                  |   |
| Liabilities  related to business to be sold                                     |   | 9,869              |    | —                  |   |
| Total  current liabilities                                                      |   | 173,494            |    | 172,384                 |   |
| Long-term  debt, less current maturities                                        |   | 458,463            |    | 493,718                 |   |
| Deferred  income taxes                                                          |   | 51,519             |    | 47,119                  |   |
| Commitments  and contingencies                                                  |   | —             |    | —                  |   |
| Non-controlling  interest                                                       |   | —             |    | 475                     |   |
| Shareholder’s  equity                                                      |   |               |    |                    |   |
| Common  stock, $0.01 par value, 1,000 shares authorized, issued and outstanding |   | —             |    | —                  |   |
| Additional  paid-in capital                                                     |   | 147,498            |    | 147,498                 |   |
| Retained  earnings                                                              |   | 54,222             |    | 39,476                  |   |
| Accumulated  other comprehensive loss                                           |   | (2,627             | )       | (7,648                  | )      |
|                                                                            |   | 199,093            |    | 179,326                 |   |
|                                                                            |   | $                  | 882,569 |                    | $      | 893,022 |   |

 

The accompanying notesare an integral part of the unaudited condensed consolidated financialstatements.

 

2

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MICHAEL FOODS,INC.

(A wholly-ownedsubsidiary of M-Foods Holdings, Inc.)

CondensedConsolidated Statements of Earnings

Three months endedJune 30,

(Unaudited,dollars in thousands)

 
|                                          |   | **2003** |    | **2002** |   |
|-----------------------------------------------|--------|----------|---------|----------|--------|
| Net  sales                                    |   | $        | 323,931 |     | $      | 289,753 |   |
|                                          |   |     |    |     |   |
| Cost  of sales                                |   | 266,555  |    | 235,549  |   |
|                                          |   |     |    |     |   |
| Gross  profit                                 |   | 57,376   |    | 54,204   |   |
|                                          |   |     |    |     |   |
| Selling,  general and administrative expenses |   | 30,884   |    | 29,826   |   |
|                                          |   |     |    |     |   |
| Operating  profit                             |   | 26,492   |    | 24,378   |   |
|                                          |   |     |    |     |   |
| Interest  expense, net                        |   | 12,095   |    | 12,332   |   |
|                                          |   |     |    |     |   |
| Earnings  before income taxes                 |   | 14,397   |    | 12,046   |   |
|                                          |   |     |    |     |   |
| Income  tax expense                           |   | 5,549    |    | 4,730    |   |
|                                          |   |     |    |     |   |
| Net  earnings                                 |   | $        | 8,848   |     | $      | 7,316 |   |

 

The accompanying notesare an integral part of the unaudited condensed consolidated financialstatements.

 

3

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MICHAEL FOODS,INC.

(A wholly-ownedsubsidiary of M-Foods Holdings, Inc.)

CondensedConsolidated Statements of Earnings

Six months endedJune 30,

(Unaudited,dollars in thousands)

 
|                                          |   | **2003** |    | **2002** |   |
|-----------------------------------------------|--------|----------|---------|----------|--------|
| Net  sales                                    |   | $        | 622,144 |     | $      | 568,182 |   |
|                                          |   |     |    |     |   |
| Cost  of sales                                |   | 513,853  |    | 462,862  |   |
|                                          |   |     |    |     |   |
| Gross  profit                                 |   | 108,291  |    | 105,320  |   |
|                                          |   |     |    |     |   |
| Selling,  general and administrative expenses |   | 60,318   |    | 59,449   |   |
|                                          |   |     |    |     |   |
| Operating  profit                             |   | 47,973   |    | 45,871   |   |
|                                          |   |     |    |     |   |
| Interest  expense, net                        |   | 23,967   |    | 24,996   |   |
|                                          |   |     |    |     |   |
| Earnings  before income taxes                 |   | 24,006   |    | 20,875   |   |
|                                          |   |     |    |     |   |
| Income  tax expense                           |   | 9,259    |    | 8,200    |   |
|                                          |   |     |    |     |   |
| Net  earnings                                 |   | $        | 14,747  |     | $      | 12,675 |   |

 

The accompanying notesare an integral part of the unaudited condensed consolidated financialstatements.

 

4

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MICHAEL FOODS,INC.

(A wholly-ownedsubsidiary of M-Foods Holdings, Inc.)

CondensedConsolidated Statements of Cash Flows

Six months endedJune 30,

(Unaudited, dollars in thousands)

 
|                                                    |   | **2003** |   | **2002** |   |
|---------------------------------------------------------|--------|----------|--------|----------|--------|
|                                                    |   |     |   |     |   |
| Net  cash provided by operating activities              |   | $        | 58,115 |     | $      | 48,233 |   |
|                                                    |   |     |   |     |   |
| Cash  flows from investing activities:                  |   |     |   |     |   |
| Capital  expenditures                                   |   | (16,359  | )      | (14,263  | )      |
| Investments  in joint ventures and other assets         |   | —   |   | 397      |   |
|                                                    |   |     |   |     |   |
| Net  cash used in investing activities                  |   | (16,359  | )      | (13,866  | )      |
|                                                    |   |     |   |     |   |
| Cash  flows from financing activities:                  |   |     |   |     |   |
| Payments  on notes payable and revolving line of credit |   | —   |   | (5,000   | )      |
| Payments  on long-term debt                             |   | (38,179  | )      | (18,057  | )      |
| Net  cash used in financing activities                  |   | (38,179  | )      | (23,057  | )      |
|                                                    |   |     |   |     |   |
| Effect  of exchange rate changes on cash                |   | 96       |   | —   |   |
|                                                    |   |     |   |     |   |
| Net  increase in cash and equivalents                   |   | 3,673    |   | 11,310   |   |
|                                                    |   |     |   |     |   |
| Cash  and equivalents at beginning of period            |   | 20,572   |   | 27,660   |   |
|                                                    |   |     |   |     |   |
| Cash  and equivalents at end of period                  |   | $        | 24,245 |     | $      | 38,970 |   |

 

The accompanying notesare an integral part of the unaudited condensed consolidated financialstatements.

 

5

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MICHAEL FOODS,INC.

(A wholly-ownedsubsidiary of M-Foods Holdings, Inc.)

Notes to CondensedConsolidated Financial Statements

(Unaudited)

 

NOTE A –  2001 MERGER

 

On April 10, 2001,Michael Foods, Inc. and its subsidiaries (“Michael Foods”, “Company”, “we”,“us”, “our”) was acquired in a transaction (the “Merger”) led by an investorgroup comprised of a management group led by Michael Foods’ Chairman, Presidentand Chief Executive Officer, Gregg Ostrander; affiliates of Jeffrey Michael, amember of the board of directors; and affiliates of two private equityinvestment firms, Vestar Capital Partners and Goldner Hawn Johnson &Morrison Incorporated, (collectively, “M-Foods Investors, LLC”). Michael Foods,Inc. is a wholly-owned subsidiary of M-Foods Holdings, Inc., which is awholly-owned subsidiary of M-Foods Investors, LLC. Under the terms of theMerger agreement, all outstanding shares of Michael Foods common stock wereconverted into the right to receive $30.10 per share in cash, or value equalthereto, and all outstanding stock options were converted into the right toreceive, in cash, $30.10 per share reduced by the exercise price per share forall shares subject to such stock options. The purchase of the outstandingshares was financed through equity financing of approximately $175,000,000, asenior secured credit facility of up to $470,000,000 at market-based variableinterest rates, and $200,000,000 of senior subordinated notes at an 11.75%annual interest rate. As a result of the Merger, the stock of pre-mergerMichael Foods (“Predecessor”) is no longer publicly traded and, therefore,earnings per share calculations are no longer included for financial statementpresentation.

 

Immediately after theclose of the Merger, we contributed the assets of our Dairy Products Divisioninto two limited liability companies, M-Foods Dairy, LLC and M-Foods DairyTXCT, LLC (collectively, the “Dairy LLCs”) and in exchange received votingpreferred and voting common units from these entities equal to the fair valueof the net assets contributed, which collectively was approximately$35,800,000. The preferred units issued to us by the Dairy LLCs have an annual10% preferred return guarantee and represent 100% of the preferred units issuedand outstanding. In addition, we received 5% of the common units issued by the DairyLLCs, with the common units held by the Company representing 100% of the votingcommon units issued and outstanding. These common units have a stated value of$25,000. The remaining 95% of the common units, which are non-voting, are ownedby M-Foods Dairy Holdings, LLC, another entity which is owned by the sameowners or affiliates of such owners, in the same proportion, as the unitholders of M-Foods Investors, LLC. The common unit interests owned by M-FoodsDairy Holdings, LLC were issued in exchange for $475,000 and are reflected asnon-controlling interest in the accompanying consolidated balance sheet.  See also Note D.

 

The 2001 Merger wasaccounted for as a purchase in accordance with Accounting Principles BoardOpinion 16, *BusinessCombinations* and Emerging Issues Task Force Issue No. 88-16, *Basis inLeveraged Buyout Transactions*. Accordingly, the acquired assets andliabilities have been recorded at fair value for the interests acquired by newinvestors and at the carryover basis for continuing investors. As a result, theassets and liabilities were assigned new values, which are part Predecessorcost and part fair value in the same proportions as the carryover basis of theresidual interests retained by the continuing management investors and continuingaffiliate investors of the Michael family, and the new interests acquired bythe new investors. The amount of carryover basis was reflected as a deemeddividend of $66,631,000.

 

NOTE B – BASIS OFPRESENTATION

 

The accompanyingunaudited condensed consolidated financial statements have been prepared inaccordance with Regulation S-X pursuant to the rules and regulations of theSecurities and Exchange Commission. Certain information and footnotedisclosures normally included in financial statements prepared in accordancewith accounting principles generally accepted in the United States of Americahave been condensed or omitted pursuant to such rules and regulations, althoughmanagement believes that the disclosures are adequate to make the informationpresented not misleading.

 

We utilize a fiscal yearconsisting of either 52 or 53 weeks, ending on the Saturday nearest to December31 each year. The quarters ended June 30, 2003 and 2002 each included 13 weeksof operations. For clarity of presentation, the Company has described bothperiods presented as if the quarters ended on June 30th.

 

In the opinion ofmanagement, the unaudited financial statements contain all adjustments(consisting of only normal recurring adjustments) necessary to present fairly theresults of operations for the periods indicated. The results of operations andcash flows of the Company for the period ended June 30, 2003 are notnecessarily indicative of the results expected for the full year.

 

These unaudited interimconsolidated financial statements should be read in conjunction with ourconsolidated financial statements and notes thereto, contained in our AnnualReport on Form 10-K for the fiscal year ended December 31, 2002.

 

6

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In July 2001, theFinancial Accounting Standards Board (FASB) issued Statement of FinancialAccounting Standards (SFAS) No. 143, “Accounting for Asset RetirementObligations” which provides accounting requirements for retirement obligationsassociated with tangible long-lived assets. SFAS No. 143 is effective for fiscal years beginning after June 15, 2002and was adopted by the Company effective January 1, 2003.  The adoption of SFAS No. 143 did not have amaterial effect on our consolidated financial statements.

 

In June 2002, the FASBissued SFAS No. 146, “Accounting for Costs Associated with Exit or DisposalActivities.”  SFAS No. 146 requires thata liability for a cost associated with an exit or disposal activity be recognizedand measured initially at fair value only when the liability is incurred.  Prior to the adoption of this standard, aliability for an exit cost, as defined by Emerging Issues Task Force Issue No.94-3, Liability Recognition for Certain Employee Termination Benefits and OtherCosts to Exit an Activity (including Certain Costs Incurred in aRestructuring), was recognized at the date of an entity’s commitment to an exitplan. SFAS No. 146 was effective for the Company for exit plans or disposalactivities initiated after December 31, 2002. Effective January 1, 2003, we adopted the provisions of SFAS 146, whichhad no impact on our financial statements.

 

In November 2002, theFASB issued FASB Interpretation No. 45, “Guarantors Accounting and DisclosureRequirements for Guarantees, Including Indirect Guarantees of Indebtedness ofOthers.” This interpretation elaborates on the disclosure requirements in thefinancial statements concerning obligations under certain guarantees. It alsoclarifies the requirements related to the recognition of liabilities by aguarantor at the inception of certain guarantees. The disclosure requirementsof this interpretation were effective for us on December 31, 2002.  The adoption of this standard did not impactour financial statements.

 

In January 2003, the FASBissued FASB Interpretation No. 46, “Consolidation of Variable InterestEntities” (FIN 46).  This interpretationof Accounting Research Bulletin No. 51, Consolidated Financial Statements,addresses consolidation by business enterprises of variable interest entitiesthat possess certain characteristics. FIN 46 requires that if a businessenterprise has a controlling financial interest in a variable interest entity,the assets, liabilities, and results of the activities of the variable interestentity must be included in the consolidated financial statements with those ofthe business enterprise. FIN 46 applies immediately to variable interestentities created after January 31, 2003 and to variable interest entities inwhich an enterprise obtains an interest after that date. We do not haveownership in any variable interest entities and will apply the consolidationrequirements of FIN 46 in future periods should an interest in a variableinterest entity be acquired.

 

In May 2003, the FASBissued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments andHedging Activities.”  This Statementamends and clarifies financial accounting and reporting for derivativeinstruments, including certain derivative instruments embedded in othercontracts (collectively referred to as derivatives) and for hedging activitiesunder FASB Statement No. 133, “Accounting for Derivative Instruments andHedging Activities.”  SFAS No. 149 iseffective for contracts entered into or modified after June 30, 2003, and forhedging relationships designated after June 30, 2003.  We do not believe that the adoption of SFAS No. 149 will have amaterial impact on our financial position or results of operations.

 

In May 2003, the FASBissued SFAS No. 150, “Accounting for Certain Financial Instruments withCharacteristics of both Liabilities and Equity.”  The statement requires that an issuer classify financialinstruments that are within its scope as a liability.  Many of those instruments were classified as equity underprevious guidance.  SFAS No. 150 iseffective for all financial instruments entered into or modified after May 31,2003.  Otherwise, it is effective onJuly 1, 2003.  We do not believe thatthe adoption of SFAS No. 150 will have a material effect on our financial positionor results of operations.

 

NOTE C – ASSET PURCHASE

 

On August 26, 2002, weacquired the egg products assets of Canadian Inovatech Inc. for approximately$18.0 million.  The total purchase pricewas allocated to the acquired assets and liabilities based on their fair valuesat the acquisition date as determined by a third party appraisal firm.  The allocation of the purchase priceresulted in goodwill of $4.8 million. We also entered into long-term leases for two plants operated by theseller.  This entity’s results ofoperations have been included in our operating results since the date of theasset purchase.  Also, as a result ofthis asset purchase, we now own 67%, rather than 33%, of a Canadian eggproducts joint venture, Trilogy Egg Products, Inc.  Hence, Trilogy became a consolidated entity under our financialreporting as of the date of the asset purchase.

 

The following unauditedpro forma statement of earnings information has been prepared assuming theasset purchase had occurred on January 1, 2002.    Thenet sales and earnings before income taxes for the six months ended June 30,2003 represent actual results for the period (dollars in thousands):

 
|                          |   | **Six months  ended  June 30, 2003** |    | **Six months  ended  June 30, 2002** |   |
|-------------------------------|--------|--------------------------------------|---------|--------------------------------------|--------|
| Net  sales                    |   | $                                    | 622,144 |                                 | $      | 593,721 |   |
| Earnings  before income taxes |   | 24,006                               |    | 22,514                               |   |
|                               |        |                                      |         |                                      |        |  |  |

 

This unaudited pro formainformation is not necessarily indicative of the combined results of operationsthat would have occurred had the transaction occurred on the noted date, nor isit indicative of the results which may occur in the future.

 

7

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NOTE D – OPERATINGSEGMENT HELD FOR SALE

 

In May 2003, we signed aletter of intent for the sale of our dairy products division operating segmentto Dean Foods Company.  The dairyproducts division is substantially made up of the assets of M-Foods Dairy, LLCand M-Foods Dairy TXCT, LLC.  The dairyproducts division processes and sells ice milk and ice cream mixes, creamers,milk and specialty dairy products.  The transactionis expected to close during the third quarter of 2003.  Completion of the transaction is dependentupon several items, including completion of due diligence, execution of asecurities purchase agreement, approval by both companies’ Boards of Directors,and regulatory approval.  As a part ofthe transaction, we may be compensated for certain transition services expectedto be provided to the buyer for a period currently anticipated to be 12 to 18months after the close of the transaction. These transition services will include services such as informationtechnology, sales, customer service and procurement.  By providing these transition services, we will be deemed to have“significant continuing involvement” in the dairy products division operatingsegment.  Therefore, we have determinedthat the sale, as currently contemplated, would not meet the accountingcriteria for “discontinued operations”, but does meet the accounting criteriafor classification as “held for sale.” Accordingly, the related assets and liabilities of the dairy productsdivision operating segment have been classified as current assets andliabilities held for sale at June 30, 2003. The operations of the dairy products division operating segment continueto be included in the earnings statement of the Company.

 

External net sales andearnings from the dairy products division operating segment held for sale as ofJune 30, 2003 were as follows:

 
|                          |   | **Six months  ended  June 30, 2003** |   | **Six months  ended  June 30, 2002** |   |
|-------------------------------|--------|--------------------------------------|--------|--------------------------------------|--------|
| External  net sales           |   | $                                    | 92,878 |                                 | $      | 96,302 |   |
| Earnings  before income taxes |   | 6,026                                |   | 5,115                                |   |
|                               |        |                                      |        |                                      |        |  |  |

 

Assets and liabilities ofthe dairy products division operating segment classified as held for sale inthe Consolidated Balance Sheet as of June 30, 2003 are as follows:

 
|                                  |   | **June 30,  2003** |   |
|---------------------------------------|--------|--------------------|--------|
| Assets                                |   |               |   |
| Accounts  receivable, less allowances |   | $                  | 14,705 |   |
| Inventories                           |   | 7,260              |   |
| Property,  plant and equipment, net   |   | 34,858             |   |
| Other  assets                         |   | 2,710              |   |
|                                  |   | $                  | 59,533 |   |

 
| Liabilities               |   |   |   |
|---------------------------|--------|--------|--------|
| Accounts  payable         |   | $      | 8,054  |   |
| Accrued  liabilities      |   | 1,340  |   |
| Non-controlling  interest |   | 475    |   |
|                      |   | $      | 9,869  |   |

 

NOTE E – INVENTORIES

 

Inventories, other thanflocks, are stated at the lower of cost (determined on a first-in, first-outbasis) or market. Flock inventory represents the cost of purchasing and raisingflocks to laying maturity, at which time their cost is amortized to operationsover their expected useful life of generally one to two years, assuming nosalvage value.

 

Inventories consisted ofthe following (dollars in thousands):

 
|                                |   | **June 30,  2003** |   | **December  31,  2002** |   |
|-------------------------------------|--------|--------------------|--------|-------------------------|--------|
| Raw  materials and supplies         |   | $                  | 15,802 |                    | $      | 18,552 |   |
| Work  in process and finished goods |   | 49,177             |   | 54,574                  |   |
| Flocks                              |   | 21,245             |   | 22,681                  |   |
|                                |   | $                  | 86,224 |                    | $      | 95,807 |   |

 

8

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NOTE F – COMMITMENTS ANDCONTINGENCIES

** **

**Potato Procurement Contract**

We have a contract topurchase potatoes which expires in 2004 and which will supply approximately 45%and 40% of the Potato Products Division’s raw material needs in 2003 and 2004,respectively, at an approximate cost of $5.3 million each year.

** **

**Egg Procurement Contracts**

We maintain eggprocurement contracts with numerous cooperatives and egg producers throughoutthe Midwestern and Eastern United States and Canada which supply approximately50% of our egg requirements.  Most ofthese contracts vary in length from 18 to 72 months with prices primarilyindexed to grain or Urner Barry market indices.  No single egg supplier provides more than 10% of our eggrequirements.  Based upon the bestestimates available to us for grain and egg prices, we project that ourpurchases from our top five long-term contracted egg suppliers will approximate$141 million in 2003, $138 million in 2004, $82 million in 2005, $20 million in2006, and $16 million in 2007, and that the 2003 amount will account forapproximately 60% of our contracted egg purchases this year.

** **

**Patent Litigation**

We have an exclusivelicense agreement for a patented process for the production and sale ofextended shelf-life liquid egg products. Under the license agreement, we have theright to defend and prosecute infringement of the underlying patents.  We may offset 50% of our costs of defendingthe patents against royalty payments due to the patent holder - North CarolinaState University.   The U.S. Federal Courtof Appeals has upheld the validity of the patents on two separateoccasions.  In September 2000, theU.S. Patent and Trademark Office allowed product claims beyond the processclaims previously allowed for the extended shelf-life egg product. Thesepatents are scheduled to expire beginning in 2006.

 

In 2000, litigation wassettled with one party related to the infringement of these patents and asub-license was issued to the infringing party granting them the right tomanufacture and distribute extended shelf-life liquid whole egg product subjectto a royalty payable to us and the patent holder on all future product sold. Inconnection with this settlement, the patent holder received a lump sum paymentfor the past production and sale of the product and other matters related tothe infringement. We are continuing to pursue litigation related to otherparties who we believe are infringing the product and process patents,including Sunny Fresh Foods, Inc., a subsidiary of Cargill, Inc.  The patent infringement trial with Sunny FreshFoods, Inc. commenced with a jury on June 30, 2003 and is expected to continueinto the third quarter of 2003.

 

**Other Litigation**

We are engaged in routinelitigation incidental to our business. We believe the ultimate outcome of thislitigation will not have a material effect on our consolidated financialposition, liquidity or results of operations.

 

##### **Other Matter**

Asof June 30, 2003, we have an approximate $4 million investment recorded forBelovo S.A. (Belovo), a Belgium egg products company, which represents ourapproximate 36% interest accounted for under the equity method.  Belovorecently notified the Belgium government of a potential finished productsinventory matter and is currently working with the Belgium government toaddress the situation. The potential loss, if any, related to this matter hasnot yet been determined.

 

NOTE G – COMPREHENSIVEINCOME (LOSS)

 

The components andchanges in accumulated other comprehensive loss (AOCL), net of taxes, duringthe six months ended June 30, 2003 were as follows (dollars in thousands):

 
|                                       |   | **Cash Flow  Hedges** |       | **Foreign  Currency  Translation** |       | **Total  AOCL** |       |
|--------------------------------------------|--------|-----------------------|------------|------------------------------------|------------|-----------------|------------|
|                                       |   |                  | ** ** |                               | ** ** |            | ** ** |
| Balance  at January 1, 2003                |   | $                     | (7,799     | )                                  | $          | 151             |       | $ | (7,648 | ) |
| Foreign  currency translation adjustment   |   | 2,066                 |       | 629                                |       | 2,695           |       |
| Net  unrealized change on cash flow hedges |   | 2,326                 |       | —                             |       | 2,326           |       |
| Balance  at June 30, 2003                  |   | $                     | (3,407     | )                                  | $          | 780             |       | $ | (2,627 | ) |

 

Comprehensive income(loss), net of taxes, for the six months ended June 30, 2003 and 2002 was asfollows (dollars in thousands):

 
| Net income for the six months  ended June 30, 2003                   |   |   |   | $      | 14,747 |   |
|----------------------------------------------------------------------|--------|--------|--------|--------|--------|--------|
| Net  gains arising during the period from cash flow hedges:          |   |   |   |   |   |
| Net  unrealized derivative gains during period                       |   | 2,326  |   |   |   |
| Foreign  currency translation adjustment                             |   | 2,695  |   |   |   |
| Other  comprehensive income                                          |   |   |   | 5,021  |   |
| Comprehensive  income for the six months ended June 30, 2003         |   |   |   | $      | 19,768 |   |
|                                                                 |   |   |   |   |   |
| Net  income for the six months ended June 30, 2002                   |   |   |   | $      | 12,675 |   |
| Net  gains (losses) arising during the period from cash flow hedges: |   |   |   |   |   |
| Net  unrealized derivative losses during period                      |   | (262   | )      |   |   |
| Foreign  currency translation adjustment                             |   | 1,326  |   |   |   |
| Other  comprehensive income                                          |   |   |   | 1,064  |   |
| Comprehensive  income for the six months ended June 30, 2002         |   |   |   | $      | 13,739 |   |

 

9

----

 

NOTE H – BUSINESSSEGMENTS

 

We operate in fourreportable segments – Egg Products, Refrigerated Distribution, Dairy Productsand Potato Products.  See Note Dregarding the sale of the Dairy Products division operating segment.  Certain financial information on our operatingsegments is as follows (unaudited, dollars in thousands):

 
|                                         |   | **Company**       |    |
|----------------------------------------------|--------|-------------------|---------|
|                                         |   | **Egg  Products** |    | **Refrigerated  Distribution** |   | **Dairy  Products** |   | **Potato  Products** |   | **Corporate** |   | **Total** |   |
| THREE  MONTHS ENDED JUNE 30, 2003: |   |              |    |   |   |   |   |   |   |   |   |   |   |
| External  net sales                          |   | $                 | 189,206 |   | $ | 63,932 |   | $ | 52,276 |   | $ | 18,517 |   | N/A |   | $ | 323,931 |   |
| Intersegment  sales                          |   | 3,559             |    | — |   | 34 |   | 871 |   | N/A |   | 4,464 |   |
| Operating  profit (loss)                     |   | 17,356            |    | 4,430 |   | 4,753 |   | 1,958 |   | (2,005 | ) | 26,492 |   |
| Depreciation  and amortization               |   | 11,235            |    | 731 |   | 887 |   | 1,170 |   | 8 |   | 14,031 |   |
|                                         |   |              |    |   |   |   |   |   |   |   |   |   |   |
| THREE  MONTHS ENDED JUNE 30, 2002: |   |              |    |   |   |   |   |   |   |   |   |   |   |
| External  net sales                          |   | $                 | 161,888 |   | $ | 57,202 |   | $ | 53,122 |   | $ | 17,541 |   | N/A |   | $ | 289,753 |   |
| Intersegment  sales                          |   | 1,728             |    | — |   | — |   | 731 |   | N/A |   | 2,459 |   |
| Operating  profit (loss)                     |   | 18,002            |    | 2,265 |   | 3,778 |   | 2,117 |   | (1,784 | ) | 24,378 |   |
| Depreciation  and amortization               |   | 10,877            |    | 546 |   | 1,166 |   | 1,165 |   | 10 |   | 13,764 |   |
|                                         |   |              |    |   |   |   |   |   |   |   |   |   |   |
| SIX  MONTHS ENDED JUNE 30, 2003:   |   |              |    |   |   |   |   |   |   |   |   |   |   |
| External  net sales                          |   | $                 | 367,774 |   | $ | 125,279 |   | $ | 92,878 |   | $ | 36,213 |   | N/A |   | $ | 622,144 |   |
| Intersegment  sales                          |   | 6,833             |    | — |   | 62 |   | 1,766 |   | N/A |   | 8,661 |   |
| Operating  profit (loss)                     |   | 32,582            |    | 8,902 |   | 6,560 |   | 3,583 |   | (3,654 | ) | 47,973 |   |
| Depreciation  and amortization               |   | 22,438            |    | 1,439 |   | 2,200 |   | 2,340 |   | 15 |   | 28,432 |   |
|                                         |   |              |    |   |   |   |   |   |   |   |   |   |   |
| SIX MONTHS  ENDED JUNE 30, 2002:   |   |              |    |   |   |   |   |   |   |   |   |   |   |
| External  net sales                          |   | $                 | 317,074 |   | $ | 120,208 |   | $ | 96,302 |   | $ | 34,598 |   | N/A |   | $ | 568,182 |   |
| Intersegment  sales                          |   | 5,773             |    | — |   | — |   | 1,623 |   | N/A |   | 7,396 |   |
| Operating  profit (loss)                     |   | 34,994            |    | 4,558 |   | 5,609 |   | 4,431 |   | (3,721 | ) | 45,871 |   |
| Depreciation  and amortization               |   | 21,755            |    | 983 |   | 2,206 |   | 2,329 |   | 20 |   | 27,293 |   |

 

NOTE I – SUPPLEMENTALGUARANTOR FINANCIAL INFORMATION

 

Our revolving line ofcredit, A and B term loans and senior subordinated notes have been guaranteed,on a joint and several basis, by us and our domestic subsidiaries. Therevolving line of credit and A and B term loans are also guaranteed by ourparent, M-Foods Holdings, Inc.

 

The following condensedconsolidating financial information presents our consolidated balance sheet asof June 30, 2003 and December 31, 2002 and the statements of earnings for thethree and six month periods ended June 30, 2003 and 2002 and statements of cashflows for the six month periods ended June 30, 2003 and 2002.  These financial statements reflect MichaelFoods, Inc. (the Parent), the wholly owned guarantor subsidiaries (on acombined basis), the non-wholly owned guarantor subsidiaries, and eliminationentries necessary to combine such entities on a consolidated basis. Includedelsewhere in this Form 10-Q are the unaudited financial statements of thenon-wholly owned guarantor subsidiaries. The assets and liabilities of the Dairy Products segment are presentedin current assets held for sale and liabilities related to business to be sold(see Note D).

 

10

----

 

**Condensed Consolidating BalanceSheets**

**June 30, 2003**

**(Unaudited, dollars in thousands)**

** **
|                                        |   | **Parent**                    |    | **Wholly  owned  Guarantor  Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|---------------------------------------------|--------|-------------------------------|---------|--------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|------------------|--------|
| **M-Foods  Dairy,  LLC**                    |   | **M-Foods  Dairy  TXCT, LLC** |
| Assets                                      |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Current  assets                             |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Cash  and equivalents                       |   | $                             | 26,414  |                                       | $      | (2,169                                        | )      | $                | — |             | $      | — |   | $ | — |   | $ | 24,245 |   |
| Accounts  receivable, less allowances       |   | 18                            |    | 93,153                                     |   | 8,456                                         |   | 6,248            |   | (15,400          | )      | 92,475 |   |
| Inventories                                 |   | —                        |    | 86,224                                     |   | 3,502                                         |   | 3,758            |   | (7,260           | )      | 86,224 |   |
| Prepaid  expenses and other                 |   | 249                           |    | 9,312                                      |   | 458                                           |   | 67               |   | (525             | )      | 9,561 |   |
| Assets  held for sale                       |   | —                        |    | —                                     |   | —                                        |   | —           |   | 59,533           |   | 59,533 |   |
| Total  current assets                       |   | 26,681                        |    | 186,520                                    |   | 12,416                                        |   | 10,073           |   | 36,348           |   | 272,038 |   |
| Property,  plant and equipment, net         |   | 29                            |    | 238,358                                    |   | 21,110                                        |   | 10,688           |   | (31,798          | )      | 238,387 |   |
| Other  assets                               |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Goodwill                                    |   | 2,410                         |    | 336,534                                    |   | 1,763                                         |   | —           |   | (1,763           | )      | 338,944 |   |
| Joint  ventures and other assets            |   | 13,315                        |    | 22,544                                     |   | 116                                           |   | 264              |   | (3,039           | )      | 33,200 |   |
| Preferred  return receivable for subs       |   | —                        |    | 23,018                                     |   | —                                        |   | —           |   | (23,018          | )      | — |   |
| Investment  in subsidiaries                 |   | 604,254                       |    | —                                     |   | —                                        |   | —           |   | (604,254         | )      | — |   |
|                                        |   | 619,979                       |    | 382,096                                    |   | 1,879                                         |   | 264              |   | (632,074         | )      | 372,144 |   |
|                                        |   | $                             | 646,689 |                                       | $      | 806,974                                       |   | $                | 35,405 |             | $      | 21,025 |   | $ | (627,524 | ) | $ | 882,569 |   |
|                                        |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Liabilities  and shareholder’s equity  |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Current  liabilities                        |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Current  maturities of long-term debt       |   | $                             | 15,541  |                                       | $      | 560                                           |   | $                | — |             | $      | — |   | $ | — |   | $ | 16,101 |   |
| Accounts  payable                           |   | 145                           |    | 57,553                                     |   | 3,386                                         |   | 4,668            |   | (8,750           | )      | 57,002 |   |
| Accrued  liabilities                        |   | 33,830                        |    | 56,692                                     |   | 2,717                                         |   | 1,118            |   | (3,835           | )      | 90,522 |   |
| Liabilities  related to business to be sold |   | —                        |    | —                                     |   | —                                        |   | —           |   | 9,869            |   | 9,869 |   |
| Total  current liabilities                  |   | 49,516                        |    | 114,805                                    |   | 6,103                                         |   | 5,786            |   | (2,716           | )      | 173,494 |   |
| Long-term  debt, less current maturities    |   | 400,022                       |    | 58,441                                     |   | —                                        |   | —           |   | —           |   | 458,463 |   |
| Deferred  income taxes                      |   | (2,417                        | )       | 51,441                                     |   | —                                        |   | —           |   | 2,495            |   | 51,519 |   |
| Total  liabilities                          |   | 447,121                       |    | 224,687                                    |   | 6,103                                         |   | 5,786            |   | (221             | )      | 683,476 |   |
| Non-controlling  interest                   |   | 475                           |    | —                                     |   | —                                        |   | —           |   | (475             | )      | — |   |
| Preferred  unit holder return payable       |   | —                        |    | —                                     |   | 17,482                                        |   | 5,536            |   | (23,018          | )      | — |   |
| Shareholder’s  equity                  |   | 199,093                       |    | 582,287                                    |   | 11,820                                        |   | 9,703            |   | (603,810         | )      | 199,093 |   |
|                                        |   | $                             | 646,689 |                                       | $      | 806,974                                       |   | $                | 35,405 |             | $      | 21,025 |   | $ | (627,524 | ) | $ | 882,569 |   |

 

11

----

 

**Condensed Consolidating BalanceSheets**

**December 31, 2002**

**(Unaudited, dollars in thousands)**

** **
|                                       |   | **Parent**                    |    | **Wholly  owned  Guarantor  Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|--------------------------------------------|--------|-------------------------------|---------|--------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|------------------|--------|
| **M-Foods  Dairy,  LLC**                   |   | **M-Foods  Dairy  TXCT, LLC** |
| Assets                                     |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Current  assets                            |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Cash  and equivalents                      |   | $                             | 19,665  |                                       | $      | 907                                           |   | $                | — |             | $      | — |   | $ | — |   | $ | 20,572 |   |
| Accounts  receivable, less allowances      |   | 314                           |    | 90,108                                     |   | 7,836                                         |   | 4,399            |   | (1,078           | )      | 101,579 |   |
| Inventories                                |   | —                        |    | 88,376                                     |   | 3,412                                         |   | 4,019            |   | —           |   | 95,807 |   |
| Prepaid  expenses and other                |   | 202                           |    | 12,704                                     |   | 600                                           |   | 65               |   | —           |   | 13,571 |   |
| Total  current assets                      |   | 20,181                        |    | 192,095                                    |   | 11,848                                        |   | 8,483            |   | (1,078           | )      | 231,529 |   |
| Property,  plant and equipment, net        |   | 44                            |    | 252,825                                    |   | 18,104                                        |   | 11,380           |   | —           |   | 282,353 |   |
| Other  assets                              |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Goodwill                                   |   | —                        |    | 339,265                                    |   | 1,763                                         |   | —           |   | —           |   | 341,028 |   |
| Joint  ventures and other assets           |   | 15,362                        |    | 22,082                                     |   | 139                                           |   | 529              |   | —           |   | 38,112 |   |
| Preferred  return receivable for subs      |   | —                        |    | 17,170                                     |   | —                                        |   | —           |   | (17,170          | )      | — |   |
| Investment  in subsidiaries                |   | 639,819                       |    | —                                     |   | —                                        |   | —           |   | (639,819         | )      | — |   |
|                                       |   | 655,181                       |    | 378,517                                    |   | 1,902                                         |   | 529              |   | (656,989         | )      | 379,140 |   |
|                                       |   | $                             | 675,406 |                                       | $      | 823,437                                       |   | $                | 31,854 |             | $      | 20,392 |   | $ | (658,067 | ) | $ | 893,022 |   |
|                                       |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Liabilities  and shareholder’s equity |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Current  liabilities                       |   |                          |    |                                       |   |                                          |   |             |   |             |   |   |   |
| Current  maturities of long-term debt      |   | $                             | 14,714  |                                       | $      | 557                                           |   | $                | — |             | $      | 2,400 |   | $ | — |   | $ | 17,671 |   |
| Accounts  payable                          |   | 426                           |    | 60,933                                     |   | 2,836                                         |   | 2,873            |   | (1,078           | )      | 65,990 |   |
| Accrued  liabilities                       |   | 35,372                        |    | 49,953                                     |   | 2,352                                         |   | 1,046            |   | —           |   | 88,723 |   |
| Total  current liabilities                 |   | 50,512                        |    | 111,443                                    |   | 5,188                                         |   | 6,319            |   | (1,078           | )      | 172,384 |   |
| Long-term  debt, less current maturities   |   | 448,734                       |    | 44,984                                     |   | —                                        |   | —           |   | —           |   | 493,718 |   |
| Deferred  income taxes                     |   | (3,641                        | )       | 50,760                                     |   | —                                        |   | —           |   | —           |   | 47,119 |   |
| Total  liabilities                         |   | 495,605                       |    | 207,187                                    |   | 5,188                                         |   | 6,319            |   | (1,078           | )      | 713,221 |   |
| Non-controlling  interest                  |   | 475                           |    | —                                     |   | —                                        |   | —           |   | —           |   | 475 |   |
| Preferred  unit holder return payable      |   | —                        |    | —                                     |   | 12,442                                        |   | 4,728            |   | (17,170          | )      | — |   |
| Shareholder’s  equity                 |   | 179,326                       |    | 616,250                                    |   | 14,224                                        |   | 9,345            |   | (639,819         | )      | 179,326 |   |
|                                       |   | $                             | 675,406 |                                       | $      | 823,437                                       |   | $                | 31,854 |             | $      | 20,392 |   | $ | (658,067 | ) | $ | 893,022 |   |

 

12

----

 

**Condensed Consolidating Statements ofEarnings**

**Three months ended June 30, 2003**

**(Unaudited, dollars in thousands)**

 
|                                                                        |   | **Parent**                    |   | **Wholly  owned  Guarantor  Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|-----------------------------------------------------------------------------|--------|-------------------------------|--------|--------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|------------------|--------|
| **M-Foods  Dairy,  LLC**                                                    |   | **M-Foods  Dairy  TXCT, LLC** |
| Net  sales                                                                  |   | $                             | — |                                       | $      | 276,086                                       |   | $                | 28,254 |             | $      | 24,055 |   | $ | (4,464 | ) | $ | 323,931 |   |
| Cost  of sales                                                              |   | —                        |   | 225,811                                    |   | 23,649                                        |   | 21,949           |   | (4,854           | )      | 266,555 |   |
| Gross  profit                                                               |   | —                        |   | 50,275                                     |   | 4,605                                         |   | 2,106            |   | 390              |   | 57,376 |   |
| Selling,  general and administrative expenses                               |   | 2,005                         |   | 27,457                                     |   | 1,415                                         |   | 1,290            |   | (1,283           | )      | 30,884 |   |
| Operating  profit (loss)                                                    |   | (2,005                        | )      | 22,818                                     |   | 3,190                                         |   | 816              |   | 1,673            |   | 26,492 |   |
| Interest  expense, net                                                      |   | 11,277                        |   | 802                                        |   | 10                                            |   | 6                |   | —           |   | 12,095 |   |
| Other  income                                                               |   | 1,229                         |   | —                                     |   | —                                        |   | —           |   | (1,229           | )      | — |   |
| Earnings  (loss) before equity in earnings of subsidiaries and income taxes |   | (12,053                       | )      | 22,016                                     |   | 3,180                                         |   | 810              |   | 444              |   | 14,397 |   |
| Equity  in earnings of subsidiaries                                         |   | 15,826                        |   | 3,990                                      |   | (3,180                                        | )      | (810             | )      | (15,826          | )      | — |   |
| Earnings  (loss) before income taxes                                        |   | 3,773                         |   | 26,006                                     |   | —                                        |   | —           |   | (15,382          | )      | 14,397 |   |
| Income  tax expense (benefit)                                               |   | (4,631                        | )      | 10,180                                     |   | —                                        |   | —           |   | —           |   | 5,549 |   |
| Net  earnings (loss)                                                        |   | 8,404                         |   | 15,826                                     |   | —                                        |   | —           |   | (15,382          | )      | 8,848 |   |
| Other  comprehensive income (loss)                                          |   |                          |   |                                       |   |                                          |   |             |   |             |   |   |   |
| Foreign  currency translation adjustment                                    |   | 2,066                         |   | (237                                       | )      | —                                        |   | —           |   | —           |   | 1,829 |   |
| Change  in cash flow hedges                                                 |   | 644                           |   | 1,249                                      |   | —                                        |   | —           |   | —           |   | 1,893 |   |
| Comprehensive  income (loss)                                                |   | $                             | 11,114 |                                       | $      | 16,838                                        |   | $                | — |             | $      | — |   | $ | (15,382 | ) | $ | 12,570 |   |

 

 

**Condensed Consolidating Statements ofEarnings**

**Three months ended June 30, 2002**

**(Unaudited, dollars in thousands)**

 
|                                                                        |   | **Parent**                    |   | **Wholly  owned  Guarantor  Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|-----------------------------------------------------------------------------|--------|-------------------------------|--------|--------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|------------------|--------|
| **M-Foods  Dairy,  LLC**                                                    |   | **M-Foods  Dairy  TXCT, LLC** |
| Net  sales                                                                  |   | $                             | — |                                       | $      | 239,090                                       |   | $                | 27,975 |             | $      | 25,147 |   | $ | (2,459 | ) | $ | 289,753 |   |
| Cost  of sales                                                              |   | —                        |   | 190,879                                    |   | 24,277                                        |   | 22,852           |   | (2,459           | )      | 235,549 |   |
| Gross  profit                                                               |   | —                        |   | 48,211                                     |   | 3,698                                         |   | 2,295            |   | —           |   | 54,204 |   |
| Selling,  general and administrative expenses                               |   | 1,784                         |   | 26,802                                     |   | 1,442                                         |   | 976              |   | (1,178           | )      | 29,826 |   |
| Operating  profit (loss)                                                    |   | (1,784                        | )      | 21,409                                     |   | 2,256                                         |   | 1,319            |   | 1,178            |   | 24,378 |   |
| Interest  expense, net                                                      |   | 11,500                        |   | 773                                        |   | 35                                            |   | 24               |   | —           |   | 12,332 |   |
| Other  income                                                               |   | 1,178                         |   | —                                     |   | —                                        |   | —           |   | (1,178           | )      | — |   |
| Earnings  (loss) before equity in earnings of subsidiaries and income taxes |   | (12,106                       | )      | 20,636                                     |   | 2,221                                         |   | 1,295            |   | —           |   | 12,046 |   |
| Equity  in earnings of subsidiaries                                         |   | 14,682                        |   | 3,516                                      |   | (2,221                                        | )      | (1,295           | )      | (14,682          | )      | — |   |
| Earnings  (loss) before income taxes                                        |   | 2,576                         |   | 24,152                                     |   | —                                        |   | —           |   | (14,682          | )      | 12,046 |   |
| Income  tax expense (benefit)                                               |   | (4,740                        | )      | 9,470                                      |   | —                                        |   | —           |   | —           |   | 4,730 |   |
| Net  earnings (loss)                                                        |   | 7,316                         |   | 14,682                                     |   | —                                        |   | —           |   | (14,682          | )      | 7,316 |   |
| Other  comprehensive income (loss)                                          |   |                          |   |                                       |   |                                          |   |             |   |             |   |   |   |
| Foreign  currency translation adjustment                                    |   | —                        |   | 1,315                                      |   | —                                        |   | —           |   | —           |   | 1,315 |   |
| Change  in cash flow hedges                                                 |   | (2,499                        | )      | 1,350                                      |   | —                                        |   | —           |   | —           |   | (1,149 | ) |
| Comprehensive  income (loss)                                                |   | $                             | 4,817  |                                       | $      | 17,347                                        |   | $                | — |             | $      | — |   | $ | (14,682 | ) | $ | 7,482 |   |

 

13

----

 

**Condensed Consolidating Statements ofEarnings**

**Six months ended June 30, 2003**

**(Unaudited, dollars in thousands)**

 
|                                                                        |   | **Parent**                    |   | **Wholly  owned  Guarantor  Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|-----------------------------------------------------------------------------|--------|-------------------------------|--------|--------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|------------------|--------|
| **M-Foods  Dairy,  LLC**                                                    |   | **M-Foods  Dairy  TXCT, LLC** |
| Net  sales                                                                  |   | $                             | — |                                       | $      | 537,866                                       |   | $                | 52,674 |             | $      | 40,265 |   | $ | (8,661 | ) | $ | 622,144 |   |
| Cost  of sales                                                              |   | —                        |   | 440,932                                    |   | 44,480                                        |   | 37,492           |   | (9,051           | )      | 513,853 |   |
| Gross  profit                                                               |   | —                        |   | 96,934                                     |   | 8,194                                         |   | 2,773            |   | 390              |   | 108,291 |   |
| Selling,  general and administrative expenses                               |   | 3,655                         |   | 53,798                                     |   | 3,112                                         |   | 2,244            |   | (2,491           | )      | 60,318 |   |
| Operating  profit (loss)                                                    |   | (3,655                        | )      | 43,136                                     |   | 5,082                                         |   | 529              |   | 2,881            |   | 47,973 |   |
| Interest  expense, net                                                      |   | 22,317                        |   | 1,621                                      |   | 42                                            |   | (13              | )      | —           |   | 23,967 |   |
| Other  income                                                               |   | 2,437                         |   | —                                     |   | —                                        |   | —           |   | (2,437           | )      | — |   |
| Earnings  (loss) before equity in earnings of subsidiaries and income taxes |   | (23,535                       | )      | 41,515                                     |   | 5,040                                         |   | 542              |   | 444              |   | 24,006 |   |
| Equity  in earnings of subsidiaries                                         |   | 28,787                        |   | 5,582                                      |   | (5,040                                        | )      | (542             | )      | (28,787          | )      | — |   |
| Earnings  (loss) before income taxes                                        |   | 5,252                         |   | 47,097                                     |   | —                                        |   | —           |   | (28,343          | )      | 24,006 |   |
| Income  tax expense (benefit)                                               |   | (9,051                        | )      | 18,310                                     |   | —                                        |   | —           |   | —           |   | 9,259 |   |
| Net  earnings (loss)                                                        |   | 14,303                        |   | 28,787                                     |   | —                                        |   | —           |   | (28,343          | )      | 14,747 |   |
| Other  comprehensive income (loss)                                          |   |                          |   |                                       |   |                                          |   |             |   |             |   |   |   |
| Foreign  currency translation adjustment                                    |   | 2,066                         |   | 629                                        |   | —                                        |   | —           |   | —           |   | 2,695 |   |
| Change  in cash flow hedges                                                 |   | 1,159                         |   | 1,167                                      |   | —                                        |   | —           |   | —           |   | 2,326 |   |
| Comprehensive  income (loss)                                                |   | $                             | 17,528 |                                       | $      | 30,583                                        |   | $                | — |             | $      | — |   | $ | (28,343 | ) | $ | 19,768 |   |

 

 

**Condensed Consolidating Statements ofEarnings**

**Six months ended June 30, 2002**

**(Unaudited, dollars in thousands)**

 
|                                                                        |   | **Parent**                    |   | **Wholly  owned  Guarantor  Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Eliminations** |   | **Consolidated** |   |
|-----------------------------------------------------------------------------|--------|-------------------------------|--------|--------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|------------------|--------|
| **M-Foods  Dairy,  LLC**                                                    |   | **M-Foods  Dairy  TXCT, LLC** |
| Net  sales                                                                  |   | $                             | — |                                       | $      | 479,276                                       |   | $                | 51,825 |             | $      | 44,477 |   | $ | (7,396 | ) | $ | 568,182 |   |
| Cost  of sales                                                              |   | —                        |   | 384,014                                    |   | 44,905                                        |   | 41,339           |   | (7,396           | )      | 462,862 |   |
| Gross  profit                                                               |   | —                        |   | 95,262                                     |   | 6,920                                         |   | 3,138            |   | —           |   | 105,320 |   |
| Selling,  general and administrative expenses                               |   | 3,721                         |   | 53,261                                     |   | 2,857                                         |   | 1,994            |   | (2,384           | )      | 59,449 |   |
| Operating  profit (loss)                                                    |   | (3,721                        | )      | 42,001                                     |   | 4,063                                         |   | 1,144            |   | 2,384            |   | 45,871 |   |
| Interest  expense, net                                                      |   | 23,300                        |   | 1,604                                      |   | 63                                            |   | 29               |   | —           |   | 24,996 |   |
| Other  income                                                               |   | 2,384                         |   | —                                     |   | —                                        |   | —           |   | (2,384           | )      | — |   |
| Earnings  (loss) before equity in earnings of subsidiaries and income taxes |   | (24,637                       | )      | 40,397                                     |   | 4,000                                         |   | 1,115            |   | —           |   | 20,875 |   |
| Equity  in earnings of subsidiaries                                         |   | 27,662                        |   | 5,115                                      |   | (4,000                                        | )      | (1,115           | )      | (27,662          | )      | — |   |
| Earnings  (loss) before income taxes                                        |   | 3,025                         |   | 45,512                                     |   | —                                        |   | —           |   | (27,662          | )      | 20,875 |   |
| Income  tax expense (benefit)                                               |   | (9,650                        | )      | 17,850                                     |   | —                                        |   | —           |   | —           |   | 8,200 |   |
| Net  earnings (loss)                                                        |   | 12,675                        |   | 27,662                                     |   | —                                        |   | —           |   | (27,662          | )      | 12,675 |   |
| Other  comprehensive income (loss)                                          |   |                          |   |                                       |   |                                          |   |             |   |             |   |   |   |
| Foreign  currency translation adjustment                                    |   | —                        |   | 1,326                                      |   | —                                        |   | —           |   | —           |   | 1,326 |   |
| Change  in cash flow hedges                                                 |   | (2,707                        | )      | 2,445                                      |   | —                                        |   | —           |   | —           |   | (262 | ) |
| Comprehensive  income (loss)                                                |   | $                             | 9,968  |                                       | $      | 31,433                                        |   | $                | — |             | $      | — |   | $ | (27,662 | ) | $ | 13,739 |   |

 

14

----

 

**Condensed Consolidating Statements ofCash Flows**

**Six months ended June 30, 2003**

**(Unaudited, dollars in thousands)**

** **
|                                             |   | **Parent**                    |   | **Wholly  Owned  Guarantor Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Consolidated** |   |
|--------------------------------------------------|--------|-------------------------------|--------|-------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|
| **M-Foods  Dairy,   LLC**                        |   | **M-Foods  Dairy  TXCT, LLC** |
|                                             |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Net  cash provided by operating activities       |   | $                             | 17,193 |                                      | $      | 31,782                                        |   | $                | 6,590  |   | $ | 2,550 |   | $ | 58,115 |   |
|                                             |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Cash  flows from investing activities:           |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Capital  expenditures                            |   | —                        |   | (11,665                                   | )      | (4,186                                        | )      | (508             | )      | (16,359 | ) |
|                                             |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Net  cash used in investing activities           |   | —                        |   | (11,665                                   | )      | (4,186                                        | )      | (508             | )      | (16,359 | ) |
|                                             |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Cash  flows from financing activities:           |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Payments  on long-term debt                      |   | (35,417                       | )      | (362                                      | )      | —                                        |   | (2,400           | )      | (38,179 | ) |
| Distribution  to preferred unit holders          |   | —                        |   | 2,046                                     |   | (2,404                                        | )      | 358              |   | — |   |
| Investment  in subsidiaries                      |   | 24,973                        |   | (24,973                                   | )      | —                                        |   | —           |   | — |   |
| Net  cash used in financing activities           |   | (10,444                       | )      | (23,289                                   | )      | (2,404                                        | )      | (2,042           | )      | (38,179 | ) |
|                                             |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Effect  of exchange rate changes on cash         |   | —                        |   | 96                                        |   | —                                        |   | —           |   | 96 |   |
| Net  increase (decrease) in cash and equivalents |   | 6,749                         |   | (3,076                                    | )      | —                                        |   | —           |   | 3,673 |   |
| Cash  and equivalents at beginning of period     |   | 19,665                        |   | 907                                       |   | —                                        |   | —           |   | 20,572 |   |
| Cash  and equivalents at end of period           |   | $                             | 26,414 |                                      | $      | (2,169                                        | )      | $                | — |   | $ | — |   | $ | 24,245 |   |

 

 

**Condensed Consolidating Statements ofCash Flows**

**Six Months ended June 30, 2002**

**(Unaudited, dollars in thousands)**

** **
|                                            |   | **Parent**                    |   | **Wholly  Owned  Guarantor Subsidiaries** |   | **Non-wholly  owned  Guarantor Subsidiaries** |   | **Consolidated** |   |
|-------------------------------------------------|--------|-------------------------------|--------|-------------------------------------------|--------|-----------------------------------------------|--------|------------------|--------|
| **M-Foods  Dairy,   LLC**                       |   | **M-Foods  Dairy  TXCT, LLC** |
|                                            |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Net  cash provided by operating activities      |   | $                             | 15,431 |                                      | $      | 24,125                                        |   | $                | 4,943  |   | $ | 3,734 |   | $ | 48,233 |   |
|                                            |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Cash  flows from investing activities:          |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Capital  expenditures                           |   | —                        |   | (10,192                                   | )      | (3,124                                        | )      | (947             | )      | (14,263 | ) |
| Investments  in joint ventures and other assets |   | (156                          | )      | 714                                       |   | (161                                          | )      | —           |   | 397 |   |
|                                            |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Net  cash used in investing activities          |   | (156                          | )      | (9,478                                    | )      | (3,285                                        | )      | (947             | )      | (13,866 | ) |
|                                            |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Cash  flows from financing activities:          |   |                          |   |                                      |   |                                          |   |             |   |   |   |
| Payments  on revolving line of credit           |   | (5,000                        | )      | —                                    |   | —                                        |   | —           |   | (5,000 | ) |
| Payments  on long-term debt                     |   | (15,507                       | )      | (150                                      | )      | —                                        |   | (2,400           | )      | (18,057 | ) |
| Distribution  to preferred unit holders         |   | —                        |   | 2,045                                     |   | (1,658                                        | )      | (387             | )      | — |   |
| Investment  in subsidiaries                     |   | 13,599                        |   | (13,599                                   | )      | —                                        |   | —           |   | — |   |
| Net  cash used in financing activities          |   | (6,908                        | )      | (11,704                                   | )      | (1,658                                        | )      | (2,787           | )      | (23,057 | ) |
| Net  increase in cash and equivalents           |   | 8,367                         |   | 2,943                                     |   | —                                        |   | —           |   | 11,310 |   |
| Cash  and equivalents at beginning of period    |   | 33,947                        |   | (6,287                                    | )      | —                                        |   | —           |   | 27,660 |   |
| Cash  and equivalents at end of period          |   | $                             | 42,314 |                                      | $      | (3,344                                        | )      | $                | — |   | $ | — |   | $ | 38,970 |   |

 

15

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M-FOODS DAIRY, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Index to FinancialStatements

 
| Balance Sheets                 |
|--------------------------------|
| Statements  of Earnings        |
| Statements  of Cash Flows      |
| Notes to Financial  Statements |

 

16

----

 

M-FOODS DAIRY, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Condensed Balance Sheets

(Unaudited,dollars in thousands)

 
|                                                       |   | **June 30,  2003** |       | **December  31,  2002** |       |
|------------------------------------------------------------|--------|--------------------|------------|-------------------------|------------|
| **ASSETS**                                                 |   |               | ** ** |                    | ** ** |
| Current  assets                                            |   |               |       |                    |       |
| Accounts  receivable, less allowances                      |   | $                  | 8,456      |                    | $          | 7,836 |   |
| Inventories                                                |   | 3,502              |       | 3,412                   |       |
| Prepaid  expenses and other                                |   | 458                |       | 600                     |       |
| Total  current assets                                      |   | 12,416             |       | 11,848                  |       |
| Property,  plant and equipment                             |   |               |       |                    |       |
| Land                                                       |   | 855                |       | 855                     |       |
| Buildings  and improvements                                |   | 4,748              |       | 4,648                   |       |
| Machinery  and equipment                                   |   | 19,938             |       | 15,852                  |       |
|                                                       |   | 25,541             |       | 21,355                  |       |
| Less  accumulated depreciation                             |   | 4,431              |       | 3,251                   |       |
|                                                       |   | 21,110             |       | 18,104                  |       |
| Other  assets                                              |   |               |       |                    |       |
| Goodwill                                                   |   | 1,763              |       | 1,763                   |       |
| Other  assets                                              |   | 116                |       | 139                     |       |
|                                                       |   | 1,879              |       | 1,902                   |       |
|                                                       |   | $                  | 35,405     |                    | $          | 31,854 |   |
|                                                       |   |               |       |                    |       |
| **LIABILITIES  AND UNIT HOLDER AND OPERATING UNIT EQUITY** |   |               |       |                    |       |
| Current  liabilities                                       |   |               |       |                    |       |
| Accounts  payable                                          |   | $                  | 3,386      |                    | $          | 2,836 |   |
| Accrued  liabilities                                       |   |               |       |                    |       |
| Compensation                                               |   | 734                |       | 841                     |       |
| Insurance                                                  |   | 126                |       | 144                     |       |
| Customer  programs                                         |   | 1,246              |       | 884                     |       |
| Other                                                      |   | 611                |       | 483                     |       |
| Total  current liabilities                                 |   | 6,103              |       | 5,188                   |       |
|                                                       |   |               |       |                    |       |
| Commitments  and contingencies                             |   | —             |       | —                  |       |
| Preferred  unit holder return payable                      |   | 17,482             |       | 12,442                  |       |
| Unit  holder equity                                        |   | 11,820             |       | 14,224                  |       |
|                                                       |   | $                  | 35,405     |                    | $          | 31,854 |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

17

----

 

M-FOODS DAIRY, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Condensed Statements ofEarnings

For the threemonths ended June 30,

(Unaudited,dollars in thousands)

 
|                                          |   | **2003** |   | **2002** |   |
|-----------------------------------------------|--------|----------|--------|----------|--------|
| Net  sales                                    |   | $        | 28,254 |     | $      | 27,975 |   |
|                                          |   |     |   |     |   |
| Cost  of sales                                |   | 23,649   |   | 24,277   |   |
|                                          |   |     |   |     |   |
| Gross  profit                                 |   | 4,605    |   | 3,698    |   |
|                                          |   |     |   |     |   |
| Selling,  general and administrative expenses |   | 1,415    |   | 1,442    |   |
|                                          |   |     |   |     |   |
| Operating  profit                             |   | 3,190    |   | 2,256    |   |
|                                          |   |     |   |     |   |
| Other  expense                                |   | 10       |   | 35       |   |
|                                          |   |     |   |     |   |
| Net  earnings                                 |   | $        | 3,180  |     | $      | 2,221 |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

18

----

 

M-FOODS DAIRY, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

CondensedStatements of Earnings

For the six monthsended June 30,

(Unaudited, dollarsin thousands)

 
|                                          |   | **2003** |   | **2002** |   |
|-----------------------------------------------|--------|----------|--------|----------|--------|
| Net  sales                                    |   | $        | 52,674 |     | $      | 51,825 |   |
|                                          |   |     |   |     |   |
| Cost  of sales                                |   | 44,480   |   | 44,905   |   |
|                                          |   |     |   |     |   |
| Gross  profit                                 |   | 8,194    |   | 6,920    |   |
|                                          |   |     |   |     |   |
| Selling,  general and administrative expenses |   | 3,112    |   | 2,857    |   |
|                                          |   |     |   |     |   |
| Operating  profit                             |   | 5,082    |   | 4,063    |   |
|                                          |   |     |   |     |   |
| Other  expense                                |   | 42       |   | 63       |   |
|                                          |   |     |   |     |   |
| Net  earnings                                 |   | $        | 5,040  |     | $      | 4,000 |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

19

----

 

M-FOODS DAIRY, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Condensed Statements ofCash Flows

For the Six Monthsended June 30,

(Unaudited,dollars in thousands)

 
|                                             |   | **2003** |   | **2002** |   |
|--------------------------------------------------|--------|----------|--------|----------|--------|
| Net  cash provided by operating activities       |   | $        | 6,590  |     | $      | 4,943 |   |
|                                             |   |     |   |     |   |
| Cash  flows from investing activities:           |   |     |   |     |   |
| Capital  expenditures                            |   | (4,186   | )      | (3,124   | )      |
| Investments  in joint ventures and other assets  |   | —   |   | (161     | )      |
|                                             |   |     |   |     |   |
| Net  cash used in investing activities           |   | (4,186   | )      | (3,285   | )      |
|                                             |   |     |   |     |   |
| Cash  flows from financing activities:           |   |     |   |     |   |
| Dividends  paid to Michael Foods, Inc.           |   | (2,404   | )      | (1,658   | )      |
|                                             |   |     |   |     |   |
| Net  cash used in financing activities           |   | (2,404   | )      | (1,658   | )      |
|                                             |   |     |   |     |   |
| Net  increase (decrease) in cash and equivalents |   | —   |   | —   |   |
|                                             |   |     |   |     |   |
| Cash  and equivalents at beginning of period     |   | —   |   | —   |   |
|                                             |   |     |   |     |   |
| Cash  and equivalents at end of period           |   | $        | — |     | $      | — |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

20

----

 

M-FOODS DAIRY, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Notes to Condensed FinancialStatements

Unaudited

 

NOTE A—2001 MERGER

 

On April 10, 2001,Michael Foods, Inc. and its subsidiaries (“Michael Foods”, “Company”, “we”,“us”, “our”) was acquired in a transaction (the “Merger”) led by an investorgroup comprised of a management group led by Michael Foods’ Chairman, Presidentand Chief Executive Officer, Gregg Ostrander; affiliates of Jeffrey Michael, amember of the board of directors; and affiliates of two private equity investmentfirms, Vestar Capital Partners and Goldner Hawn Johnson & MorrisonIncorporated, (collectively, “M-Foods Investors, LLC”). Michael Foods, Inc. isa wholly-owned subsidiary of M-Foods Holdings, Inc., which is a wholly-ownedsubsidiary of M-Foods Investors, LLC. Under the terms of the Merger agreement,all outstanding shares of Michael Foods common stock were converted into theright to receive $30.10 per share in cash, or value equal thereto, and alloutstanding stock options were converted into the right to receive, in cash,$30.10 per share reduced by the exercise price per share for all shares subjectto such stock options. The purchase of the outstanding shares was financedthrough equity financing of approximately $175,000,000, a senior secured creditfacility of up to $470,000,000 at market-based variable interest rates, and$200,000,000 of senior subordinated notes at an 11.75% annual interest rate. Asa result of the Merger, the stock of pre-merger Michael Foods (“Predecessor”)is no longer publicly traded and, therefore, earnings per share calculationsare no longer included for financial statement presentation.

 

Immediately after theclose of the Merger, we contributed the assets of our Dairy Products Divisioninto two limited liability companies, M-Foods Dairy, LLC and M-Foods DairyTXCT, LLC (collectively, the “Dairy LLCs”) and in exchange received votingpreferred and voting common units from these entities equal to the fair valueof the net assets contributed, which collectively was approximately$35,800,000. The preferred units issued to us by the Dairy LLCs have an annual10% preferred return guarantee and represent 100% of the preferred units issuedand outstanding. In addition, we received 5% of the common units issued by theDairy LLCs, with the common units held by the Company representing 100% of thevoting common units issued and outstanding. These common units have a statedvalue of $25,000. The remaining 95% of the common units, which are non-voting,are owned by M-Foods Dairy Holdings, LLC, another entity which is owned by thesame owners or affiliates of such owners, in the same proportion, as the unitholders of M-Foods Investors, LLC. The common unit interests owned by M-FoodsDairy Holdings, LLC were issued in exchange for $475,000 and are reflected asnon-controlling interest in the accompanying consolidated balance sheet.  See also Note D.

 

The 2001 Merger wasaccounted for as a purchase in accordance with Accounting Principles BoardOpinion 16, *BusinessCombinations* and Emerging Issues Task Force Issue No. 88-16, *Basis inLeveraged Buyout Transactions*. Accordingly, the acquired assets andliabilities have been recorded at fair value for the interests acquired by newinvestors and at the carryover basis for continuing investors. As a result, theassets and liabilities were assigned new values, which are part Predecessorcost and part fair value in the same proportions as the carryover basis of theresidual interests retained by the continuing management investors andcontinuing affiliate investors of the Michael family, and the new interestsacquired by the new investors. The amount of carryover basis was reflected as adeemed dividend of $66,631,000.

 

NOTE B — BASIS OFPRESENTATION

 

The accompanyingunaudited financial statements and footnote information of the Company as ofand for the three and six month periods ended June 30, 2003 and 2002 have beenprepared in accordance with Regulation S-X pursuant to the rules andregulations of the SEC using the adjusted cost basis of assets and liabilitiesof the Company.  Certain information andfootnote disclosures normally included in financial statements prepared inaccordance with generally accepted accounting principals have been condensed oromitted pursuant to such rules and regulations.  In the opinion of management, the unaudited financial statementscontain all adjustments (consisting of only normal recurring adjustments)necessary to present fairly the results of operations and cash flows for theperiods indicated.  For the period endedJune 30, 2003, the Operating Unit’s financial statements include an allocationfor general and administrative costs of approximately $1,266 incurred byMichael Foods.  Management believes itsallocations to these Operating Unit financial statements are reasonable.  Additionally, Operating Unit equity includesthe cumulative net advances between the Operating Unit and Michael Foods, whichare considered additional capital invested from or, constructive dividends to,Michael Foods.  Accordingly, the accompanyingfinancial statements may not necessarily be indicative of the results thatcould have been obtained if the Operating Unit had been operated as astand-alone entity.  The historicalresults of the Company for the periods indicated are not necessarily indicativeof the results expected for the full year.

 

These unaudited interimfinancial statements should be read in conjunction with our financialstatements and notes thereto, contained in our Annual Report on Form 10-K forthe fiscal year ended December 31, 2002.

 

21

----

 

NOTE C — ORGANIZATION ANDBUSINESS

 

Organization

M-Foods Dairy, LLC (the“Company” or “Operating Unit”) is a majority owned subsidiary of Michael Foods,Inc., a wholly owned subsidiary of M-Foods Holdings, Inc.

 

Business

The Company processes anddistributes soft serve ice cream mix, frozen yogurt mix, milk, creamers andother specialty dairy products, many of which are ultra-high temperaturepasteurized, from its facility in Minnesota.

 

NOTE D – SALE OF THECOMPANY

 

In May 2003, we signed aletter of intent for the sale of our dairy products division operating segment,which includes M-Foods Dairy, LLC, to Dean Foods Company.  The dairy products division is substantiallymade up of the assets of M-Foods Dairy, LLC and M-Foods Dairy TXCT, LLC.  The transaction is expected to close duringthe third quarter of 2003.  Completionof the transaction is dependent upon several items, including completion of duediligence, execution of a securities purchase agreement, approval by bothcompanies’ Boards of Directors, and regulatory approval.

 

NOTE E — INVENTORIES

 

Inventories are stated atthe lower of cost (determined on a first-in, first-out basis) or market.

 

Inventories consisted ofthe following (dollars in thousands):

 
|                                |   | **June 30,  2003** |   | **December  31,  2002** |   |
|-------------------------------------|--------|--------------------|--------|-------------------------|--------|
| Raw  materials and supplies         |   | $                  | 1,639  |                    | $      | 1,682 |   |
| Work  in process and finished goods |   | 1,863              |   | 1,730                   |   |
|                                |   | $                  | 3,502  |                    | $      | 3,412 |   |

 

NOTE F — INCOME TAXES

 

The Company is a limited liability company and, accordingly, noprovision or liability for U.S. income taxes is reflected in the Company’sfinancial statements.  The U.S. taxableincome of the Company and related deductions are allocated to and reported inthe individual income tax returns of the owners of the Company.

 

NOTE G — COMMITMENTS ANDCONTINGENCIES

 

Litigation

The Company is engaged inroutine litigation incidental to its business. Management believes the ultimate outcome of this litigation will nothave a material effect on the Operating Unit’s financial position, liquidity orresults of operations.

 

22

----

 

M-FOODS DAIRYTXCT, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Index to FinancialStatements

 
| Balance  Sheets                |
|--------------------------------|
| Statements  of Earnings        |
| Statements of Cash  Flows      |
| Notes to Financial  Statements |

 

23

----

 

M-FOODS DAIRY TXCT, LLC

(A Majority Owned Subsidiary of Michael Foods, Inc.)

CondensedBalance Sheets

(Unaudited, dollars in thousands)

 
|                                                         |   | **June 30,  2003** |   | **December  31,  2002** |   |
|--------------------------------------------------------------|--------|--------------------|--------|-------------------------|--------|
| **ASSETS**                                                   |   |               |   |                    |   |
| Current assets                                               |   |               |   |                    |   |
| Accounts receivable                                          |   | $                  | 6,248  |                    | $      | 4,399 |   |
| Inventories                                                  |   | 3,758              |   | 4,019                   |   |
| Prepaid expenses and other                                   |   | 67                 |   | 65                      |   |
| Total current assets                                         |   | 10,073             |   | 8,483                   |   |
| Property, plant and equipment                                |   |               |   |                    |   |
| Leasehold improvements                                       |   | 3,176              |   | 3,176                   |   |
| Machinery and equipment                                      |   | 12,300             |   | 11,792                  |   |
|                                                         |   | 15,476             |   | 14,968                  |   |
| Less accumulated depreciation                                |   | 4,788              |   | 3,588                   |   |
|                                                         |   | 10,688             |   | 11,380                  |   |
| Other assets                                                 |   |               |   |                    |   |
| Non-compete agreement, net                                   |   | 264                |   | 529                     |   |
|                                                         |   | $                  | 21,025 |                    | $      | 20,392 |   |
|                                                         |   |               |   |                    |   |
| **LIABILITIES AND UNIT HOLDER AND****OPERATING UNIT EQUITY** |   |               |   |                    |   |
| Current liabilities                                          |   |               |   |                    |   |
| Current maturities of non-compete commitment                 |   | $                  | — |                    | $      | 2,400 |   |
| Accounts payable                                             |   | 4,668              |   | 2,873                   |   |
| Accrued liabilities                                          |   |               |   |                    |   |
| Compensation                                                 |   | 206                |   | 250                     |   |
| Insurance                                                    |   | 6                  |   | 1                       |   |
| Customer programs                                            |   | 424                |   | 240                     |   |
| Other                                                        |   | 482                |   | 555                     |   |
| Total current liabilities                                    |   | 5,786              |   | 6,319                   |   |
|                                                         |   |               |   |                    |   |
| Commitments and contingencies                                |   | —             |   | —                  |   |
| Preferred unit holder return payable                         |   | 5,536              |   | 4,728                   |   |
| Unit holder and operating unit equity                        |   | 9,703              |   | 9,345                   |   |
|                                                         |   | $                  | 21,025 |                    | $      | 20,392 |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

24

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M-FOODS DAIRY TXCT, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

CondensedStatements of Earnings

For the threemonths ended June 30,

(Unaudited, dollars in thousands)

 
|                                          |   | **2003** |   | **2002** |   |
|-----------------------------------------------|--------|----------|--------|----------|--------|
| Net  sales                                    |   | $        | 24,055 |     | $      | 25,147 |   |
|                                          |   |     |   |     |   |
| Cost  of sales                                |   | 21,949   |   | 22,852   |   |
|                                          |   |     |   |     |   |
| Gross  profit                                 |   | 2,106    |   | 2,295    |   |
|                                          |   |     |   |     |   |
| Selling,  general and administrative expenses |   | 1,290    |   | 976      |   |
|                                          |   |     |   |     |   |
| Operating  profit                             |   | 816      |   | 1,319    |   |
|                                          |   |     |   |     |   |
| Other  expense                                |   | 6        |   | 24       |   |
|                                          |   |     |   |     |   |
| Net  earnings                                 |   | $        | 810    |     | $      | 1,295 |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

25

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M-FOODS DAIRYTXCT, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

CondensedStatements of Earnings

For the six monthsended June 30,

(Unaudited, dollars in thousands)

 
|                                          |   | **2003** |   | **2002** |   |
|-----------------------------------------------|--------|----------|--------|----------|--------|
| Net  sales                                    |   | $        | 40,265 |     | $      | 44,477 |   |
|                                          |   |     |   |     |   |
| Cost  of sales                                |   | 37,492   |   | 41,339   |   |
|                                          |   |     |   |     |   |
| Gross  profit                                 |   | 2,773    |   | 3,138    |   |
|                                          |   |     |   |     |   |
| Selling,  general and administrative expenses |   | 2,244    |   | 1,994    |   |
|                                          |   |     |   |     |   |
| Operating  profit                             |   | 529      |   | 1,144    |   |
|                                          |   |     |   |     |   |
| Other  expense (income)                       |   | (13      | )      | 29       |   |
|                                          |   |     |   |     |   |
| Net  earnings                                 |   | $        | 542    |     | $      | 1,115 |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

26

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M-FOODS DAIRYTXCT, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Condensed Statements ofCash Flows

For the six monthsended June 30,

(Unaudited, dollars in thousands)

 
|                                             |   | **2003** |   | **2002** |   |
|--------------------------------------------------|--------|----------|--------|----------|--------|
|                                             |   |     |   |     |   |
| Net  cash provided by operating activities       |   | $        | 2,550  |     | $      | 3,734 |   |
|                                             |   |     |   |     |   |
| Cash  flows from investing activities:           |   |     |   |     |   |
| Capital  expenditures                            |   | (508     | )      | (947     | )      |
|                                             |   |     |   |     |   |
| Net  cash used in investing activities           |   | (508     | )      | (947     | )      |
|                                             |   |     |   |     |   |
| Cash  flows from financing activities:           |   |     |   |     |   |
| Payments  on long-term debt                      |   | (2,400   | )      | (2,400   | )      |
| Dividends  paid to Michael Foods, Inc.           |   | 358      |   | (387     | )      |
| Net  cash used in financing activities           |   | (2,042   | )      | (2,787   | )      |
|                                             |   |     |   |     |   |
| Net  increase (decrease) in cash and equivalents |   | —   |   | —   |   |
|                                             |   |     |   |     |   |
| Cash  and equivalents at beginning of period     |   | —   |   | —   |   |
|                                             |   |     |   |     |   |
| Cash  and equivalents at end of period           |   | $        | — |     | $      | — |   |

 

The accompanying notesare an integral part of the unaudited condensed financial statements.

 

27

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M-FOODS DAIRYTXCT, LLC

(A Majority OwnedSubsidiary of Michael Foods, Inc.)

Notes to CondensedFinancial Statements

Unaudited

NOTE A—2001 MERGER

 

On April 10, 2001,Michael Foods, Inc. and its subsidiaries (“Michael Foods”, “Company”, “we”,“us”, “our”) was acquired in a transaction (the “Merger”) led by an investorgroup comprised of a management group led by Michael Foods’ Chairman, Presidentand Chief Executive Officer, Gregg Ostrander; affiliates of Jeffrey Michael, amember of the board of directors; and affiliates of two private equityinvestment firms, Vestar Capital Partners and Goldner Hawn Johnson &Morrison Incorporated, (collectively, “M-Foods Investors, LLC”). Michael Foods,Inc. is a wholly-owned subsidiary of M-Foods Holdings, Inc., which is awholly-owned subsidiary of M-Foods Investors, LLC. Under the terms of theMerger agreement, all outstanding shares of Michael Foods common stock wereconverted into the right to receive $30.10 per share in cash, or value equalthereto, and all outstanding stock options were converted into the right toreceive, in cash, $30.10 per share reduced by the exercise price per share forall shares subject to such stock options. The purchase of the outstandingshares was financed through equity financing of approximately $175,000,000, asenior secured credit facility of up to $470,000,000 at market-based variableinterest rates, and $200,000,000 of senior subordinated notes at an 11.75%annual interest rate. As a result of the Merger, the stock of pre-mergerMichael Foods (“Predecessor”) is no longer publicly traded and, therefore,earnings per share calculations are no longer included for financial statementpresentation.

 

Immediately after theclose of the Merger, we contributed the assets of our Dairy Products Divisioninto two limited liability companies, M-Foods Dairy, LLC and M-Foods DairyTXCT, LLC (collectively, the “Dairy LLCs”) and in exchange received votingpreferred and voting common units from these entities equal to the fair valueof the net assets contributed, which collectively was approximately$35,800,000. The preferred units issued to us by the Dairy LLCs have an annual10% preferred return guarantee and represent 100% of the preferred units issuedand outstanding. In addition, we received 5% of the common units issued by theDairy LLCs, with the common units held by the Company representing 100% of thevoting common units issued and outstanding. These common units have a statedvalue of $25,000. The remaining 95% of the common units, which are non-voting,are owned by M-Foods Dairy Holdings, LLC, another entity which is owned by thesame owners or affiliates of such owners, in the same proportion, as the unitholders of M-Foods Investors, LLC. The common unit interests owned by M-FoodsDairy Holdings, LLC were issued in exchange for $475,000 and are reflected asnon-controlling interest in the accompanying consolidated balance sheet.  See also Note D.

 

The 2001 Merger wasaccounted for as a purchase in accordance with Accounting Principles BoardOpinion 16, *BusinessCombinations* and Emerging Issues Task Force Issue No. 88-16, *Basis inLeveraged Buyout Transactions*. Accordingly, the acquired assets andliabilities have been recorded at fair value for the interests acquired by newinvestors and at the carryover basis for continuing investors. As a result, theassets and liabilities were assigned new values, which are part Predecessorcost and part fair value in the same proportions as the carryover basis of theresidual interests retained by the continuing management investors andcontinuing affiliate investors of the Michael family, and the new interestsacquired by the new investors. The amount of carryover basis was reflected as adeemed dividend of $66,631,000.

 

NOTE B — BASIS OFPRESENTATION

 

The accompanyingunaudited financial statements and footnote information of the Company as ofand for the three and six month periods ended June 30, 2003 and 2002 have beenprepared in accordance with Regulation S-X pursuant to the rules andregulations of the SEC using the adjusted cost basis of assets and liabilitiesof the Company. Certain information and footnote disclosures normally includedin financial statements prepared in accordance with generally acceptedaccounting principals have been condensed or omitted pursuant to such rules andregulations.  In the opinion ofmanagement, the unaudited financial statements contain all adjustments(consisting of only normal recurring adjustments) necessary to present fairlythe results of operations and cash flows for the periods indicated.  For the period ended June 30, 2003, theOperating Unit’s financial statements include an allocation for general andadministrative costs of approximately $955 incurred by Michael Foods.  Management believes its allocations to theseOperating Unit financial statements are reasonable.  Additionally, Operating Unit equity includes the cumulative netadvances between the Operating Unit and Michael Foods, which are considered additionalcapital invested from or, constructive dividends to, Michael Foods.  Accordingly, the accompanying financialstatements may not necessarily be indicative of the results that could havebeen obtained if the Operating Unit had been operated as a stand-aloneentity.  The historical results of theCompany for the periods indicated are not necessarily indicative of the resultsexpected for the full year.

 

These unaudited interimfinancial statements should be read in conjunction with our financial statementsand notes thereto, contained in our Annual Report on Form 10-K for the fiscalyear ended December 31, 2002.

 

NOTE C — ORGANIZATION ANDBUSINESS

 

Organization

M-Foods Dairy TXCT, LLC(the “Company” or “Operating Unit”) is a majority owned subsidiary of MichaelFoods, Inc., a wholly owned subsidiary of M-Foods Holdings, Inc.

 

28

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Business

The Company processes anddistributes soft serve ice cream mix, frozen yogurt mix, milk, creamers andother specialty dairy products, many of which are ultra-high temperaturepasteurized, from its facilities in Texas and Connecticut.

 

NOTE D – SALE OF THECOMPANY

 

In May 2003, we signed aletter of intent for the sale of our dairy products division operating segment,which includes M-Foods Dairy TXCT, LLC, to Dean Foods Company.  The dairy products division is substantiallymade up of the assets of M-Foods Dairy, LLC and M-Foods Dairy TXCT, LLC.  The transaction is expected to close duringthe third quarter of 2003.  Completionof the transaction is dependent upon several items, including completion of duediligence, execution of a securities purchase agreement, approval by bothcompanies’ Boards of Directors, and regulatory approval.

 

NOTE E – INVENTORIES

 

Inventories are stated atthe lower of cost (determined on a first-in, first-out basis) or market.

 

Inventories consisted ofthe following (dollars in thousands):

 
|                                |   | **June 30,  2003** |   | **December  31,  2002** |   |
|-------------------------------------|--------|--------------------|--------|-------------------------|--------|
| Raw  materials and supplies         |   | $                  | 2,017  |                    | $      | 3,014 |   |
| Work  in process and finished goods |   | 1,741              |   | 1,005                   |   |
|                                |   | $                  | 3,758  |                    | $      | 4,019 |   |

 

NOTE F — NON-COMPETEAGREEMENT AND COMMITMENT

 

During 1999, as part ofthe consideration for its Connecticut dairy asset purchase, the Operating Unitentered into a $12 million non-compete agreement.  Under the agreement, the Operating Unit agreed to make five annual$2.4 million payments beginning in 1999. As of June 30, 2003 the commitment has been fulfilled.

 

Ouracquired intangible non-compete asset that has been determined to have adefinite life and continues to be amortized as of June 30, 2003 is as follows(dollars in thousands):

 
|        |   | **Gross Carrying  Amount** |   | **Accumulated  Amortization** |   |
|-------------|--------|----------------------------|--------|-------------------------------|--------|
| Non-compete |   | $                          | 1,398  |                          | $      | (1,134 | ) |
|             |        |                            |        |                               |        |  |  |

 

NOTE G — INCOME TAXES

 

The Company is a limitedliability company and, accordingly, no provision or liability for U.S. incometaxes is reflected in the Company’s financial statements.  The U.S. taxable income of the Company andrelated deductions are allocated to and reported in the individual income taxreturns of the owners of the Company.

 

NOTE H — COMMITMENTS ANDCONTINGENCIES

 

Litigation

The Company is engaged inroutine litigation incidental to its business. Management believes the ultimate outcome of this litigation will nothave a material effect on the Operating Unit’s financial position, liquidity orresults of operations.

 

29

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**ITEM 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS**

 

GENERAL

 

Michael Foods, Inc. and its subsidiaries (the“Company”, “we”, “us”, “our”) is a diversified producer and distributor of foodproducts in four areas - egg products, refrigerated distribution, dairyproducts, and potato products. We believe, through our Egg Products Division,we are the largest producer of processed egg products in North America. TheRefrigerated Distribution Division distributes a broad line of refrigeratedgrocery products to retail grocery outlets, including cheese, shell eggs,bagels, butter, margarine, muffins, potato products, juice and ethnicfoods.  The Dairy Products Divisionprocesses and distributes soft-serve mix, ice cream mix, and extendedshelf-life ultrapasteurized milk, creamers and other specialty dairy productsto domestic quick service businesses and other foodservice outlets, ice creammanufacturers and others.  We have anagreement to sell the Dairy Products Division and we expect the transaction toclose in the third quarter of 2003 (see Note D to the financial statements).  The Potato Products Division processes anddistributes refrigerated potato products sold to the foodservice and retailgrocery markets in the United States. Please see Note H to our consolidatedfinancial statements for additional information about our business segments.

 

Our strategy is to grow value-added food productsales, primarily in the foodservice market, by focusing on developing,marketing and distributing innovative, refrigerated products. The key to thisstrategy is “value-added”, whether that is in the product, the distribution channelor in the service provided to customers.

 

THREE MONTHS ENDED JUNE30, 2003 AS COMPARED TO THREE MONTHS ENDED JUNE 30, 2002

 

RESULTS OF OPERATIONS

 

Readers are directed toNote H - Business Segments for data on the unaudited financial results of ourfour business segments for the three months ended June 30, 2003 and June 30,2002.

 

Net sales for the 2003period were $323.9 million, an increase of 12%, compared to net sales of $289.8million in the 2002 period***. ***Net salesincreased because of the factors discussed in the below divisional reviews, butwere higher in the 2003 period due largely to significant sales growth at ourlargest division, Egg Products, which saw strong unit sales growth and thepositive impact of the Canadian company acquired in 2002.

 

Egg Products Divisionexternal net sales for the 2003 period increased $27.3 million, or 17%, to$189.2 million****from $161.9 million in the 2002 period.  Net sales reflected increased unit salesfrom core operations, related to increased sales efforts which increased marketpenetration, and the impact of an egg products acquisition (see Note C to thefinancial statements). Unit sales rose in all categories, except for frozenitems and shell eggs.  Frozen productsales declined due to our decision to not pursue unprofitable sales and shellegg units declined as part of our on-going plan to reduce thiscommodity-sensitive business over time. Unit sales rose 9% for higher value-added items.  Graded shell egg prices increasedapproximately 24% compared to second quarter 2002 levels, as reported by UrnerBarry Publications - a widely quoted industry pricing service.  Related egg market increases raised the costof purchased eggs, which was not fully reflected in our selling prices,reducing margins for many of our egg products.

 

Approximately two-thirdsof the Egg Products Division’s annual egg needs are purchased under contractsor in the spot market. A substantial majority of these eggs are pricedaccording to the cost of grain inputs or to egg market prices as reported byUrner Barry. Approximately one-third of annual egg needs are sourced frominternal flocks, where feed costs typically represent roughly two-thirds of thecost of producing such eggs. Feed costs were moderately higher in the 2003period compared to the 2002 period, particularly for corn, which increased byroughly one-fourth.  Because of higheropen market egg costs and higher feed costs, overall egg costs increasedsignificantly in the 2003 period as compared to the 2002 period.  Operating earnings for the 2003 periodincluded a gain of approximately $1.6 million from a partial settlement oflitigation.  Overall, the Division’soperating earnings decreased by approximately $0.6 million in the 2003 period.

 

Refrigerated DistributionDivision external net sales for the 2003 period increased $6.7 million, or 12%,to $63.9 million from $57.2 million in the 2002 period. Net sales reflectedsignificantly higher unit sales for distributed products and slightly lowerprices, related to market conditions, for the key product categories of cheeseand butter. Also, both unit sales and average selling prices rose for shell

eggs. The shift of theimportant Easter selling period from 2002’s first quarter to 2003’s secondquarter accounted for some of the improvement in both distributed productssales and shell egg sales, particularly the latter. Divisional operatingearnings increased by approximately $2.2 million, with the important cheesecategory accounting for much of the improvement. Cheese unit sales rose year-over-year,while a decline in product costs, combined with favorable wholesale pricepoints, allowed for gross margin and operating earnings expansion. Also, weincreased the allowance for doubtful accounts in the 2003 period byapproximately $1.4 million in recognition of the bankruptcy filing by amajor customer.

 

30

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Dairy Products Divisionexternal net sales for the 2003 period decreased $0.8 million, or 2%, to $52.3million from $53.1 million in the 2002 period. Net sales reflected slightly lower unit sales, reflecting lower cartonedproduct sales that were not fully offset by unit sales gain from creamers.Selling prices during the 2003 period modestly exceeded 2002 periodlevels.  Ingredient and production costscompared favorably to those experienced in 2002.  This caused operating earnings to increase by approximately $1.0million in the 2003 period.

 

Potato Products Divisionexternal net sales for the 2003 period increased $1.0 million, or 6%, to $18.5million from $17.5 million in the 2002 period. Net sales reflected modest increases in both volume and sellingprices.  Sales were particularly strongfor mashed items – both at retail and at foodservice. Mashed unit sales, intotal, rose over 20% year-over-year. New account activity, same-account salesgrowth, expanded distribution and higher marketing spending levels allcontributed to the sales gain. Operating earnings for the 2003 period decreased approximately $0.2million due to lower processing yields, which resulted from a lower quality2002 potato harvest, and increased sales and marketing spending related toraising customer awareness of our mashed potato products.

 

Gross profit in the 2003period increased****$3.2 million, or 6%, to $57.4 million from $54.2 million inthe 2002 period.  Our gross profitmargin was 17.7% of net sales in the 2003 period compared to 18.7% in the 2002period.  The decrease in our grossprofit margin for the 2003 period compared to the 2002 period reflected the factorsdiscussed above, particularly increased raw material costs in the Egg Productsand Potato Products divisions. It is our strategy to increase value-addedproduct sales as a percent of total sales over time, while decreasingcommodity-sensitive products’ contribution to consolidated sales. These effortshistorically have been beneficial to gross profit margins in most periods.

 

Selling, general andadministrative expenses in the 2003 period increased $1.1 million, or 4%, to$30.9 million from $29.8 million in the 2002 period and reflected the partiallitigation settlement gain  noted above.** **Such expenses were 9.5% of netsales in the 2003 period compared to 10.3% of net sales in the 2002 period, andwere reflective of the relatively strong sales growth we achieved, our costcontrol efforts across all divisions and the approximate $1.6 millionlitigation gain.

 

Operating profit in the2003 period increased $2.1 million, or 9%, to $26.5 from $24.4 million in the2002 period., with approximately $1.6 million of the increase related to thelitigation settlement.  Our operatingprofit margin was 8.2% of net sales in the 2003 period compared to 8.4% in the2002 period.  The decline in grossprofit margin more than offset the improvements seen in selling, general andadministrative expenses in the 2003 period, resulting in the lower operatingprofit margin.

 

Interest expense declinedslightly in the 2003 period, reflecting lower debt levels and lower short-terminterest rates.  Our tax rate declinedto 38.5% from 39.3% due to higher income levels and the implementation of taxplanning strategies.

 

SIX MONTHS ENDED JUNE 30, 2003AS COMPARED TO SIX MONTHS ENDED JUNE 30, 2002

 

RESULTS OF OPERATIONS

 

Readers are directed toNote H - Business Segments for data on the unaudited financial results of ourfour business segments for the six months ended June 30, 2003 and June 30,2002.

 

Net sales for the 2003period were **$**622.1 million, an increase of 10%, compared to net sales of$568.2 million in the 2002 period***. ***Net salesincreased because of the factors discussed in the below divisional reviews, butwere higher in the 2003 period due largely to significant sales growth at ourlargest division, Egg Products, which saw strong unit sales growth and thepositive impact of a 2002 acquisition.

 

Egg Products Divisionexternal net sales for the 2003 period increased $50.7 million, or 16%, to$367.8 million from $317.1 million in the 2002 period.  Sales reflected increased unit sales fromcore operations and the sales impact of a Canadian egg products companyacquisition (see Note C to the financial statements). Unit sales rose in allcategories, except for frozen items, and rose 8% for higher value-addeditems.  Graded shell egg prices increasedapproximately 17% compared to first half 2002 levels, as reported by UrnerBarry. Related egg market increases raised the cost of purchased eggs, whichwas not fully reflected in our selling prices, reducing margins for many of ouregg products.

 

31

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Approximately two-thirdsof the Egg Products Division’s annual egg needs are purchased under contractsor in the spot market. A substantial majority of these eggs are pricedaccording to the cost of grain inputs or to egg market prices as reported byUrner Barry. Approximately one-third of annual egg needs are sourced frominternal flocks, where feed costs typically represent roughly two-thirds of thecost of producing such eggs. Feed costs were moderately higher in the 2003period compared to the 2002 period, particularly for corn, which increased bynearly 30%. Because of higher open market egg prices and higher feed costs,overall egg costs increased significantly in the 2003 period as compared to the2002 period. As a result, the Division’s operating earnings decreased by $2.4million in the 2003 period. Operating earnings for the 2003 period included again of approximately $2.7 million from the partial settlements of twolitigation matters.

 

Refrigerated DistributionDivision external net sales for the 2003 period increased $5.1 million, or 4%,to $125.3 million from $120.2 million in the 2002 period.  Net sales reflected higher unit sales fordistributed products and lower prices, related to market conditions, for thekey product categories of cheese and butter. However, shell egg average sellingprices rose significantly, reflecting market conditions. Divisional operatingearnings increased by approximately $4.3 million, with the important cheesecategory accounting for much of the improvement. Cheese unit sales roseyear-over-year, while a decline in product costs, combined with favorablewholesale price points, allowed for gross margin and operating earningsimprovements. Also, we increased the allowance for doubtful accounts in the2003 period by approximately $1.7 million in recognition of the bankruptcyfiling by a major customer.

 

Dairy Products Divisionexternal net sales for the 2003 period decreased $3.4 million, or 4%, to $92.9million from $96.3 million in the 2002 period. Net sales reflected slightlylower unit sales, due to lower cartoned product sales, related to a customerdiversifying its supplier base, that were not fully offset by unit sales gainsfrom creamers. Pricing was comparable to 2002 period levels. Ingredient costsimproved related to national dairy market conditions.  Also, production costs were more favorable than those experiencedin 2002.  These factors caused operatingearnings to increase by approximately $1.0 million from 2002 period levels.

 

Potato Products Divisionexternal net sales for the 2003 period increased $1.6 million, or 5%, to $36.2million****from$34.6 million in the 2002 period. Net sales reflected modest increases in bothvolume and selling prices.  Sales wereparticularly strong for mashed items – both at retail and at foodservice.Mashed unit sales, in total, rose over 20% year-over-year. New accountactivity, same-account sales growth, expanded distribution and higher marketingspending levels all contributed to the sales gain.  Operating earnings for the 2003 period decreased approximately$0.8 million due to lower processing yields, which resulted from a lowerquality 2002 potato harvest, and increased sales and marketing spending relatedto raising customer awareness of our mashed potato products.

 

Gross profit in the 2003period increased $3.0 million, or 3%, to $108.3 million from $105.3 million inthe 2002 period.  Our gross profitmargin was 17.4% of net sales in the 2003 period compared to 18.5% in the 2002period.  The decrease in our gross profitmargin for the 2003 period compared to the 2002 period reflected the factorsdiscussed above, particularly increased raw material costs in the Egg Productsand Potato Products divisions. It is our strategy to increase value-addedproduct sales as a percent of total sales over time, while decreasingcommodity-sensitive products’ contribution to consolidated sales. These effortshistorically have been beneficial to gross profit margins in most periods.

 

Selling, general andadministrative expenses in the 2003 period increased $0.9 million, or 1%, to$60.3 million from $59.4 million in the 2002 period and reflected the partiallitigation settlements gain noted above. Such expenses were 9.7% of net sales in the 2003 period compared to10.5% of net sales in the 2002 period, and were reflective of the relativelystrong sales growth we achieved, our cost control efforts across all divisionsand the approximate $2.7 million litigation gain.

 

Operating profit in the2003 period increased $2.1 million, or 5%, to $48.0 from $45.9 million in the2002 period.  All of the increaseyear-over-year is attributable to the litigation gain.  Our operating profit margin was 7.7% of netsales in the 2003 period compared to 8.1% in the 2002 period. The decline ingross profit margin more than offset the improvements seen in selling, generaland administrative expenses in the 2003 period, resulting in the loweroperating profit margin.

 

Interest expense declinedby approximately $1.0 million in the 2003 period, reflecting lower debt levelsand lower short-term interest rates. Our tax rate declined to 38.5% from 39.3% due to higher income levelsand the implementation of tax planning strategies.

 

Earnings before interest,taxes, depreciation and amortization (“EBITDA”, as defined in our creditagreement) for the six months ended June 30, 2003 were $77.6 million, anincrease of 4%, compared to $74.8 million for the six months ended June 30,2002. EBITDA increased because of the factors discussed in the above results ofoperations divisional reviews. We believe that EBITDA is a relevant indicationof the strength of our operating performance as measured in terms of operatingcash earnings capabilities. We believe it is the key measurement used by ourdebtholders to assess our operating performance.  Because of this, we use EBITDA as the primary internalmeasurement of our operating performance and it is the main focus of ouremployee incentive compensation programs.

 

32

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We believe EBITDA is awidely accepted financial indicator used to analyze and compare companies onthe basis of operating performance. It should not be considered in isolation oras a substitute for measures of performance prepared in accordance withgenerally accepted accounting principles nor as an alternative to cash flows asa source of liquidity and is not indicative of operating profit as determinedunder generally accepted accounting principles. The following table reconcilesour net earnings to EBITDA as most commonly defined, and then to EBITDA as weare required to define it per our credit agreement, for the six months endedJune 30 (dollars in thousands): 

 
|                                                                   |   | **2003** |   | **2002** |   |
|------------------------------------------------------------------------|--------|----------|--------|----------|--------|
|                                                                   |   |     |   |     |   |
| Net  earnings                                                          |   | $        | 14,747 |     | $      | 12,675 |   |
|                                                                   |   |     |   |     |   |
| Total  interest expense, excluding amortization of debt issuance costs |   | 21,902   |   | 23,686   |   |
|                                                                   |   |     |   |     |   |
| Amortization  of debt issuance costs                                   |   | 2,180    |   | 1,574    |   |
|                                                                   |   |     |   |     |   |
| Income  taxes                                                          |   | 9,259    |   | 8,200    |   |
|                                                                   |   |     |   |     |   |
| Depreciation  and amortization                                         |   | 28,432   |   | 27,293   |   |
| EBITDA  (as commonly defined)                                          |   | 76,520   |   | 73,428   |   |
|                                                                   |   |     |   |     |   |
| Equity  sponsor management fee                                         |   | 634      |   | 546      |   |
|                                                                   |   |     |   |     |   |
| Industrial  revenue bonds  related expenses                       |   | 470      |   | 465      |   |
|                                                                   |   |     |   |     |   |
| Other                                                                  |   | (13      | )      | 328      |   |
| EBITDA  (as defined in our credit agreement)                           |   | $        | 77,611 |     | $      | 74,767 |   |

 

Under our creditagreement we are required to report quarterly on our compliance with threefinancial covenants, with the calculations based primarily on EBITDA as definedin the credit agreement and done on a trailing twelve month basis.  As of June 30, 2003 our leverage ratio was2.93:1.00, versus a requirement of less than or equal to 4.50:1.00, ourinterest coverage ratio was 3.53:1.00, versus a requirement of greater than orequal to 2.00:1.00, and our fixed charge coverage ratio was 1.91:1.00, versus arequirement of greater than or equal to 1.00:1.00.

 

COMMODITIES AND PRODUCTPRICING

 

Certain of our productsare sensitive to changes in commodity prices. Value-added egg products, such asextended shelf-life liquid and precooked products, account for approximately60% of the Egg Products Division’s net sales. The remainder of Egg ProductsDivision sales is derived from the sale of other egg products and shell eggs,which are commodity-sensitive. Gross profit from shell eggs is primarilydependent upon the relationship between shell egg prices and the cost of feed,both of which can fluctuate significantly. Graded shell egg pricing in the 2003period was higher than in the 2002 period as measured by a widely quotedpricing service, and feed costs rose significantly year-over-year. Gross profitmargins for extended shelf-life liquid eggs, egg substitutes, and precooked andhardcooked egg products are less sensitive to commodity price fluctuations thanare other egg products or shell eggs. Our Refrigerated Distribution Divisionderives approximately 80% of its net sales from refrigerated products producedby others, thereby somewhat reducing the effects of commodity priceswings.  However, a majority of the 80%represents cheese and butter, and the costs for both fluctuate with national dairymarkets.  Time lags between cost changesfor these lines and wholesale/retail pricing changes can result in marginexpansion or compression which can be significant.  The balance of Refrigerated Distribution sales are mainly fromshell eggs, some of which are produced by the Egg Products Division, sold on adistribution, or non-commodity, basis.

 

The Dairy ProductsDivision sells its products primarily on a cost-plus basis and, therefore, theDivision’s earnings are not typically affected greatly by raw ingredient pricefluctuations, except over short time periods.

 

The Potato ProductsDivision typically purchases 75%-95% of its raw potatoes from contractproducers under annual contracts. The remainder is purchased at market pricesto satisfy short-term production requirements or to take advantage of marketprices when they are lower than contracted prices. Moderate variations in thepurchase price of raw materials or the selling price per pound of finishedproducts can have a significant effect on Potato Products Division operatingresults.

 

Inflation is not expectedto have a significant impact on our business. We have generally been able tooffset the impact of inflation through a combination of productivity gains andprice increases.

 

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CAPITAL RESOURCES ANDLIQUIDITY

 

We have a creditagreement with various lenders, including commercial banks, other financialinstitutions and investment groups, which expires in 2007 and 2008 and providescredit facilities which originally provided $470 million. Within these creditfacilities there is a $100 million revolving line of credit. At June 30, 2003,there was approximately $6.5 million utilized under the revolving line ofcredit for letters of credit, while the outstanding balance of the term Aportion of the credit facility approximated $61.0 million and the term Bportion approximated $203.9 million.  Wereduced our debt under the credit agreement by approximately $38.5 million inthe first half of 2003 through a combination of scheduled payments andvoluntary prepayments.  There is also$200 million outstanding on our 11 3⁄4% senior subordinated notes due 2011.

 

The weighted averageinterest rate for our borrowings under the credit agreement, adjusted for theeffects of hedging activities, was approximately 7.01% at June 30, 2003. Givenour business trends and cash flow forecast, we do not anticipate a significantuse of the revolving line of credit during 2003.

 

The credit agreementcontains various restrictive covenants. The agreement prohibits us fromprepaying other indebtedness, including the subordinated notes, and it requiresus to maintain specified financial ratios. In addition, the credit agreement prohibits us from declaring or payingany dividends and prohibits us from making any payments with respect to thenotes if we fail to perform our obligations under, or fail to meet theconditions of, the credit agreement or if payment creates a default under thecredit agreement. The indenture governing the subordinated notes, among otherthings: (i) restricts our ability and the ability of our subsidiaries to incuradditional indebtedness, issue shares of preferred stock, incur liens, paydividends or make certain other restricted payments and enter into certaintransactions with affiliates; (ii) prohibits certain restrictions on theability of certain of our subsidiaries to pay dividends or make certainpayments to us; and (iii) places restrictions on our ability and the ability ofour subsidiaries to merge or consolidate with any other person or sell, assign,transfer, lease, convey or otherwise dispose of all or substantially all of ourassets. The indenture related to the notes and the credit agreement alsocontains various covenants which limit our discretion in the operation of ourbusinesses. We were in compliance with all of the covenants in the indentureand the credit agreement (see above) as of and for the six months ended June30, 2003. The Company, principal shareholders or their affiliates may, fromtime to time, enter the market to purchase or sell our subordinated notes, incompliance with applicable securities laws.

 

Our ability to makepayments on and to refinance our debt, including the subordinated notes, and tofund planned capital expenditures will depend on our ability to generatesufficient cash in the future. This, to some extent, is subject to generaleconomic, financial, competitive and other factors that are beyond our control.We believe that, based on current levels of operations, we will be able to meetour debt service obligations when due. Significant assumptions underlie thisbelief, including, among other things, that we will continue to be successfulin implementing our business strategy and that there will be no material adversedevelopments in our business, liquidity or capital requirements. If our futurecash flows from operations and other capital resources are insufficient to payour obligations as they mature or to fund our liquidity needs, we may be forcedto reduce or delay our business activities and capital expenditures, sellassets, obtain additional debt or equity capital or restructure or refinanceall or a portion of our debt, including the notes, on or before maturity. Wecan provide no assurances that we would be able to accomplish any of thesealternatives on a timely basis or on satisfactory terms, if at all. Inaddition, the terms of our existing and future indebtedness, including thesubordinated notes and our credit agreement, may limit our ability to pursue anyof these alternatives.

 

We invested $16.4 millionin capital expenditures during the six months ended June 30, 2003.  We plan to spend approximately $21 millionon capital expenditures during the balance of 2003.  Our principal sources of funds are anticipated to be cash flowsfrom operating activities and borrowings under our senior credit facility. Webelieve that these funds will provide us with sufficient liquidity and capitalresources for us to meet our current year and longer-term plans, including theworking capital and capital expenditure needs such plans may generate.  In executing these plans, we expect toreduce debt over the coming years.

 

SEASONALITY

 

Consolidated quarterlyoperating results are affected by the seasonality of our net sales and operatingprofits. Specifically, shell egg prices typically rise seasonally in the firstand fourth quarters of the year due to increased demand during holiday periods.Generally, refrigerated distribution operations experience higher net sales andoperating profits in the fourth quarter, coinciding with incremental consumerdemand during the holiday season.  Netsales and operating profits from dairy operations typically are significantlyhigher in the second and third quarters due to increased consumption of icemilk and ice cream products during the summer months.  Operating profits from potato products are less seasonal, buttend to be higher in the second half of the year coinciding with the potatoharvest.

 

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FORWARD-LOOKING STATEMENTS

 

Certain items in thisForm 10-Q may be forward-looking statements, which are made in reliance uponthe safe harbor provisions of the Private Securities Litigation Reform Act of1995. Such forward-looking statements are subject to numerous risks anduncertainties, including variances in the demand for our products due toconsumer, industry and broad economic developments, as well as variances in thecosts to produce such products, including normal volatility in egg, feed anddairy ingredients costs. Our actual financial results could differ materiallyfrom the results estimated by, forecasted by, or implied by us in suchforward-looking statements. Forward-looking statements contained in this Form 10-Q speak only as ofthe date hereof.  We disclaim anyobligation or understanding to publicly release updates to, or revisions of,forward-looking statements to reflect changes in our expectations or events,conditions or circumstances on which any such statement is made.

 

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK

 

There were no materialchanges in our market risk during the six month period ended June 30, 2003.

 

ITEM 4.  CONTROLS AND PROCEDURES

 

a.  Evaluation of disclosure controls andprocedures.

 

Underthe supervision, and with the participation of, our management, including ourChief Executive Officer and Chief Financial Officer, we evaluated theeffectiveness of the design and operation of our disclosure controls andprocedures (as defined in Rules 13a-14(c)/15d-14(c) under the Exchange Act) asof a date (the “Evaluation Date”) within 90 days prior to the filing date ofthis report.  Based upon thatevaluation, the Chief Executive Officer and Chief Financial Officer concludedthat, as of the Evaluation Date, our disclosure controls and procedures areeffective in timely alerting them to the material information relating to us(or our consolidated subsidiaries) required to be included in our periodic SECfilings.

 

b.  Changes in internal controls.

 

There were no significant changes made in ourinternal controls during the period covered by this report or, to ourknowledge, in other factors that could significantly affect these controlssubsequent to the date of their evaluation.

 

PART II - OTHERINFORMATION

 

ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

 

(a)        Exhibits and Exhibit Index.

 

The following exhibitsare filed as part of this report:

 
| **EXHIBIT  NO.** |   | **DESCRIPTION**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
|------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|             |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| 2.1              |   | Agreement and Plan of  Merger, dated December 21, 2000, by and among Michael Foods Acquisition  Corp., Michael Foods, Inc. and M-Foods Holdings, Inc.(1)                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 2.2              |   | Amendment Number One to  Agreement and Plan of Merger, dated March 6, 2001, by and among Michael Foods  Acquisition Corp., Michael Foods, Inc. and M-Foods Holdings, Inc.(1)                                                                                                                                                                                                                                                                                                                                                                                                                    |
| 3.1              |   | Amended and Restated  Articles of Incorporation of Michael Foods, Inc.(1)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 3.2              |   | Bylaws of Michael  Foods, Inc.(1)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
| 4.1              |   | Purchase Agreement,  dated March 16, 2001, between Michael Foods Acquisition Corp., Michael Foods,  Inc., and Banc of America Securities, LLC and Bear, Stearns & Co.(1)                                                                                                                                                                                                                                                                                                                                                                                                                    |
| 4.2              |   | Indenture, dated March  27, 2001, between Michael Foods Acquisition Corp. and BNY Midwest Trust  Company, as trustee(1)                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
| 4.3              |   | Supplemental Indenture,  dated as of April 10, 2001, by and among Michael Foods, Inc., M-Foods Holdings,  Inc., Michael Foods of Delaware, Inc., Northern Star Co., Minnesota Products,  Inc., Farm Fresh Foods, Inc., Crystal Farms Refrigerated Distribution  Company, WFC, Inc., Wisco Farm Cooperative, M. G. Waldbaum Company, Papetti’s  Hygrade Egg Products, Inc., Casa Trucking, Inc., Papetti Electroheating  Corporation, Kohler Mix Specialties, Inc., Midwest Mix, Inc., Kohler Mix  Specialties of Connecticut, Inc. and Midwest Mix, Inc. and BNY Midwest Trust  Company(1) |
| 4.4              |   | Second Supplemental  Indenture, dated as of May 2, 2001, by and among M-Foods Dairy, LLC and  M-Foods Dairy TXCT, LLC, Michael Foods, Inc. and BNY Midwest Trust Company(1)                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 4.5              |   | Registration Rights  Agreement, dated March 27, 2001, by and among Michael Foods Acquisition  Corp., and Banc of America Securities, LLC and Bear, Stearns & Co.(1)                                                                                                                                                                                                                                                                                                                                                                                                                         |

 

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| 4.6    |   | Collateral Pledge and  Security Agreement, dated March 27, 2001, between Michael Foods Acquisition  Corp., and Banc of America Securities, LLC and Bear, Stearns & Co. and  BNY Midwest Trust Company as collateral agent and securities intermediary(1)                                                                                                 |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.1   |   | Credit Agreement, dated  April 10, 2001, among Michael Foods, Inc., M-Foods Holdings, Inc., the  Guarantors, Bank of America, N.A., as Agent, Banc of America Securities, LLC,  as Sole Lead Arranger and Sole Book Running Manager, and Bear, Stearns &  Co., as Syndication Agent(1)                                                                   |
| 10.2   |   | Pledge Agreement, dated  April 10, 2001, between Michael Foods, Inc., Bank of America, N.A. and Banc  of America Securities, LLC(1)                                                                                                                                                                                                                          |
| *10.3  |   | M-Foods Holdings, Inc.  2001 Stock Option Plan(1)                                                                                                                                                                                                                                                                                                            |
| *10.4  |   | Form of M-Foods  Holdings 2001 Stock Option Plan Stock Option Award Agreement(1)                                                                                                                                                                                                                                                                             |
| *10.5  |   | Employment Agreement,  dated April 10, 2001, by and among Michael Foods, Inc., M-Foods Holdings,  Inc. and Gregg A. Ostrander(1)                                                                                                                                                                                                                             |
| *10.6  |   | Employment Agreement,  dated April 10, 2001, by and among Michael Foods, Inc., M-Foods Holdings,  Inc. and John D. Reedy(1)                                                                                                                                                                                                                                  |
| *10.7  |   | Employment Agreement,  dated April 10, 2001, by and among Michael Foods, Inc., M-Foods Holdings, Inc.  and James D. Clarkson(1)                                                                                                                                                                                                                              |
| *10.8  |   | Employment Agreement,  dated April 10, 2001, by and among Michael Foods, Inc., M-Foods Holdings,  Inc. and Bill L. Goucher(1)                                                                                                                                                                                                                                |
| *10.9  |   | Severance and Deferred  Compensation Agreement, dated April 10, 2001, by and among Michael Foods,  Inc., M-Foods Holdings, Inc. and James Mohr(1)                                                                                                                                                                                                            |
| *10.10 |   | Severance and Deferred  Compensation Agreement, dated April 10, 2001, by and among Michael Foods,  Inc., M-Foods Holdings, Inc. and Harold D. Sprinkle(1)                                                                                                                                                                                                    |
| *10.11 |   | Severance and Deferred  Compensation Agreement, dated April 10, 2001, by and among Michael Foods,  Inc., M-Foods Holdings, Inc. and Max Hoffmann(1)                                                                                                                                                                                                          |
| *10.12 |   | Severance and Deferred  Compensation Agreement, dated April 10, 2001, by and among Michael Foods,  Inc., M-Foods Holdings, Inc. and Bradley Cook(1)                                                                                                                                                                                                          |
| 10.13  |   | Amended and Restated  Limited Liability Company Agreement of M-Foods Investors, LLC(1)                                                                                                                                                                                                                                                                       |
| *10.14 |   | Securityholders  Agreement, dated April 10, 2001, between M-Foods Dairy Holdings, LLC,  Marathon Dairy Investment Corp., Vestar Capital Partners IV, L.P., 4J2R1C  Limited Partnership, 3J2R Limited Partnership, Gregg A. Ostrander, John D.  Reedy, Bill L. Goucher, James D. Clarkson, James Mohr, Harold D. Sprinkle,  Bradley Cook, and Max Hoffmann(1) |
| *10.15 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and Gregg A. Ostrander(1)                                                                                                                                                                                           |
| *10.16 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and John D. Reedy(1)                                                                                                                                                                                                |
| *10.17 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and James D. Clarkson(1)                                                                                                                                                                                            |
| *10.18 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and Bill L. Goucher(1)                                                                                                                                                                                              |
| *10.19 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and Max Hoffmann(1)                                                                                                                                                                                                 |
| *10.20 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and Harold D. Sprinkle(1)                                                                                                                                                                                           |
| *10.21 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and Bradley Cook(1)                                                                                                                                                                                                 |
| *10.22 |   | Management Stock  Purchase and Unit Subscription Agreement, dated April 10, 2001, among M-Foods  Investors, LLC, M-Foods Holdings, Inc., and James Mohr(1)                                                                                                                                                                                                   |
| *10.23 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and Gregg A. Ostrander(1)                                                                                                                                                                                                                               |
| *10.24 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and John D. Reedy(1)                                                                                                                                                                                                                                    |
| *10.25 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and James D. Clarkson(1)                                                                                                                                                                                                                                |
| *10.26 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and Bill L. Goucher(1)                                                                                                                                                                                                                                  |
| *10.27 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and Max Hoffmann(1)                                                                                                                                                                                                                                     |
| *10.28 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and Harold D. Sprinkle(1)                                                                                                                                                                                                                               |

 

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| *10.29 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and Bradley Cook(1)                                                                                                                                                                                                                                                             |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| *10.30 |   | Management Unit  Subscription Agreement, dated April 10, 2001, between M-Foods Dairy Holdings,  LLC, and James Mohr(1)                                                                                                                                                                                                                                                               |
| *10.31 |   | Securityholders  Agreement, dated April 10, 2001, between M-Foods Investors, LLC, M-Foods  Holdings, Inc., Marathon Fund Limited Partnership IV, Vestar Capital Partners  IV, L.P., 4J2R1C Limited Partnership, 3J2R Limited Partnership, Gregg A.  Ostrander, John D. Reedy, Bill L. Goucher, James D. Clarkson, James Mohr,  Harold D. Sprinkle, Bradley Cook, and Max Hoffmann(1) |

 

----

*              Management Contract or Compensation Plan Arrangement

(1)           Incorporated by reference from theCompany’s Registration Statement on Form S-4 filed July 18, 2001.

 

(b)        Reportson Form 8-K

 

Reference is made to areport filed on Form 8-K dated April 24, 2003 pertaining to our financialresults for the three months ended March 31, 2003.

 

Reference is made to areport filed on Form 8-K dated June 5, 2003 pertaining to an announcement thatour Dairy Products Division will be sold to Dean Foods Company.

 

Reference is made to areport filed on Form 8-K dated July 25, 2003 pertaining to our financialresults for the three months and six months ended June 30, 2003.

 

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SIGNATURES

 

Pursuant to therequirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, theRegistrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 
|                            | MICHAEL FOODS, INC. |
|---------------------------------|---------------------|
|                            | (Registrant)        |   |
|                            |                |   |
| Date:  July  25, 2003 |                | By: | /s/ Gregg A. Ostrander |
|                            |                | Gregg  A. Ostrander |
|                            |                | (Chairman,  President and  Chief Executive Officer) |
|                            |                |   |
|                            |                |   |
| Date:  July  25, 2003 |                | By: | /s/ John D. Reedy |
|                            |                | John  D. Reedy |
|                            |                | (Executive  Vice President,  Chief Financial Officer and  Principal Accounting Officer) |

 

38

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**CERTIFICATION OF CHIEF EXECUTIVEOFFICER**

 

I, Gregg A. Ostrander,certify that:

 

1.  I have reviewed this quarterly report onForm 10-Q of Michael Foods, Inc.;

 

2.  Based on my knowledge, this quarterly reportdoes not contain any untrue statement of a material fact or omit to state amaterial fact necessary to make the statements made, in light of thecircumstances under which such statements were made, not misleading withrespect to the period covered by this quarterly report;

 

3.  Based on my knowledge, the financial statements,and other financial information included in this quarterly report, fairlypresent in all material respects the financial condition, results of operationsand cash flows of the registrant as of, and for, the periods presented in thisquarterly report;

 

4.  The registrant’s other certifying officersand I are responsible for establishing and maintaining disclosure controls andprocedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for theregistrant and have:

 

a)  designed such disclosure controls andprocedures to ensure that material information relating to the registrant,including its consolidated subsidiaries, is made known to us by others withinthose entities, particularly during the period in which this quarterly reportis being prepared;

 

b)  evaluated the effectiveness of theregistrant’s disclosure controls and procedures as of a date within 90 daysprior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c)  presented in this quarterly report ourconclusions about the effectiveness of the disclosure controls and proceduresbased on our evaluation as of the Evaluation Date;

 

5.  The registrant’s other certifying officersand I have disclosed, based on our most recent evaluation, to the registrant’sauditors and the audit committee of registrant’s board of directors (or personsperforming the equivalent functions):

 

a)  all significant deficiencies in the designor operation of internal controls which could adversely affect the registrant’sability to record, process, summarize and report financial data and haveidentified for the registrant’s auditors any material weaknesses in internalcontrols; and

 

b)  any fraud, whether or not material, thatinvolves management or other employees who have a significant role in theregistrant’s internal controls; and

 

6.  The registrant’s other certifying officersand I have indicated in this quarterly report whether there were significantchanges in internal controls or in other factors that could significantlyaffect internal controls subsequent to the date of our most recent evaluation,including any corrective actions with regard to significant deficiencies andmaterial weaknesses.

 
| Date:  July  25, 2003 |                                             |
|---------------------------------|--------------------------------------------------|
|                            |                                             |
|                            |                                             |
|                            | /s/ Gregg A. Ostrander                           |   |
|                            | Chairman, President and  Chief Executive Officer |

 

39

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**CERTIFICATION OF CHIEF FINANCIALOFFICER**

 

I, John D. Reedy, certifythat:

 

1.  I have reviewed this quarterly report onForm 10-Q of Michael Foods, Inc.;

 

2.  Based on my knowledge, this quarterly reportdoes not contain any untrue statement of a material fact or omit to state amaterial fact necessary to make the statements made, in light of thecircumstances under which such statements were made, not misleading withrespect to the period covered by this quarterly report;

 

3.  Based on my knowledge, the financialstatements, and other financial information included in this quarterly report,fairly present in all material respects the financial condition, results ofoperations and cash flows of the registrant as of, and for, the periodspresented in this quarterly report;

 

4.  The registrant’s other certifying officersand I are responsible for establishing and maintaining disclosure controls andprocedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for theregistrant and have:

 

a)  designed such disclosure controls andprocedures to ensure that material information relating to the registrant,including its consolidated subsidiaries, is made known to us by others withinthose entities, particularly during the period in which this quarterly reportis being prepared;

 

b)  evaluated the effectiveness of theregistrant’s disclosure controls and procedures as of a date within 90 daysprior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c)  presented in this quarterly report ourconclusions about the effectiveness of the disclosure controls and proceduresbased on our evaluation as of the Evaluation Date;

 

5.  The registrant’s other certifying officersand I have disclosed, based on our most recent evaluation, to the registrant’sauditors and the audit committee of registrant’s board of directors (or personsperforming the equivalent functions):

 

a)  all significant deficiencies in the designor operation of internal controls which could adversely affect the registrant’sability to record, process, summarize and report financial data and haveidentified for the registrant’s auditors any material weaknesses in internalcontrols; and

 

b)  any fraud, whether or not material, thatinvolves management or other employees who have a significant role in theregistrant’s internal controls; and

 

6.  The registrant’s other certifying officersand I have indicated in this quarterly report whether there were significantchanges in internal controls or in other factors that could significantlyaffect internal controls subsequent to the date of our most recent evaluation,including any corrective actions with regard to significant deficiencies andmaterial weaknesses.

 
| Date:  July 25, 2003 |                                                   |
|---------------------------|--------------------------------------------------------|
|                      |                                                   |
|                      |                                                   |
|                      | /s/ John D. Reedy                                      |   |
|                      | Executive Vice  President and  Chief Financial Officer |

 

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