**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON,DC 20549**

----

** **

**FORM 10-QSB**

 

| ý | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934  FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 27, 2005** |
|--------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |       |                                                                                                                                                 |
| **o**  | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                        |

 

**CommissionFile Number 000-29643**

 

**GRANITE CITY FOOD & BREWERYLTD.**

(ExactName of Small Business Issuer as Specified in Its Charter)

 

| **Minnesota**                      | **41-1883639**       |
|------------------------------------|----------------------|
| (State  or Other Jurisdiction      | (I.R.S.  Employer    |
| of  Incorporation or Organization) | Identification  No.) |

 

**5402Parkdale Drive, Suite 101**

**St.Louis Park, MN 55416**

**(952)215-0660**

(Addressof Principal Executive Offices and Issuer’s

TelephoneNumber, including Area Code)

 

**5831Cedar Lake Road**

**St.Louis Park, MN  55416**

**(952)525-2070**

(Formername, former address and former fiscal year, if changed since last report)

 

Check whether theissuer:  (1) filed all reports requiredto be filed by Section 13 or 15(d) of the Exchange Act during the past 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.     Yes ý    No o

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).     Yes o    No ý

 

As of November 3, 2005, theissuer had outstanding 12,811,739****shares ofcommon stock and 996,100 Class A Warrants. The number of outstanding shares of common stock includes the sharesissuable upon separation of the units, each consisting of one share of commonstock and one redeemable Class A Warrant, sold in the issuer’s initial publicoffering.

 

Transitional Small BusinessDisclosure Format:     Yes o    No ý

 

** **

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**TABLEOF CONTENTS**

 
| **PART I**            | ** ** | **FINANCIAL  INFORMATION**                                                                                                               |   |
|-----------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------|--------|
|                  |       |                                                                                                                                     |   |
|                  | ITEM 1     | Financial Statements                                                                                                                     |   |
|                  |       |                                                                                                                                     |   |
|                  |       | Condensed  Consolidated Balance Sheets as of December 28, 2004 and September 27, 2005                                                    |   |
|                  |       |                                                                                                                                     |   |
|                  |       | Condensed  Consolidated Statements of Operations for the thirteen and thirty-nine weeks  ended September 26, 2004 and September 27, 2005 |   |
|                  |       |                                                                                                                                     |   |
|                  |       | Condensed  Consolidated Statements of Cash Flows for the thirty-nine weeks ended  September 26, 2004 and September 27, 2005              |   |
|                  |       |                                                                                                                                     |   |
|                  |       | Notes to  Condensed Consolidated Financial Statements                                                                                    |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 2     | Management’s  Discussion and Analysis or Plan of Operation                                                                          |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 3     | Controls and Procedures                                                                                                                  |   |
|                  |       |                                                                                                                                     |   |
| **PART II**           | ** ** | **OTHER  INFORMATION**                                                                                                                   |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 1     | Legal Proceedings                                                                                                                        |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 2     | Unregistered  Sales of Equity Securities and Use of Proceeds                                                                             |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 3     | Defaults upon  Senior Securities                                                                                                         |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 4     | Submission of  Matters to a Vote of Security Holders                                                                                     |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 5     | Other Information                                                                                                                        |   |
|                  |       |                                                                                                                                     |   |
|                  | ITEM 6     | Exhibits                                                                                                                                 |   |
|                  |       |                                                                                                                                     |   |
| **SIGNATURES**        |       |
|                  |       |                                                                                                                                     |   |
| **INDEX TO EXHIBITS** |       |

 

i

----

 

**PARTI   FINANCIAL INFORMATION**

 

**ITEM1  Financial Statements**

 

**GRANITE CITY FOOD & BREWERY LTD.**

# **CONDENSEDCONSOLIDATED BALANCE SHEETS**

**(Unaudited)**

 
| ** **                                                                                                                                                                                 | ** ** | **December 28,** | ** ** | **September 27,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|-------------------|------------|
| ** **                                                                                                                                                                                 | ** ** | **2004**         | ** ** | **2005**          | ** ** |
| **ASSETS:**                                                                                                                                                                                |       |             |       |              |       |
| Current assets:                                                                                                                                                                            |       |             |       |              |       |
| Cash                                                                                                                                                                                       |       | $                | 9,297,247  |              | $          | 3,867,953 |   |
| Inventory                                                                                                                                                                                  |       | 190,897          |       | 236,897           |       |
| Prepaids and other                                                                                                                                                                         |       | 335,435          |       | 416,005           |       |
| Total current assets                                                                                                                                                                       |       | 9,823,579        |       | 4,520,855         |       |
|                                                                                                                                                                                       |       |             |       |              |       |
| Property and equipment, net                                                                                                                                                                |       | 21,950,428       |       | 30,443,369        |       |
| Intangible assets and other                                                                                                                                                                |       | 394,950          |       | 399,513           |       |
| Total assets                                                                                                                                                                               |       | $                | 32,168,957 |              | $          | 35,363,737 |   |
|                                                                                                                                                                                       |       |             |       |              |       |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY:**                                                                                                                                             |       |             |       |              |       |
| Current liabilities:                                                                                                                                                                       |       |             |       |              |       |
| Accounts payable                                                                                                                                                                           |       | $                | 654,334    |              | $          | 652,266 |   |
| Accrued expenses                                                                                                                                                                           |       | 2,179,017        |       | 2,059,277         |       |
| Deferred rent, current portion                                                                                                                                                             |       | 30,000           |       | 71,294            |       |
| Long-term debt, current portion                                                                                                                                                            |       | 226,283          |       | 237,801           |       |
| Capital lease obligations, current portion                                                                                                                                                 |       | 517,232          |       | 662,465           |       |
| Total current liabilities                                                                                                                                                                  |       | 3,606,866        |       | 3,683,103         |       |
|                                                                                                                                                                                       |       |             |       |              |       |
| Deferred rent, net of current portion                                                                                                                                                      |       | 400,000          |       | 1,040,219         |       |
| Long-term debt, net of current portion                                                                                                                                                     |       | 2,504,310        |       | 2,324,238         |       |
| Capital lease obligations, net of current portion                                                                                                                                          |       | 11,775,436       |       | 16,154,255        |       |
| Total liabilities                                                                                                                                                                          |       | 18,286,612       |       | 23,201,815        |       |
|                                                                                                                                                                                       |       |             |       |              |       |
| Shareholders’ equity:                                                                                                                                                                 |       |             |       |              |       |
| Common stock, $0.01 par value, 90,000,000 shares authorized;  11,601,067 and 11,699,785 shares issued and outstanding at December 28,  2004 and September 27, 2005, respectively |       | 116,011          |       | 116,998           |       |
| Additional paid-in capital                                                                                                                                                                 |       | 20,717,101       |       | 21,000,701        |       |
| Accumulated deficit                                                                                                                                                                        |       | (6,950,767       | )          | (8,955,777        | )          |
| Total shareholders’ equity                                                                                                                                                            |       | 13,882,345       |       | 12,161,922        |       |
|                                                                                                                                                                                       |       |             |       |              |       |
| Total liabilities and shareholders’ equity                                                                                                                                            |       | $                | 32,168,957 |              | $          | 35,363,737 |   |
|                                                                                                                                                                                            |            |                  |            |                   |            |  |  |  |  |

 

See notes to condensed financial statements.

 

1

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**GRANITE CITY FOOD & BREWERY LTD.**

**CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS**

**(Unaudited)**

** **
| ** **                                         | ** ** | **Thirteen Weeks Ended** | ** ** | **Thirty-nine Weeks Ended** | ** ** |
|----------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                         | ** ** | **September 26,**        | ** ** | **September 27,**           | ** ** | **September 26,** | ** ** | **September 27,** | ** ** |
| ** **                                         | ** ** | **2004**                 | ** ** | **2005**                    | ** ** | **2004** | ** ** | **2005** | ** ** |
| Restaurant revenues                                |       | $                        | 9,066,377  |                        | $          | 9,705,060 |   | $ | 22,666,679 |   | $ | 26,109,648 |   |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Cost of sales:                                     |       |                     |       |                        |       |   |   |   |   |
| Food, beverage and retail                          |       | 2,819,515                |       | 2,975,397                   |       | 7,029,332 |   | 7,863,715 |   |
| Labor                                              |       | 3,096,410                |       | 3,363,775                   |       | 7,666,094 |   | 8,952,604 |   |
| Direct and occupancy                               |       | 1,497,401                |       | 1,855,176                   |       | 3,826,093 |   | 4,823,278 |   |
| Total cost of sales                                |       | 7,413,326                |       | 8,194,348                   |       | 18,521,519 |   | 21,639,597 |   |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Pre-opening                                        |       | —                   |       | 297,509                     |       | 748,323 |   | 525,620 |   |
| General and administrative                         |       | 619,888                  |       | 1,312,890                   |       | 1,813,950 |   | 3,444,298 |   |
| Depreciation and amortization                      |       | 463,263                  |       | 560,600                     |       | 1,178,273 |   | 1,496,384 |   |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Operating income (loss)                            |       | 569,900                  |       | (660,287                    | )          | 404,614 |   | (996,251 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Interest:                                          |       |                     |       |                        |       |   |   |   |   |
| Income                                             |       | 749                      |       | 23,284                      |       | 4,941 |   | 92,630 |   |
| Expense                                            |       | (326,070                 | )          | (364,319                    | )          | (837,368 | ) | (1,009,202 | ) |
| Other expense, net                                 |       | (23,520                  | )          | —                      |       | (23,520 | ) | (50,475 | ) |
| Net other expense                                  |       | (348,841                 | )          | (341,035                    | )          | (855,947 | ) | (967,047 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Net income (loss)                                  |       | 221,059                  |       | (1,001,322                  | )          | (451,333 | ) | (1,963,298 | ) |
| Less preferred stock dividends declared            |       | (108,710                 | )          | —                      |       | (564,526 | ) | — |   |
| Net income (loss) available to common shareholders |       | $                        | 112,349    |                        | $          | (1,001,322 | ) | $ | (1,015,859 | ) | $ | (1,963,298 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Income (loss) per common share, basic              |       | $                        | 0.03       |                        | $          | (0.09 | ) | $ | (0.24 | ) | $ | (0.17 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Income (loss) per common share, diluted            |       | $                        | 0.02       |                        | $          | (0.09 | ) | $ | (0.24 | ) | $ | (0.17 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Weighted average shares outstanding, basic         |       | 4,378,774                |       | 11,653,538                  |       | 4,261,048 |   | 11,629,651 |   |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Weighted average shares outstanding, diluted       |       | 9,296,411                |       | 11,653,538                  |       | 4,261,048 |   | 11,629,651 |   |
|                                                    |            |                          |            |                             |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

See notes to condensed financial statements.

 

2

----

 

**GRANITE CITY FOOD & BREWERY LTD.**

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

**(Unaudited)**

** **
| ** **                                                                                 | ** ** | **Thirty-nine Weeks Ended** | ** ** |
|--------------------------------------------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                                                                 | ** ** | **September 26,**           | ** ** | **September 27,** | ** ** |
| ** **                                                                                 | ** ** | **2004**                    | ** ** | **2005** | ** ** |
| Cash flows from operating activities:                                                      |       |                        |       |   |   |
| Net loss                                                                                   |       | $                           | (451,333   | ) | $ | (1,963,298 | ) |
| Adjustments to reconcile net loss to net cash provided by (used in)  operating activities: |       |                        |       |   |   |
| Depreciation and amortization                                                              |       | 1,178,273                   |       | 1,496,384 |   |
| Stock option/warrant compensation                                                          |       | 19,170                      |       | 12,780 |   |
| Loss on disposal of asset                                                                  |       | 23,520                      |       | 50,475 |   |
| Deferred rent                                                                              |       | —                      |       | (64,224 | ) |
| Decrease (increase) in:                                                                    |       |                        |       |   |   |
| Inventory                                                                                  |       | (100,224                    | )          | (46,000 | ) |
| Prepaids and other                                                                         |       | (125,167                    | )          | (80,570 | ) |
| Increase (decrease) in:                                                                    |       |                        |       |   |   |
| Accounts payable                                                                           |       | 149,110                     |       | (176,136 | ) |
| Accrued expenses                                                                           |       | 111,205                     |       | (78,672 | ) |
| Net cash provided by (used in) operating activities                                        |       | 804,554                     |       | (849,261 | ) |
|                                                                                       |       |                        |       |   |   |
| Cash flows from investing activities:                                                      |       |                        |       |   |   |
| Purchase of:                                                                               |       |                        |       |   |   |
| Property and equipment                                                                     |       | (2,278,350                  | )          | (4,135,825 | ) |
| Intangible assets and other                                                                |       | (29,560                     | )          | (19,136 | ) |
| Net cash used in investing activities                                                      |       | (2,307,910                  | )          | (4,154,961 | ) |
|                                                                                       |       |                        |       |   |   |
| Cash flows from financing activities:                                                      |       |                        |       |   |   |
| Payments on capital lease obligations                                                      |       | (354,257                    | )          | (445,544 | ) |
| Payments on long term-debt                                                                 |       | (144,327                    | )          | (168,554 | ) |
| Proceeds from (payments on) line of credit                                                 |       | 199,102                     |       | — |   |
| Payment of dividends                                                                       |       | (108,783                    | )          | (41,068 | ) |
| Proceeds from issuance of long term-debt                                                   |       | 750,000                     |       | — |   |
| Proceeds from issuance of stock                                                            |       | 1,865,999                   |       | 230,094 |   |
| Net cash provided by (used in) financing activities                                        |       | 2,207,734                   |       | (425,072 | ) |
|                                                                                       |       |                        |       |   |   |
| Net increase (decrease) in cash                                                            |       | 704,378                     |       | (5,429,294 | ) |
| Cash, beginning                                                                            |       | 1,439,960                   |       | 9,297,247 |   |
| Cash, ending                                                                               |       | $                           | 2,144,338  |   | $ | 3,867,953 |   |
|                                                                                       |       |                        |       |   |   |
| Supplemental disclosure of non-cash investing and financing  activities:                   |       |                        |       |   |   |
| Land and buildings acquired under capital lease agreements                                 |       | $                           | 5,675,128  |   | $ | 5,715,333 |   |
| Equipment purchased and included in accounts payable                                       |       | $                           | 85,734     |   | $ | 174,068 |   |
|                                                                                            |            |                             |            |  |  |  |  |  |  |  |  |

 

See notes to condensed financial statements.

 

3

----

 

**GRANITE CITY FOOD & BREWERY LTD.**

 

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**(Unaudited)**

 

Thirteen and thirty-nine weeks ended September 26, 2004 and September27, 2005

 

**1.     Nature of business andbasis of presentation:**

 

Nature of business:

Granite City Food &Brewery Ltd. (the “Company”) develops and operates casual dining restaurantsfeaturing on-premise breweries known as Granite City Food & Brewery® inselected markets throughout the United States. The theme is casual dining with a wide variety of menu items that areprepared fresh daily, combined with freshly brewed hand-crafted beers made on-premise.  The Company produces its beer using a processcalled Fermentus InterruptusTM, which is intended to maintain high beer qualitywhile enhancing overall profitability by reducing unit-level brewing costs.  The first restaurant, located in St. Cloud, Minnesota,opened in July 1999.  Subsequently, theCompany opened restaurants in Sioux Falls, South Dakota; Fargo, North Dakota;West Des Moines, Cedar Rapids and Davenport, Iowa; Lincoln, Nebraska;Minneapolis (Maple Grove) and St. Paul (Eagan), Minnesota; and Wichita, Kansas.

 

The Company’s currentexpansion strategy focuses on development of restaurants in markets wheremanagement believes the Company’s concept will have broad appeal and attractiverestaurant-level economics.

 

Interim financial statements:

The Company has prepared the condensed financial statements for thethirteen and thirty-nine weeks ended September 26, 2004 and September 27, 2005without audit by the Company’s independent auditors.  In the opinion of the Company’s management,all adjustments necessary to present fairly the financial position of theCompany at September 27, 2005 and the results of operations and cash flows forthe thirteen and thirty-nine week periods ended September 26, 2004 andSeptember 27, 2005 have been made. Those adjustments consist only of normal andrecurring adjustments.

 

The balance sheet at December 28, 2004 has been derived from theaudited financial statements at that date, but does not include all of theinformation and notes required by generally accepted accounting principles forcomplete financial statements.  Certaininformation and note disclosures normally included in the Company’s annualfinancial statements have been condensed or omitted.  These condensed financial statements shouldbe read in conjunction with the financial statements and notes thereto includedin the Company’s Annual Report on Form 10-KSB for the fiscal year endedDecember 28, 2004, filed with the Securities and Exchange Commission on March24, 2005.

 

The results of operations for the thirteen and thirty-nine weeks endedSeptember 27, 2005 are not necessarily indicative of the results to be expectedfor the entire year.

 

Earnings (loss) per share:

Basic earnings (loss) percommon share is calculated by dividing net income (loss) less the sum ofpreferred stock dividends declared, by the weighted average number ofcommon shares outstanding in each year. Diluted earnings (loss) percommon share assumes that outstanding common shares were increasedby shares issuable upon exercise of stock options and warrants for whichthe market price exceeds the exercise price, less shares which could havebeen purchased by the Company with related proceeds.  Calculations of theCompany’s net income (loss) per common share for the thirteen andthirty-nine weeks ended September 26, 2004 and September 27, 2005 are set forthin the following table:

 

4

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| ** **                                         | ** ** | **Thirteen Weeks Ended** | ** ** | **Thirty-nine Weeks Ended** | ** ** |
|----------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                         | ** ** | **September 26,**        | ** ** | **September 27,**           | ** ** | **September 26,** | ** ** | **September 27,** | ** ** |
| ** **                                         | ** ** | **2004**                 | ** ** | **2005**                    | ** ** | **2004** | ** ** | **2005** | ** ** |
| Net income (loss)                                  |       | $                        | 221,059    |                        | $          | (1,001,322 | ) | $ | (451,333 | ) | $ | (1,963,298 | ) |
| Less dividends declared                            |       | (108,710                 | )          | —                      |       | (564,526 | ) | — |   |
| Net income (loss) available to common shareholders |       | $                        | 112,349    |                        | $          | (1,001,322 | ) | $ | (1,015,859 | ) | $ | (1,963,298 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Income (loss) per common share, basic              |       | $                        | 0.03       |                        | $          | (0.09 | ) | $ | (0.24 | ) | $ | (0.17 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Income (loss) per common share, diluted            |       | $                        | 0.02       |                        | $          | (0.09 | ) | $ | (0.24 | ) | $ | (0.17 | ) |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Weighted average shares outstanding, basic         |       | 4,378,774                |       | 11,653,538                  |       | 4,261,048 |   | 11,629,651 |   |
|                                               |       |                     |       |                        |       |   |   |   |   |
| Weighted average shares outstanding, diluted       |       | 9,296,411                |       | 11,653,538                  |       | 4,261,048 |   | 11,629,651 |   |
|                                                    |            |                          |            |                             |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

**2.     Stock compensation:**

 

The Company accounts for its stock-based compensation awards using theintrinsic value method prescribed by Accounting Principles Board (APB) OpinionNo. 25, *Accounting for Stock Issued toEmployees. *No compensationcost has been recognized for options issued to employees when the exerciseprice of the options granted is at least equal to the fair value of the commonstock on the date of grant.  Hadcompensation cost been determined consistent with Statement of FinancialAccounting Standard (SFAS) No. 123, *Accountingfor Stock-Based Compensation*, as amended by SFAS No. 148, *Accounting for Stock-Based Compensation—Transitionand Disclosure,* the Company’s net loss and net loss per common sharewould have been changed to the following pro forma amounts:

 
| ** **                                                                                                                                 | ** ** | **Thirteen Weeks Ended** | ** ** | **Thirty-nine Weeks Ended** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                                 | ** ** | **September 26,**        | ** ** | **September 27,**           | ** ** | **September 26,** | ** ** | **September 27,** | ** ** |
| ** **                                                                                                                                 | ** ** | **2004**                 | ** ** | **2005**                    | ** ** | **2004** | ** ** | **2005** | ** ** |
| Net income (loss):                                                                                                                         |       |                     |       |                        |       |   |   |   |   |
| As reported                                                                                                                                |       | $                        | 221,059    |                        | $          | (1,001,322 | ) | $ | (451,333 | ) | $ | (1,963,298 | ) |
| Less: Total stock-based employee compensation expense determined  under fair value based method for all awards, net of related tax effects |       | $                        | (147,677   | )                           | $          | (446,552 | ) | $ | (470,199 | ) | $ | (828,097 | ) |
| Pro forma                                                                                                                                  |       | $                        | 73,382     |                        | $          | (1,447,874 | ) | $ | (921,532 | ) | $ | (2,791,395 | ) |
|                                                                                                                                       |       |                     |       |                        |       |   |   |   |   |
| Net income (loss) per common share                                                                                                         |       |                     |       |                        |       |   |   |   |   |
| Basic as reported                                                                                                                          |       | $                        | 0.03       |                        | $          | (0.09 | ) | $ | (0.24 | ) | $ | (0.17 | ) |
| Basic pro forma                                                                                                                            |       | $                        | (0.01      | )                           | $          | (0.24 | ) | $ | (0.35 | ) | $ | (0.12 | ) |
| Diluted, as reported                                                                                                                       |       | $                        | 0.02       |                        | $          | (0.09 | ) | $ | (0.24 | ) | $ | (0.17 | ) |
| Diluted, pro forma                                                                                                                         |       | $                        | 0.01       |                        | $          | (0.24 | ) | $ | (0.35 | ) | $ | (0.12 | ) |
|                                                                                                                                            |            |                          |            |                             |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

5

----

 

The fair value of each option grant for the pro forma disclosurerequired by SFAS No. 123, as amended by SFAS No. 148, is estimated on the grantdate using the Black-Scholes option-pricing model with the followingassumptions for the grants:

 
| ** **              | ** ** | **2004**    | ** ** | **2005**    | ** ** |
|-------------------------|------------|-------------|------------|-------------|------------|
| Dividend yield          |       | None        |       | None        |       |
| Expected volatility     |       | 54.6        | %          | 54.6        | %          |
| Expected life of option |       | 5-10  years |       | 5-10  years |       |
| Risk-free interest rate |       | 4.0         | %          | 4.1-4.3     | %          |

 

**3.     Change in capitalization:**

 

Exercise of warrants and options:

On January 3, 2005, an employee of the Company exercised a stock optionfor the purchase of 1,000 shares of common stock at an exercise price of $1.65per share.  This option was issuedpursuant to the 1997 Stock Option Plan and had an expiration date of December26, 2011.

 

On January 27, 2005, a former employee of the Company exercised a stockoption for the purchase of 18,000 shares of common stock at an exercise priceof $1.65 per share.  This option wasissued outside the Company’s plans and had an expiration date of December 26,2011.

 

On May 16, 2005, the Company issued 2,219 shares of common stock uponthe cashless exercise of a warrant for the purchase of 3,955 shares of commonstock originally issued April 30, 2003 to one of its agents for the private placementof Series A Convertible Preferred Stock and warrants.  The foregoing warrant had an exercise priceof $1.58 per share and an expiration date of April 30, 2008.

 

On July 15, 2005, the Company issued 999 shares of common stock uponthe cashless exercise of a warrant for the purchase of 1,500 shares of commonstock originally issued April 30, 2003 to one of its agents for the privateplacement of Series A Convertible Preferred Stock and warrants.  The foregoing warrant had an exercise priceof $1.58 per share and an expiration date of April 30, 2008.

 

On August 18, 2005, a director of the Company exercised a stock optionfor the purchase of 15,000 shares of common stock at an exercise price of $4.00per share.  These options were issuedpursuant to the 1997 Director Stock Option Plan and had an expiration date ofAugust 18, 2005.

 

On August 23, 2005, directors of the Company exercised a stock optionfor the purchase of 15,000 shares of common stock at an exercise price of $2.27per share with an expiration date of November 4, 2005; a stock option for thepurchase of 15,000 shares of common stock at an exercise price of $3.98 with anexpiration date of November 4, 2005; and a stock option for the purchase of1,500 shares of common stock at an exercise price of $4.00 per share with anexpiration date of November 26, 2005. These options were issued pursuant to the 1997 Director Stock OptionPlan.

 

On August 25, 2005, a director of the Company exercised a stock optionfor the purchase of 15,000 shares of common stock at an exercise price of $1.00with an expiration date of November 26, 2006 and a stock option for thepurchase of 15,000 shares of common stock at an exercise price of $1.60 with anexpiration date of November 26, 2007. These options were issued pursuant to the 1997 Director Stock OptionPlan.

 

Dividends:

On November 4, 2004, the last day shares of the Company’s Series AConvertible Preferred Stock were outstanding, the Company, pursuant to theterms of the preferred stock, authorized payment of dividends in cash toholders of its preferred stock as of that date. Such dividends aggregated $41,068 and were paid on December 31, 2004.

 

6

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**4.     Line of credit:**

 

In September 2004, the Company entered into a revolving line of creditagreement with maximum availability of $750,000 with an independent financialinstitution.  Through April 2005, theCompany incurred no interest expense and borrowed no money against this line.  The Company terminated the agreement in April2005.

 

**5.     Reclassification:**

 

As of September 27, 2005, the Company hasreclassified certain of its restaurant operating costs relating tocomplimentary and employee meals from operating expenses to a contra-revenueaccount. This reclassification has no effect on net loss or accumulateddeficit.  The total amount reclassifiedis reflected as a reduction of operating expenses and a corresponding reductionof revenues in the same amount in each period affected. For the thirteen andthirty-nine weeks ended September 26, 2004, the reclassification totaled$212,813 and $531,315, respectively.

 

**6.     Leases**

 

On February 7, 2005,the Office of the Chief Accountant of the Securities and Exchange Commissionissued a letter to the American Institute of Certified Public Accountantsexpressing its views regarding certain operating lease-related accountingissues and their application under generally accepted accounting principles inthe United States of America.  In lightof this letter, the Company’s management initiated a review of its leaseaccounting and determined that instead of accruing rent costs during the periodof constructing restaurants, the Company had accrued rent beginning as of thecommencement of the lease term, which was typically the commencement ofoperations.  Management concluded that inorder to conform its method of accounting to that set forth in the letter, itwould begin accruing lease costs during the construction period and capitalizethe lease costs as part of the costs of the constructed property.  As a result, the Company increased itsproperty and equipment by $603,947, and increased its other long-termliabilities by $603,947 on its consolidated balance sheet at June 28, 2005.  The Company has determined the effects ofconforming to this accounting method were not material to prior years’financial statements or the financial statements for the first quarter of 2005.

 

On October 6, 2005, theFinancial Accounting Standards Board posted FASB Staff Position No. FAS 13-1, *Accounting for Rental Costs Incurred during a Construction Period*(FSPFAS 13-1).  The Staff concluded thatrental costs associated with ground or building operating leases that areincurred during a construction period shall be recognized as rental expense,and that the rental costs shall be included in income form continuingoperations.  The Company will beginaccounting for rental costs incurred during construction periods per theguidance in this FSP beginning in fiscal year 2006.

 

**7.     Subsequent Event**

 

Issuance of common stock and warrants to purchase common stock:

On October 21, 2005, the Company entered into a securitiespurchase agreement with accredited investors for the sale of approximately$5.34 million of common stock and warrants to purchase commonstock.  The agreement provided forsecurities to be sold at an offering price of $4.8165 per share of commonstock, with one warrant for every five shares of common stock sold.  The warrants have a term of five years andare exercisable at $6.50 per share, subject to certain anti-dilutionadjustments.  The Companycompleted this private placement, with the sale of 1,108,844 shares of commonstock and issuance of warrants to purchase 221,762 shares of common stock.  In connection with the sale, the Companyissued to its placement agent a five-year warrant to purchase 55,436 shares ofcommon stock at an exercise price of $6.50 per share, paid its agent a cashcommission of $266,987, reimbursed the lead investor for $25,000 in expenses,and agreed to reimburse the placement agent for accountable expenses up to$50,000.

 

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**ITEM 2       Management’sDiscussion and Analysis or Plan of Operation**

 

*Thisdiscussion and analysis contains various non-historical forward-lookingstatements within the meaning of Section 21E of the Exchange Act.  Although we believe that, in making any suchstatement, our expectations are based on reasonable assumptions, any suchstatement may be influenced by factors that could cause actual outcomes andresults to be materially different from those projected.  When used in the following discussion, thewords “anticipates,” “believes,” “expects,” “intends,” “plans,” “estimates” andsimilar expressions, as they relate to us or our management, are intended toidentify such forward-looking statements. You are cautioned not to place undue reliance on such forward-lookingstatements, which are qualified in their entirety by the cautions and risksdescribed herein.  Please refer to ourCurrent Report on Form 8-K filed with the Securities and Exchange Commission onSeptember 7, 2005, for additional factors known to us that may cause actualresults to vary.*

 

**Overview**

 

We operate ten casual dining restaurants featuring on-premisesbreweries under the name Granite City Food & Brewery®.  The location of each restaurant and the monthand year of its opening appear in the following chart:

 
| **Unit** | ** ** | **Location**                          | ** ** | **Opened** | ** ** |
|----------|------------|---------------------------------------|------------|------------|------------|
| 1        |       | St.  Cloud, Minnesota                 |       | Jun-99     |       |
| 2        |       | Sioux  Falls, South Dakota            |       | Dec-00     |       |
| 3        |       | Fargo,  North Dakota                  |       | Nov-01     |       |
| 4        |       | Des  Moines, Iowa                     |       | Sep-03     |       |
| 5        |       | Cedar  Rapids, Iowa                   |       | Nov-03     |       |
| 6        |       | Davenport,  Iowa                      |       | Jan-04     |       |
| 7        |       | Lincoln,  Nebraska                    |       | May-04     |       |
| 8        |       | Minneapolis  (Maple Grove, Minnesota) |       | Jun-04     |       |
| 9        |       | Wichita,  Kansas                      |       | Jul-05     |       |
| 10       |       | St.  Paul (Eagan, Minnesota)          |       | Sep-05     |       |

 

                Wedeveloped the foregoing restaurants using proceeds from the sale of oursecurities, building and equipment leases, debt financing and cash flow fromoperations.  We built units 4-9 and 11based upon the prototype we developed in early 2003.  Unit 10, our St. Paul (Eagan) restaurant, wasa conversion of an existing restaurant. With the exception of units 1-3, we developed all of our units under ourmulti-site development agreement with a commercial developer that provides uswith assistance in site selection, construction management and financing fornew restaurants.  Under this agreement,we lease each new restaurant from our developer.

 

InFebruary 2005, we began operating Granite City University where the training ofeach of our managers takes place.  Thiseight-week training program consists of both “hands on” as well as classroomtraining for all aspects of management. All salaries and related costs incurred at Granite City University arerecorded as a component of corporate general and administrative costs.

 

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InJune 2005, we began operating our worthouse which facilitates the initial stageof our brewing process— the production of non-alcoholic wort— using ourpatent-pending brewing process called Fermentus Interruptus.  We believe that Fermentus Interruptus and theuse of a centrally located worthouse improves the economics of microbrewing asit eliminates the initial stages of brewing and storage at multiple locations,thereby reducing equipment and development costs at new restaurantlocations.  Additionally, having a commonstarting point for the production of wort creates consistency of taste for ourproduct from unit to unit. The wort produced at our worthouse is transportedvia truck to the fermentation vessels at each of our restaurants where thebrewing process is completed.  We believethat our current worthouse has the capacity to service 30 to 35 restaurantlocations.

 

In October 2005, we entered into a securities purchase agreement withcertain accredited investors for the sale of approximately $5.34 million ofcommon stock and warrants.  Under thisagreement, we issued 1,108,844 shares of common stock at a price of $4.8165 pershare, five-year warrants for the purchase of 221,762 shares of common stock atan exercise price of $6.50 per share to such investors, and five-year warrantsfor the purchase of 55,436 shares of common stock at an exercise price of $6.50to our placement agent.  We paid ourplacement agent cash commissions of $266,987 and reimbursed the lead investorfor $25,000 in expenses.  We have alsoagreed to reimburse our placement agent for accountable expenses up to$50,000.  Using the proceeds from thisprivate placement, our September 2004 private placement, equipment loans andcash flow from operations as needed, we intend to finance our working capitalneeds and expand our ten store restaurant chain.

 

Webelieve that our operating results will fluctuate significantly because ofseveral factors, including the timing of new restaurant openings and relatedexpenses, profitability of new restaurants, changes in food and labor costs,increases or decreases in comparable restaurant sales, general economicconditions, consumer confidence in the economy, changes in consumerpreferences, competitive factors and weather conditions.

 

We expect the timing of new restaurant openings to have a significantimpact on restaurant revenues and costs. We believe we will incur the most significant portion of pre-openingcosts associated with a new restaurant within the two months immediatelypreceding, and the month of, the opening of such restaurant.

 

Our restaurant revenues are comprised almost entirelyof the sales of food and beverages.  Thesale of retail items, such as cigarettes and promotional items, typicallyrepresents less than one percent of total revenue.  Product costs include the costs of food,beverages and retail items.  Labor costsinclude direct hourly and management wages, taxes and benefits for restaurantemployees.  Direct and occupancy costsinclude restaurant supplies, marketing costs, rent, utilities, real estatetaxes, repairs and maintenance and other related costs.  Pre-opening costs consist of direct costsrelated to hiring and training the initial restaurant workforce, the wages andexpenses of our dedicated new store opening teams and certain other directcosts associated with opening new restaurants. General and administrative expenses are comprised of expenses associatedwith all corporate and administrative functions that support existingoperations, management and staff salaries, employee benefits, travel,information systems, training and market research.  Depreciation and amortization includesdepreciation on capital expenditures. Other income and expense represents the cost of interest on debt andcapital leases, interest income on invested assets and loss on disposal ofassets.

 

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**Results of Operations**

 

                The following table compares operating resultsexpressed as a percentage of total revenue for the thirteen and thirty-nineweeks ended September 26, 2004 and September 27, 2005.

 
| ** **                    | ** ** | **Thirteen Weeks Ended** | ** ** | **Thirty-nine Weeks Ended** | ** ** |
|-------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                    | ** ** | **September 26,**        | ** ** | **September 27,**           | ** ** | **September 26,** | ** ** | **September 27,** | ** ** |
| ** **                    | ** ** | **2004**                 | ** ** | **2005**                    | ** ** | **2004** | ** ** | **2005** | ** ** |
| Restaurant revenues           |       | 100.0                    | %          | 100.0                       | %          | 100.0 | % | 100.0 | % |
|                          |       |                     |       |                        |       |   |   |   |   |
| Cost of sales:                |       |                     |       |                        |       |   |   |   |   |
| Food, beverage and retail     |       | 31.1                     |       | 30.7                        |       | 31.0 |   | 30.1 |   |
| Labor                         |       | 34.2                     |       | 34.7                        |       | 33.8 |   | 34.3 |   |
| Direct and occupancy          |       | 16.5                     |       | 19.1                        |       | 16.9 |   | 18.5 |   |
| Total cost of sales           |       | 81.8                     |       | 84.4                        |       | 81.7 |   | 82.9 |   |
|                          |       |                     |       |                        |       |   |   |   |   |
| Pre-opening                   |       | —                   |       | 3.1                         |       | 3.3 |   | 2.0 |   |
| General and administrative    |       | 6.8                      |       | 13.5                        |       | 8.0 |   | 13.2 |   |
| Depreciation and amortization |       | 5.1                      |       | 5.8                         |       | 5.2 |   | 5.7 |   |
|                          |       |                     |       |                        |       |   |   |   |   |
| Operating income (loss)       |       | 6.3                      |       | (6.8                        | )          | 1.8 |   | (3.8 | ) |
|                          |       |                     |       |                        |       |   |   |   |   |
| Interest:                     |       |                     |       |                        |       |   |   |   |   |
| Income                        |       | 0.0                      |       | 0.2                         |       | 0.0 |   | 0.4 |   |
| Expense                       |       | (3.6                     | )          | (3.8                        | )          | (3.7 | ) | (3.9 | ) |
| Other expense, net            |       | (0.3                     | )          | —                      |       | (0.1 | ) | (0.2 | ) |
| Net other expense             |       | (3.8                     | )          | (3.5                        | )          | (3.8 | ) | (3.7 | ) |
|                          |       |                     |       |                        |       |   |   |   |   |
| Net income (loss)             |       | 2.4                      | %          | (10.3%                      | )          | (2.0% | ) | (7.5% | ) |

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Certain percentageamounts do not sum due to rounding.

 

**Critical Accounting Policies**

 

This discussion and analysis is based upon our financial statements,which were prepared in conformity with generally accepted accounting principlesin the United States of America.  Theseprinciples require management to make estimates and assumptions that affect theamounts reported in the consolidated financial statements and accompanyingnotes.  We believe our estimates andassumptions are reasonable; however, actual results and the timing of therecognition of such amounts could differ from those estimates.  We have identified the following criticalaccounting policies and estimates utilized by management in the preparation ofour financial statements:

 

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*Property and equipment*

 

                 Thecost of property and equipment is depreciated over the estimated useful livesof the related assets ranging from three to 20 years.  The cost of leasehold improvements isdepreciated over the initial term of the related lease.  Depreciation is computed on the straight-linemethod for financial reporting purposes and accelerated methods for income taxpurposes.  Amortization of assetsacquired under capital lease is included in depreciation expense.  We review property andequipment, including leasehold improvements, for impairment when events orcircumstances indicate these assets might be impaired pursuant to Statement ofFinancial Accounting Standard (SFAS) No. 144. We base this assessment upon the carrying value versus the fair marketvalue of the asset and whether that difference is recoverable.  Such assessment is performed on arestaurant-by-restaurant basis and includes other relevant facts andcircumstances, including the physical condition of the asset.

 

Our accounting policies regarding property and equipment include certainmanagement judgments regarding the estimated useful lives of such assets andthe determination as to what constitutes enhancing the value of or increasingthe life of existing assets.  Thesejudgments and estimates may produce materially different amounts ofdepreciation and amortization expense than would be reported if differentassumptions were used.

 

We continually reassess our assumptions and judgments and makeadjustments when significant facts and circumstances dictate.  Historically, actual results have not beenmaterially different than the estimates we have made.

 

**Results of Operations for theThirteen and Thirty-nine Weeks Ended September 26, 2004 and September 27,2005**

 

**Revenue**

 

We generated$9,066,377 and $9,705,060 of revenues during the third quarter of 2004 and2005, respectively.  During the firstthirty-nine weeks of 2004 and 2005, we generated revenues of $22,666,679 and$26,109,648, respectively.  Thethirty-nine weeks ended September 27, 2005 included 325 restaurant weeks, whichis the sum of the actual number of weeks each restaurant operated.  The thirty-nine weeks ended September 26,2004 included 265 restaurant weeks.  Theincrease in sales of 15.2% for the first three quarters of the fiscal year 2005over the first three quarters of fiscal year 2004 was primarily the result of60 additional restaurant weeks in 2005.

 

Due to increaseddemand fostered by the opening of a new restaurant, that restaurant typicallyexperiences a temporary period of high revenues immediately following itsopening (the “honeymoon effect”).  We hadfive restaurants experiencing the honeymoon effect at various times during thefirst three quarters of 2004, while we had only one restaurant experiencing thehoneymoon effect in the first three quarters of 2005.  As such, average weekly sales decreased from$87,177 per week in the third quarter of 2004 to $82,949 per week in the thirdquarter of 2005.  Average weekly salesdecreased from $85,535 per week in the first three quarters of 2004 to $80,337per week in the first three quarters of 2005. Comparable restaurant sales, which include restaurants in operation over18 months, increased 0.8% and decreased 1.0% in the third quarter and firstthree quarters of the year, respectively.

 

We anticipate thatrestaurant revenues will vary from quarter to quarter.  We anticipate seasonal fluctuations inrestaurant revenues due in part to increased outdoor seating and generallyfavorable weather conditions at our locations during the summer months.  Due to the honeymoon effect, we expect thetiming of new restaurant openings to cause fluctuations in restaurant revenues.  Additionally, consumer confidence in the economyand changes in consumer preferences may affect our future revenues.

 

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**Restaurant Costs**

 

***Food and Beverage***

 

Our food andbeverage costs decreased 0.4% as a percentage of revenue from 31.1% in thethird quarter of 2004 to 30.7% in the third quarter of 2005.  These costs decreased 0.9% as a percentage ofrevenue from 31.0% in the first thirty-nine weeks of 2004 to 30.1% in the firstthirty-nine weeks of 2005.  Thesedecreases were due primarily to more experienced staff members generating lesswaste, as well as lower per-unit product prices due to higher volumecompany-wide purchasing.

 

We expect that ourfood and beverage costs will vary going forward due to numerous variables,including seasonal changes in food and beverage costs and guestpreferences.  We periodically create newmenu offerings and introduce new craftbrewed beers based upon guestpreferences.  Although such menumodifications may temporarily result in increased food and beverage cost, we believewe are able to offset such increases with our weekly specials which providevariety and value to our guests.  Ourvarieties of craftbrewed beer, which we can produce at lower cost than beers wepurchase for resale, also enable us to keep our food and beverage costs lowwhile fulfilling guest requests and building customer loyalty.  As we have opened additional units, we haveexperienced increased purchasing power and believe we will continue to do sowith additional expansion, thereby partially offsetting food and beverage costincreases and maintaining or reducing our food and beverage costs as apercentage of revenue.  Additionally, aswe add new units, we believe our brewing process, Fermentus Interruptus, willallow us to keep our high quality product intact while leveraging our fixedproduction costs, thereby enhancing overall profitability.

 

***Labor***

 

Our labor costsexpressed as a percentage of revenue increased 0.5% from 34.2% in the thirdquarter of 2004 to 34.7% in the third quarter of 2005.  These costs increased 0.5% as a percentage ofrevenue from 33.8% in the first thirty-nine weeks of 2004 to 34.3% in the firstthirty-nine weeks of 2005.  The overallincrease in labor costs for the first three quarters of 2005 was due primarilyto increases in management wages and workers compensation insurance expense.

 

We expect thatlabor costs will vary as we add new restaurants.  Minimum wage laws, local labor laws andpractices, as well as unemployment rates vary from state to state and willaffect our labor costs, as will hiring and training expenses at our newunits.  Our management believes thatretaining good employees and more experienced staff ensures high quality guestservice and reduces hiring and training costs.

 

***Direct and Occupancy***

 

Our direct andoccupancy expenses increased 2.6% as a percentage of revenues from 16.5% in thethird quarter of 2004 to 19.1% in the third quarter of 2005.  These expenses increased 1.6% from 16.9% inthe first thirty-nine weeks of 2004 to 18.5% in the first thirty-nine weeks of2005.  Operating supplies, rent andoccupancy costs, repairs and maintenance, promotions and restaurant-leveladministrative expense represent the majority of our direct and occupancyexpenses, a substantial portion of which is fixed or indirectly variable.  These increases in direct and occupancyexpense were due primarily to the increase in the cost of utilities.

 

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**Pre-**Opening Costs

 

Pre-opening costs, which are expensed as incurred, consist of expensesrelated to hiring andtraining the initial restaurant workforce, the wages and expenses of ourdedicated new store opening teams and certain other direct costs associatedwith opening new restaurants.. Pre-opening costs during 2004 represented a portion of the pre-openingcosts at our Davenport and Minneapolis restaurants as well as all such costsrelated to our Lincoln restaurant. Pre-opening costs in the first three quarters of 2005 related primarilyto our Wichita restaurant which we opened July 5, 2005 and our St. Paulrestaurant which we opened September 20, 2005. Beginning in fiscal year 2006, we will include rental costs incurredduring construction periods in pre-opening expense in accordance with FASBStaff Position No. FAS 13-1, *Accounting for RentalCosts Incurred during a Construction Period*(FSP FAS 13-1).  Based upon the costs of labor, travel,lodging, training and rent incurred prior to opening, we expect pre-openingexpenses to average between $400,000 and $425,000 per unit, of which weanticipate approximately $85,000 to $115,000 to be construction periodrent.  Pre-opening costs are primarilyincurred in the month of, and two months prior to, the restaurant opening.

 

**General and Administrative**

 

Generaland administrative expenses include all salaries and benefits associated withour corporate staff that is responsible for overall restaurant quality, futureexpansion into new locations, financial controls and reporting, restaurantmanagement recruiting, training at Granite City University, and certainadministrative and excess capacity costs related to our worthouse that weopened in June 2005.  Other general andadministrative expenses also include advertising, professional fees, officeadministration, centralized accounting system costs, and travel by ourcorporate management to the restaurant locations.  General and administrative expenses increased$693,002 from $619,888 in the third quarter of 2004 to $1,312,890 in the thirdquarter of 2005.  Such expenses increased$1,630,348 from $1,813,950 in the first thirty-nine weeks of 2004 to $3,444,298in the first thirty-nine weeks of 2005.  In order tostaff Granite City University and to recruit and retain restaurant managementfor the purpose of executing our restaurant growth plans and to allow forattrition, we incurred increased payroll, employee benefits, recruiting,relocation and travel expenses..   Additionally,our professional fees, including investor relations, legal and accounting,increased in the first three quarters of 2005 over the first three quarters of2004.

 

Weexpect that general and administrative costs will continue to fluctuate as apercentage of restaurant revenues in the near term as we build ourinfrastructure to adequately sustain operations through further expansion.  The anticipated further expansion is expectedto result in greater economies of scale for our corporate expenses in the longterm.

 

**Depreciation andAmortization**

 

Depreciation andamortization expense increased $97,337 during the third quarter of 2005 and$318,111 during the first thirty-nine weeks of 2005 compared to the sameperiods in 2004, due principally to the additional depreciation related to thenewly opened restaurants. As a percentage of revenues, depreciation expenseincreased 0.5% from 5.2% in the first three quarters of 2004 to 5.7% in thefirst three quarters of 2005.

 

**Other Income and Expense**

 

Interest expense increased$38,249 and $171,834 in the third quarter and first thirty-nine weeks of 2005compared to the third quarter and first thirty-nine weeks of 2004,respectively, due to an increase in debt and capital leases as a result ofadditional restaurants.  Interest incomeincreased $22,535 and $87,689 in the third quarter and first three quarters of2005 compared to the third quarter and first three quarters of 2004,respectively, due to interest earned on cash obtained from the sale of oursecurities in September 2004.  Managementexpects interest expense will increase and interest income will decrease as wepursue further expansion.  As wecompleted the remodeling of our three older restaurants to mirror the 2003prototype, we recorded a $50,475 loss on assets which had not been fullydepreciated.

 

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**Liquidity and Capital Resources**

 

We have funded ourcapital requirements since inception through sales of securities, building andequipment leases, debt financing and cash flow from operations.  As of September 27, 2005, we had net workingcapital of $837,752, compared to net working capital of $6,216,713 at December28, 2004.

 

During thethirty-nine weeks ended September 27, 2005, we used $849,261 of net cash inoperating activities, $4,154,961 in net cash to purchase equipment and otherassets primarily for our Wichita, Eagan and Kansas City locations and our wortproduction facility, and made payments aggregating $614,098 on our debt andcapital lease obligations.  Additionally,during the first three quarters of 2005, we paid cash dividends to shareholdersof our preferred stock aggregating $41,068 and received net cash of $230,094from the issuance of our common stock upon the exercise of options andwarrants.

 

During the thirty-nineweeks ended September 26, 2004, operating activities provided us $804,554 ofnet cash, the sale of common stock and warrants provided us $1,774,785 of netcash, issuance of common stock pursuant to the exercise of options and warrantsprovided us $91,214 in net cash, and proceeds from long-term debt and our lineof credit provided us $949,102 of net cash. We used $2,307,910 of cash to purchase equipment and other assetsprimarily for our Davenport, Lincoln and Minneapolis locations, made paymentson our debt and capital lease obligations aggregating $498,584, and paid cashdividends aggregating $108,783 to holders of our convertible preferred stock.

 

Using the proceedsfrom this private placement, the October 2005 private placement, equipmentloans and cash flow from operations as needed, we intend to finance our workingcapital needs and expand our ten store restaurant chain into markets where webelieve our concept will have broad appeal and attractive restaurant-leveleconomics.  We are utilizing themulti-site development agreement we entered into in October 2002 with DunhamCapital Management L.L.C. (“Dunham”) to facilitate this expansion plan.  Dunham is controlled by Donald A. Dunham,Jr., who is an affiliate of Granite Partners, L.L.C., a beneficial owner ofless than 5% of our securities.  Underthis agreement, our developer provides us assistance in site selection,construction management and restaurant financing for new restaurants.

 

Aspart of our expansion strategy, we will continue using the prototype model wedeveloped in 2003.    Weanticipate that each of these prototypical restaurants will require aninvestment by our developer of approximately $3.5 million to $4.0 million eachfor land, building and equipment.    Weanticipate these costs will vary from one market to another based on real estatevalues, zoning regulations, labor markets and other variables. Under ourdevelopment agreement, we will lease each new restaurant from ourdeveloper.  We anticipate thatpre-opening expenses and the initial purchase of furniture, fixtures andequipment will require an investment by us of approximately $1.0 million to$1.6 million per unit.

 

InFebruary 2005, we commenced leasing a building in Ellsworth, Iowa which isbeing constructed in accordance with our specifications by an unrelated thirdparty as our worthouse to facilitate the initial stage of our FermentusInterruptus brewing process, the production of non-alcoholic wort.  We have the option to purchase the worthouseat any time during the lease term for one dollar plus the unamortizedconstruction costs.  Because theconstruction costs will be fully amortized through payment of rent during thebase term, if the option is exercised at or after the end of the initialten-year period, the option price will be one dollar.  As such, the lease is classified as a capitallease.

 

In July 2005, we openedour restaurant in Wichita.   We areleasing this property from our developer under a 20-year lease agreement.   Our annual lease payments are $336,000.  This lease may be extended at our option forup to five additional five-year periods.

 

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In September 2005, weopened our restaurant in St. Paul.  Weare leasing this property from our developer under a 20-year leaseagreement.  Our annual lease payments are$396,375.  This lease may be extended at ouroption for up to five additional five-year periods.

 

With cash generated fromoperations, proceeds from our 2004 and 2005 private placements and equipmentfinancing, management believes that we will have sufficient funds to pursue ourbusiness strategy over the next two years. If we do not generate the cash needed from operations and/or are notable to obtain suitable equipment financing, we may have to reduce or delay ourplanned expansion.

 

**Commitments and ContingentLiabilities**

 

*Operating and Capital Leases:*

 

As of September 27, 2005,we had nine land and building lease agreements. One of these leases expires in 2019, one in 2020, two in 2023, three in2024 and the remaining two expire in 2025, all with renewable options foradditional periods.  The buildingportions of these leases are classified as capital leases because their presentvalue was greater than 90% of the estimated fair value at the beginning of thelease.  The land portions of these leasesare classified as operating leases because the fair value of the land was morethan 25% of the leased property at the inception of each lease.  Under three of the leases, we are required topay additional percentage rent based upon restaurant sales.  As of September 27, 2005, future obligationsrelating to the land portion of these nine leases aggregated $20,271,694 pluspercentage rent.  The scheduled rentincreases for the land during the life of each lease are recognized on astraight-line basis.  Future obligationsrelating to the building portion of these nine leases aggregated $31,629,848 asof September 27, 2005.

 

In 2001, we entered intoa 20-year operating lease for land upon which we built our Fargorestaurant.  As of September 27, 2005,future obligations under the terms of this lease aggregated $1,161,800 pluspercentage rent.

 

In December 2004, weentered into a land and building lease agreement for a facility to be used forwort production.  This ten-year leasecommenced February 1, 2005 and is classified as a capital lease as it contains abargain purchase option.  As of September27, 2005, future obligations under the terms of this lease aggregated $806,404.

 

In August 2005, weentered into a 38-month lease agreement for office space for our corporateoffices.  The lease commenced October 1,2005.  Annual rent is $38,666, withscheduled annual increases throughout the term of the lease.  Such scheduled rent increases are recognizedon a straight-line basis over the term of the lease.

 

As of September 27, 2005,we have additional capital lease obligations outstanding aggregating $498,195for equipment leases expiring in 2008, and an operating lease obligationoutstanding of $6,700 for a lease expiring in 2005 for office space.

 

We have entered intothree separate 20-year net leases relating to future restaurants in Kansas andMissouri.  The annual rent for each leasewill be equal to 10.5% of the sum of the construction cost and land cost.  The terms of these leases will commence whenoperations begin at each location.

 

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*Personal Guaranties:*

 

Certain of our directorshave personally guaranteed certain of our leases and loan agreements.  In connection with the $1.5 million loan weobtained in July 2001 to finance our Fargo restaurant, we entered into anagreement concerning guaranty which provides, among other things, that suchguarantors will be indemnified from any liabilities they may incur by reason oftheir guaranties of our indebtedness. The agreement contains various covenants,one of which requires us to use our best efforts to obtain a release of oneindividual’s guarantee obligation by January 1, 2006.  If we have not accomplished this, we areobligated to pay him a monthly guarantee fee in the amount of $1,000 until suchrelease is obtained.  Additionally, at ameeting held in March 2004, our board of directors agreed to compensate ourPresident and Chief Executive Officer for his personal guaranties of equipmentloans entered into in August 2003 and January 2004.  The amount of annual compensation is 3% ofthe balance of such loans.  This amountis calculated and accrued based on the weighted average daily balances of suchloans at the end of each monthly accounting period.  As of September 27, 2005, $27,866 of loanguarantee fees were included as a liability on our balance sheet, all of whichwere accrued during the thirty-nine weeks ended September 27, 2005.

 

*Employment Agreement:*

 

We have entered into anemployment agreement with our President and Chief Executive Officer.  In lieu of a salary, we issued stock optionsto him in 1999, 2001 and 2003 as compensation for his services through March30, 2003.  Effective April 1, 2003, webegan paying an annual salary to such officer. Among other provisions, the employment agreement includes change incontrol provisions that would entitle him to receive severance pay equal to 18months of salary if there is a change in control of our company and hisemployment terminates.  On March 15,2005, the Compensation Committee of our board of directors authorized a newthree-year employment and compensation arrangement with him.  The arrangement provides for a minimum basesalary of $225,000, commencing January 1, 2005, cash incentive compensation for2005 ranging from $0 to $125,550 based on performance, and a stock option forthe purchase of 150,000 shares of common stock.

 

InAugust 2005, we entered into an at-will employment agreement with our ChiefFinancial Officer which became effective September 13, 2005.  The employment agreement provides for a minimumbase salary of $215,000 per year, performance-based cash bonus of up to $75,000per year for years 2005 and 2006, and a stock option for the purchase of175,000 shares of common stock.  Amongother provisions, the employment agreement includes change in controlprovisions that would entitle him to receive severance pay equal to 12 monthsof base salary and a pro-rata portion of any bonus earned as of the date oftermination if there is a change in control of our company and his employmentterminates.

 

*Development Agreement:*

 

                Wehave entered into a development agreement with Dunham for the development ofour restaurants.  The agreement givesDunham the right to develop, construct and lease up to 22 restaurants for usprior to December 31, 2012.  We are notbound to authorize the construction of restaurants during that time period, butgenerally cannot use another developer to develop or own a restaurant as longas the development agreement is in effect. We can use another developer if Dunham declines to build a particularrestaurant, if the agreement is terminated because of a default by Dunham, orif our company is sold or merged into another company.  In the case of a merger or sale of ourcompany, the development agreement may be terminated at such time as Dunham hascompleted seven restaurants under the agreement.  As of September 27, 2005, seven restaurantshad been constructed for us under this development agreement.

 

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The development agreementprovides for a cooperative process between Dunham and our company for theselection of restaurant sites and the development of restaurants on thosesites, scheduling for the development and construction of each restaurant oncea location is approved, and controls on the costs of development andconstruction using bidding and guaranteed maximum cost concepts.  The development agreement provides thatrestaurants will be leased to us on the basis of a triple net lease.  The rental rate of each lease will be calculatedusing a variable formula which is based on approved and specified costs ofdevelopment and construction and an indexed interest rate.  The term of each lease is 20 years with fivefive-year options to renew.

 

*Summary of Contractual Obligations:*

 

                Thefollowing table summarizes our obligations under contractual agreements as ofSeptember 27, 2005 and the time frame within which payments on such obligationsare due.  This table does not includeamounts related to percentage rent, as such amounts have not yet beendetermined.  In addition, whether wewould incur any additional expense on our employment agreements depends uponthe existence of a change in control of the company.  Therefore, no percentage rent nor severanceexpense has been included in the following table.

 
| ** **                                      | ** ** | **Payments due by period** | ** ** |
|-------------------------------------------------|------------|----------------------------|------------|
| **Contractual Obligations**                     | ** ** | **Total**                  | ** ** | **Less than  1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than  5 years** | ** ** |
| Long-term debt, principal                       |       | $                          | 2,562,039  |   | $ | 58,112 |   | $ | 1,787,740 |   | $ | 469,763 |   | $ | 246,424 |   |
| Interest on long-term debt                      |       | 373,392                    |       | 48,390 |   | 255,667 |   | 61,245 |   | 8,090 |   |
| Capital lease obligations, including interest   |       | 32,934,447                 |       | 525,302 |   | 3,991,131 |   | 3,704,103 |   | 24,713,911 |   |
| Operating lease obligations, including interest |       | 21,440,194                 |       | 309,514 |   | 2,433,647 |   | 2,448,905 |   | 16,248,128 |   |
| Loan guarantee                                  |       | 123,556                    |       | 36,475 |   | 55,170 |   | 28,581 |   | 3,330 |   |
| Total obligations                               |       | $                          | 57,433,628 |   | $ | 977,793 |   | $ | 8,523,355 |   | $ | 6,712,597 |   | $ | 41,219,883 |   |
|                                                 |            |                            |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Basedon our working capital position at September 27, 2005 and the proceeds weobtained for our private placement in October 2005, we believe we havesufficient working capital to meet our current obligations.

 

**Qualitative and QuantitativeDisclosures about Market Risk**

 

Our company is exposed tomarket risk from changes in interest rates on debt and changes in commodityprices.

 

*Changes in Interest Rate:*

 

                InFebruary 2007, we will have a balloon payment due of approximately $1,325,000on the loan we obtained from an independent financial institution in July2001.  Currently, this loan bears a fixedinterest rate of 8.75%. If it becomes necessary to refinance such balloonbalance, we may not be able to secure financing at the same interest rate.  The effect of a higher interest rate woulddepend upon the negotiated financing terms.

 

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*Changes in Commodity Prices:*

 

                Many of the food products wepurchase are affected by commodity pricing and are, therefore, subject tounpredictable price volatility.   Thesecommodities are generally purchased based upon market prices established withvendors.  Extreme fluctuations incommodity prices and/or long-term changes could have an adverse affect onus.  Although SYSCO Corporation is ourprimary supplier of food, substantially all of the food and supplies we purchaseare available from several sources, which helps to control commodity pricerisks.  Additionally, we have the abilityto increase menu prices, or vary the menu items offered, in response to a foodproduct price increases.  If, however,competitive circumstances limit our menu price flexibility, margins could benegatively impacted.

 

                Our company does not enter intoderivative contracts either to hedge existing risks or for speculativepurposes.

 

**Seasonality**

 

We expect that oursales and earnings will fluctuate based on seasonal patterns.  We anticipate that our highest sales andearnings will occur in the second and third quarters due to the milder climateand availability of outdoor seating during those quarters in our existing andproposed markets.

 

**Inflation**

 

Theprimary inflationary factors affecting our operations are food, supplies andlabor costs.  A large number of ourrestaurant personnel are paid at rates based on the applicable minimum wage,and increases in the minimum wage directly affect our labor costs.  In the past, we have been able to minimizethe effect of these increases through menu price increases and otherstrategies.  To date, inflation has nothad a material impact on our operating results.

 

**ITEM 3   Controls and Procedures**

 

We maintain a system of disclosure controls andprocedures that is designed to provide reasonable assurance that information,which is required to be disclosed, is accumulated and communicated tomanagement timely.  At the end of theperiod covered by this report, we carried out an evaluation under thesupervision and with the participation of our management, including our ChiefExecutive Officer and Chief Financial Officer, of the effectiveness of thedesign and operation of our disclosure controls and procedures pursuant toExchange Act Rule 13a-15.  Based uponthat evaluation, our Chief Executive Officer and Chief Financial Officerconcluded that our disclosure controls and procedures are effective.

 

Duringour most recent fiscal quarter, there has been no change in our internalcontrol over financial reporting (as defined in Rule 13a-15(f) or 15d-15(f)under the Exchange Act) that has materially affected, or is reasonably likelyto materially affect, our internal control over financial reporting.

 

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**PART II   OTHER INFORMATION**

 
| ITEM 1 |   | Legal Proceedings                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | Not applicable.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ITEM 2 |   | Unregistered Sales of Equity Securities and Use of  Proceeds                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | (a)    On  July 15, 2005, we issued 999 shares of common stock upon the cashless  exercise of a warrant for the purchase of 1,500 shares of common stock  originally issued April 30, 2003 to one of our agents for the private  placement of Series A Convertible Preferred Stock and warrants. The foregoing  warrant had an exercise price of $1.58 per share and an expiration date of  April 30, 2008.                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | The  foregoing issuance was made in reliance upon the exemption provided in  Section 4(2) of the Securities Act. The certificate representing such  securities contains a restrictive legend preventing sale, transfer or other  disposition, absent registration or an applicable exemption from registration  requirements. The recipient of such securities received, or had access to,  material information concerning our company, including, but not limited to,  our reports on Form 10-KSB, Form 10-QSB, and Form 8-K, as filed with the SEC.  No discount or commission was paid in connection with the issuance of common  stock upon exercise of the warrant. |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | (b)    Not  applicable.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | (c)    Not  applicable.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ITEM 3 |   | Defaults upon Senior Securities                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | Not applicable.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ITEM 4 |   | Submission of Matters to a Vote of Security Holders                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | Not applicable.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ITEM 5 |   | Other Information                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | Not applicable.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| ITEM 6 |   | Exhibits                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   | See “Index to Exhibits.”                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |

 

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**SIGNATURES**

 

In accordance with the requirements of the ExchangeAct, the registrant caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 
|                                | GRANITE CITY FOOD & BREWERY LTD. |
|-------------------------------------|--------------------------------------|
|                                |                                 |   |
| Date:  November  14, 2005 | By:                                  | /s/ Daniel H. Bauer |   |
|                                |                                 | Daniel H. Bauer |
|                                |                                 | Chief Financial Officer |

 

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**INDEX TO EXHIBITS**

 
| **Exhibit  Number** | ** ** | **Description**                                                                                                                                                                                            |
|---------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.1                |       | Executive  Employment Agreement by and between the Company and Daniel H. Bauer, dated  August 17, 2005.                                                                                               |
|                |       |                                                                                                                                                                                                       |
| 10.2                |       | Cautionary  Statement, dated September 7, 2005 (incorporated by reference to our Current  Report on Form 8-K filed on September 7, 2005 (File No. 000-29643)).                                             |
|                |       |                                                                                                                                                                                                       |
| 31.1                |       | Certification by Steven  J. Wagenheim, President and Chief Executive Officer of the Company, pursuant  to Exchange Act Rule 13a-14, as adopted pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002. |
|                |       |                                                                                                                                                                                                       |
| 31.2                |       | Certification by Daniel  H. Bauer, Chief Financial Officer of the Company, pursuant to Exchange Act  Rule 13a-14, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of  2002.                   |
|                |       |                                                                                                                                                                                                       |
| 32.1                |       | Certification by Steven  J. Wagenheim, President and Chief Executive Officer of the Company, pursuant  to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.   |
|                |       |                                                                                                                                                                                                       |
| 32.2                |       | Certification by Daniel H.  Bauer, Chief Financial Officer of the Company, pursuant to 18 U.S.C. Section  1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                      |

 

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