Back to GetFilings.com

Table of Contents

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

Commission file number 0-10815

UNIFIED WESTERN GROCERS, INC.

(Exact name of registrant as specified in its charter)

5200 Sheila Street, Commerce, CA 90040

(Address of principal executive offices) (Zip Code)

(323) 264-5200

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  x    No  ¨

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

The number of shares outstanding of each of the registrant’s classes of common stock, as of March 29, 2003, were as follows:

Class A:    71,425 shares            Class B:    478,909 shares            Class C: 16 shares

Table of Contents

TABLE OF CONTENTS

i

Table of Contents

PART I.    FINANCIAL INFORMATION

Unified Western Grocers, Inc. and Subsidiaries

Consolidated Balance Sheets—Unaudited

(dollars in thousands)

The accompanying notes are an integral part of these statements.

1

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Consolidated Statements of Earnings (Loss) and Comprehensive Earnings (Loss)—Unaudited

(dollars in thousands)

The accompanying notes are an integral part of these statements.

2

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Consolidated Statements of Cash Flows—Unaudited

(dollars in thousands)

Noncash Transactions

Capital lease obligations of $4,367 were incurred when the Company entered into leases for warehouse and computer equipment during the twenty six week period ended March 29, 2003.

The accompanying notes are an integral part of these statements.

3

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Notes To Consolidated Financial Statements

1.    Basis of Presentation

The consolidated condensed financial statements include the accounts of Unified Western Grocers, Inc. and all of its subsidiaries (the “Company” or “Unified”). Inter-company transactions and accounts with subsidiaries have been eliminated. The interim financial statements included herein have been prepared by the Company without audit, pursuant to the rules and regulations promulgated by the Securities and Exchange Commission (the “Commission”). Certain information and footnote disclosures normally included in the financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to Commission rules and regulations; nevertheless, management believes that the disclosures are adequate to make the information presented not misleading. These consolidated condensed financial statements should be read in conjunction with the audited financial statements and notes thereto included in the Company’s latest annual report filed on Form 10-K and Form 10-K/A. The results of operations for the interim periods are not necessarily indicative of the results for the full year.

The accompanying consolidated condensed financial statements reflect all adjustments which, in the opinion of management, are both of a normal recurring nature and necessary for a fair statement of the results of the interim periods presented. The preparation of the consolidated condensed financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. As a result, actual results could differ from those estimates.

Certain amounts in the prior years’ financial statements have been reclassified to conform to the current year’s presentation.

2.    Discontinued Operations

On September 25, 2002, the Company’s Board of Directors approved a plan to exit the Company’s retail operations. The plan of disposition included the closure of three retail stores prior to September 28, 2002 with the remaining nine stores being sold or closed in fiscal 2003. As a result, the Company has reclassified its consolidated financial statements to reflect the exit of its retail operations and to segregate the revenues, costs and expenses, assets and liabilities and cash flows of this business. The net operating results, net liabilities and net cash flows of the retail operations have been reported as “discontinued operations” in the accompanying financial statements. As of March 29, 2003, nine stores were closed and the Company continued to operate three stores pending their closure or sale.

Revenues from discontinued operations were $12.0 million and $33.4 million for the thirteen and twenty six week periods ended March 29, 2003, respectively compared to $32.9 million and $70.0 million for the thirteen and twenty six week periods ended March 30, 2002, respectively. Net losses from discontinued operations were approximately $3.1 million and $6.2 million for the thirteen and twenty six week periods ended March 29, 2003, respectively, compared to $1.1 million and $4.0 million for the thirteen and twenty six week periods ended March 30, 2002, respectively.

4

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Notes To Consolidated Financial Statements—Continued

Certain of the liabilities established in connection with the discontinued operations such as, lease reserves and settlements and contract terminations may be resolved in future years. As of March 29, 2003, the provisions established for these matters are considered adequate. The amount of such estimated reserves and current period charges against the reserves are presented below.

3.    Quasi-Reorganization

Concurrent with the decision to dispose of its retail operations as discussed in Note 2, the Company’s Board of Directors adopted a resolution approving the implementation of a quasi-reorganization for financial reporting purposes effective September 28, 2002. A quasi-reorganization is an accounting procedure that eliminates an accumulated deficit in retained earnings and involves adjusting the Company’s assets and liabilities to their fair values. Any remaining deficit in retained earnings is then eliminated by a transfer from additional paid-in capital and capital stock, if necessary, giving the Company a “fresh start” with a zero balance in retained earnings. The quasi-reorganization process resulted in the restatement of assets and liabilities of the Company to fair value at September 28, 2002 and the elimination of the Company’s accumulated deficit by a reduction of $18.1 million against additional paid-in capital, $1.1 million against Class A Shares and $7.7 million against Class B Shares. The quasi-reorganization adjustments did not result in a net write-up of net assets.

A summary of the consolidated accumulated deficit and the effects of the quasi-reorganization on the accumulated deficit follows:

5

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Notes To Consolidated Financial Statements—Continued

4.    Acquisitions

On September 27, 1999, the Company merged with United Grocers, Inc. (“United”), a grocery cooperative headquartered in Milwaukie, Oregon (the “Merger”). The effective date of the Merger was September 29, 1999. In connection with the Merger, the Company established a reserve for the closure of various facilities. Periodic charges against the reserve represent lease costs for non-subleased facilities and rental income shortfalls for subleased facilities. The amount of this reserve and current period charges against the reserve are presented below.

During the fiscal quarter ended March 29, 2003, the Company determined it had excess reserves related to a certain facility resulting from unanticipated sublease income. As a result, the Company reversed the excess reserve and reduced goodwill.

5.    Segment Information

Unified is a grocery wholesaler serving supermarket operators in California, Oregon, Washington, western Idaho, Nevada, Arizona, Hawaii, Colorado, Utah and various foreign countries in the South Pacific and elsewhere. Unified sells a wide variety of products to its customers, including dry grocery, frozen food, deli, meat, dairy, egg, produce, bakery, gourmet, specialty foods and general merchandise products. Unified also provides support services to its patrons, including finance, merchandising services, insurance and transportation. Products and services available to patrons may differ depending upon location.

Based on the information monitored by the Company’s chief operating decision makers to manage the business, the Company has identified one reportable segment:

The “all other” category includes the aggregation of finance, insurance and other services provided to a common customer base, none of which individually meets the quantitative thresholds of a reportable segment.

6

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Notes To Consolidated Financial Statements—Continued

The Company had a reportable retail segment through the third quarter of fiscal 2002. The Company’s Board of Directors approved a plan to exit its retail operation on September 25, 2002 and accordingly this segment is shown as a discontinued operation (See Note 2). As a result, the segment data included below has been restated to exclude amounts related to the retail segment. Information about the Company’s operations by operating segment is as follows:

7

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Notes To Consolidated Financial Statements—Continued

6.    Contingencies

During the 2002 period, the Company became involved in litigation in the state of Hawaii stemming from the Company’s 1996 sale of a subsidiary to a private investor, events subsequent to the sale, and the subsequent bankruptcy and liquidation of such business. In re: Hawaiian Grocery Stores, Ltd; and Mark J.C. Yee vs. Unified Western Grocers, Inc., Certified Grocers of California, Ltd., and Grocers Specialty Company, and KPMG, was filed December 14, 2001. In this case, the Trustee for the bankruptcy estate, who is the plaintiff in the matter, has asserted preference claims against Certified Grocers of California, Ltd. (“Certified”), the predecessor of Unified, based on alleged insider relationship, fraudulent transfer claims against Certified and Grocers Specialty Company, fraud claims against Certified, Grocers Specialty Company and other unnamed parties, and contract and tort claims against KPMG. In its prayer for relief, the plaintiff seeks judgment against the defendants for $13.5 million, plus interest, punitive damages of $10 million and other unspecified damages. The Trustee also filed a complaint in the Hawaii Circuit Court, First Circuit, entitled Mark J.C. Yee, Trustee for the Bankruptcy Estate of Hawaiian Grocery Stores, Ltd., vs. Unified Western Grocers, Inc., Certified Grocers of California, Ltd., Grocers Specialty Company, RHL, Inc., Alfred A. Plamann, Charles Pilliter, Daniel T. Bane, Robert M. Ling, David A. Woodward, Richard H. Loeffler, Fletcher Robbe, Goodsill Anderson Quinn and Stifel, and Does 1-10 on May 17, 2002. This action, which generally arises out of the same transactions that are the subject of the Federal District Court proceeding referenced above, asserts breach of fiduciary duties by the officers and directors of Hawaiian Grocery Stores, Ltd. (“HGS”), the controlling shareholder of HGS (Grocery Specialty Company) and the controlling shareholder’s parent corporation (Certified), and breach of fiduciary duties by defendants Goodsill, Loeffler, RHL, Inc., and Robbe. Current and former officers of the Company were officers or directors of HGS during certain periods and a subsidiary of the Company was a shareholder of HGS during certain periods. The complaint seeks compensatory damages of approximately $13.5 million, plus interest, punitive damages of $10.0 million and other unspecified damages. All of the above referenced matters are now pending in the Federal District Court for the District of Hawaii. In March 2003, the Trustee amended the complaints in the above-referenced matters to add Bruce Barber and Sheppard Mullin Richter & Hampton LLP, as defendants. These proceedings are in their very early stages and the Company intends to vigorously defend this litigation.

The Company is a party to various litigation, claims and disputes, some of which, including the HGS litigation, are for substantial amounts, arising in the ordinary course of business. While the ultimate effect of such actions cannot be predicted with certainty, we expect that the outcome of these matters will not result in a material adverse effect on our business, financial condition or results of operations.

8

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Notes To Consolidated Financial Statements—Continued

7.    Contractual Obligations

At March 29, 2003, the Company was contingently liable with respect to 18 lease guarantees for certain member-patrons. The commitments have expiration dates through 2017. The Company believes the locations underlying these leases are marketable and, accordingly, would be able to recover a substantial portion of the guaranteed amounts in the event the Company is required to satisfy its obligations under the guarantees. In certain circumstances, Unified also guarantees third-party loans issued to its member-patrons and provides stand-by letters of credit to certain vendors. The Company’s guarantee of certain loans, leases and stand by letters of credit are summarized in the table below.

8.    New Accounting Pronouncements

As a result of the Company’s implementation of a quasi-reorganization as of September 28, 2002 (See Note 3), the Company was required to early adopt all accounting standards with effective dates within one year of the quasi-reorganization implementation including Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”), SFAS No. 143, “Accounting for Asset Retirement Obligations” (“SFAS No. 143”), SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS No. 144”), SFAS No. 145, “Rescission of Financial Accounting Standards Board (“FASB”) Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections” (“SFAS No. 145”) and SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” (“SFAS No. 146”).

SFAS No. 142 addresses the financial accounting and reporting for goodwill and other intangible assets. The statement provides that goodwill or other intangible assets with indefinite lives will no longer be amortized, but shall be tested for impairment annually, or more frequently if circumstances indicate potential impairment. The impairment test is comprised of two steps: (1) a reporting unit’s fair value is compared to its carrying value; if the fair value is less than its carrying value, goodwill impairment is indicated; and (2) if impairment is indicated in the first step, it is measured by comparing the implied fair value of goodwill to its carrying value at the reporting unit level. Adoption of SFAS No. 142 did not have an impact on the Company’s consolidated financial statements.

The following table sets forth the reconciliation of net earnings as adjusted for the non-amortization provisions of SFAS No. 142:

9

Table of Contents

Unified Western Grocers, Inc. and Subsidiaries

Notes To Consolidated Financial Statements—Continued

The adoption of the remaining pronouncements did not have a significant impact on the Company’s consolidated financial statements.

In November 2002, the FASB issued FASB Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others” (“FIN 45”), which elaborates on required disclosures by a guarantor in its financial statements about obligations under certain guarantees that it has issued and clarifies the need for a guarantor to recognize, at the inception of certain guarantees, a liability for the fair value of the obligation undertaken in issuing the guarantee. The Company previously adopted the disclosure requirements of FIN 45 for the quarter ended December 28, 2002 (see Note 7). The Company adopted the initial recognition and measurement provisions of FIN 45 on January 1, 2003. The adoption had no effect on the Company’s consolidated financial position, results of operations or shareholders’ equity.

In January 2003, the FASB issued FASB Interpretation No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”), which addresses consolidation by a business of variable interest entities in which it is the primary beneficiary. The Company adopted the consolidation requirements of FIN 46 on February 1, 2003. The adoption had no effect on the Company’s consolidated financial position, results of operations or shareholders’ equity.

10

Table of Contents

Liquidity and Capital Resources

Cash Flow

Unified relies primarily upon its cash flow from operations, patron deposits, shareholdings and borrowings from the Company’s credit facilities to fund its daily operations. The Company believes that both cash flow from its operations and available credit lines will be sufficient to meet operating needs and capital spending requirements for the fiscal 2003 period. Overall, net cash from continuing operations increased by $18.1 million for the twenty six week period ending March 29, 2003 (the “2003 period”) compared to an increase of $2.8 million for the twenty six week period ending March 30, 2002 (the “2002 period”). The increase in net cash from continuing operations for the 2003 period consisted of cash provided from operating activities of $60.9 million offset by amounts utilized in investing activities of $10.4 million and financing activities of $32.4 million. Cash utilized by discontinued operations in the 2003 and 2002 periods related to the Company’s retail operations (See Note 2). Working capital was $120.5 million and $144.0 million and the current ratio was 1.5 at March 29, 2003 and September 28, 2002, respectively. Working capital varies primarily as a result of seasonal inventory requirements.

Operating Activities:    Net cash provided by operating activities increased by $47.8 million to $60.9 million for the 2003 period compared to $13.1 million provided for the 2002 period. The improvement in operating cash was primarily attributable to a $1.9 million improvement in pre-tax earnings in fiscal 2003, as well as seasonal reductions in overall inventory levels of $9.6 million and improved collection of accounts receivable of $16.4 million. Operating cash also improved due to lower cash utilization for accounts payable of $16.6 million.

Investing Activities:    Net cash utilized by investing activities was approximately $10.4 million for the 2003 period compared to $19.6 million utilized in the 2002 period. The decrease in cash utilized of $9.2 million is due primarily to reduced investing activities of $8.0 million resulting from the investment transactions of the Company’s insurance subsidiaries that changed from long term to short term investments. This activity consists of securities purchased to replace maturing investments in the portfolio. Capital expenditures for computer and warehouse equipment were $2.3 million and other assets were $7.5 million less in the 2003 period compared to the 2002 period. The reduction in cash utilized in investing activities was partially offset by increases in long term notes receivable of $8.5 million for loans made by the Company’s financing subsidiary to member retailers.

Financing Activities:    Net cash utilized by financing activities was approximately $32.4 million for the 2003 period compared to $9.3 million provided for the 2002 period. The increase in cash utilization is due primarily to the reduction in short and long term debt.

Pension Plans

The Company maintains a qualified defined benefit pension plan (the “Qualified Plan”), which covers substantially all non-union employees, as well as an unfunded executive pension plan.

As a result of general declines in the financial markets, the fair value of Qualified Plan assets decreased from $66.3 million at September 29, 2001 to $52.2 million at September 28, 2002. The Qualified Plan was overfunded by $3.8 million at September 29, 2001 and was underfunded by $23.6 million at September 28, 2002 for accounting purposes but was in full compliance with ERISA funding requirements. In connection with the quasi-reorganization (See Note 3), the Company was required to remeasure and record the Company’s pension obligations at fair value as of September 28, 2002. The remeasurement increased the Company’s pension obligation by $19.7 million to $23.6 million. As part of the remeasurement, the Company recorded previously unrecognized actuarial losses and prior service costs. At March 29, 2003, the fair value of Qualified Plan assets was $52.1 million.

11

Table of Contents

The Company’s pension expense is calculated based upon a number of actuarial assumptions, including an expected long-term rate of return on Qualified Plan assets of 9.0%. In developing the long-term rate of return assumption, the Company evaluated historical asset class returns based on broad equity and bond indices. The Company anticipates that the Company’s investment managers will continue to generate long-term returns of at least 9.0%. The expected long-term rate of return on Qualified Plan assets assumes an asset allocation of approximately 60% equity and 40% fixed income financial instruments. The Company regularly reviews the asset allocation and periodically rebalances the investment mix to achieve certain investment goals when considered appropriate. Despite the recent decline in the equity markets, the Company believes that 9.0% is a reasonable long-term rate of return on Qualified Plan assets. Actuarial assumptions, including the expected rate of return, are reviewed at least annually, and are adjusted as necessary. Lowering the expected long-term rate of return on our Qualified Plan assets by 0.5% (from 9.0% to 8.5%) would have increased our pension expense for fiscal 2002 by approximately $0.3 million.

The discount rate that was utilized for determining future pension obligations is based on a review of long-term bonds that receive one of the two highest ratings given by a recognized rating agency. As a result of the general decline in interest rates, the discount rate was reduced from 7.50% at June 29, 2001 to 6.75% at September 28, 2002. Due to the effect of the expected long-term rate of return on Qualified Plan assets of 9.0%, a discount rate of 6.75% and certain other assumptions, the Company estimates that pension expense for fiscal 2003 will be approximately $3.4 million. Future pension expense will be affected by future investment performance, discount rates and other variables such as demographics relating to plan participants. Decreasing both the discount rate and the salary increase assumptions by 0.5% would have increased our pension expense for fiscal 2002 by approximately $0.1 million.

Outstanding Debt and Other Financing Arrangements

At March 29, 2003, the Company had a $200 million secured revolving credit facility (“Revolving Credit Agreement”) with a group of banks. The revolving credit agreement expires on October 1, 2004 and bears interest at either LIBOR plus an applicable margin (2.00% to 3.00%) based on the ratio of funded debt to operating cash flow or the lender’s base rate plus 0.75%. The revolving credit facility permits advances of up to 85% of eligible accounts receivable and 65% of eligible inventories. The Company had $129.0 million and $156.0 million outstanding at March 29, 2003 and September 28, 2002, respectively.

The Company also had a total of $106.9 million and $109.4 million outstanding in senior secured notes to certain insurance companies and pension funds under a note purchase agreement dated September 29, 1999 (as amended, the “Senior Note Agreement”) at March 29, 2003 and September 28, 2002, respectively.

In December 2002, the Senior Note Agreement was amended to modify the tangible net worth and leverage ratio covenant set forth therein.

Unified entered into a five-year interest rate collar agreement in February 1999 in relation to approximately $50 million of borrowings on its variable rate revolving credit facility. The collar agreement was put in place without incurring a fee. The collar agreement is structured such that Unified pays a variable rate of interest between 6% (cap rate) and 4.94% (floor rate) based on a notional amount of $50.0 million. The weighted average interest rate, prior to lender’s margin, on borrowings on the revolving credit facility was 1.53% at March 29, 2003 and 1.86% at September 28, 2002.

A $10.0 million credit agreement is collateralized by Grocers Capital Company’s (“GCC”) member loan receivables. GCC is a wholly owned subsidiary of Unified. The primary function of GCC is to provide loan financing to the Company’s member-patrons. The funding for loans made by GCC is provided by GCC’s cash reserves as well as the $10.0 million credit agreement. The credit agreement as amended and restated has a maturity date of October 31, 2004. Amounts advanced under the credit agreement bear interest at prime (4.25%

12

Table of Contents

at March 29, 2003) or Eurodollar (3.77% at March 29, 2003) plus 2.50%. The applicable rate is selected by the Company at its discretion. The outstanding balance was $5.5 million and $4.5 million at March 29, 2003 and September 28, 2002, respectively. The unused portion of this credit line is subject to a commitment fee of 0.125%.

Member loan receivables are periodically sold by GCC to a bank through a loan purchase agreement. This loan purchase agreement, as amended and restated, extends through October 31, 2004. Total loan purchases under the agreement are limited to a total aggregate principal amount outstanding of $70.0 million. GCC entered into an additional loan purchase agreement with another bank in January 1999. This additional loan purchase agreement can be terminated upon thirty days prior written notice. There is no maximum limitation on the loan purchases pursuant to the additional loan purchase agreement. These agreements do not qualify for sales treatment under SFAS No. 140 “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities”, a replacement of SFAS No. 125 and accordingly the Company accounts for the transfer of these financial assets as a secured borrowing with a pledge of collateral. At March 29, 2003 and September 28, 2002, the aggregate amount of secured borrowings with the banks was $2.2 million and $11.5 million, respectively. The pledged collateral included in notes receivable, current in the accompanying consolidated condensed balance sheets amounted to $1.0 million and $6.6 million and the amounts included in notes receivable, long-term amounted to $1.2 million and $4.9 million as of March 29, 2003 and September 28, 2002, respectively. The notes receivable generally bear interest at rates averaging prime plus 2%, are paid monthly and have maturity dates ranging from 2003 to 2009.

Patronage Dividends

Patrons are generally required to maintain a subordinated cash deposit with Unified. Member-patrons may satisfy the minimum deposit requirement through a combination of a cash deposit and the ownership of Class B Shares. In the Merger, former United members were provided the opportunity to build the minimum subordinated deposit over time, provided that they agreed to assign 80% of patronage dividends received for this purpose and maintain a supply agreement with Unified until the minimum deposit condition is satisfied. Upon termination of patron status, the withdrawing patron is entitled to recover deposits in excess of its obligations to Unified if permitted by the applicable subordination provisions, and a member-patron also will be entitled to have its shares redeemed, subject to applicable legal requirements, company policies and credit agreement limitations. With certain exceptions, Unified’s current redemption policy limits the Class B Shares that Unified is obligated to redeem in any fiscal year to 5% of the number of Class B Shares deemed outstanding at the end of the preceding fiscal year.

Redemption of all capital stock is subject to limitations imposed by the Articles of Incorporation and Bylaws, credit agreements to which the Company is a party, and restrictions imposed by law on the ability of a company to redeem its own shares. As a California corporation, the Company is subject to the provisions of the California General Corporation Law including Section 500 which limits the ability of the Company to make distributions, including distributions to repurchase its own shares and any payments on notes issued to repurchase Unified shares. Section 500 permits such repurchase and note payments only when retained earnings calculated in accordance with generally accepted accounting principles (“GAAP”) equal or exceed the amount of any proposed distribution or an alternative asset/liability ratio test is met. At March 29, 2003, the Company had retained earnings of $2.3 million. Accordingly, the Company is now able to redeem shares subject to the limitation of Section 500 and policies established by the Board of Directors and subject to the Company’s credit agreements.

Prior to the fiscal year ended September 28, 2002, Unified had typically distributed at least 20% of the non-dairy patronage dividends in cash and 80% in Class B Shares to its member-patrons.

13

Table of Contents

In fiscal 2002, the Board of Directors adopted an equity enhancement plan. Pursuant to that plan, Cooperative Division patronage dividends to member-patrons for fiscal year 2002 are payable in the form of:

The Company authorized the issuance of $3.3 million of Patronage Certificates as a portion of its patronage dividends for fiscal year 2002. These Patronage Certificates are included in subordinated patronage dividend certificates in the consolidated condensed balance sheets.

In December 2002, as an additional part of its fiscal 2003 equity enhancement plan, the Board of Directors authorized submission to the shareholders of a proposal to create a new class of equity, to be denominated “Class E Shares”, by amendment to the Articles of Incorporation. This proposal was approved by the shareholders in March 2003. The new Class E Shares may be issued as a portion of patronage dividends for the Cooperative Division in 2003 and in future periods, as determined annually at the discretion of the Board of Directors. The Class E Shares have a stated or par value of $100 per share, are non-voting and are non-dividend bearing equity securities. Class E Shares are transferable only with the consent of the Company. Pursuant to the Company’s repurchase policy, Class E Shares cannot be repurchased for ten years from their date of issuance unless approved by the Board of Directors or upon sale or liquidation of the Company. The shares, when redeemed, will be redeemed at stated value. Thereafter, at the election of a holder of Class E Shares, the shares will be repurchased by the Company subject to applicable restrictions imposed by law, credit agreements, and the Company’s redemption policy. For fiscal 2003, patronage dividends in the Cooperative Division will be payable to member-patrons in the form of:

Associate-Patrons would be paid patronage dividends in the form of cash or patronage dividend certificates or part in each in a manner to be determined by the Board of Directors.

Dairy patronage dividends have been paid in cash in the periods presented.

Tax Matters

Income taxes are provided using the liability method prescribed by SFAS No. 109, “Accounting for Income Taxes” (“SFAS No. 109”). The Company had net deferred tax assets of $7.8 million and $9.4 million, of which $11.6 million is classified as a current asset in deferred income taxes and $3.8 million and $2.2 million is included in long term liabilities on the accompanying consolidated condensed balance sheets as of March 29, 2003 and September 28, 2002, respectively.

A valuation allowance is provided to reduce the deferred tax assets to a level which, more likely than not, will be realized. In accordance with SFAS No. 109 and the accounting for a quasi-reorganization, valuation allowances existing immediately after the quasi-reorganization, if reduced in future periods, are required to be accounted for as an adjustment to additional paid-in capital. In contrast, increases to the valuation allowance in future periods will be accounted for as an adjustment to the tax provision. The remaining balance of the net deferred tax assets should be realized through future operating results and the reversal of taxable temporary differences.

14

Table of Contents

The Company’s effective income tax rate from continuing operations was 43% and 42% for the thirteen and twenty six week periods ended March 29, 2003 compared to 40% for the thirteen and twenty six week periods ended March 30, 2002. The Company does not expect to pay any income taxes for the fiscal year ended 2003 due to its net operating loss carry-forwards.

The Internal Revenue Service (the “IRS”) completed its examination of the Company’s consolidated federal income tax returns for the fiscal periods between August 29, 1998 through September 30, 2000. The IRS has proposed adjustments to the federal income tax returns for the corresponding fiscal years that are not significant and will be offset by net operating loss carry-backs.

Results of Operations

The following table sets forth selected financial data of the Company expressed as a percentage of net sales for the periods indicated below: