Management`s Discussions: 10-K, YOCREAM INTERNATIONAL INC

PORTLAND, Ore., Jan 25, 2001 /Edgar Online via COMTEX/ --

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion includes forward-looking statements within the meaning of the "safe-harbor" provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based on the beliefs of the Companys management and on assumptions made by and information currently available to management. All statements other than statements of historical fact, regarding the Companys financial position, business strategy and plans and objectives of management for future operations of the Company are forward- looking statements. When used herein, the words "anticipate," "believe," "estimate," "expect," and "intend" and words or phrases of similar meaning, as they relate to the Company or management, are intended to identify forward- looking statements. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable; it can give no assurance that such expectations will prove to have been correct. Forward- looking statements are subject to certain risks and uncertainties, which could cause actual results to differ materially from those indicated by the forward- looking statements. These risks and uncertainties include the Companys ability to maintain or expand its distribution abilities, including the risk of disruptions in the transportation system and relationships with brokers and distributors. Further, actual results may be affected by the Companys ability to compete on price and other factors with other manufacturers and distributors of frozen dessert products; customer acceptance of new products; general trends in the food business as they relate to customer preferences for the Companys products; and the Companys ability to obtain raw materials and produce finished products in a timely manner, as well as its ability to develop and maintain its co-packing relationships and strategic alliances. In addition, there are risks inherent in dependence on key customers, the loss of which could materially adversely affect the Companys operations. The reader is advised that this list of risks is not exhaustive and should not be construed as any prediction by the Company as to which risks would cause actual results to differ materially from those indicated by the forward-looking statements.

Results of Operations

Sales

The Companys revenues were $15,088,532, $14,259,358, and $10,206,524, for the years ended October 31, 2000, 1999, and 1998, respectively. Over the last three years revenues increased 5.8% in 2000, 39.7% in 1999, and 17.6% in 1998. This continuing trend of year-to-year revenue gains is primarily due to the success of the Companys smoothie products introduced in 1998. Sales gains were also achieved in fiscal 1999 due to the penetration into the convenience store market with the Companys soft serve frozen yogurt.

The successes are also due to long-term customer alliances, such as that with Costco Wholesale, an established national distribution system including a network of brokers and distributors, and expanded direct sales activity. Management expects this trend to continue due to the success of its products, expanded alliances with other national companies, intensified direct sales activity, and the introduction of new products.

From a broader perspective, the driving forces behind the year-to-year revenue trends continue to be due to the competitive success of the Companys products, new product development capabilities, and long-term customer alliances. The successes are also due to an established national distribution system including a network of brokers and distributors, and direct sales activity.

The Company has a history of developing innovative products. In 1998, the Company introduced its newly developed YOCREAM line of fruit smoothies, which are adaptable to both blender and dispenser operation. Since this product was introduced, it has accounted for much of the revenue increases, and has the potential to make further significant contributions in the future. In March 1999, the Company announced its "Bountiful Harvest" all-natural bottled fruit smoothie beverage developed for direct consumer purchase. This new beverage introduction reflected the Companys strategy of building on its strengths. The product was initially offered in approximately 200 Wal-Mart superstores in 1999. Subsequently, sales activity was suspended until completion of the Companys new bottling line. Once the plant renovation project is completed, the Company expects to renew its sales activities for this or other bottled products in the foodservice, club, convenience store specialty super-market segments. (See the discussion regarding the plant renovation project.)

After the significant 40% growth that occurred in 1999, fiscal 2000 was a stable year, which allowed the Company to concentrate on expanding its plant facilities. During fiscal 2000, as part of the Companys commitment to its customers and to the market place, YOCREAM began the process of upgrading its plant. The project is expected to more than double the Companys throughput capabilities, automate a number of production processes, and upgrade bottling and bag-in-box packaging capabilities. When completed in the first quarter of fiscal 2001, this will allow YOCREAM to serve the expanding needs of its existing customers, develop products for new markets, and expand the Companys copacking capabilities to match the development of "virtual" companies without their own production facilities. The project includes expanded R&D facilities, a "tank farm" on the outside of the plant to store product and to allow for more efficient use of internal space for larger capacity processing equipment, and separate production lines which enable the Company to more efficiently package wet mix, hard pack, bottled, and bag-in-box products. The project also includes a new state-of-the-art CIP sanitation system, and a new ceiling, floor and walls. At the same time, the Company is in the process of upgrading its management information system. This includes installation of an MRP system that will assist in the continuing process of reducing costs and inventories while increasing the Companys efficiencies and assuring that product quality is consistently maintained. See Liquidity section for further comments.

In fiscal 2000, the Company developed, what it believes is a superb-tasting coffee smoothie, made with the finest coffee flavors that could be sourced. The product has been tested by a major customer and is expected to be rolled out by the middle of 2001. Early tests have indicated that this product has the potential to approximate the sales results of the Companys berry smoothie product.

Gross Profit

The cost of sales, as a percentage of revenues, were 67.6%, 68.8%, and 69.8% in 2000, 1999, and 1998 respectively, with corresponding gross profit margins of 32.4%, 31.2%, and 30.2% for the same periods. The margin increases have resulted from improvements in supply chain management, production efficiencies, and from increased volume.

Selling and Marketing Expenses

Selling and marketing expenses, as a percentage of revenues, for the years ended October 31, 2000, 1999, and 1998 were 11.1%, 11.8%, and 12.9%, respectively. Such expenses are generally related to the level of revenues, and marketing activities. However, the decrease in expenses, as a percentage of sales over the last two years, is primarily due to the stability of expenses for the Companys in-house sales and marketing staff. The Companys sales staff has remained relatively stable during this period. The Company is currently evaluating the possibility of expanding its regional sales staff in order to have adequate resources to pursue existing and future sales opportunities, as well as being able to fully support our existing distributor base.

General and Administrative Expenses

General and administrative expenses for the years ended October 31, 2000, 1999, and 1998, as a percentage of revenues, were 11.1%, 9.1%, and 11.3%, respectively. Overall general and administrative expenses have remained relatively level over the three-year period, as a percentage of sales, primarily due to the growth in sales. The dollar increase in 2000 over 1999 primarily relates to personnel costs and professional fees. The increase in 1999 over 1998 primarily relates to personnel costs and the increase in rent and depreciation associated with the office addition completed at the end of 1998.

Income from Operations

Income from operations for the years ended October 31, 2000, 1999, and 1998 was $1,542,737, $1,468,445, and $616,079, respectively. As a percentage of revenues, income from operations was 10.2%, 10.3%, and 6.0%, respectively. The results for 2000 were level with 1999, even though sales and gross margins increased, because of the increase in administrative expenses described above. The results for 1999 reflected a 138.4% increase over 1998, and was due to the increase in sales activity described above, and the net savings in selling, marketing and administrative expenses, as a percentage of sales.

Income before Income Taxes

Income before taxes for the years ended October 31, 2000, 1999 and 1998 was $1,572,918, $1,424,066, and $502,703, respectively. In comparison to the prior year, income before taxes is up 10.5% in 2000, and 183.3% in 1999.

Provision for Income Taxes

Prior to 1995, the Company experienced losses in several years for income tax purposes that resulted in net operating loss carryforwards (NOLs). In accordance with generally accepted accounting principles, the Company recorded the benefit of such NOLs as a deferred tax asset. In prior years, an offsetting valuation allowance was provided to the extent that management believed that it was more likely than not that the deferred tax asset would not be realized.

In 1998, as a result of annual evaluations of the future benefit of the Companys NOLs, the Company reduced the valuation allowance and recognized a tax benefit of $200,000.

In 1999, as a result of the substantial increase in operating results, the Company recognized the remaining benefit of the NOL's in the amount of $106,000 and recorded a tax provision of $406,000, net of the above benefit. The tax provision primarily represented a reduction in the deferred tax asset for the NOL's that have been utilized to offset taxes that would otherwise be payable.

In 2000, the Company utilized the remaining federal and state net operating loss carryforwards aggregating approximately $1,116,000 and $321,000, respectively to reduce taxes payable, and recorded a tax provision of $548,000. The tax provision primarily represents a reduction in the deferred tax asset.

The effective tax rate was 34.8% and 28.5% in 2000 and 1999 respectively. The effective rates are less than the expected rate of 38.4% primarily due to the recognition of the remaining NOL benefit described above and federal tax credits. In the future, the Company expects that its provision for income taxes will be at or near the applicable federal and state statutory rates.

Net Income

Net income for the years ended October 31, 2000, 1999, and 1998 was $1,024,918, $1,018,066, and $702,703, respectively. The results for 2000 reflect a 0.7% improvement over 1999. In addition to the factors described above, management believes that operating results would have been even greater were it not for the diversion of the major capital project. Net income, as a percentage of sales, was 6.8%, 7.1%, and 6.9% in each of the three years.

Liquidity and Capital Resources

In recent years, the Company has financed its operations and expansion from bank loans, operating leases, capital leases, stock sales, and internally generated funds.

During the three years ended October 31, 2000, the Company entered into operating leases relating to certain assets utilized in its production process. (See Note M of the Notes to Financial Statements for a description of these lease commitments.)

As a result of the significant increase in sales and operating results over the last two years, the Company has experienced a corresponding increase in cash flow. EBITD (earnings before interest, taxes and depreciation) was approximately $1,954,000, $1,833,000 and $923,000 in 2000, 1999, and 1998, respectively. As a result the Company was able to payoff its bank line of credit in mid-1999, finance the plant renovation project expenditures in 2000, and increase cash and cash equivalents.

At October 31, 2000, the Company has an unused bank line of credit of $2,000,000. Under the terms of the line of credit agreement, as renewed in July 1999, the bank increased the line limit to $2,000,000, subject to the Company being in compliance with certain ratios and negative covenants, released its security interest in the Companys receivables, inventories, and equipment, and reduced the interest rate to prime. The agreement also provides the option to lock in sub-prime rates on blocks of funds up to 90 days. The bank also extended the agreement for two years until July 1, 2001.

The plant renovation project is expected to be financed with a combination of internal cash flow, operating leases, and a bank loan. The remaining costs to complete the project as of October 31, 2000 are approximately $1.3 million. Subsequent to year-end, the Company arranged a $1,400,000 term loan facility with its bank. The facility provides for payments over five years with interest at the prime rate, with the option to fix the rate during the term. The facility is subject to the same debt covenants as the bank line of credit, and is collateralized by the plant project assets. Should the Company borrow over $500,000 under this facility, the loan would be collateralized by a lien on all of the Companys existing equipment and fixtures.

Accounts receivable at October 31, 2000 and 1999 were $997,076 and $1, 061,618, respectively. This decrease is primarily attributable to the decrease in sales compared to the fourth quarter of last year.

Inventories at October 31, 2000 and 1999 were $2,497,413 and $2,626, 162, respectively. This decrease of approximately 5% is primarily in raw material, which is the result of the Companys plan to manage inventory levels as low as possible.

At October 31, 2000, the Company had working capital of $3,201,794, which represents a 13% increase over October 1999. The improvement is primarily due to a reduction in accounts payable resulting from a utilization of the cash flow from operations.

The Company believes its existing assets, bank lines, and cash flow from operations will be sufficient to fund the Companys operations for at least the next twelve months.

The Company leases its offices and production facilities. The lease has a remaining term of approximately 12 years with renewal provisions and provides for a base rent of $172,000 annually for the next nine months and then increases at approximately 3% per year thereafter. (See Note M of Notes to Financial Statements for a description of the terms).

The Companys capital expenditures for the years ended October 31, 2000, 1999, and 1998 were approximately $1,090,000, $216,000, and $502, 000, respectively. The Company is in the process of evaluating its capital expenditure plans for fiscal 2001, which are not expected to exceed $700,000, beyond the cost of completing the plant expansion project. The Company believes that adequate financing can be arranged, including an equipment financing facility with its lender.

During 1998 and 1999, the Company assessed its Year 2000 issues. In late fiscal 1998 the Company completed a planned upgrade to its network operating system, and replaced certain computers and supporting software. In early 1999, a management committee was formed to monitor the project, evaluate risks, make contact with certain business partners, and formulate contingency plans, as deemed appropriate. Subsequent to January 1, 2000 the Company has not experienced any problems related to the rollover.

Item 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

The response to this Item 8 is submitted as Appendix A to this report.

Item 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

None.

SOURCE YOCREAM International, Inc.

For more information, contact Terry Lusetti, YoCream Investor Relations, 503-256-3754