SECURITIES & EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
[ ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
OR
[X] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 For
the Transition Period from April 1, 2001 to December
31, 2001
Commission file number 0-13406
THE CHALONE WINE GROUP, LTD.
(Exact Name of Registrant as Specified in Its Charter)
California 94-1696731
(State or Other Jurisdiction (I.R.S. Employer Identification Number)
of Incorporation or Organization)
621 Airpark Road, Napa, CA 94558
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code (707) 254-4200
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered to Section 12(g) of the Act:
Common Stock
(Title of Class)
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
As of March 13, 2002 there were 3,551,620 shares of the Company's voting no par
value common stock, with an aggregate market value of $36.2 million held by
non-affiliates. For purposes of this disclosure, shares of common stock held by
persons who hold more than 5% of the outstanding shares of the Registrant's
common stock and shares held by officers and directors of the Registrant have
been excluded because such persons may be deemed to be affiliates. This
determination is not intended to be conclusive. As of March 13, 2002, there were
12,068,944 shares outstanding of the Company's voting no par value common stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement for the 2002 Annual Meeting of
Shareholders of the Chalone Wine Group, Ltd. (the "Proxy Statement"), to be
filed with the Securities and Exchange Commission within 120 days after December
31, 2001, are incorporated by reference into Part III of this report.
PART I
ITEM 1. BUSINESS.
A. GENERAL.
The Company produces, markets and sells super premium, ultra premium, and
luxury-priced white and red varietal table wines, primarily Pinot Noir, Cabernet
Sauvignon, Merlot, Syrah, Chardonnay and Sauvignon Blanc. The Company owns and
operates wineries in various counties of California and Washington State. The
Company's wines are made primarily from grapes grown at Moon Mountain Vineyard,
Carmenet Vineyards, Edna Valley Vineyard, Chalone Vineyard, Company-owned
vineyards adjacent to the Acacia(TM) Winery, Hewitt Vineyard and Suscol Creek
Vineyard in California and the Canoe Ridge Vineyard in Washington State, as well
as from purchased grapes.
The wines are primarily sold under the labels "Provenance Vineyards(TM),"
"Chalone Vineyards(R)," "Edna Valley Vineyard(R)," "Carmenet(R)," "Acacia(TM),"
"Canoe Ridge(R) Vineyard," "Jade Mountain(R)," "Sagelands Vineyard(R)," and
"Echelon(TM)."
In France, the Company owns a minority interest in fourth-growth Bordeaux
estate Chateau Duhart-Milon ("Duhart-Milon") in partnership with Les Domaines
Barons de Rothschild (Lafite) ("DBR"). The vineyards of Duhart-Milon are located
adjacent to the world-renowned Chateau Lafite-Rothschild in the town of
Pauillac.
The Chalone Wine Group, Ltd. was incorporated under the laws of the State
of California on June 27, 1969. Unless otherwise indicated, the terms "we" and
"Company" used in this report refer to The Chalone Wine Group, Ltd. and its
consolidated subsidiaries. The Company became a publicly held reporting company
as the result of an initial public offering of common stock in 1984.
CHANGE IN FISCAL YEAR-END
In 2001, the Company changed its fiscal year end from March 31 to December
31. As a result, the Company is reporting a nine-month transition period ending
on December 31, 2001. By having the fiscal and calendar year the same, our
fiscal year matches that of Paragon Vineyard, our joint partner of Edna Valley
Vineyard, and DBR, our partner in Chateau Duhart-Milon. This simplifies
accounting procedures and financial reporting. Consequently, these financial
statements may contain financial information that is not comparable on a
period-to-period basis. Refer to the Consolidated Financial Statements.
SIGNIFICANT EVENTS
RIGHTS OFFERING RAISED $15 MILLION
Company shareholders purchased $15 million of additional stock during a
Rights Offering that expired on November 20, 2001. The Company offered
shareholders the pro rata right to purchase additional shares of Chalone Wine
Group common stock for $8.50 per share. This additional capital was used to pay
short-term notes and for the company's long-term growth.
To insure the company raised the full $15 million, its two largest
shareholders, DBR and SFI Intermediate Ltd. ("SFI"), had agreed that each would
exercise all of the rights offered to them. In addition, based on their holdings
of the company, DBR and SFI agreed to purchase all remaining shares that were
not purchased by other shareholders. Of the $15 million of additional stock
purchased, DBR purchased $7.9 million, SFI purchased $3.2 million, and other
shareholders purchased $3.9 million.
COMPANY CO-FOUNDER STEPS DOWN AS CHAIRMAN OF THE BOARD
Almost thirty years after founding the company with the late Richard
Graff, W. Philip Woodward in August stepped down from his position of Chairman
of the Board to become Chairman Emeritus. Christophe Salin, President of DBR,
was appointed the new Chairman. Mr. Woodward resigned to focus his energies on
The Chalone Wine Foundation, a separate nonprofit corporation he began in 1997
as a way to give back to the industry and to the communities in which the
company has wineries.
CHALONE WINE GROUP ENTERED NAPA VALLEY CABERNET SAUVIGNON MARKET WITH TWO
NEW WINERIES
In September, the Company introduced Provenance Vineyards(TM)and Hewitt
Vineyard wineries, which adds ultra premium and luxury-priced Napa Valley
Bordeaux-style wines to our portfolio. Through long-term contracts with top
vineyards in the Rutherford, Oakville and Carneros districts, Provenance
Vineyards will showcase the distinctiveness of Napa Valley's best areas. The
winery's inaugural release of 1999 Rutherford Cabernet Sauvignon became
available to consumers in December 2001. While the winery will focus on
Rutherford Cabernet Sauvignon, it eventually will also release a small amount of
Napa Carneros Merlot and an Oakville Cabernet Sauvignon.
In February 2000, the Company purchased Hewitt Vineyard, a historic
Cabernet Sauvignon Vineyard in Napa Valley's famous Rutherford Bench. Hewitt
Vineyard will produce only a single estate Cabernet Sauvignon. The winery's
inaugural release will be its 2000 vintage in the Fall of 2003.
CANOE RIDGE VINEYARD EXPANSION
In February 2001 the Company announced plans to expand Canoe Ridge
Vineyard's winery for a total of $2.8 million, of which $1.8 million was spent
during the nine-month transition period. The new 19,000 square foot building was
completed in late 2001 and includes office space, a conference room and most of
the Canoe Ridge Vineyard wine production.
CARMENET TRANSFORMS INTO THREE DISTINCT WINERIES
To make it easier for consumers to know exactly what they are buying,
Carmenet announced in December that it had transformed into three distinct
wineries, each with a unique look but a familiar name. By splitting into three
separate wineries with distinctive labels, each wine's style,
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price point and source of grapes will be clear to the consumer. The three
wineries are Moon Mountain Vineyard, Dynamite Vineyards, and Carmenet Vineyards.
B. FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS.
The Company produces and sells super premium to luxury quality table wines
and believes that its various products and brands all share similar long-term
financial performance, production processes, customer types, distribution
methods and other economic characteristics. Accordingly, these operating
segments have been aggregated as a single operating segment in the consolidated
financial statements.
C. NARRATIVE DESCRIPTION OF BUSINESS.
OVERVIEW
The Company owns the following properties in the United States and France,
either wholly or in partnership with others, all of which have related
company-owned vineyards with the exception of Edna Valley Vineyard. The specific
ownership structure is as follows:
FORM OF
PROPERTY OWNERSHIP OWNERSHIP LOCATION
-------- --------- --------- --------
Chalone Vineyard 100.0% Corporation Soledad, California
Carmenet Vineyard 100.0% Corporation Sonoma, California
Acacia
Acacia Winery 100.0% Corporation Napa, California
Acacia Vineyard 50.0% Partnership Napa, California
Edna Valley Vineyard 50.0% Partnership San Luis Obispo, California
Canoe Ridge Vineyard 100.0% Corporation Walla Walla, Washington
Chateau Duhart-Milon 23.5% Partnership Pauillac, France
Sagelands Vineyard (1) 100.0% Corporation Yakima Valley, Washington
Suscol Creek Vineyard 100.0% Corporation Napa, California
Hewitt Vineyard 100.0% Corporation Napa, California
<FN>
(1) Formerly known as Staton Hills Vineyard.
</FN>
With the exception of Duhart-Milon, the Company manages and operates all of
the above properties and consolidates the results of their operations. The
Company accounts for its investment in Duhart-Milon using the equity method of
accounting.
Each of the Company's domestic wineries or estate vineyards is in a
different "American Viticultural Area" ("AVA"). AVA is a designation granted by
the Federal Bureau of Alcohol, Tobacco and Firearms to identify grape-growing
areas distinguishable by their specific and definable geographic and climatic
characteristics. Wines may display an AVA on a bottle label only if 85% or more
of the grapes used to produce the wine were grown in that viticultural area.
For a more detailed description of the Company's properties and its
operations, see "Item 2. Properties."
VINEYARD PRACTICES
The Company believes that the soils and micro-climates of each vineyard
from which it obtains its grapes are particularly suitable for the varieties of
grapes with which they have been or, are being, planted.
The Company generally manages its vineyards to produce yields that are
lower than average for similarly situated vineyards in California and Washington
State and below the maximum yield that could be obtained. It believes that
relatively low yields enhance the varietal character of the grapes and improve
the quality of the resulting wines.
AGRICULTURAL RISKS
For a description of the Company's agricultural risks, see "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations."
WINEMAKING PRACTICES
The Company's philosophy is that winemaking is a natural process best
managed with minimum intervention, but requiring the attention and dedication of
a winemaker. While the Company uses a relatively high level of hand labor during
the winemaking processes, the Company also makes extensive use of modern
laboratory equipment and techniques to monitor the progress of each wine through
all stages of the winemaking process. All of the Company's wineries are operated
under the overall supervision of the Company's Chief Executive Officer. However,
each winery has its own General Manager who, in most instances, is also a
winemaker.
The principal raw materials used by the Company are grapes, oak barrels,
glass, and cork. About 75% of the oak barrels are purchased from the Burgundy
and Bordeaux regions of France and the remainder from the United States. The
Company favors French oak barrels due to Company
3
tradition and consumer preferences. Cork is produced and manufactured in
Portugal, which is the primary cork-producing country in the world. Glass is
purchased from a variety of different sources according to each winery's
specific needs. The Company's own vineyards provide a significant portion of the
Company's grape requirements. As needed, the Company also purchases grapes from
other independent California and Washington State growers.
WINE PRODUCTION AND WINES
This table sets forth the wine production of the Company for the 2001,
2000, and 1999 vintages. The wines' vintage is the year during which the grapes
are harvested. The following information is presented in terms of "equivalent"
number of cases. The precise number of cases is not known at this time because
many of these vintages are still being aged in barrels and tanks. For the
purpose of this schedule and the discussion that follows, wines purchased by the
Company for resale purposes are excluded.
2001 2000 1999
_______________________ ________________________ ________________________
Equivalent Equivalent Equivalent
Number of Number of Number of
Cases % of Total Cases % of Total Cases % of Total
__________ __________ __________ __________ __________ __________
Chardonnay 243,750 37% 288,990 40% 187,500 36%
Sauvignon Blanc 12,350 2% 9,425 1% 6,000 1%
Pinot Blanc 4,290 1% 4,420 1% 5,200 1%
Other white wines 11,115 1% 13,130 2% 10,000 2%
__________ __________ __________ __________ __________ __________
Total white wines 271,505 41% 315,965 44% 208,700 40%
__________ __________ __________ __________ __________ __________
Pinot Noir 92,365 14% 75,920 11% 44,600 9%
Cabernet Sauvignon 127,725 19% 117,520 17% 114,200 22%
Merlot 126,685 19% 131,820 18% 110,400 21%
Syrah 36,855 6% 64,220 9% 35,200 7%
Other red wines 7,670 1% 5,525 1% 5,500 1%
__________ __________ __________ __________ __________ __________
Total red wines 391,300 59% 395,005 56% 309,900 60%
__________ __________ __________ __________ __________ __________
Total production 662,805 100% 710,970 100% 518,600 100%
========== ========== ========== ========== ========== ==========
The Company's wines are aged primarily in new and used oak barrels before
they are bottled. Generally, white wines are aged between six and nine months,
and red wines between nine and eighteen months, after harvest. The wine is then
bottled and stored for further aging.
CHALONE VINEYARD: Chalone Vineyard sales represented 11.3% of the Company's
consolidated revenues and 6.6% of its consolidated case sales for the nine
months ended December 31, 2001.
Chalone Vineyard has been producing Chardonnay, Pinot Blanc, Pinot Noir,
and small quantities of Chenin Blanc since 1969. It has also begun growing Syrah
and will release its first vintage in 2002. All wines sold under this label are
produced from grapes grown at the Chalone Vineyard and are estate bottled and
bear the "Chalone" appellation.
CARMENET WINERY: Carmenet Winery sales represented 18.1% of the Company's
consolidated revenues and 16.3% of its consolidated case sales for the nine
months ended December 31, 2001.
The Company produces Bordeaux-style red and white wines under the
"Carmenet" label. The Carmenet Moon Mountain Reserve is made from Cabernet
Sauvignon, Merlot and Cabernet Franc grapes grown at the Carmenet Winery, is
estate bottled, and bears the "Sonoma Valley" AVA designation. The Carmenet
white wine is made from Sauvignon Blanc and Semillon grapes purchased from
Paragon Vineyard Co., Inc. ("Paragon") under a grape purchase agreement and
bears the "Edna Valley" appellation.
The Company also produces wines under the "Dynamite" label, which are made
from Cabernet Sauvignon, Merlot, Sauvignon Blanc and Semillon grapes and bulk
wine purchased from vineyards located in the North Coast AVA of California.
On July 31, 1996, a wildfire damaged approximately 75% of the producing
acreage at Carmenet Winery. Prior to this fire, Carmenet Winery produced
approximately 38,000 cases of wine annually, a significant portion of which was
estate bottled. The fire was caused by the electrical lines of Pacific Gas &
Electric Company ("PG&E") which has publicly acknowledged its liability. The
Company has replanted the damaged acreage but the newly planted vines are not
expected to return to pre-fire levels of production until 2003. Until the
fire-damaged acreage returns to full production, Carmenet's ability to make
estate-bottled wines will be limited. To supplement Carmenet's limited harvest
the Company attempts to purchase suitable grapes on the open market. However,
there can be no assurance that grapes of suitable quality or variety will be
available in sufficient quantity or on terms acceptable to the Company.
To make it easier for consumers to know exactly what they are buying,
Carmenet announced in December that it had transformed into three distinct
wineries, each with a unique look but a familiar name. By splitting into three
separate wineries with distinctive labels, each wine's style, price point and
source of grapes will be clear to the consumer. The three wineries are Moon
Mountain Vineyard, Dynamite Vineyards, and Carmenet Vineyards.
4
EDNA VALLEY VINEYARD: Edna Valley Vineyard sales represented 23.7% of the
Company's consolidated revenues and 24.7% of consolidated case sales for the
nine months ended December 31, 2001.
Edna Valley Vineyard has been producing mostly Chardonnay and Pinot Noir
wines since 1980. The majority of wines sold under the Edna Valley Vineyard(R)
label are produced from grapes grown by Paragon Vineyard Company, our partner in
the Edna Valley Vineyard Joint Venture, and are estate bottled.
ACACIA WINERY: Acacia Winery sales represented 14.6% of the Company's
consolidated revenues and 11.8% of its consolidated case sales for the nine
months ended December 31, 2001.
The winery produces Chardonnay and Pinot Noir wines under the "Acacia(TM)"
label. The grapes for the production of Pinot Noir and Chardonnay come from the
Carneros region. Approximately 50% of this production comes from Company-owned
vineyards and Company-leased vineyards.
CANOE RIDGE VINEYARD: Canoe Ridge Vineyard sales represented 4.8% of the
Company's consolidated revenues and 3.8% of its consolidated case sales for the
nine months ended December 31, 2001.
The Canoe Ridge Vineyard commenced operation in 1994 and produces Merlot,
Cabernet Sauvignon and Chardonnay wines under the "Canoe Ridge Vineyard" label.
Most of the grapes for these wines are grown at the Company's estate vineyard
and wines bear the "Columbia Valley" AVA designation.
ECHELON: Echelon sales represented 16.6% of the Company's consolidated
revenues and 27% of it's consolidated case sales for the nine months ended
December 31, 2001.
The 1997 vintage was the first to be released under the Echelon label,
which features Chardonnay, Cabernet Sauvignon, Merlot, Viognier, Pinot Noir and
Syrah. Most varieties have a Central Coast appellation. The 2000 Viognier
features the designation of Esperanza Vineyard, from the Clarksburg AVA.
SAGELANDS VINEYARD: Sagelands Vineyard represented 1.7% of the Company's
consolidated revenues and 2.7% of the consolidated case sales for the nine
months ended December 31, 2001.
On June 15, 1999, the Company purchased Staton Hills(R) Winery and its
adjacent vineyards in Yakima County, Washington. The Staton Hills facility was
renamed Sagelands Vineyard and the new brand was launched in January 2000,
focusing primarily on Cabernet Sauvignon and Merlot and bearing the Columbia
Valley AVA designation. The Company retained the Staton Hills Winery brand and
continues to produce wines under this mark.
CUSTOM BRANDS: Custom brands consist primarily of Chardonnay, Cabernet
Sauvignon and Merlot. Quantities of custom brand bottling are highly dependent
upon grape supply and availability. As grapes become more scarce, the focus of
the Company's production shifts away from custom brands as they are relatively
lower margin products. The Company uses custom brands primarily as a means of
marketing and selling its label wines and does not intend to focus its efforts
in this line of business.
IMPORTS & OTHER: 9% of the Company's consolidated revenues and 7% of its
consolidated case sales in the nine months ended December 31, 2001 were
primarily comprised of import wines and, to a lesser degree, domestic wines
purchased by the Company for resale purposes.
Under the terms of various agreements and investments among the Company,
Duhart-Milon, and DBR, the Company receives an allocation of the wines of DBR
and Duhart-Milon including the wines of Chateau Lafite-Rothschild and Chateau
L'Evangile in the Pauillac and Pomerol regions of Bordeaux, respectively, and of
Chateau Rieussec in the Sauternes region of Bordeaux. DBR also produces a
Pauillac wine exclusively for the Company.
MARKETING AND DISTRIBUTION
The Company's wines are positioned in the higher end of the premium
category. All the Company's wines are in the super premium to luxury segments of
the market, priced at $7 per bottle and above.
The Company sells its wines through direct sales, independent distributors,
brokers, its own shareholder list, and in limited quantities, directly from the
wineries. Distributors generally remarket the wines through specialty wine shops
and grocery stores, selected restaurants, hotels and private clubs across the
country, and in certain overseas markets. The Company relies primarily on
word-of-mouth recommendation, wine tastings, positive reviews in various
publications, select wine competitions and Company-sponsored promotional
activities in order to increase public awareness of its wines.
SALES WITHIN CALIFORNIA
Sales and marketing of all of the Company's wines within California,
including custom brands, is handled through the Company's own sales force and a
broker. The Company uses a single broker for all wholesale California sales.
SALES OUTSIDE CALIFORNIA
The Company's wines are marketed by independent distributors outside
California in 49 states and the District of Columbia and Puerto Rico and,
internationally, in Bermuda, the British West Indies, the U.S. Virgin Islands,
Canada, England, continental Europe, Hong Kong, China, and Japan. The Company's
wines are marketed and distributed in Mexico by Monte Xanic. In 1993, the
Company established a sales division,
5
operating as CHALONE WINE ESTATES, to help supervise and coordinate sales
functions of the Company's business and its custom brands operations. The
Company employs a number of regional sales managers who work directly with
distributors in a particular region and their customers.
CASE SALES BY METHOD OF DISTRIBUTION
The following table sets forth case sales by the Company by distribution
method for the fiscal years ended March 31: (unless otherwise noted)
Nine Months ended
December 31, 2001 2001 2000 1999
______________________ _______________________________________________________________
Number % of Total Number % of Number of % of Number of % of
of Cases of Cases Total Cases Total Cases Total
______________________ _______________________________________________________________
Independent distributors
United States 218,256 57% 315,468 60% 238,600 53% 210,600 55%
International 12,586 3% 24,317 3% 23,700 5% 16,800 5%
______________________ _______________________________________________________________
Total distributors 230,842 60% 339,785 63% 262,300 58% 227,400 60%
______________________ _______________________________________________________________
Company direct
California wholesale 111,196 29% 149,208 27% 124,700 28% 99,400 26%
Custom brands 13,905 4% 23,786 4% 25,000 6% 26,500 7%
Catalog and winery retail 28,843 7% 33,811 6% 35,500 8% 26,700 7%
______________________ _______________________________________________________________
Total Company direct 153,944 40% 206,805 37% 185,200 42% 152,600 40%
______________________ _______________________________________________________________
Total 384,786 100% 546,590 100% 447,500 100% 380,000 100%
______________________ _______________________________________________________________
CENTRALIZED ADMINISTRATION AND WAREHOUSING
A leased 22,000-square-foot central office located in Napa County,
California, at the Napa Airport Business Park supports all the Company's
wineries. Attached to the Company's central executive office is a
64,000-square-foot central distribution center in which all of the Company's
wines are stored prior to shipping. The Company also rents separate warehouse
facilities, as needed in local markets and occasionally permits storage of third
party wines for a fee. The central facility lease is for a 15-year initial term,
expiring in November 2008, with a five-year extension option.
EMPLOYEES
On December 31, 2001, the Company had 182 full-time employees, of which 80
were in grape growing and winemaking, 19 were in sales, and 83 were
administration. During the spring and summer, the Company adds approximately 20
to 25 part-time employees for vineyard care and maintenance and 65 to 75
part-time employees for the spring bottling. In the autumn, up to 85 part-time
employees are hired for the grape harvest and related winery work. The Company's
hiring and employment policies for both full-time and part-time employees are
believed to comply with all relevant laws, including immigration laws. The
Company believes that its wage rates and benefits are competitive and that its
employee relations are excellent.
REGULATION; PERMITS AND LICENSES
The production and sale of wine are subject to extensive regulation by
various federal and state regulatory agencies, which require the Company to
maintain various permits, bonds and licenses. The Company believes it is in
compliance with all currently applicable federal and state regulations.
TRADEMARKS
CANOE RIDGE, STATON HILLS, CHALONE VINEYARD, SAGELANDS, JADE MOUNTAIN,
CARMENET, GAVILAN, ACACIA and the Acacia "A" logo are federally registered
trademarks owned by the Company. EDNA VALLEY VINEYARD is a federally registered
trademark owned 50% by Chalone Wine Group, Ltd. and 50% by Paragon and licensed
exclusively to the Edna Valley Vineyard Joint Venture. The foregoing marks are
also registered in Japan with the Japanese Patent Office. These marks, and other
common-law marks, are of significant importance to the company's business as
label and brand recognition are important means of competition within the wine
industry.
SHAREHOLDER BENEFITS
Shareholders of the Company are entitled to benefits that are not provided
to other consumers. The Company offers its reserve wines, older wines and other
special wines to qualified shareholders, who are those with 100 or more shares
of the Company's common stock, directly from its centralized distribution center
by telephone or mail order. Qualified shareholders are entitled to a 20-30%
discount from suggested retail prices on most mail order or other direct
purchases from the Company. The Company has also provided annual discounts to
shareholders based on their shareholdings in the form of a "Owners Wine Credit,"
which allows shareholders to receive a credit towards the purchase of wines for
the duration of the program. The Owners Wine Credit may be used for up to 50% of
the wine value of an order and is generally offered in the fall of each year.
The credit amount was $.25 per share for the last year. Due to restrictions on
direct retail sales of wines under state laws, the company must
6
confine direct wine shipments by mail to purchasers with addresses in California
and 11 other states that have reciprocal agreements with California.
Each May, qualified shareholders are invited to attend our annual
Shareholder Celebration. For a nominal fee, attendees attend an all-day wine
tasting, auction and luncheon, which is traditionally held on the grounds of the
Chalone Vineyard in Monterey County, California. In 2001, approximately 1,500
shareholders and guests from 40 states and 5 foreign countries attended the
Celebration, which featured tastings of all of the Company's wines.
The Company also offers to shareholders, at the shareholders' expense,
travel programs to various wine-growing regions of the world. In the past, the
Company has provided travel programs to France, Chile, Australia, Portugal,
South Africa, Italy, and New Zealand. Proceeds from these trips help fund the
Chalone Wine Foundation. In addition, shareholders' interests are given a
priority in the Chalone Wine Foundation's donation program.
SEASONALITY
See "Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations" for a discussion of the seasonal nature of the
Company's business.
ITEM 2. PROPERTIES.
The Company's principal winemaking activities presently are conducted at
nine locations; six in California, two in eastern Washington and one in France.
CHALONE VINEYARD
Chalone Vineyard is located on approximately 950 acres in Monterey,
California (of which 307 acres are planted to grapes), approximately 1,500 feet
above the floor of the Salinas Valley, in the Chalone AVA. The winery produces
primarily Chardonnay and Pinot Noir and markets these wines exclusively under
the "Chalone Vineyard" label.
The soil is volcanic rock over a bed of limestone, similar to the soil
found in the Burgundy region of France. The elevation of the vineyard provides
natural protection against frost and creates radical swings between daytime and
nighttime temperatures. The region is arid and has average annual rainfall of
only 14 inches. The water needs for Chalone's vineyard are supplemented by two
reservoirs and several wells, which the Company believes will supply sufficient
water for the vineyard's current and future needs.
Chalone Vineyard was first established in 1919 and today is the oldest
producing vineyard in Monterey County. The Company has produced premium wines
from the vineyard since 1969, when it acquired the vineyard from a former
director of the Company, the late Richard H. Graff.
The property includes a tasting room, dining facilities for private parties
and approximately 8,500 square feet of caves for barrel storage. All operations,
from the grape growing to the final bottling, are carried out on site by the
Chalone staff. The winery's current production capacity is 48,000 cases.
CARMENET VINEYARD
Carmenet Vineyard is located on approximately 300 acres in Sonoma County,
California (of which 130 acres are plantable), located in the Sonoma Valley AVA.
The Company produces Bordeaux-style red and white wines on this property which
are marketed under the "Carmenet" brand name. The Company also produces wines
under the "Dynamite" label, which are made from Cabernet Sauvignon, Merlot,
Sauvignon Blanc and Semillon grapes and bulk wine purchased from vineyards
located in the North Coast AVA of California.
On July 31, 1996, a fire at the vineyard damaged approximately 75% of its
producing acres which were planted to Cabernet Sauvignon, Merlot, and Cabernet
Franc. The Company has replanted these acres with essentially the same
varieties. See "Item 1. Business, Wine Production and Wines."
The vineyard is situated in the Mayacamas Mountains just north of the town
of Sonoma, at an elevation of 1,200 feet. The vines are on steep hillsides in
rocky, well-drained soil. The average rainfall is 30 inches. The Company's water
needs are supplemented by two wells using a drip irrigation system, which the
Company believes will supply sufficient water for the vineyard's current and
future needs. The elevation of Carmenet Winery provides natural protection
against frost.
In addition to the production area, the property includes a reception area,
and 15,000 square feet of barrel caves. The barrel caves are bored into a solid
rock hillside adjacent to the fermentation building and provide an ideal
environment for aging wine in barrels without artificial temperature control.
The Company also owns 22 acres of vineyard land in the Glen Ellen area of
Sonoma Valley, approximately seven miles from the Carmenet Winery. The Glen
Ellen property includes a separate winery with a 125,000 case use permit.
In December, the Company announced that Carmenet had transformed into three
distinct wineries. What was known as Carmenet Vineyard is now called Moon
Mountain Vineyard. The Glen Ellen property is now called Carmenet Vineyards and
will be used to make Carmenet Vineyards wines and Dynamite Vineyards wines.
EDNA VALLEY VINEYARD
Edna Valley Vineyard leases land from Paragon Vineyard. Paragon Vineyard is
located on approximately 1,100 acres in San Luis Obispo County, California, in
the Edna Valley AVA. The Edna Valley Vineyard principally produces Chardonnay
and Pinot Noir. It also produces limited quantities of Viognier, Muscat, Pinot
Gris, Syrah, Edna Red and sparkling wines, all of which are marketed under the
"Edna Valley Vineyard" label.
7
The property is operated by Paragon Vineyard Company, which leases the land
on which the winery is located to Edna Valley Vineyard (a "Joint Venture"). The
Joint Venture is 50% owned by the Company and 50% owned by Paragon. The Company
is the managing joint venture partner and it manages and supervises the winery
operations and sells and distributes its wine.
The winery features a tasting room, dining facilities for private parties
and underground cellars for wine fermentation and barrel aging. Annual
production capacity is 165,000 cases.
ACACIA WINERY
The Acacia Winery produces primarily ultra-premium Chardonnay and Pinot
Noir wine with a small amount of sparkling wine and brandy marketed under the
"Acacia" brand.
The winery is located on one of four contiguous parcels that together total
approximately 149 acres in the Carneros district of Napa County, California. The
Company owns the winery building and the winemaking equipment associated with
the winery. The parcel on which the winery is located consists of two portions;
the winery complex ("Winery Parcel") and a 41-acre producing vineyard
surrounding the winery complex called the "Marina Vineyard". The parcel is owned
pursuant to a tenancy-in-common agreement between the Company and Mr. and Mrs.
Henry Wright (the "Wrights"), each holding a 50% interest. The Company leases
the Wright's portion of both the Winery Parcel and the Marina Vineyard pursuant
to two long-term leases, which commenced retroactively as of January 1, 1988,
and expire on December 31, 2017, subject to certain exceptions. The annual rent
for the Marina Vineyard was $116,361 in the year ended March 31, 2001, subject
to an annual increase determined according to a formula based on premium quality
Carneros district Chardonnay prices. The annual rent on the Winery Parcel is
$74,250.
Pursuant to the terms of the tenancy-in-common agreement, the Wrights have
the ability at any time to offer their interest in the Winery Parcel and the
Marina Vineyard to the Company, and, if the Company declines the offer, to list
the entire property for sale to a third party. The Marina Vineyard, currently
planted to Chardonnay, is in the process of being replanted to Pinot Noir.
The Company's two vineyards adjacent to the Marina Vineyard to the east are
comprised of approximately 60 acres planted to Pinot Noir, of which 15 producing
acres are approximately 20 years old, and 45 newly developed acres that are in
their third year of production.
In January 1999, the company entered into a lease-purchase agreement for
approximately 50 acres of additional vineyard property bordering the Marina
Vineyards to the west. The new lease expires on December 31, 2023 and provides
for annual rent payments of $74,000 in its first year and increases in various
increments to $121,000 per year by 2023. The terms of the lease also provide for
the Company to purchase this property for $1.1 million in consideration of
certain biannual option payments. The Company is currently planting
approximately 47 acres of this property to Pinot Noir.
These vineyards are on low rolling clay-loam hills with good water-holding
capacity. Average rainfall is 22 inches. Two small reservoirs currently exist on
these properties and a third reservoir will be created in the summer of 2003 to
meet the vineyard's current and future irrigation needs.
None of this property is frost protected but, due to elevation and
location, no significant losses have occurred to date from frost. There are
currently no plans to install frost protection.
Grapes from the equivalent of approximately 175 additional acres, all in
the Carneros district and owned by independent growers under long-standing
contracts to Acacia, have accounted for the majority of the 60,000 case annual
production.
With the increased company-owned planting, the Company anticipates Acacia's
annual production to increase to approximately 95,000 cases over the next four
years.
HEWITT VINEYARD
In January 2000, the Company purchased two adjacent parcels of land in
Rutherford, California comprising 69 acres containing two private homes and an
historic Cabernet Sauvignon vineyard. The Company announced in July 2000 that it
had sold the 10,000-square foot Hewitt House and four surrounding landscaped
acres for $7.3 million. The vineyard consists of 60 planted and 3 unplanted
acres and is believed to be among the finest vineyard land in Napa Valley's
notable Rutherford Bench. The Company is using the property to produce a
luxury-priced single vineyard Cabernet Sauvignon wine that will be released
under a new label, Hewitt Vineyard. This wine is expected to debut in 2003 with
an estimated initial release of approximately 1,400 cases. Ultimately, the
Company anticipates the vineyard to produce up to 15,000 cases of this luxury
quality wine.
SUSCOL CREEK VINEYARD
In March 2000 the Company purchased 164 acres of land at the southern
gateway to Napa County. The property consists of a 50-acre vineyard and 40
unplanted but plantable acres of vineyard land that is called Suscol Creek.
CANOE RIDGE VINEYARD
The Canoe Ridge Vineyard is located in eastern Washington State, at an
altitude of approximately 800 feet on the eastern slope of the Canoe Ridge,
overlooking the Columbia River. The vineyard is in the Columbia Valley AVA. The
Canoe Ridge winery has an annual production capacity of approximately 32,000
cases, and produces primarily Merlot, Chardonnay and small amounts of Cabernet
Sauvignon.
Of the vineyard's approximately 275 acres, of which 169 acres are
plantable, 161 acres are now planted to Merlot, Cabernet Sauvignon and
Chardonnay grapes. Although temperatures during the winter months can fall below
freezing, the vineyard's altitude, easterly exposure, and closeness to the
Columbia River, along with the Company's viticultural practices, are believed to
reduce the potential for freeze damage. The grapevines are grown in
well-drained, sandy-loam soil. The vineyard has an average annual rainfall of 6
inches and is irrigated with water from the
8
Columbia River under an agreement with an adjoining farm. In February 2001 the
Company announced that it had bought out its Washington minority partners and
began to expand the winery. The expansion was completed in late 2001.
SAGELANDS VINEYARD
On June 15, 1999 the Company purchased Staton Hills(R) Winery, and its
adjacent vineyards in Yakima County, Washington. The purchase price included
contracts covering approximately 90 acres in Washington State's Yakima Valley
and Horse Heaven Hills. The vineyard is located in the Columbia Valley AVA. The
winery is located on a 121-acre parcel, of which approximately 9.5 acres are
planted. In addition to the vineyard area, the property includes a 20,000-square
foot production and tasting facility with an annual production capacity of
40,000 cases.
At the time of purchase, the Company also entered into long-term grape
contracts for a total of 350 acres. The Staton Hills facility was renamed
Sagelands Vineyard and the new brand was launched in January 2000.
Sagelands Vineyard focuses on Cabernet Sauvignon and Merlot from the "Four
Corners" of Columbia Valley AVA. These four areas are Rattlesnake Hills, Wahluke
Slope, Horse Heaven Hills, and Walla Walla Valley. The winery is believed to
eventually be able to produce approximately 140,000 cases. The Company retained
the Staton Hills Winery brand and continues to produce wine under this mark.
DUHART-MILON
Duhart-Milon is located in the Medoc region of Bordeaux, France, in the
town of Pauillac. The Company holds a 23.5% interest in Societe Civile Chateau
Duhart-Milon ("Duhart-Milon"). The remaining 76.5% interest is owned by DBR. The
property consists of approximately 166 acres of producing vineyards adjacent to
the vineyards of the world renowned Chateau Lafite-Rothschild and its related
winemaking facilities. In 1855, the French Government classified the top 62
wine-producing estates in the Medoc region, choosing from over 400 such estates.
These top 62 estates were further classified into five "growths," based on their
perceived quality. "First growth" was considered the best. Under this
classification system, Duhart-Milon is rated a "fourth growth" estate. The
average annual production in recent years has been approximately 35,000 cases.
Duhart-Milon wines are sold under the "Chateau Duhart-Milon" and "Moulin de
Duhart" labels.
ITEM 3. LEGAL PROCEEDINGS.
ALLEGED VIOLATION OF SECTION 25502(A)(2) OF THE CALIFORNIA BUSINESS AND
PROFESSIONS CODE
The Company received notice dated August 28, 1998 from the California
Department of Alcoholic Beverage Control ("ABC") that it was accused, along with
36 other companies (most of them wineries) of violations of Section 25502(a)(2)
of the California Business and Professions Code which prohibits wine growers and
others from giving "something of value" to retailers. The accusation arises from
the appearance of paid advertisements of the Company and other wineries in
catalogues distributed by a certain retailer. The notice of violation requested
each of the noticed companies who agreed to the accusation to stipulate to a ten
(10) day suspension of its license or, consent to the payment of a fine not
greater than $10,000 in lieu of the suspension. The matter was tried to an
administrative law judge appointed by the ABC on July 14, 1999. The judge found
for the ABC and the ABC adopted the judge's decision. The Company, together with
16 other wine companies, had filed an appeal with the Alcoholic Beverage Control
Appeals Board, an independent body that hears appeals from ABC decisions. The
matter had been submitted to the ABC appeals board for a decision to be rendered
within 90 days pursuant to the May 24, 2001 hearing date. The appeals board
ruled against the ABC. The ABC does not agree with the ruling of the ABC appeals
board and has submitted the case to the First District Court of Appeals in San
Francisco for review.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matter was submitted to a vote of security holders of the Company during
the period covered by this Report.
9
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS.
The Company's common stock has been traded in the over-the-counter market
since the Company's initial public offering on May 18, 1984, and is listed in
the Nasdaq National Market System, under the symbol "CHLN." The following table
sets forth the high and low closing quotations for the stock for each quarter
during the past two years, as reported by Nasdaq. The prices reflect
inter-dealer quotations without retail markups, markdowns or commissions, and do
not necessarily represent actual transactions.
Quarter Ended High Low
------------------ ----- ------
December 31, 2001 $ 9.15 $ 8.85
September 30, 2001 9.65 8.88
June 30, 2001 8.60 8.25
March 31, 2001 9.38 7.72
December 31, 2000 9.50 7.75
September 30, 2000 10.63 7.63
June 30, 2000 8.62 7.81
March 31, 2000 9.13 8.13
December 31, 1999 9.50 8.25
September 30, 1999 10.00 9.00
June 30, 1999 9.94 8.13
On March 13, 2002 the closing price for the common stock was $10.20 per
share. The average weekly trading volume of the stock was approximately 18,043
shares during the nine months ended December 31, 2001.
HOLDERS OF RECORD.
As of March 13, 2002, there were approximately 5,015 holders of record of
the Company's stock.
DIVIDENDS.
To date, the Company has not paid any cash dividends.
Under the terms of certain of the Company's credit facilities, the Company
is restricted from paying dividends in excess of 50% of its aggregate net
income.
ITEM 6. SELECTED FINANCIAL DATA.
The following selected consolidated financial data for the nine-month
transition period ended December 31, 2001; and fiscal years ended March 31,
2001, 2000, 1999 and 1998 are derived from the Company's audited consolidated
financial statements. Financial data for the nine months ended December 31, 2000
is derived from the Company's unaudited consolidated financial statements and is
furnished with a view to providing the reader with comparative results for the
prior nine month period which coincides with the Company's current reporting
period. This data should be read in conjunction with the financial statements
and notes thereto. See "Item 8. Financial Statements and Supplementary Data."
10
SELECTED FINANCIAL DATA
(IN THOUSANDS EXCEPT PER SHARE DATA)
Nine Months ended
December 31, Year ended March 31,
________________________ ___________________________________________
2001 2000 2001 2000 1999 1998
________________________ ___________________________________________
(Unaudited)
STATEMENT OF OPERATIONS:
Net revenues $ 43,324 $ 46,305 $ 60,561 $ 51,457 $ 42,826 $ 36,755
Gross profit 17,720 16,180 21,118 22,922 19,625 16,216
Other operating revenues, net 195 160 213 40 194 318
Selling, general and administrative expenses (12,014) (12,047) (15,208) (13,941) (10,805) (8,147)
Operating income 5,901 4,293 6,123 9,021 9,014 8,387
Interest expense (3,217) (2,887) (3,824) (2,225) (1,761) (1,872)
Other income 6 868 891 - - -
Equity in net income of Duhart-Milon 509 714 761 735 766 341
Minority interest (512) (315) (377) (1,290) (1,219) (1,125)
Carmenet fire settlement gain - - - - 4,447 -
Net income $1,593 $1,577 $ 2,050 $ 3,681 $ 6,636 $ 3,410
Net income per common share $ 0.15 $ 0.15 $ 0.20 $ 0.34 $ 0.75 $ 0.41
BALANCE SHEET DATA:
Working capital $ 51,720 $ 48,806 $ 41,381 $ 29,981 $ 49,192 $ 27,794
Total assets 184,469 161,181 157,891 145,665 103,471 90,294
Long-term obligations less current maturities 50,061 50,503 49,490 31,041 35,273 18,124
Shareholders' equity 91,315 75,119 75,134 73,672 58,291 50,405
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
INTRODUCTION
In the ordinary course of business, the Company has made a number of
estimates and assumptions relating to the reporting of results of operations and
financial condition in the preparation of its financial statements in conformity
with accounting principles generally accepted in the United States of America.
Actual results could differ significantly from those estimates under different
assumptions and conditions. The Company believes that the following discussion
addresses the Company's most critical accounting policies, which are those that
are most important to the portrayal of the Company's financial condition and
results. The Company constantly re-evaluates these significant factors and makes
adjustments where facts and circumstances dictate. Historically, actual results
have not significantly deviated from those determined using the necessary
estimates inherent in the preparation of financial statements. Estimates and
assumptions include, but are not limited to, customer receivables, inventories,
assets held for sale, fixed asset lives, contingencies and litigation. The
Company has also chosen certain accounting policies when options were available,
including:
o The first-in, first-out (FIFO) method to value a majority of our
inventories; and
o The intrinsic value method, or APB Opinion No. 25, to account for our
common stock incentive awards; and
o We record an allowance for credit losses based on estimates of customers'
ability to pay. If the financial condition of our customers were to
deteriorate, additional allowances may be required.
These accounting policies are applied consistently for all years presented.
Our operating results would be affected if other alternatives were used.
Information about the impact on our operating results is included in the
footnotes to our consolidated financial statements.
The following discussion and analysis should be read in conjunction with
the Selected Financial Data presented in Item 6 hereto and the Company's
Consolidated Financial Statements and related notes in Item 8 hereto.
FORWARD LOOKING STATEMENTS
From time to time, information provided by the Company, statements made by
its employees, or information included in its filings with the Securities and
Exchange Commission (including this Form 10-K) may contain statements which are
not historical facts, so called "forward looking statements" that involve risk
and uncertainties. Forward looking statements are made pursuant to the safe
harbor provisions of the Private Securities Litigation Reform Act of 1995. When
used in this Form 10-K, the terms "anticipates," "expects," "estimates,"
"intends," "believes," and other similar terms as they relate to the Company or
its management are intended to identify such forward looking statements. In
particular, statements made in this Item 7., and the President's Letter to the
Shareholders relating to projections or predictions about the Company's future
investments in vineyards and other capital projects are forward looking
statements. The Company's actual future results may differ significantly from
those stated in any forward looking statements. Factors that may cause such
differences include, but are not limited to (i) reduced consumer spending or a
change in consumer preferences, which could reduce demand for the Company's
wines; (ii) competition from numerous domestic
11
and foreign wine producers which could affect the Company's ability to sustain
volume and revenue growth; (iii) interest rates and other business and economic
conditions which could increase significantly the cost and risks of borrowings
associated with present and projected capital projects; (iv) the price and
availability in the marketplace of grapes meeting the Company's quality
standards and other requirements; (v) the effect of weather, agricultural pests
and disease and other natural forces on growing conditions and, in turn, the
quality and quantity of grapes produced by the Company; (vi) regulatory changes
which might restrict or hinder the sale and/or distribution of alcoholic
beverages and (vii) the risks associated with the assimilation of acquisitions.
Each of these factors, and other risks pertaining to the Company, the premium
wine industry and general business and economic conditions, are more fully
discussed herein and from time to time in other filings with the Securities and
Exchange Commission.
CHANGE IN FISCAL YEAR-END
On May 17, 2001, the Company changed its fiscal year from one ending March
31 to one ending December 31.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard (SFAS) No. 142, Goodwill and Other Intangible
Assets. SFAS No. 142 addresses the intial recognition and measurement of
intangible assets subsequent to their acquisition and provides that intangible
assets with finite useful lives be amortized. The statement also provides that
goodwill and other intangible assets with indefinite lives not be amortized, but
tested at least annually for impairment. The Company will adopt SFAS No. 142 for
its fiscal year beginning January 1, 2002. Upon adoption of SFAS No. 142, the
Company will discontinue the amortization of goodwill with an expected net
carrying value of approximately $11,179,000 at the date of adoption and annual
amortization of $389,000 that resulted from business combinations completed
prior to the adoption.
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standard (SFAS) No. 143, Accounting for Asset Retirement Obligations.
SFAS No. 143 requires that an obligation associated with the retirement of
tangible long-lived assets and the associated asset retirement costs be
recognized as a liability when incurred. Upon initial recognition of a liability
for an asset retirement obligation, an entity would capitalize that cost by
recognizing an increase in the carrying amount of the related long-lived asset
by the same amount as the liability. An entity would subsequently allocate that
asset retirement cost to expense using a systematic and rational method over its
useful life. The Company will adopt SFAS No. 143 for its calendar year beginning
January 1, 2003. The adoption of SFAS No. 143 should not have a material effect
on the Company's operating results or financial position.
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standard (SFAS) No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets. SFAS No. 144 requires that a long-lived asset be considered
held and used until it is disposed of. For the long-lived assets to be disposed
of by sale, the accounting model retains the requirement of Statement 121 to
measure a long-lived asset classified as held for sale at the lower of its
carrying amount or fair value less cost to sell and to cease depreciation.
Therefore, discontinued operations are no longer measured on a net realizable
value basis, and future operating losses are no longer recognized before they
occur. The Company will adopt SFAS No. 144 for its calendar year beginning
January 1, 2002. The adoption of SFAS No. 144 should not have a material effect
on the Company's operating results of financial position.
RESULTS OF OPERATIONS
The following table represents financial data as a percentage of net
revenues for the indicated periods:
Nine Months
ended December 31, Year ended March 31,
__________________ ____________________
2001 2000 2001 2000
__________________ ____________________
Net revenues 100 % 100 % 100 % 100 %
Gross profit 41 % 35 % 35 % 45 %
Other operating revenues, net 0 % 0 % 0 % 0 %
Selling, general and administrative expenses (28)% (26)% (25)% (27)%
Operating income 14 % 9 % 10 % 18 %
Interest expense (7)% (6)% (6)% (4)%
Other income 0 % 2 % 1 % 0 %
Equity in net income of Duhart-Milon 1 % 2 % 1 % 1 %
Minority interest (1)% (1)% (1)% (3)%
Net income 4 % 3 % 3 % 7 %
REVENUES
Net revenues for the nine months ended December 31, 2001 decreased $3.0
million or 6% over the comparable period in the preceding year. This decrease
was attributable to the general economic downturn felt by the hospitality
industry after the tragic events of September 11th as well as lower sales volume
primarily due to product availability.
Net revenues for the year ended March 31, 2001 increased $9.1 million or
18% over the prior year. This increase was attributable to a volume increase of
22%, partially offset by assortment shift to lower priced brands which reduced
average revenue per case by 4%.
Sales volume in the California market comprised 33%, 32% and 32% of the
Company's total sales for the nine months ended December 31, 2001 and years
ended March 31, 2001 and 2000, respectively.
GROSS PROFIT
Gross profit for the nine months ended December 31, 2001 increased $1.5
million or 9% over the comparable period in the preceding year. This was
primarily the result of lower costs attributable to the release and sale of 2000
vintage wines.
Gross profit for the year ended March 31, 2001 decreased $1.8 million or 8%
over the comparable period in the preceding year. This was primarily the result
of higher grape and bulk wine costs associated with the 1998 and 1999 vintage
wines, much of which was sold in fiscal year 2001. The per acre grape yields for
the 1998 and 1999 harvests were below normal levels resulting in higher per unit
wine costs and reduced volumes. These reduced volumes necessitated buying more
grapes at higher costs from other growers and the purchase of higher priced bulk
wine. Purchases of bulk wine are significantly more expensive than wine produced
in the Company's facilities. The 2000 harvest was back to normal levels, which
will cause future per unit wine costs to return to normal levels and provide the
opportunity for margins to improve.
Gross profit for the year ended March 31, 2000 increased $3.3 million or
17% over the comparable period in the preceding year. This was primarily the
result of increased sales volume, increased average sales prices and lower per
unit wine costs due to higher yields from the 1996 and 1997 harvests.
OTHER OPERATING REVENUES, NET
Revenue from other operations primarily consists of revenue obtained from
third-party wineries, net of related expenses, for grape crushing or wine
bottling and net profit from sales of bulk wine. This aspect of the Company's
operation is normally not significant. The Company cannot predict the
significance of such operations in the future, as this source of revenue is
highly unpredictable and largely contingent on other wineries' demand for extra
production capacity, which can and does vary significantly from year to year.
12
Such revenue for the nine months ended December 31, 2001 increased $.03
million for the comparable period in the preceding year. This was attributable
to increased custom crush and custom bottling demand.
Such revenue for the year ended March 31, 2001 increased $.2 million from
the comparable period in the preceding year. This was again attributable to
increased custom crush and custom bottling demand.
Such revenue for the year-end March 31, 2000 decreased $.2 million from the
comparable period in the preceding year which was attributable to less custom
crush demand.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, General and Administrative expenses for the nine months ended
December 31, 2001, increased from 26% to 28% of net revenues from the comparable
period in the preceding year. This increase is primarily due to lower net
revenues as actual costs are $238,000 less than the comparable period in the
preceding year.
The Company reduced its selling, general and administrative costs as a
percentage of net revenues from 27% to 25% for the year ended March 31, 2001
compared to the previous year. Selling, general and administrative expenses in
the year ended March 31, 2001 increased $1.3 million or 9% over the comparable
period in the preceding year. This increase is primarily the result of (i)
increased selling efforts; (ii) launching of the new Sagelands brand name and
(iii) increased selling and marketing expenditures normally required to expand
sales volume.
Selling, general and administrative expenses in the year ended March 31,
2000 increased $3.1 million or 29% over the comparable period in the preceding
year. This increase is primarily the result of (i) increased selling and
marketing expenditures normally associated with increased sales quantities and,
(ii) expenditures in the Company's infrastructure.
OPERATING INCOME
Operating income for the nine months ended December 31, 2001 increased $1.6
million or 37%, over the comparable period in the preceding year. The increase
is due to the increase in gross profits, partially offset by the increases in
selling, general and administrative expenses as described above.
Operating income in the year ended March 31, 2001 decreased $2.9 million or
32%, over the comparable period in the preceding year. The decline is due to the
decreases in gross profits and the related increases in selling, general and
administrative expenses as described above.
Operating income remained substantially the same for the years ended March
31, 2000 and 1999. Although gross profits increased in fiscal 2000 as compared
to fiscal 1999, this increase was offset by an increase in selling, general and
administrative expenses and lower revenues from other operations.
INTEREST EXPENSE
For the nine months ended December 31, 2001 interest expense increased by
$.3 million or 11%, over the comparable period in the preceding year. This
increase was a result of higher average outstanding borrowings which are a
result of continuing capital expenditures related to winery and vineyard
expansions.
For the year ended March 31, 2001 interest expense increased by $1.6
million or 72% as compared with the prior year. This increase was a result of
(i) the Sagelands Vineyard acquisition which occurred during the quarter ended
June 30, 1999; (ii) the acquisition of the Hewitt Ranch property that occurred
during the fourth quarter of fiscal year 2000; (iii) the Jade Mountain
brand-name acquisition that occurred in April, 2000; (iv) the acquisition of our
partner's minority interest in Canoe Ridge Vineyard, LLC in February, 2001 and
(v) continuing capital expenditures related to winery expansion.
For the year ended March 31, 2000 interest expense increased by $.5 million
or 26% as compared with the prior year. This was a result of increased
borrowings primarily to fund acquisitions that took place in the fiscal year
2000. Also, the Company borrowed $2.0 million to pay holders of subordinated
debentures that matured during the year.
OTHER INCOME
For the nine months ended December 31, 2001 other income decreased $.8
million as compared to the same period last year.
For the year ended March 31, 2001 other income increased $.8 million as
compared with the prior year. This increase was the net result of the sale of
the 10,000-square foot Hewitt House and four surrounding landscaped acres. For
the year ended March 31, 1999, the Company recognized a non-recurring gain of
$4.4 million relating to the Carmenet fire settlement.
EQUITY IN NET INCOME OF DUHART-MILON
The Company's 23.5% equity interest in the net income of Duhart-Milon for
the nine months ended December 31, 2001 and for years ended March 31, 2001 and
2000 were $509,000, $761,000, and $735,000, respectively. This change was
primarily a result of delayed product releases as compared to the prior year.
The Company monitors its investment in Duhart-Milon primarily through its
on-going communication with DBR. Such communication is facilitated by the
presence of the Company's chairman on DBR's Board of Directors, and DBR's
representation on the Company's Board of Directors. Additionally, various key
employees of the Company make periodic visits to Duhart-Milon's offices and
production facilities.
Since the investment in Duhart-Milon is a long-term investment denominated
in a foreign currency, the Company records the gain or loss for currency
translation in other comprehensive income or loss, which is a separate component
of shareholders' equity. The amount recorded was increased to $4.3 million from
$3.6 million for the year ended March 31, 2001 as compared to the prior year,
due to the decrease in the relative
13
worth of the French franc when compared to the U.S. dollar. Although the
transition to the "EURO" currency became effective as of January 1, 1999, the
Company does not anticipate that this transition will have a material impact on
its investment in Duhart-Milon.
MINORITY INTEREST
The minority interest in the net income of Edna Valley Vineyard ("EVV") and
Canoe Ridge Vineyard, LLC ("CRV") consists of the following (IN THOUSANDS):
Nine Months ended
December 31, Year ended March 31,
_________________ ____________________
Venture Minority Owner 2001 2001 2000
_______ ______________ _________________ ______ ______
Edna Valley Vineyard Paragon Vineyard Co., Inc. (50.00%) $ 512 $ 165 $ 925
Canoe Ridge Vineyard, LLC Various (49.5%) - 212 365
_____ _____ ______
$ 512 $ 377 $1,290
===== ===== ======
The financial statements of Edna Valley Vineyard ("EVV") are consolidated
with the Company's financial statements. The interest in EVV attributable to
parties other than the Company is accounted for as a "minority interest". The
minority interest in the net income of EVV for the nine months ended December
31, 2001 was $512,000. The increase in minority interest was $135,000, or 36%
for the nine months ended December 31, 2001, when compared to the last fiscal
year. These increases were due to the elimination of the Canoe Ridge minority
interest when the Company purchased the remaining 49.5% interest in Canoe Ridge
on February 7, 2001 offset by increased EVV net income attributable to lower
costs related to the release and sale of EVV 2000 vintage wines.
The Company acquired the remaining 49.5% minority interest in Canoe Ridge
Vineyard, LLC from the other partners in February 2001. Accordingly, the
minority interest in earnings for the year ended March 31, 2001 reflects ten
months of operations of the Canoe Ridge Vineyard, LLC. The minority interest in
earnings for the year ended March 31, 2001 decreased $913,000 or 71% over the
comparable period ended March 31, 2000, due primarily to lower gross profits and
increased interest costs for both EVV and CRV. The decrease was also
attributable to having only ten months of CRV minority interest, due to the
acquisition, for the year ended March 31, 2001.
The minority interest in earnings for the year ended March 31, 2000
increased $71,000 or 6% from the prior comparable period due to steadily
improving performance at both EVV and CRV primarily as a result of increases in
both case sales and gross margin per case.
Company management believes that EVV will continue to contribute
significantly to the Company's consolidated results of operations.
NET INCOME
Net income for the nine months ended December 31, 2001 was $1.6 million, an
increase of $.16 million, or 1% over the comparable period in the previous year.
This increase was primarily due to the lower costs of sales attributable to the
release of 2000 vintage wines.
Net income for the year ended March 31, 2001 was $2.1 million, a decrease
of $1.6 million, or 44%, over the year ended March 31, 2000. This was primarily
as a result of higher selling, general and administrative expenses and increased
interest expense.
Net income for the year ended March 31, 2000 was $3.7 million, a decrease
of $3.0 million, or 45%, as compared to the year ended March 31, 1999. This was
primarily as a result of the non-recurring gain of $2.6 million (after tax)
relating to the Carmenet fire recorded in 1999 and higher selling, general and
administrative expenses.
SEASONALITY
The Company's wine sales from quarter to quarter are highly variable due
to, among other things, the timing of the release of wines for sale and changes
in consumer demand. Sales are typically strongest during the fourth quarter
because of heavy holiday sales and because most wines generally are released
during the end of the third and beginning of the fourth quarters.
LIQUIDITY AND CAPITAL RESOURCES
WORKING CAPITAL
Working Capital as of December 31, 2001 was $51.7 million, compared to
$41.4 million at March 31, 2001. The $10.3 million increase was primarily
attributable to an increase in inventory ($17.3 million), offset by an increase
in accounts payable and accrued liabilities ($16.3 million) and a net decrease
in revolving bank loan borrowings ($7.9 million).
Working Capital as of March 31, 2001 was $41.4 million, compared to $29.9
million at March 31, 2000. The $11.5 million increase was primarily attributable
to an increase in inventory ($7.5 million), offset by an increase in accounts
payable and accrued liabilities ($1.9 million) and a net decrease in revolving
bank loan borrowings ($7.1 million).
The net decrease in these borrowings from $27.0 million at March 31, 2000
to $19.9 million at March 31, 2001, reflect a repayment in September 2000 of $20
million financed with proceeds from long-term borrowings, offset by increases
used to fund the Jade Mountain and Canoe Ridge acquisitions ($7.5 million) and
increased inventory levels. At March 31, 2001, there were additional borrowings
of approximately $5 million available under the revolving bank loan.
14
The Company has historically funded its growth through increases in
borrowings and cash flow from operations. In addition, the Company received $7.3
million of proceeds from the sale of the Hewitt House during the first quarter
of fiscal 2001. During fiscal 2001, the Company's primary use of its capital was
to finance capital expenditures of $22.9 million, which includes the Jade
Mountain and Canoe Ridge acquisitions and vineyard development and a $7.5
million increase in inventory.
Management expects that the Company's working capital needs will grow
significantly to support expected future growth in sales volume. Due to the
lengthy aging and processing cycles involved in premium wine production,
expenditures for inventory and fixed assets need to be made one to three years
or more in advance of anticipated sales. The Company currently expects its
operating and capital spending requirements will total approximately $74.8
million for the year ending December 31, 2002.
The Company expects to finance these future capital needs through
operations, security offerings, and additional borrowings. There can be no
assurance that the Company will be able to obtain this financing on terms
acceptable to the Company.
BORROWING ARRANGEMENTS
On September 15, 2000 the Company refinanced certain borrowings through the
issuance of $30 million of Senior Unsecured Notes (the "Notes"). Proceeds from
the Notes were used to repay a portion of the Company's revolving bank loan in
the amount of $20 million and to repay $10 million of another $30 million term
loan. Interest on the Notes is payable quarterly at rates ranging from 8.90% to
9.05%, as amended on February 9, 2001, and principal repayments are scheduled
beginning September 15, 2004 through maturity on September 15, 2010. In
connection with this refinancing, maximum revolving debt borrowings were reduced
from $40 million to $25 million.
The Notes were issued pursuant to a Note Purchase Agreement which contains
restrictive covenants including requirements to maintain certain financial
ratios and restrictions on additional indebtedness, asset sales, investments,
and payment of dividends. At March 31, 2001 the Company was not in compliance
with one of these covenants, however, the Note holders have subsequently waived
such non-compliance. At December 31, 2001, the company was in compliance with
all bank covenants and management believes that the Company will be able to
remain in compliance with these financial covenants through December 31, 2002.
We are exposed to market risk from changes in interest rates. To manage
this exposure, we have entered into interest rate exchange agreements. We do not
use financial instruments for trading purposes and we are not a party to any
leveraged derivatives.
The Financial Accounting Standards Board ("FASB") has issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities", as amended by
SFAS No. 138 that establishes new accounting and reporting standards for
derivative instruments and hedging activities. It requires that derivatives be
recognized in the balance sheet at fair value. (see Note 7).
The Company's revolving bank loan expires March 31, 2002. The Company is in
negotiation with its bank to renew the borrowing arrangement for an additional
three years. This negotiation is anticipated to be completed on or before April
15, 2002. The Company's bank has agreed to extend the current revolver until the
new facility is in place on or before April 15, 2002. The bank facility
negotiation involves a $55 million revolver to be secured by eligible inventory
and accounts receivable and a $17.5 million term loan, to be secured on a pari
passu basis with the existing Note holders by a first security interest in
certain of the Company's fixed assets. In connection with the negotiations, the
Company contemplates amending certain of the provisions applicable to the Notes.
DISCLOSURES ABOUT MARKET RISK
The following disclosures should be read in conjunction with Management's
Discussion and Analysis of Financial Condition and Results of Operations. These
disclosures are intended to discuss certain material risks of the Company's
business as they appear to management at this time. However, this list is not
exhaustive. Other risks may, and likely will, arise from time to time.
OUR REVENUES AND OPERATING RESULTS FLUCTUATE SIGNIFICANTLY FROM QUARTER TO
QUARTER
We believe period-to-period comparisons of our operating results are not
necessarily meaningful, and cannot be relied upon as indicators of future
performance. In addition, there can be no assurance that our revenues will grow
or be sustained in future periods or that we will maintain our current
profitability in the future. Significant factors in these quarterly
fluctuations, none of which are within our control, are changes in consumer
demand for our wines, the affect of weather and other natural forces on growing
conditions and, in turn, the quality and quantity of grapes produced by us,
interest rates and inventory levels and the timing of releases for certain
wines, among other factors. Consequently, we have experienced, and expect to
continue to experience, seasonal fluctuations in revenues and operating results.
A large portion of our expenses are fixed and difficult to reduce in a
short period of time. In quarters when revenues do not meet our expectations,
our level of fixed expenses tends to exacerbate the adverse effect on net
income. In quarters when our operating results are below the expectations of
public market analysts or investors, the price of our common stock may be
adversely affected.
OUR BUSINESS IS SEASONAL, WHICH COULD CAUSE OUR MARKET PRICE TO FLUCTUATE
Our business is subject to seasonal as well as quarterly fluctuations in
revenues and operating results. Sales volume tends to increase during summer
months and the holiday season and decrease after the holiday season. As a
result, our sales and earnings are typically highest during the fourth calendar
quarter and lowest in the first calendar quarter. Seasonal factors also affect
our level of borrowing. For example, our borrowing levels typically are highest
during winter when we have to pay growers for grapes harvested and make payments
related to the harvest. These and other factors may cause fluctuations in the
market price of our common stock.
15
OUR PROFITS DEPEND LARGELY ON SALES IN CERTAIN STATES AND ON SALES OF
CERTAIN VARIETALS
In the nine months ended December 31, 2001, approximately 85% of our wine
sales were concentrated in 20 states. Changes in consumer spending in these
states and other regions of the country could affect both the quantity and price
level of wines that customers are willing to purchase.
Approximately 89% of our net revenues in the nine months ended December 31,
2001 were concentrated in our top four selling varietal wines. Specifically,
sales of Chardonnay, Pinot Noir, Cabernet Sauvignon and Merlot accounted for 48%
, 12%, 15% and 13% of our net revenues, respectively.
COMPETITION MAY HARM OUR BUSINESS
The premium table wine industry is intensely competitive and highly
fragmented. Our wines compete in all of the premium wine market segments with
many other premium domestic and foreign wines, with imported wines coming
primarily from the Burgundy and Bordeaux regions of France and, to a lesser
extent, Italy, Chile, Argentina, South Africa and Australia. Our wines also
compete with popular-priced generic wines and with other alcoholic and, to a
lesser degree, non-alcoholic beverages, for shelf space in retail stores and for
marketing focus by our independent distributors, many of which carry extensive
brand portfolios.
The wine industry has experienced significant consolidation. Many of our
competitors have greater financial, technical, marketing and public relations
resources than we do. Our sales may be harmed to the extent we are not able to
compete successfully against such wine or alternative beverage producers.
AGRICULTURAL RISKS
Winemaking and grape growing are subject to a variety of agricultural
risks. Various diseases, pests, fungi, viruses, drought, frosts and certain
other weather conditions can affect the quality and quantity of grapes available
to the Company, decreasing the supply of the Company's products and negatively
impacting profitability.
Many California vineyards have been infested in recent years with
phylloxera. The Company's vineyard properties are primarily planted to
rootstocks believed to be resistant to phylloxera. However, there can be no
assurance that the Company's existing vineyards, or the rootstocks the Company
is now using in its planting programs, will not become susceptible to current or
new strains of phylloxera.
Pierce's Disease is a vine bacterial disease that has been in California
for more than 100 years. It kills grapevines and there is no known cure. Small
insects called sharpshooters spread this disease. A new strain of the
sharpshooter, the glassy winged, was discovered in Southern California and is
believed to be migrating north. The Company is actively supporting the efforts
of the agricultural industry to control this pest and is making every reasonable
effort to prevent an infestation in our own vineyards. We cannot, however,
guarantee that we will succeed in preventing contamination in our vineyards.
Future government restrictions regarding the use of certain materials used
in grape growing may increase vineyard costs and/or reduce production.
Grape growing requires adequate water supplies. We generally supply our
vineyards' water needs through wells and reservoirs located on our properties.
We believe that we either have, or are currently planning to insure adequate
water supplies to meet the needs of all of our vineyards. However a substantial
reduction in water supplies could result in material losses of grape crops and
vines.
The weather phenomenon commonly referred to as "El Nino" produced heavy
rains and cooler weather during the Spring of 1999 and 1998, which resulted in
colder and wetter soils than are typical during California's grape growing
season. Consequently, the 1999 and 1998 harvests were postponed by approximately
four to six weeks depending on the geographic location and varietals. The
unusual weather conditions resulting from El Nino impacted the quantity and
quality of the Company's 1998 estate harvest. The size of the Company's most
significant crops ranged from normal-sized yields to 50% of normal yields
(depending on the varietal and particular estate).
Despite the reduction in the yield, the harvested estate crops, in
combination with contracted grape purchases, are expected to permit the Company
to meet originally anticipated sales-projections for its 1999 and 1998 vintage
Chardonnay, Cabernet, and Merlot varietals. Together these varietals have
historically comprised between 80% to 89% of our aggregate annual production.
WE MAY NOT BE ABLE TO GROW OR ACQUIRE ENOUGH QUALITY GRAPES FOR OUR WINES
The adequacy of our grape supply is influenced by consumer demand for wine
in relation to industry-wide production levels. While we believe that we can
secure sufficient supplies of grapes from a combination of our own production
and from grape supply contracts with independent growers, we cannot be certain
that grape supply shortages will not occur. A shortage in the supply of wine
grapes could result in an increase in the price of some or all grape varieties
and a corresponding increase in our wine production costs.
AN OVERSUPPLY OF GRAPES MAY HARM OUR BUSINESS.
Current trends in the domestic and foreign wine industry point to rapid
plantings of new vineyards and replanting of old vineyards to greater densities,
with the expected result of significantly increasing the worldwide supply of
premium wine grapes and the amount of wine which will be produced in the future.
This expected increase in grape production could result in an excess of supply
over demand and force wineries to reduce, or not increase prices.
16
WE DEPEND ON THIRD PARTIES TO SELL OUR WINE
We sell our products primarily through independent distributors and
brokers for resale to retail outlets, restaurants, hotels and private clubs
across the United States and in some overseas markets. To a lesser degree, we
rely on direct sales from our wineries, our wine library and direct mail. Sales
to our largest distributor and to our nineteen largest distributors combined,
represented approximately 4% and 37%, respectively, of our net revenues during
the nine months ended December 31, 2001. Sales to our nineteen largest
distributors are expected to continue to represent a substantial portion of our
net revenues in the future. We use a single broker to sell our wines within
California. Such sales represent 33% of our net revenues during the nine month
period ended December 31, 2001. The laws and regulations of several states
prohibit changes of distributors, except under certain limited circumstances,
making it difficult to terminate a distributor for poor performance, without
reasonable cause, as defined by applicable statutes. The resulting difficulty or
inability to replace distributors, poor performance of our major distributors or
our inability to collect accounts receivable from our major distributors could
harm our business.
NEW REGULATIONS OR INCREASED REGULATORY COSTS COULD HARM OUR BUSINESS
The wine industry is subject to extensive regulation by the Federal Bureau
of Alcohol, Tobacco and Firearms and various foreign agencies, state liquor
authorities and local authorities. These regulations and laws dictate such
matters as licensing requirements, trade and pricing practices, permitted
distribution channels, permitted and required labeling, advertising and
relations with wholesalers and retailers. Any expansion of our existing
facilities or development of new vineyards or wineries may be limited by present
and future zoning ordinances, environmental restrictions and other legal
requirements. In addition, new regulations or requirements or increases in exise
taxes, income taxes, property and sales taxes or international tariffs, could
reduce our profits. Future legal or regulatory challenges to the industry,
either individually or in the aggregate, could harm our business.
WE WILL NEED MORE WORKING CAPITAL TO GROW
The premium wine industry is a capital-intensive business, which requires
substantial capital expenditures to develop and acquire vineyards to improve or
expand wine production. Further, the farming of vineyards and acquisition of
grapes and bulk wine require substantial amounts of working capital. We project
the need for significant capital spending and increased working capital
requirements over the next several years, which must be financed by cash from
operations and by additional borrowings or additional equity.
ADVERSE PUBLIC OPINION ABOUT ALCOHOL MAY HARM OUR BUSINESS
A number of research studies suggest that various health benefits may
result from the moderate consumption of alcohol, but other studies suggest that
alcohol consumption does not have any health benefits and may in fact increase
the risk of stroke, cancer and other illnesses. If an unfavorable report on
alcohol consumption gains general support, it could harm the wine industry and
our business.
WE USE PESTICIDES AND OTHER HAZARDOUS SUBSTANCES IN THE OPERATION OF OUR
BUSINESS
We use pesticides and other hazardous substances in the operation of our
business. If hazardous substances are discovered on, or emanate from, any of our
properties, and their release presents a threat of harm to public health or the
environment, we may be held strictly liable for the cost of remediation. Payment
of such costs could have a material adverse effect on our business, financial
condition and results of operations. We maintain insurance against these kinds
of risks, and others, under various insurance policies. However, our insurance
may not be adequate or may not continue to be available at a price or on terms
that are satisfactory to us.
CONTAMINATION OF OUR WINES WOULD HARM OUR BUSINESS
We are subject to certain hazards and product liability risks, such as
potential contamination, through tampering or otherwise, of ingredients or
products. Contamination of any of our wines could result in the need for a
product recall which could significantly damage our reputation for product
quality, which we believe is one of our principle competitive advantages. We
maintain insurance against certain of these kinds of risks, and others, under
various general liability and product liability insurance policies. However, our
insurance may not be adequate or may not continue to be available at a price or
on terms that are satisfactory to us.
THE LOSS OF KEY EMPLOYEES WOULD DAMAGE OUR REPUTATION AND BUSINESS
Our success depends to some degree upon the continued services of a number
of key employees. Although some key employees are under employment contracts
with us for specific terms, the loss of the services of one or more of our key
employees could harm our business and our reputation, particularly if one or
more of our key employees resigns to join a competitor or to form a competing
company. In such an event, despite provisions in our employment contracts, which
are designed to prevent the unauthorized disclosure or use of our trade secrets,
practices or procedures by such personnel under these circumstances, we cannot
be certain that we would be able to enforce these provisions or prevent such
disclosures.
17
SHIFTS IN FOREIGN EXCHANGE RATES OR THE IMPOSITION OF ADVERSE TRADE
REGULATIONS COULD HARM OUR BUSINESS
We conduct some of our import and export activity for wine and packaging
supplies in foreign currencies. We purchase foreign currency on the spot market
on an as-needed basis and engage in limited financial hedging activities to
offset the risk of exchange rate fluctuations. There is a risk that a shift in
certain foreign exchange rates or the imposition of unforeseen and adverse trade
regulations could adversely impact the costs of these items and have an adverse
impact on our operating results.
In addition, the imposition of unforeseen and adverse trade regulations
could have an adverse effect on our imported wine operations. Export sales
accounted for approximately 3% of total consolidated revenue for the nine months
ended December 31, 2001 and the volume of international transactions is
increasing, which may increase this risk in the future.
INFRINGEMENT OF OUR TRADEMARKS MAY DAMAGE OUR BRAND NAMES OR OUR BUSINESS
Our wines are branded consumer products, and we distinguish our wines from
our competitors' by enforcement of our trademarks. There can be no assurance
that competitors will refrain from infringing our marks or using trademarks,
tradenames or trade dress which dilute our intellectual property rights, and any
such actions may require us to become involved in litigation to protect these
rights. Litigation of this nature can be very expensive and tends to divert
management's time and attention.
OUR ACQUISITIONS AND POTENTIAL FUTURE ACQUISITIONS INVOLVE A NUMBER OF
RISKS
Our acquisition of Hewitt Ranch, Suscol Ranch, Staton Hills Winery (renamed
Sagelands Vineyard), the Jade Mountain brand, enlarging Canoe Ridge Vineyard and
buying out our partners, and the possible construction of a new winery on the
Suscol Ranch property we recently acquired (and potential future acquisitions)
involve risks associated with assimilating these operations into our Company;
integrating, retaining and motivating key personnel; integrating and managing
geographically-dispersed operations integrating the technology and
infrastructures of disparate entities; risks inherent in the production and
marketing wine and replanting of existing vineyards from white wine grapes to
red wine grapes.
We relied on debt financing to purchase Hewitt Ranch, Suscol Ranch, Staton
Hills Winery, the Jade Mountain brand, enlarging Canoe Ridge Vineyard and buying
out our partners and other vineyard land and related assets during the fiscal
year ended December 31, 2001. Consequently our debt-to-equity ratio is high in
relation to our historical standards, even after the successful completion of
our rights offering in November 2001. The interest costs associated with this
debt will increase our operating expenses and the risk of negative cash flow.
THE MARKET PRICE OF OUR COMMON STOCK FLUCTUATES
All of the foregoing risks, among others not known or mentioned in this
report, may have a significant effect on the market price of our shares. Stock
markets have experienced extreme price and volume trading volatility in recent
months and years. This volatility has had a substantial effect on the market
prices of securities of many companies for reasons frequently unrelated or
disproportionate to the specific company's operating performance. These broad
market fluctuations may reduce the market price of our shares.
18
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
THE CHALONE WINE GROUP, LTD.
INDEX TO FINANCIAL STATEMENTS
PAGE
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets........................................... 20
Consolidated Statements of Income..................................... 21
Consolidated Statements of Shareholders' Equity....................... 22
Consolidated Statements of Cash Flows................................. 23
Notes to Consolidated Financial Statements............................ 24
INDEPENDENT AUDITORS REPORTS............................................ 36-37
19
THE CHALONE WINE GROUP, LTD.
CONSOLIDATED BALANCE SHEETS
(All amounts in thousands, except share data)
December 31, March 31,
2001 2001
____________ _________
Current assets:
Cash and equivalents $ - $ 56
Accounts receivable, net 11,475 10,128
Notes receivable 181 -
Income tax receivable - -
Inventory 76,658 59,333
Prepaid expenses and other 700 533
Deferred income taxes 1,442 897
________ ________
Total current assets 90,456 70,947
Investment in Chateau Duhart-Milon 7,897 7,824
Property, plant and equipment - net 73,232 67,197
Goodwill and trademarks - net of accumulated
amortization of $2,550 and $2,161, respectively 11,379 10,581
Notes receivable, net of current portion 653 -
Other assets 852 1,342
________ ________
Total assets $184,469 $157,891
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities $ 23,882 $ 7,517
Revolving bank loan 12,086 19,999
Current portion of related party note payable 18 18
Current portion of obligations under capital lease 716 -
Current maturities of long-term obligations 2,034 2,032
________ ________
Total current liabilities 38,736 29,566
Long-term obligations, less current maturities 47,082 48,608
Obligations under capital lease, less current portion 2,110 -
Related party note payable, less current portion 869 882
Liability on interest rate swap contract 664 -
Deferred income taxes 492 1,012
________ ________
Total liabilities 89,953 80,068
________ ________
Minority interest 3,201 2,689
Shareholders' equity:
Common stock - authorized 15,000,000 shares no
par value; issued and outstanding: 12,067,504 and
10,248,491 shares, respectively 76,433 61,578
Retained earnings 19,494 17,901
Accumulated other comprehensive loss (4,612) (4,345)
________ ________
Total shareholders' equity 91,315 75,134
________ ________
Total liabilities and shareholders' equity $184,469 $157,891
======== ========
The accompanying notes are an integral part of the consolidated financial statements
20
THE CHALONE WINE GROUP, LTD.
CONSOLIDATED STATEMENTS OF INCOME
(All amounts in thousands, except per share data)
Nine Months Ended December 31, Year Ended March 31,
______________________________ _____________________
2001 2000 2001 2000
________ ________ ________ ________
(Unaudited)
Gross revenues $ 44,483 $ 47,557 $ 62,213 $ 52,808
Excise taxes (1,159) (1,252) (1,652) (1,351)
________ ________ ________ ________
Net revenues 43,324 46,305 60,561 51,457
Cost of wines sold (25,604) (30,125) (39,443) (28,535)
________ ________ ________ ________
Gross profit 17,720 16,180 21,118 22,922
Other operating revenues, net 195 160 213 40
Selling, general and administrative expenses (12,014) (12,047) (15,208) (13,941)
________ ________ ________ ________
Operating income 5,901 4,293 6,123 9,021
Interest expense, net (3,217) (2,887) (3,824) (2,225)
Other Income 6 868 891 -
Equity in net income of Chateau Duhart-Milon 509 714 761 735
Minority interests (512) (315) (377) (1,290)
Carmenet fire settlement gain - - - -
________ ________ ________ ________
Income before income taxes 2,687 2,673 3,574 6,241
Income taxes (1,094) (1,096) (1,524) (2,560)
________ ________ ________ ________
Net income $ 1,593 $ 1,577 $ 2,050 $ 3,681
======== ======== ======== ========
Net income available to common shareholders $ 1,593 $ 1,577 $2,050 $3,222
Earnings per share-basic $ 0.15 $ 0.15 $ 0.20 $ 0.34
Earnings per share-diluted $ 0.15 $ 0.15 $ 0.20 $ 0.34
The accompanying notes are an integral part of the consolidated financial statements
21
THE CHALONE WINE GROUP, LTD.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(All amounts in thousands)
Common Stock Accumulated
____________________ Stock Other Compre-
Number of Subscription Retained Comprehensive hensive
Shares Amount Receivable Earnings Loss Total Income
_________ _______ ____________ ________ _____________ _______ _______
Balance, March 31, 1999 8,721 $48,965 $ (1,007) $12,629 $(2,296) $58,291 $
Employee stock purchase plan 8 65 - - - 65 -
Warrants exercised and deemed
dividend 833 6,667 - (459) - 6,208 -
Options exercised 20 115 - - - 115 -
Return of common stock in
settlement of subscription
receivable (104) (1,012) 1,007 - - (5) -
Debenture conversion 738 6,500 - - - 6,500 -
Profit sharing, net of repurchases 8 77 - - - 77 -
Foreign currency
translation adjustment - - - - (1,260) (1,260) (1,260)
Net income - - - 3,681 - 3,681 3,681
______ _______ ________ _______ _______ _______ _______
Balance, March 31, 2000 10,224 61,377 - 15,851 (3,556) 73,672 2,421
Employee stock purchase plan 7 48 - - - 48 -
Options exercised 8 61 - - - 61 -
Profit sharing, net of repurchases 9 92 - - - 92 -
Foreign currency
translation adjustment - - - - (789) (789) (789)
Net income - - - 2,050 - 2,050 2,050
______ _______ ________ _______ _______ _______ _______
Balance, March 31, 2001 10,248 61,578 - 17,901 (4,345) 75,134 1,261
Employee stock purchase plan 3 23 - - - 23 -
Options exercised 53 188 - - - 188 -
Profit sharing, net of repurchases (1) (15) - - - (15) -
Foreign currency translation
adjustment - - - - 80 80 80
Cumulative effect of adopting
SFAS No. 133 (net of tax of $129) - - - - (189) (189) (189)
Changes in fair value of derivatives
(net of tax of $141) - - - - (203) (203) (203)
Transition Adjustment reclassified - - - - - - -
in earnings (net of tax of $32) 45 45 45
Rights Offering 1,765 14,659 - - - 14,659 -
Net income - - - 1,593 - 1,593 1,593
______ _______ ________ _______ _______ _______ _______
Balance, December 31, 2001 12,068 $76,433 - $19,494 $(4,612) $91,315 $ 1,326
______ _______ ________ _______ _______ _______ _______
The accompanying notes are an integral part of the consolidated financial statements
22
THE CHALONE WINE GROUP, LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(All amounts in thousands)
Nine Months
Ended December 31, Year Ended March 31,
_______________________ _____________________
2001 2000 2001 2000
________ ________ ________ ________
(Unaudited)
Cash flows from operating activities:
Net income $ 1,593 $ 1,577 $ 2,050 $ 3,681
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 5,644 5,318 5,877 4,758
Equity in net income of Chateau Duhart-Milon (509) (714) (761) (735)
Increase in minority interests 512 315 377 1,290
Other 44 (803) (799) (105)
Changes in:
Accounts and other receivable (1,347) (1,734) 1,266 (2,320)
Inventory (17,325) (11,776) (5,365) (7,740)
Prepaid expenses and other assets 291 281 (34) 279
Deferred income taxes (827) 0 (734) (1,014)
Accounts payable and accrued liabilities 16,323 8,783 1,281 3,159
________ ________ ________ ________
Net cash provided by operating activities 4,399 1,247 3,158 1,253
________ ________ ________ ________
Cash flows from investing activities:
Capital expenditures (8,305) (10,821) (15,200) (10,889)
Vineyard property acquired - - - (22,152)
Business acquired, net of cash acquired - (3,518) (3,500) (6,127)
Proceeds from disposal of property and equipment 136 7,518 7,536 204
Net changes of notes receivable (834) - (470) 39
Investment in Edna Valley Vyd brand name and joint venture (1,050) - - (1,090)
Acquisition of minority interest in Canoe Ridge Vineyard - - (3,960) -
Distributions from Duhart-Milon 519 557 1,294 738
________ ________ ________ ________
Net cash used in investing activities (9,534) (6,264) (14,300) (39,277)
________ ________ ________ ________
Cash flows from financing activities:
Borrowings (repayment) on revolving bank loan-net (7,913) (14,057) (7,018) 23,079
Distributions to minority interests - (700) (700) (809)
Proceeds from long-term debt - 30,000 30,000 10,000
Net change in capital lease obligation (326) - - -
Repayment of long-term debt (1,537) (10,272) (11,285) (381)
Repayment of convertible subordinated debentures - - - (2,000)
Proceeds from warrants exercised - - - 6,208
Net proceeds from rights offering 14,659 - - -
Proceeds from issuance of common stock 196 46 201 257
________ ________ ________ ________
Net cash provided by financing activities 5,079 5,017 11,198 36,354
________ ________ ________ ________
Net increase (decrease) in cash and equivalents (56) - 56 (1,670)
Cash and equivalents at beginning of year 56 - - 1,670
________ ________ ________ ________
Cash and equivalents at end of year $ - $ - $ 56 $ -
======== ======== ======== ========
Other cash flow information:
Interest paid $ 3,373 $ 3,018 $ 3,449 $ 2,896
Income taxes paid 984 222 370 4,135
Non-cash investing and financing activities:
Debenture converted into common stock - - - 6,500
Return of stock in settlement of subscription receivable - - - 1,012
Interest swap flucuation, net 347 - - -
Equipment acquired under capital lease 3,152 - - -
The accompanying notes are an integral part of the consolidated financial statements
23
THE CHALONE WINE GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BUSINESS
The Chalone Wine Group, Ltd. ("the Company") produces and sells super
premium to luxury quality table wines. The Company sells the majority of its
products to wholesale distributors, restaurants, and retail establishments
throughout the United States, Canada and Europe. Export sales accounted for
approximately 3%, 4% and 5%, respectively, of total revenue for the nine months
ended December 31, 2001 and fiscal years ended March 31, 2001 and 2000. The
Company supplies some of its grape needs from its estate-owned vineyards but
utilizes independent grape growers for a majority of its grape requirements.
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies consistently
applied in the preparation of the accompanying consolidated financial statements
follows.
CHANGE IN FISCAL YEAR-END
In 2001, the Company changed its fiscal year end from March 31 to December
31. As a result, the Company is reporting a nine-month transition period ending
on December 31, 2001. By having the fiscal and calendar year the same, our
fiscal year matches that of Paragon Vineyard, our joint partner of Edna Valley
Vineyard, and DBR, our partner in Chateau Duhart-Milon. This simplifies
accounting procedures and financial reporting. Consequently, these financial
statements may contain financial information that is not comparable on a
period-to-period basis.
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of the Company,
its majority owned subsidiaries, and Edna Valley Vineyard ("EVV"), a winery
operation in San Luis Obispo County, California, owned 50% by the Company and
50% by Paragon Vineyard Company, Inc. ("Paragon"). The Company is EVV's managing
joint venture partner and supervises EVV's winery operations, sells and
distributes the wine and is deemed to control EVV for accounting purposes. The
Company has certain commitments related to its continuing ownership of EVV (see
Note 13). Intercompany transactions and balances have been eliminated.
At December 31, 2001, Domaines Baron de Rothschild (Lafite) ("DBR"), a
French company, owned approximately 46% of the Company's outstanding common
stock, and the Company owns a 23.5% partnership interest in DBR's Societe Civile
Chateau Duhart-Milon ("Duhart-Milon"), a Bordeaux wine-producing estate located
in Pauillac, France. The Company accounts for this investment using the equity
method.
ACCOUNTING ESTIMATES
The preparation of the financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported financial
statement amounts and related disclosures at the date of the financial
statements. Actual results could differ from these estimates.
CASH AND EQUIVALENTS
Cash equivalents are highly liquid instruments purchased with original
maturities of three months or less.
INVENTORY
Inventory is stated at the lower of cost or market. Cost for bulk and
bottled wines is determined on an accumulated weighted average basis and
includes grape purchases and supplies, farming and harvesting costs, winery and
bottling costs. Wine production supplies are stated at FIFO (first-in,
first-out) cost. All bulk and bottled wine inventories are classified as current
assets in accordance with recognized industry practice, although a portion of
such inventories will be aged for periods longer than one year.
CONCENTRATION OF CREDIT RISK
Financial instruments, which potentially subject the Company to
concentrations of credit risk, consist primarily of cash investments and trade
receivables. The Company has cash investment policies that limit investments to
investment grade securities. The Company performs ongoing credit evaluations of
its customers' financial position and generally does not require collateral. The
Company maintains reserves for potential credit losses and such losses have been
within management's expectations.
24
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment is stated at cost, with depreciation provided
in amounts sufficient to allocate the depreciable assets to operations over
their estimated useful lives. The straight-line method is followed for
substantially all assets for financial reporting purposes, but accelerated
methods are used for income tax purposes. The costs of property, plant and
equipment are allocated to each asset acquired based on their relative estimated
fair values at the date of acquisition.
The ranges of useful lives used in computing depreciation are (i) 15 to
35 years for vineyard development costs, (ii) 80 years for caves, (iii) 15 to 40
years for buildings and (iv) 3 to 20 years for machinery and equipment.
Capitalized costs of planting new vines and ongoing cultivation costs for vines
not yet bearing fruit, including interest, are classified as vineyard
development. Depreciation commences in the initial year the vineyard yields a
commercial crop, generally in the third or fourth year after planting.
Interest of $.7 million, $.8 million and $.8 million was capitalized to
property, plant and equipment for the nine months ended December 31, 2001 and
fiscal years ended March 31, 2001 and 2000, respectively.
Caves represent improvement costs to dig into hillsides and structurally
reinforce underground tunnels used to age and store the Company's wines.
GOODWILL AND TRADEMARKS
The excess of the purchase price paid over acquired net assets is recorded
as goodwill and amortized over 20 to 40 years on a straight-line basis. The
payments made to extend the life of the EVV joint venture and acquire ownership
of the continuing joint venture have been recorded as goodwill and are being
amortized over 40 years beginning in January 1997. Trademarks are amortized over
their estimated useful lives from the date they are put into use (see Recent
Accounting Pronouncements).
IMPAIRMENT OF LONG-LIVED ASSETS
The Company evaluates its long-lived assets for impairment whenever events
or changes in circumstances indicate that the carrying amount of such assets or
intangibles may not be recoverable. Recoverability of assets to be held and used
is measured by a comparison of the carrying amount of the assets to future
undiscounted net cash flows expected to be generated by the assets. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets (see Recent Accounting Pronouncements).
FOREIGN CURRENCY TRANSLATION
The functional currency of the Company's investee, Duhart-Milon, is the
French franc and as a result the Company records the effect of exchange gains
and losses on its equity in Duhart-Milon in other comprehensive income or loss,
a separate component of shareholder's equity.
REVENUE RECOGNITION
Revenue is recognized when the product is shipped, and title passes to the
customer. Revenue from product sold at the Company's retail locations is
recognized at the time of sale. Revenue is recorded net of sales returns,
including a provision for estimated future returns. Sales returns have
historically been insignificant. The Company generally allows thirty days from
the date of shipment for customers to make payment. No products are sold on
consignment.
SHIPPING COSTS
Shipping costs are included in selling, general and administrative expense
and totaled $585,000, $836,000 and $ 669,000 for the nine months ended December
31, 2001 and for each of the years ended March 31, 2001 and 2000, respectively.
ACCOUNTING FOR INCOME TAXES
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes."
SFAS No. 109 requires the Company to compute deferred income taxes based on the
difference between the financial statement and tax basis of assets and
liabilities using enacted tax rates in effect in the years in which the
differences are expected to reverse.
STOCK BASED COMPENSATION
The Company accounts for stock-based awards to employees using the
intrinsic value based method in accordance with APB No. 25, ACCOUNTING FOR STOCK
ISSUED TO EMPLOYEES and provides the pro forma disclosures required by SFAS No.
123, ACCOUNTING FOR STOCK-BASED COMPENSATION (see Note 8). No compensation
expense has been recognized in the financial statements for employee stock
arrangements.
25
DERIVATIVE FINANCIAL INSTRUMENTS
The Company uses derivative instruments to manage exposures to interest
rate risks in accordance with its risk management policy. The Company's
objectives for holding derivatives are to minimize the risks using the most
effective methods to eliminate or reduce the exposure to interest rate
fluctuations. The Company formally documents the relationship between hedging
instruments and hedged items as well as its risk management objective and
strategy for undertaking its hedging activities. The Company formally designates
derivatives as hedging instruments on the date the derivative contract is
entered into. The Company assesses, both at inception of the hedge and on an
ongoing basis, whether derivatives used as hedging instruments are highly
effective in offsetting the changes in the fair value or cash flows of hedged
items. If it is determined that a derivative is not highly effective as a hedge
or ceases to be highly effective, the Company discontinues hedge accounting
prospectively.
Changes in the fair value of derivative instruments designated as cash flow
hedges, to the extent the hedges are highly effective, are recorded in other
comprehensive income, net of related tax effects. The ineffective portion of the
cash flow hedge, if any, is recognized in current-period earnings. Other
comprehensive income is relieved when current earnings are affected by the
variability of cash flows relating to the derivative hedged. During the period
ended December 31, 2001, the Company's derivative contracts consisted only of an
interest rate swap used by the Company to convert a portion of its variable rate
long-term debt to fixed rate.
The Company does not enter into financial instruments for trading or
speculative purposes. Payments or receipts on interest rate swap agreements are
recorded in interest expense. Forward exchange contracts are used to manage
exchange rate risks on certain purchase commitments, generally French oak
barrels, denominated in foreign currencies. Gains and losses relating to firm
purchase commitments are deferred and are recognized as adjustments of carrying
amounts or in income when the hedged transaction occurs. The nominal amounts and
related foreign currency transaction gains and losses, net of the impact of
hedging, were not significant in nine months ended December 31, 2001 and the
fiscal years 2001 and 2000.
NET INCOME PER SHARE
Basic net income per share ("EPS") excludes dilution and is computed by
dividing net income available to common stockholders by the weighted average
number of common shares outstanding for the period. Diluted EPS reflects the
potential dilution that could occur if securities or other contracts to issue
common stock (e.g. stock options) were exercised and converted into stock. For
all periods presented, the difference between basic and diluted EPS for the
Company reflects the inclusion of dilutive stock options and stock warrants, the
effect of which is calculated using the treasury stock method as shown below.
The Company's convertible debentures are excluded from the computation for
periods prior to their conversion since they had an antidilutive effect.
The following is a reconciliation of the figures used in deriving basic EPS
and those used in calculating diluted EPS (IN THOUSANDS, EXCEPT PER SHARE DATA):
Effect of dilutive securities
_____________________________
Stock
Basic EPS Warrants options Diluted EPS
_________ ________ _______ ___________
Nine months ended December 31, 2001:
Income available to common stockholders $ 1,593 $ 1,593
Shares 10,558 58 10,616
_______ _______
EPS $ 0.15 $ 0.15
======= =======
Year ended March 31, 2001:
Income available to common stockholders $ 2,050 - - $ 2,050
Shares 10,238 - 14 10,252
_______ _______
EPS $ 0.20 $ 0.20
======= =======
Year ended March 31, 2000:
Income available to common stockholders (1) $ 3,222 - - $ 3,222
Shares 9,383 100 - 9,483
------- -------
EPS $ 0.34 $ 0.34
======= =======
<FN>
(1) Net income available to common stockholders in 2000 is net income reduced
by the warrant related deemed dividend of $459,000.
</FN>
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard (SFAS) No. 142, Goodwill and Other Intangible
Assets. SFAS No. 142 addresses the initial recognition and measurement of
intangible assets subsequent to their acquisition and provides that intangible
assets with finite useful lives be amortized. The statement also provides that
goodwill and other intangible assets with indefinite lives not be amortized, but
tested at least annually for impairment. The Company will adopt SFAS No. 142 for
its fiscal year beginning
26
January 1, 2002. Upon adoption of SFAS No. 142, the Company will discontinue the
amortization of goodwill with an expected net carrying value of approximately
$11,179,000 at the date of adoption and annual amortization of $389,000 that
resulted from business combinations completed prior to the adoption.
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standard (SFAS) No. 143, Accounting for Asset Retirement Obligations.
SFAS No. 143 requires that an obligation associated with the retirement of
tangible long-lived assets and the associated asset retirement costs be
recognized as a liability when incurred. Upon initial recognition of a liability
for an asset retirement obligation, an entity would capitalize that cost by
recognizing an increase in the carrying amount of the related long-lived asset
by the same amount as the liability. An entity would subsequently allocate that
asset retirement cost to expense using a systematic and rational method over its
useful life. The Company will adopt SFAS No. 143 for its calendar year beginning
January 1, 2003. The adoption of SFAS No. 143 should not have a material effect
on the Company's operating results or financial position.
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standard (SFAS) No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets. SFAS No. 144 requires that a long-lived asset be considered
held and used until it is disposed of. For the long-lived assets to be disposed
of by sale, the accounting model retains the requirement of Statement 121 to
measure a long-lived asset classified as held for sale at the lower of its
carrying amount or fair value less cost to sell and to cease depreciation.
Therefore, discontinued operations are no longer measured on a net realizable
value basis, and future operating losses are no longer recognized before they
occur. The Company will adopt SFAS No. 144 for its calendar year beginning
January 1, 2002. The adoption of SFAS No. 144 should not have a material effect
on the Company's operating results or financial position.
SEGMENT REPORTING
The Company produces and sells premium to luxury quality table wines and
has determined that its product line operating segments, although consisting of
multiple products and brands, all have similar production processes, customer
types, distribution methods and other economic characteristics. Accordingly,
these operating segments have been aggregated as a single operating segment in
the consolidated financial statements.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Cash and equivalents, accounts receivable, accounts payable and accrued
expenses, and certain other assets and liabilities are considered financial
instruments. Carrying values are estimated to approximate fair values for these
instruments as they are short-term in nature and are receivable or payable on
demand.
RECLASSIFICATIONS
Certain prior period amounts have been reclassified in order to conform
with the current period presentation.
NOTE 3 - VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
A summary of the changes in the Company's allowance for doubtful accounts
receivable is as follows:
Balance at Charges to Balance at
Beginning of Costs and End of
Period Expenses Deductions Period
____________ __________ __________ __________
Year ended March 31:
2000 $ 87 $ 114 $ (72) $ 129
===== ===== ===== =====
2001 $ 129 $ 320 $ (56) $ 393
===== ===== ===== =====
Nine months ended December 31:
2001 $ 393 $ 490 $(105) $ 778
===== ===== ===== =====
27
NOTE 4 - INVENTORY
Inventory consists of the following (IN THOUSANDS):
December 31, March 31,
2001 2001
____________ _________
Bulk wine $ 44,616 $ 36,984
Bottled wine 31,303 21,156
Wine packaging supplies 313 543
Other 426 650
________ ________
Total $ 76,658 $ 59,333
======== ========
NOTE 5 - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of the following (IN THOUSANDS):
December 31, March 31,
2001 2001
____________ _________
Land $ 18,091 $ 18,024
Vineyards 8,310 8,310
Vineyards under development 18,291 14,562
Caves 1,678 1,678
Buildings 24,541 22,776
Machinery and equipment 33,123 29,135
________ ________
104,034 94,485
Accumulated depreciation (30,802) (27,288)
________ ________
Total $ 73,232 $ 67,197
======== ========
28
NOTE 6 - INVESTMENT IN CHATEAU DUHART-MILON
Duhart-Milon's condensed balance sheet as of December 31, 2001 and March
31, 2001 and the results of its operations for nine months ended December 31,
2001 and fiscal year ended March 31, 2001 and 2000 are as follows (translated
into U.S. dollars at the year-end and average exchange rate for the period,
respectively) (IN THOUSANDS):
December 31, March 31,
2001 2001
____________ _________
Inventory 566 2,812
Other current assets 1,315 6,068
_____ _____
Current assets 1,881 8,880
_____ _____
Property and equipment, net 286 1,619
_____ ______
Total assets 2,167 10,499
===== ======
Current liabilities 335 2,066
Partner's equity 1,832 8,433
_____ ______
Total liabilities and equity 2,167 10,499
===== ======
Duhart-Milon's results of operations are summarized as follows (IN
THOUSANDS):
Nine Months Year Year
ended ended ended
December 31, March 31, March 31,
2001 2001 2000
____________ _________ _________
Revenues $ 3,990 $ 5,470 $ 5,583
Cost of Sales 1,712 (2,453) (2,308)
_______ _______ _______
Gross profit 2,278 3,017 3,275
_______ _______ _______
Revenues from other operations, net 88 221 40
_______ _______ _______
Net earnings $ 2,366 $ 3,238 $ 3,315
======= ======= =======
Company's share of net earnings $ 509 $ 761 $ 779
Less: amortization expense (44)
_______ _______ _______
Equity in investment of Duhart-Milon $ 509 $ 761 $ 735
======= ======= =======
On October 1, 1995, the carrying amount of the Company's investment in
Duhart-Milon was greater than its share of Duhart-Milon's net assets by
approximately $8.9 million. This difference related primarily to the underlying
value of the land owned by Duhart-Milon and, accordingly is not amortized. A
portion of that difference, however, was attributable to inventory and was
amortized based on annual sales quantities through March 31, 2001.
Since the investment in Duhart-Milon is a long-term investment denominated
in a foreign currency, the Company recognizes currency translation gains or
losses in shareholders' equity as accumulated comprehensive income or loss,
which totaled $4,612,000 as of December 31, 2001. This amount decreased from
$4,345,000 as of March 31, 2001 due to the increase in the relative worth of the
French franc when compared to the U.S. dollar during the nine months ended
December 31, 2001.
29
NOTE 7 - BORROWING ARRANGEMENTS
Borrowing arrangements consist of the following (IN THOUSANDS):
December 31, March 31,
2001 2001
____________ __________
Revolving bank loan of $25,000,000, interest at LIBOR+1.375%
(3.255% at December 31, 2001), interest payable monthly, unsecured, due $ 12,086 $ 19,999
March 31, 2002 (see below)
Senior unsecured notes (series A, B, C), interest at rates ranging from
8.90% to 9.05%, payable monthly, principal payments annually starting
September 15, 2004 30,000 30,000
Bank term loan, unsecured, interest at varying LIBOR rates plus 1.2%
(3.41% at December 31, 2001), payable monthly, principal payable quarterly
commencing December 31, 2000 through March 2006 17,500 19,000
(swapped to fixed rate of 6.95%, see Note 14)
Mortgage note, interest at varying rates (3.5% at December 31, 2001), principal
and interest payable monthly, due August, 2021 1,616 1,640
____________ __________
61,202 70,639
Less current maturities (14,120) (22,031)
____________ __________
Long-term obligations, less current maturities $ 47,082 $ 48,608
============ ==========
Related party note payable, due through 2016, interest at 7.03% $ 887 $ 900
Less current maturities (18) (18)
____________ __________
Related party note payable, long-term portion $ 869 $ 882
============ ==========
The revolving credit facility and term loan are pursuant to an agreement
with a bank that was entered into in March 1999. The agreement includes
restrictive covenants regarding: maintenance of certain financial ratios;
mergers or acquisitions; loans, advances or debt guarantees; additional
borrowings; annual lease expenditures; annual fixed asset expenditures; changes
in control of the Company; and declaration or payment of dividends.
On September 15, 2000 the Company refinanced certain borrowings through the
issuance of $30 million of Senior Unsecured Notes (the "Notes"). Proceeds from
the Notes were used to repay a $20 million of revolving bank borrowings under a
previous credit agreement and $10 million of the $30 million term loan. Interest
on the Notes is payable quarterly at rates ranging from 8.90% to 9.05% and
principal repayments are scheduled beginning September 15, 2004 through maturity
on September 15, 2010. In connection with this refinancing, available revolving
debt borrowings under the credit agreement were reduced from $40 million to $25
million, of which the Company had borrowed $12.0 million as of December 31,
2001, with $13.0 million unused and available.
The Notes were issued pursuant to a Note Purchase Agreement which contains
restrictive covenants including requirements to maintain certain financial
ratios and restrictions on additional indebtedness, asset sales, investments,
and payment of dividends.
Maturities of borrowings for each of the next five years ending at December
31 are as follows (IN thousands):
2002 $ 14,138
2003 2,063
2004 6,356
2005 6,365
2006 13,873
Thereafter 19,294
________
Total $ 62,089
========
In 1999 the Company entered into an interest-rate swap contract for a
notional amount of $20.0 million, maturing on April 6, 2006. This contract
effectively converts the variable LIBOR rate which would otherwise be paid by
the Company on its $20.0 million bank term-loan balance into a fixed-rate
obligation over a period which corresponds to that of the underlying loan
agreement. During that time, the rate which the Company will be obligated to
pay, after including the lending institution's additional mark-up (which is
based on financial ratios, and varies
30
accordingly) will be fixed at 6.95%. Effective April 1, 2001, the company
adopted SFAS No. 133, " Accounting for Derivitive Instruments and Hedging
Activities" (see Note 14). The fair value of the contract was approximately
$664,000 on December 31, 2001, which amount (net of tax effect) will be the
cumulative transition adjustment recorded in other comprehensive income as
required under SFAS No. 133.
The Company's revolving bank loan expires March 31, 2002. The Company is in
negotiation with its bank to renew the borrowing arrangement for an additional
three years. This negotiation is anticipated to be completed on or before April
15, 2002. The Company's bank has agreed to extend the current revolver until the
new facility is in place on or before April 15, 2002. The bank facility
negotiation involves a $55 million revolver to be secured by eligible inventory
and accounts receivable and a $17.5 million term loan, to be secured on a pari
passu basis with the existing Note holders by a first security interest in
certain of the Company's fixed assets. In connection with the negotiations, the
Company contemplates amending certain of the provisions applicable to the Notes.
NOTE 8 - STOCK BASED COMPENSATION
On February 10, 1997, the Board of Directors adopted the 1997 Stock Option
Plan (the "Plan"). The Plan provides for the grant of stock options to officers
and other key employees of the Company, as well as non-employee directors and
consultants, for an aggregate of up to 1,000,000 shares of common stock, plus
any shares under the Company's 1987 Stock Option Plan, which expired in February
1997, or the 1988 Non-Discretionary Stock Option Plan, which expired in December
1996, that become available for issuance as a result of forfeitures to the
Company under the terms of such plans. These options generally expire 10 years
from the date of grant and vest after a three to twelve month period. As of
December 31, 2001, approximately 167,057 options were available for future grant
under the Plan.
Option activity under the plans has been as follows:
Shares Exercise Price
_______________ ________________
Outstanding, March 31, 1999 609,774 $ 10.39
_______________ ________________
Granted (weighted average fair value of $4.79) 146,000 9.47
Exercised (22,800) 6.11
Canceled (70,555) 10.12
_______________ ________________
Outstanding, March 31, 2000 662,419 10.36
_______________ ________________
Granted (weighted average fair value of $4.56) 169,640 8.43
Exercised (17,800) 8.64
Canceled (23,765) 9.97
_______________ ________________
Outstanding, March 31, 2001 790,494 10.00
_______________ ________________
Granted (weighted average fair value of $5.91) 172,873 11.11
Exercised (121,105) 8.63
Canceled (5,059) 9.58
_______________ ________________
Outstanding, December 31, 2001 837,203 $ 10.43
=============== ================
Additional information regarding options outstanding as of December 31,
2001 is as follows:
Exercise Number Remaining Weighted Avg.
Prices Outstanding Contractual Life Exercise Price
___________ ___________ ________________ ______________
$5.00-$7.99 26,440 2.5 years $ 6.84
$8.00-$9.99 273,743 5.5 years 8.90
$10.00-$12.00 537,020 5.6 years 11.38
_______ _________ _______
837,203 5.5 years $ 10.43
======= ========= =======
All options outstanding at December 31, 2001 are exercisable, except for
10,863 options granted December 31, 2001 with an exercise price of $9.69.
EMPLOYEE STOCK PURCHASE PLAN
Under the Employee Stock Purchase Plan, (the "Purchase Plan"), eligible
employees are permitted to use salary withholdings to purchase shares of common
stock at a price equal to 85% of the lower of the market value of the stock at
the beginning or end of each three-month offer period or beginning of the
Purchase Plan start (27 months), subject to an annual limitation. Shares issued
under the plan were 3,145 shares, 6,735 shares and 6,198 shares for the nine
months ended December 31, 2001 and for each of the years ended March 31, 2001,
and 2000, respectively, at weighted average prices of $7.37, $7.15 and $7.83,
respectively. The weighted average fair value per share of the awards for the
nine months
31
ended December 31, 2001 and for each of the years ended March 31, 2001 and 2000
was $8.67, $8.42 and $9.21, respectively. At December 31, 2001, 8,855 shares
were reserved for future issuances under the Purchase Plan.
ADDITIONAL STOCK PLAN INFORMATION
SFAS 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, requires the disclosure
of pro forma net income and earnings per share had the Company adopted the fair
value method as of the beginning of fiscal year 1995. Under SFAS 123, the fair
value of stock-based awards to employees is calculated through the use of option
pricing models, even though such models were developed to estimate the fair
value of freely tradable, fully transferable options without vesting
restrictions, which significantly differ from the Company's stock option awards.
These models also require subjective assumptions, including future stock
volatility and expected time to exercise, which greatly affect the calculated
values. The Company's calculations were made using the Black-Scholes option
pricing model with the following weighted average assumptions: expected life,
117 months following vesting; stock volatility of 31.2%, 28.2% and 19.3% in the
nine months ended December 31, 2001 and the years ended March 31, 2001 and 2000,
respectively; risk-free interest rates of 5.2%, 6.5% and 6.9% for the nine
months ended December 31, 2001 and for the years ended March 31, 2001 and 2000,
respectively, and no dividends during the expected term. The Company's
calculations are based on a multiple option valuation approach and forfeitures
are recognized as they occur.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized over the options' vesting period. Had the Company's stock
option and stock purchase plan been accounted for under SFAS No. 123, net income
and earnings per share would have been reduced to the following pro forma
amounts (IN THOUSANDS, EXCEPT PER SHARE DATA):
Nine Months
ended
December 31, Year ended March 31,
____________ ___________________________
Net income: 2001 2001 2000
____________ ___________ ________
As reported (1) $ 1,594 $ 2,050 $ 3,222
Pro forma $ 1,003 $ 1,759 $ 2,712
Earnings per share:
Basic $ 0.15 $ 0.20 $ 0.34
Diluted $ 0.15 $ 0.20 $ 0.34
Pro forma basic $ 0.10 $ 0.17 $ 0.29
Pro forma diluted $ 0.09 $ 0.17 $ 0.29
(1) Net income available to common stockholders in 2000 is net income
reduced by the warrant related deemed dividend of $459,000.
NOTE 9 - COMMON STOCK
Presently the Company does not have any outstanding convertible debentures
or warrants to purchase its common stock.
To date the Company has not paid any cash dividends. Under the terms of
certain of the Company's credit facilities, the Company is restricted from
paying dividends in excess of 50% of its aggregate net income (see Note 8).
NOTE 10 - EMPLOYEE BENEFIT PLANS
The Company has a qualified profit-sharing plan, which provides for Company
contributions, as determined annually by the Board of Directors, based on the
Company's previous year performance. These contributions may be in the form of
common stock or cash as determined by the Board of Directors. The Company
contributed $173,000, $143,000, and $154,000 for the nine months ended December
31, 2001 and for the years ended March 31, 2001 and 2000, respectively. At
December 31, 2001, the plan held approximately 40,537 shares of the Company's
common stock. At the participant's option, upon termination of service of any
plan participant, the Company will repurchase that participant's shares held in
the plan at market value.
The Company sponsors a defined-contribution savings plan under Section
401(k) of the Internal Revenue Code covering substantially all full-time U.S.
employees. Participating employees may contribute up to 15% of their eligible
compensation up to the annual Internal Revenue Service contribution limit. As
determined by the Board of Directors, the Company matches employee contributions
according to a specified formula and contributed $253,000, $136,000, and $99,000
to this plan for the nine months ended December 31, 2001 and for the years ended
March 31, 2001 and 2000, respectively.
32
NOTE 11 - INCOME TAXES
The provision for income taxes for the nine months ended December 31, 2001
and years ended March 31, 2001 and 2000 are summarized as follows (IN
THOUSANDS):
Nine Months
ended
December 31, Year ended March 31,
____________ ________________________
2001 2001 2000
____________ ________________________
Federal
Current $ 1,405 $ 1,782 $ 2,949
Deferred (558) (583) (966)
____________ __________ __________
847 1,199 1,983
____________ __________ __________
State
Current 364 477 625
Deferred (117) (152) (48)
____________ __________ __________
247 325 577
____________ __________ __________
$ 1,094 $ 1,524 $ 2,560
============ ========== ==========
The provisions for income taxes differ from amounts computed at the U.S.
Federal statutory rate as follows (IN THOUSANDS):
Nine Months Year Year
ended ended ended
December 31, March 31, March 31,
____________ _________ _________
2001 2001 2000
____________ _________ _________
Income tax at statutory rate $ 913 $ 1,215 $ 2,123
State tax net of federal benefit 157 208 381
Effect of acquisitions, net 23 47 38
Other 1 54 18
____________ _________ _________
$ 1,094 $ 1,524 $ 2,560
============= ========= =========
The Company's deferred tax assets (liability) were as follows (IN
THOUSANDS):
December 31, March 31,
2001 2001
____________ _________
Basis difference in property, plant and equipment $ (1,984) $ (2,072)
Net operating loss carryforward 2,946 3,083
Basis difference in inventory 595 512
Subsidiary reporting differences 699 290
Derivative financial instruments 238 -
Other 586 339
Valuation allowance (2,130) (2,267)
____________ _________
Net deferred tax assets (liability) $ 950 $ (115)
============ =========
Classified as:
Current deferred tax assets $ 1,442 $ 897
============ =========
Long-term deferred tax liabilities $ (492) $ (1,012)
============ =========
33
The Company and its subsidiaries file their federal tax returns on a
consolidated basis. As of December 31, 2001, Sagelands Vineyard has a federal
net operating loss carryforward of approximately $9.2 million that will expire
through 2015. A valuation allowance has been established for a portion of the
related deferred tax asset that management believes may not be realized due to
annual limitations resulting from the ownership change in Sagelands Vineyard.
NOTE 12 - TRANSACTIONS WITH RELATED PARTIES
The consolidated statements of income include the following transactions
with related parties (IN thousands):
Nine Months
Ended
December 31, Year ended March 31,
____________ _____________________
2001 2001 2000
____________ _______ _______
Wine purchases from related parties $ 2,054 $ 1,781 $ 2,384
Grape purchases from related parties 5,781 5,002 2,612
Lease expense for land and facilities
to joint venture partner 96 15 19
Interest expense to related parties 75 - -
NOTE 13 - COMMITMENTS AND CONTINGENCIES
As of December 31, 2001 future minimum lease payments (excluding the effect
of future increases in payments based on indices which cannot be estimated at
the present time) required under noncancelable operating leases with terms in
excess of one year are as follows: (IN THOUSANDS)
2002 $ 925
2003 906
2004 846
2005 803
2006 846
Thereafter 6,516
_______
Total $10,842
=======
Rent expense charged to operations was $982,000, $1,351,000, and $1,072,000
for the nine months ended December 31, 2001, and for the years ended March 31,
2001 and 2000, respectively.
In 1991, the Company and Paragon entered into an agreement ("old
agreement") to provide the Company with the option to convert EVV into a
"permanent partnership" of unlimited duration. Under the old agreement, the
Company had made payments totaling $1,070,000 to Paragon to have the right to
extend the life of the joint venture. Under a new agreement, entered into on
December 27, 1996 ("new agreement"), the Company agreed to further payments
totaling $4,540,000, which provided for the Company's continued 50% ownership
throughout the remaining life of the joint venture. The payments made to extend
the life of the joint venture and maintain continuing ownership of the joint
venture had been recorded as goodwill and were being amortized over 40 years
through December 31, 2001. Per FASB pronouncements No. 141 and 142, goodwill
will no longer be amortized. Also, in December 2001, the Company purchased 50%
of the brand name, Edna Valley, for $200,000, which is currently licensed to the
joint venture by Paragon.
The Company has contracted with various growers and certain wineries to
supply a large portion of its future grape requirements and a smaller portion of
its future bulk wine requirements. The Company estimates that it has contracted
to purchase approximately 9,000 to 13,000 tons of grapes per year over the next
ten years. While most of these contracts stipulate that prices will be
determined by current market conditions at the time of purchase, several
long-term contracts provide for minimum grape or bulk wine prices.
NOTE 14 - DERIVATIVE INSTRUMENTS
Effective April 1, 2001, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments
and Hedging Activities." SFAS 133 as amended by SFAS 138, "Accounting for
Certain Derivative Instruments and Certain Hedging Activities", requires that
derivative instruments, including certain derivative instruments embedded in
other contracts, be recorded as assets or liabilities, measured at fair value.
For each period, changes in fair value are reported in current earnings or other
comprehensive income, depending on whether a derivative is designated as part of
a hedge transaction and, if it is, the type of hedge transaction. SFAS No. 133
also requires the Company to formally document, designate, and assess the
effectiveness of transactions that receive hedge accounting treatment. Upon
adoption of SFAS No. 133, the Company recorded a derivative liability of
$318,000 and, as other comprehensive income, $189,000 ($318,000 pre-tax)
representing the cumulative effect of this change in accounting principle as the
Company has designated the contract as a highly effective cash flow hedge. The
fair value of this derivative (an interest rate
34
swap) as of December 31, 2001 was $664,000. The net change in the swap's
carrying value from April 1, 2001 to December 31, 2001 of $347,000 is reflected
as a reduction to other comprehensive loss in shareholders' equity. The
estimated loss expected to be reclassified into earnings for the year ending
December 31, 2002 is $138,000.
NOTE 15 - OBLIGATIONS UNDER CAPITAL LEASE
The Company leases barrels under long-term leases and has the option to
purchase the barrels for a nominal cost at the termination of the lease.
Property, plant and equipment includes $1,748,000, of assets held under capital
leases, which is net of accumulated amortization of $1,404,000. Future minimum
lease payments for assets under capital leases at December 31, 2001 are as
follows: (IN THOUSANDS)
2002 $ 891
2003 891
2004 891
2005 533
_______
Total minimum lease payments $ 3,206
Less amount representing interest (380)
_______
Present value of net minimum lease payments 2,826
Less current portion (716)
_______
Obligations under capital lease, less current portion $ 2,110
=======
NOTE 16 - QUARTERLY DATA (UNAUDITED)
The Company's quarterly operating results for the nine-month transition
period ended December 31, 2001 and the fiscal years ended March 31, 2001 and
2000 are summarized below (IN THOUSANDS, EXCEPT PER SHARE DATA):
Gross EPS
Quarter ended revenues Gross profit Net income (diluted)
- ----------------------- ---------- -------------- ------------- ----------
December 31, 2001 $ 17,185 $ 6,770 $ 654 $ 0.06
September 30, 2001 13,396 5,505 525 0.05
June 30, 2001 13,902 5,445 414 0.04
March 31, 2001 $ 14,656 $ 4,938 $ 473 $ 0.05
December 31, 2000 18,828 6,453 789 0.08
September 30, 2000 14,211 4,315 240 0.02
June 30, 2000 14,518 5,412 548 0.05
March 31, 2000 12,442 4,603 72 (0.04)
December 31, 1999 16,361 7,469 1,669 0.18
September 30, 1999 13,177 5,819 1,014 0.11
June 30, 1999 10,828 5,031 926 0.10
EPS calculations for each of the quarters are based on the weighted average
common and common equivalent shares outstanding for each period, and the sum of
the quarters may not be necessarily equal to the full year EPS amount. EPS for
the quarter ended December 31, 2001 was calculated using net income available to
common stockholders.
35
INDEPENDENT AUDITORS' REPORT
Board of Directors and Shareholders
The Chalone Wine Group, Ltd.
We have audited the accompanying consolidated balance sheets of The Chalone
Wine Group, Ltd., as of December 31, 2001, and the related consolidated
statements of income, shareholders' equity and cash flows for the nine months
then ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of The Chalone
Wine Group, Ltd. as of December 31, 2001 and the results of its operations and
cash flows for the nine months then ended in conformity with accounting
principles generally accepted in the United States.
/s/ MOSS ADAMS LLP
______________________
Santa Rosa, California
February 22, 2002
36
INDEPENDENT AUDITORS' REPORT
Board of Directors and Shareholders
The Chalone Wine Group, Ltd.
We have audited the accompanying consolidated balance sheet of The Chalone
Wine Group, Ltd. and subsidiaries as of March 31, 2001, and the related
consolidated statements of income, shareholders' equity, and cash flows for the
years ended March 31, 2001 and 2000. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of The Chalone Wine Group, Ltd.
and subsidiaries as of March 31, 2001 and the results of their operations and
their cash flows for the years ended March 31, 2001 and 2000 in conformity with
accounting principles generally accepted in the United States of America.
/s/ DELOITTE & TOUCHE LLP
_________________________
San Francisco, California
May 11, 2001
37
ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this Item is incorporated herein by reference
to the Company's Proxy Statement relating to the 2002 Annual Meeting of
Shareholders to be filed with the Securities and Exchange Commission within 120
days after December 31, 2001.
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this Item is incorporated herein by reference
to the Company's Proxy Statement relating to the 2002 Annual Meeting of
Shareholders to be filed with the Securities and Exchange Commission within 120
days after December 31, 2001.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this Item is incorporated herein by reference
to the Company's Proxy Statement relating to the 2002 Annual Meeting of
Shareholders to be filed with the Securities and Exchange Commission within 120
days after December 31, 2001.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this Item is incorporated herein by reference
to the Company's Proxy Statement relating to the 2002 Annual Meeting of
Shareholders to be filed with the Securities and Exchange Commission within 120
days after December 31, 2001.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
A(1). FINANCIAL STATEMENTS.
The following financial statements of the Company are included in PART II,
ITEM 8:
PAGE
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets........................................... 20
Consolidated Statements of Income..................................... 21
Consolidated Statements of Shareholders' Equity....................... 22
Consolidated Statements of Cash Flows................................. 23
Notes to Consolidated Financial Statements............................ 24
INDEPENDENT AUDITORS REPORTS...............................................36-37
A(2). FINANCIAL STATEMENT SCHEDULES.
Schedules are omitted because they are not applicable, not required, were
filed subsequent to the filing of the Form 10-K, or because the information
required to be set forth herein is included in the consolidated financial
statements or in notes thereto.
38
B. REPORTS ON FORM 8-K.
The Company filed the following reports on Form 8-K during the last quarter
of the period covered by this Report:
October 10, 2001 S-3 Press Release (Item 5). The Company announced that it
has selected October 22, 2001 as the record date for purposes of determining the
shareholders of record who are to receive pro rata nontransferable rights to
purchase additional shares of CWG common stock at a price per share reduced from
$10.00 to $8.50 per share.
December 6, 2001 Rights Offering Press Release (Item 5). The Company
announced that the Shareholders of Chalone Wine Group, Ltd purchased $15 million
of additional stock during a previously announced rights offering.
December 10, 2001 8-K/A Change of Auditors (Item 4). The audit committee
recommended and the Board of Directors approved the engagement of Moss Adams LLP
as its independent auditors for the fiscal year ending December 31, 2001 to
replace the firm of Deloitte & Touche, LLP who was dismissed as auditors of the
Company.
C. EXHIBITS.
A copy of any exhibits (at a reasonable cost) or the Exhibit Index will be
furnished to any shareholder of the Company upon receipt of a written request
therefor. Such request should be sent to The Chalone Wine Group, Ltd., 621
Airpark Road, Napa, California 94558, Attention: Investor Relations.
39
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
3.1 Restated Articles of Incorporation, as amended through
June 3, 1985. (i)
3.2 Amendment to Restated Articles, filed June 6, 1988. (ii)
3.3 Amendment to Restated Articles, filed May 17, 1991. (iii)
3.4 Amendment to Restated Articles, filed July 14, 1993. (iv)
3.5 Bylaws, as amended through December 1992. (i)
3.6 1993 Bylaw amendments. (iv)
4.1 5% Convertible Subordinated Debenture Due 1999 (SDBR
Debenture), issued to Les Domaines Barons de Rothschild
(Lafite) ("DBR"), dated April 19, 1989. (v)
4.2 Shareholders' Agreement between the Company and DBR,
dated April 19, 1989. (v)
4.3 Form of 5% Convertible Subordinated Debenture Due
1999 (third-party debentures), issued April 19 and 28, 1989. (v)
4.4 5% Convertible Subordinated Debenture Due 1999 (1991
Debenture), issued to DBR, dated September 30, 1991. (vi)
4.5 Addendum to Shareholders' Agreement, between the Company
and DBR, dated September 30, 1991. (vi)
4.6 Common Stock Purchase Agreement, between the Company and
certain designated investors, dated March 29, 1993. (vii)
__________________
(i) Incorporated by reference to Exhibit Nos. 1 and 6, respectively, to
the Exhibit herein referenced as Exhibit 4.8.
(ii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated April 27, 1994.
(iii) Incorporated by reference to Exhibit D to Appendix 1 to the
Company's Proxy Statement for a Special Meeting of Shareholders,
filed October 25, 1995.
(iv) Incorporated by reference to Exhibit Nos. 1, 3, 4 and 2,
respectively, to the Company's Current Report on Form 8-K dated
May 30, 1991.
(vii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated March 31, 1993.
40
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
4.7 Form of Warrant for the purchase in the aggregate of up to 828,571
shares of the Company's common stock, issued to certain designated
investors, effective July 14, 1993. (i)
4.8 Voting Agreement, between Richard H. Graff, William L. Hamilton,
John A. McQuown, W. Philip Woodward, DBR, Richard C. Hojel,
and Summus Financial, Inc., dated March 29, 1993. (i)
4.9 Common Stock Purchase Agreement, between the Company and
certain designated investors, dated April 22, 1994. (ii)
4.10 Form of Warrant for the purchase in the aggregate of up to 833,333
shares of the Company's common stock, issued to certain designated
investors, effective October 25, 1995. (iii)
4.11 Voting Agreement, between W. Philip Woodward, DBR,
and Summus Financial, Inc., dated October 25, 1995. (iii)
10.1 Joint Venture Agreement between the Company and Paragon
Vineyard Co., Inc. ("Paragon"), effective January 1, 1991. (iv)
10.2 Revised Grape Purchase Agreement between Edna Valley Vineyard
Joint Venture and Paragon, effective January 1, 1991. (iv)
10.3 License Agreement between Edna Valley Vineyard Joint Venture
and Paragon, effective January 1, 1991. (iv)
10.4 Ground Lease between Edna Valley Vineyard Joint Venture and
Paragon, effective June 1, 1991. (iv)
10.5 Amended and Restated Commercial Winery and
Agricultural Lease, dated July 31, 1986, assigned by
Assignment and Assumption Agreement among
the Company, Lakeside Winery and Vista de Los Vinedos,
dated August 5, 1986. (v)
__________________
(i) Incorporated by reference to Exhibit Nos. 1 and 6, respectively, to
the Exhibit herein referenced as Exhibit 4.8.
(ii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated April 27, 1994.
(iii) Incorporated by reference to Exhibit D to Appendix 1 to the
Company's Proxy Statement for a Special Meeting of Shareholders,
filed October 25, 1995.
(iv) Incorporated by reference to Exhibit Nos. 1, 3, 4 and 2,
respectively, to the Company's Current Report on Form 8-K dated
May 30, 1991.
(v) Incorporated by reference to Exhibit No. 10.21 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1995.
41
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
10.6 Novation and Modification Agreement, between the Company
and Henry P. and Marina C. Wright, dated July 15, 1988,
Amending Agreement incorporated as Exhibit 10.5. (i)
10.7 Tenancy in Common Agreement, between the Company
and Henry P. and Marina C. Wright, dated July 15, 1988. (i)
10.8 Vineyard Lease, between the Company and Henry P. and
Marina C. Wright, dated July 15, 1988. (i)
10.9 1988 Qualified Profit-Sharing Plan, approved May 21, 1988. (ii)
10.11 Amendment No. 2 to Qualified Profit Sharing Plan, incorporated as
Exhibit 10.9, dated February 7, 1990. (iii)
10.12 Profit Sharing Trust Agreement (i)
10.13 Easement Agreement between the Company and Stonewall
Canyon Ranches, dated August 19, 1988. (i)
10.14 1987 Stock Option Plan, as amended effective May 16, 1991. (iv)
10.15 1988 Non-Discretionary Stock Option Plan, as amended effective
May 16, 1991. (iv)
10.16 Employee Stock Purchase Plan, as amended effective May 16, 1991.(iv)
10.17 Amendment/Extension of Employee Stock Purchase Plan,
effective July 13, 1993. (v)
10.18 Agreement of Joint Venture, between the Company and Canoe
Ridge Vineyard, Incorporated [CRVI], dated December 31, 1990. (vi)
__________________
(i) Incorporated by reference to Exhibit Nos. 1 and 6, respectively, to
the Exhibit herein referenced as Exhibit 4.8.
(ii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated April 27, 1994.
(iii) Incorporated by reference to Exhibit D to Appendix 1 to the
Company's Proxy Statement for a Special Meeting of Shareholders,
filed October 25, 1995.
(iv) Incorporated by reference to Exhibit Nos. 1, 3, 4 and 2,
respectively, to the Company's Current Report on Form 8-K dated
May 30, 1991.
(v) Incorporated by reference to Exhibit No. 10.21 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1995.
(vi) Incorporated by reference to Exhibit No. 10.27 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1990,
dated March 26, 1991.
42
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
10.19 Credit Agreement between the Company and Wells Fargo Bank,
dated July 20, 1992. (i)
10.20 Industrial Real Estate Lease, dated February 19, 1993. (i)
10.21 First Amendment to Credit Agreement between the Company
and Wells Fargo Bank incorporated as Exhibit 10.19, dated
March 18, 1993. (i)
10.22 First Amendment to Industrial Real Estate Lease incorporated as
Exhibit 10.20, dated December 8, 1993. (ii)
10.23 Credit Agreement between the Company and Wells Fargo Bank,
dated August 30, 1993. (iii)
10.24 First Amendment to Credit Agreement between the Company and
Wells Fargo Bank, attached as Exhibit 10.22, dated March 24,
1994. (iii)
10.25 Credit Agreement between the Company and Wells Fargo Bank,
dated July 29, 1994. (iii)
10.26 Canoe Ridge Winery, Inc., Shareholders' Agreement, among the
Company and designated Washington State investors, dated
November 30, 1994. (iii)
10.27 Amendment to Employee Stock Purchase Plan, effective
January 1, 1995. (iii)
10.28 Omnibus Agreement between the Company, DBR,
and Summus Financial, dated August 22, 1995. (iv)
10.29 Credit Agreement between the Company and Wells Fargo Bank,
dated December 29, 1995. (v)
__________________
(i) Incorporated by reference to Exhibit Nos. 1 and 6, respectively, to
the Exhibit herein referenced as Exhibit 4.8.
(ii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated April 27, 1994.
(iii) Incorporated by reference to Exhibit D to Appendix 1 to the
Company's Proxy Statement for a Special Meeting of Shareholders,
filed October 25, 1995.
(iv) Incorporated by reference to Exhibit Nos. 1, 3, 4 and 2,
respectively, to the Company's Current Report on Form 8-K dated
May 30, 1991.
(v) Incorporated by reference to Exhibit No. 10.21 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1995.
43
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
10.30 Credit Agreement between Edna Valley Vineyard and
Wells Fargo Bank, dated July 31, 1995. (i)
10.31 Purchase Agreement between the Company,
Richard H. Graff, Trustee, Graff 1993 Trust dated
June 10, 1993, a trust and Richard H. Graff an
individual, dated July 1, 1996. (i)
10.32 Promissory Note between the Company and Richard H. Graff,
dated July 1, 1996. (i)
10.33 Secured Purchase Money Promissory Note between the Company
and Richard H. Graff, Trustee, Graff 1993 Trust, dated
July 1, 1996. (i)
10.34 Residential Lease between the Company and Richard H. Graff,
dated July 1, 1996. (i)
10.35 Consulting and Non-Competition Agreement between the Company
and Richard H. Graff, date July 1, 1996. (i)
10.36 Credit Agreement between the Canoe Ridge Vineyard, LLC,
and Wells Fargo Bank, dated August 15, 1996. (i)
10.37 Credit Agreement between the Company and Wells Fargo Bank,
dated September 25, 1996. (i)
10.38 Amendment to Joint Venture Agreement
of Edna Valley Vineyard between Paragon Vineyard Co., Inc.,
and the Company, dated December 23, 1996. (i)
10.39 Credit Agreement between the Company and Wells Fargo Bank,
dated July 30, 1997. (ii)
10.40 Credit Agreement between Edna Valley Vineyard and
Wells Fargo Bank, dated July 30, 1997. (ii)
10.41 Credit Agreement between Canoe Ridge Vineyard, LLC,
and Wells Fargo Bank, dated July 30, 1997. (ii)
10.42 First Amendment to Credit Agreement between the Company
and Wells Fargo Bank incorporated as Exhibit 10.39, dated
January 5, 1998. (ii)
10.43 Second Amendment to Credit Agreement between the Company
and Wells Fargo Bank incorporated as Exhibit 10.39, dated
June 9, 1998. (ii)
__________________
(i) Incorporated by reference to Exhibit Nos. 1 and 6, respectively, to
the Exhibit herein referenced as Exhibit 4.8.
(ii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated April 27, 1994.
44
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
10.44 First Amendment to Credit Agreement between Edna Valley
Vineyard and Wells Fargo Bank incorporated as Exhibit 10.40,
dated June 9, 1998. (i)
10.45 First Amendment to Credit Agreement between Canoe Ridge
Vineyard, LLC and Wells Fargo Bank incorporated as
Exhibit 10.41, dated June 9, 1998. (i)
10.46 Lease-Purchase Agreement between the Company and Frances
Goodwin, Trustee of Lois Martinez Trust, dated December
30, 1999. (ii)
10.47 Credit Agreement by and between Cooperative Centrale Raiffeisen-
Boerenleenbank B.A., "Rabobank Nederland," New York Branch
and the Company, dated March 31, 1999. (ii)
10.48 Term Loan Promissory Note between Cooperative Centrale
Raiffeisen-Boerenleenbank B.A., "Rabobank Nederland," New York
Branch and the Company, dated March 31, 1999. (ii)
10.49 Revolving Loan Promissory Note between Cooperative
Centrale Raiffeisen-Boerenleenbank B.A., "Rabobank Nederland,"
New York Branch and the Company, dated March 31, 1999. (ii)
10.50 Purchase Agreement among Peter Ansdell, SHW Equity Co., and
the Company, and SHW Equity Co., dated June 15, 1999. (ii)
10.51 Senior unsecured notes (series A,B,C) between Agstar
Financial Services, Farm Credit Services of
America and the Company, dated September 15, 2000. (iii)
10.52 Amendment to agreement between Agstar Financial Services,
Farm Credit Services of America and the Company dated
February, 2001. (iv)
10.53 Revolving Loan Promissory Note renewal between Cooperative
Centrale Raiffeisen-Boerenleenbank B.A., "Rabobank Nederland,"
New York Branch and the Company, dated March 31, 2001. (v)
23 Consent of Deloitte & Touche LLP to incorporation by
reference, dated March 29, 2002.
23.1 Consent of Moss Adams LLP to incorporation by reference, dated
March 27, 2002.
__________________
(i) Incorporated by reference to Exhibit Nos. 1 and 6, respectively, to
the Exhibit herein referenced as Exhibit 4.8.
(ii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated April 27, 1994.
(iii) Incorporated by reference to Exhibit D to Appendix 1 to the
Company's Proxy Statement for a Special Meeting of Shareholders,
filed October 25, 1995.
(iv) Incorporated by reference to Exhibit Nos. 1, 3, 4 and 2,
respectively, to the Company's Current Report on Form 8-K dated
May 30, 1991.
(v) Incorporated by reference to Exhibit No. 10.21 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1995.
45
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
99.1 Voting Agreement, dated August 31, 2001, between DBR and SFI (vi)
Intermediate, Ltd.
__________________
(vi) Incorporated by reference to Exhibit No. 99.1 to the Company's
Current Report on Form 8-K Dated August 31, 2001.
46
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
THE CHALONE WINE GROUP, LTD.
By /s/ THOMAS B. SELFRIDGE
-----------------------------
Thomas B. Selfridge
Chief Executive Officer
(Principal Executive Officer)
By /s/ SHAWN M. CONROY BLOM
-----------------------------
Shawn M. Conroy Blom
Vice President of Finance and Chief Financial Officer
Dated: March 29, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
/s/ THOMAS B. SELFRIDGE Director March 29, 2002
- --------------------------------------
Thomas B. Selfridge
/s/ CHRISTOPHE SALIN Chairman March 29, 2002
- --------------------------------------
Christophe Salin
/s/ W. PHILIP WOODWARD Director March 29, 2002
- --------------------------------------
W. Philip Woodward
CRISTINA G. BANKS Director March 29, 2002
- --------------------------------------
Cristina G. Banks
/s/ GEORGE MYERS Director March 29, 2002
- --------------------------------------
George Myers
/s/ JAMES H. NIVEN Director March 29, 2002
- --------------------------------------
James H. Niven
47
/s/ ERIC DE ROTHSCHILD Director March 29, 2002
- --------------------------------------
Eric de Rothschild
/s/ MARK HOJEL Director March 29, 2002
- --------------------------------------
Mark Hojel
/s/ YVES-ANDRE ISTEL Director March 29, 2002
- --------------------------------------
Yves-Andre Istel
/s/ PHILLIP M. PLANT Director March 29, 2002
- --------------------------------------
Phillip M. Plant
C. RICHARD KRAMLICH Director March 29, 2002
- --------------------------------------
C. Richard Kramlich
48
THE CHALONE WINE GROUP, LTD.
DIRECTORS, OFFICERS & WINERY LOCATIONS
BOARD OF DIRECTORS
Christophe Salin, CHAIRMAN
Thomas B. Selfridge, PRESIDENT & CHIEF EXECUTIVE OFFICER
W. Philip Woodward
Cristina G. Banks
Mark A. Hojel
Yves-Andre Istel
C. Richard Kramlich
William G. Myers
James H. Niven
Phillip M. Plant
Eric de Rothschild
OFFICERS
Christophe Salin, CHAIRMAN
Thomas B. Selfridge, PRESIDENT & CHIEF EXECUTIVE OFFICER
Shawn M. Conroy Blom, VICE PRESIDENT OF FINANCE AND CHIEF FINANCIAL OFFICER
Robert B. Farver, VICE PRESIDENT OF SALES AND DISTRIBUTION
Paul K. Novak, VICE PRESIDENT OF MARKETING
ACACIA WINERY
2750 Las Amigas Road, Napa, California 94559
707.226.9991
CANOE RIDGE VINEYARD
1102 W. Cherry Street, Walla Walla, Washington 99362
509.527.0885
CARMENET WINERY
1700 Moon Mountain Drive, Sonoma, California 95476
707.996.5870
CHALONE VINEYARD
Stonewall Canyon Road & Highway 146, Soledad, California 93960
831.678.1717
ECHELON VINEYARDS
4910 Edna Road, Suite A, San Luis Obispo, California 93401
707.254.4200
EDNA VALLEY VINEYARD
2585 Biddle Ranch Road, San Luis Obispo, California 93401
805.544.5855
JADE MOUNTAIN
P.O. Box 596, Angwin, California 94508
707.226.7373
SAGELANDS WINERY
71 Gangl Road, Wapato, Washington 98951
509.877.2112
PROVENANCE VINEYARDS
621 Airpark Road, Napa, California 94558
707.963.3808
49
CORPORATE OFFICE
621 Airpark Road, Napa, California 94558-6272
707.254.4200
HTTP://WWW.CHALONEWINEGROUP.COM
CHALONE WINE FOUNDATION
1000 Main Street, Suite 210
Napa, CA 94559
707.254.1160
COMMON STOCK
Chalone Wine Group, Ltd.
Common stock is currently traded over-the-counter in the NASDAQ National Market
System, under the symbol "CHLN."
STOCK TRANSFER AGENT
EquiServe
P.O. Box 8040
Boston, MA 02266-8040
Investor Relations Number 781.575.3120
Internet Address: HTTP://WWW.EQUISERVE.COM
INDEPENDENT AUDITORS
Moss Adams LLP
Santa Rosa, California
LEGAL COUNSEL
Farella Braun + Martel, LLP
San Francisco, California
ANNUAL MEETING
The Annual Meeting of Shareholders will be held on Thursday, June 6, 2002, at
2:00pm at Chalone Wine Group's corporate office, 621 Airpark Road, Napa,
California.
ANNUAL REPORT (FORM 10-K)
A copy of the Company's Annual Report, Form 10-K for the year ended December 31,
2001 is filed with the Securities & Exchange Commission and is available to
shareholders by written request to:
Chalone Wine Group
Attn: Investor Relations
621 Airpark Road
Napa, California 94558-6272
50