WVVI

Business Context and Reporting Period

Company: Willamette Valley Vineyards, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2010
Business Overview: The Company operates in the wine industry with two primary segments: "Produced Wine" (winery operations, retail, and out-of-state sales) and "Bacchus Distribution" (in-state wholesale of produced and purchased wines). The Company is classified as a smaller reporting company.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue: Net revenues for the three months ended June 30, 2010, increased slightly by 1.06% ($43,047) compared to the prior year. However, for the six-month period, revenues decreased by 0.57% ($43,616). Out-of-state sales declined 13.43% in the quarter, offset by growth in direct-to-consumer sales (up 20.61%) and in-state wholesale sales.
• Profitability: Net income for the quarter dropped 49.5% to $128,287 from $253,784 in the prior year. The six-month period resulted in a net loss of $60,057, compared to a net income of $418,940 in the prior year.
• Margins: Gross profit margin decreased to 45.4% for the quarter (from 49.25% in 2009) due to higher costs of produced wines sold from prior vintages. Cost of sales increased significantly.
• Expenses: Selling, general, and administrative (SG&A) expenses increased 3.7% in the quarter, primarily due to incremental labor costs and payroll taxes, partially offset by savings in professional fees.
• Interest Expense: Interest expense increased 55.7% for the quarter and 59.3% for the six-month period compared to the prior year.
• Inventory: Total inventory decreased to $11.6 million from $12.2 million at year-end 2009. Purchased wine inventory was reduced by over $1 million, while produced wine inventory increased due to the 2009 harvest.

Outlook, Risks, and Management Commentary

• Outlook: Management expects gross margins to return to historical levels once the 2009 vintage wines are sold. The Company believes cash flow from operations and existing credit facilities are sufficient to meet short and long-term needs.
• Liquidity: The Company maintains a $2,000,000 asset-based line of credit with Umpqua Bank. As of June 30, 2010, the balance was $134,474 with $1,865,526 available. The Company was in compliance with all financial covenants.
• Internal Controls: Management concluded that disclosure controls and procedures were not effective as of June 30, 2010. A material weakness regarding the allocation of costs to produced wine (identified in 2008 and resulting in a $373,691 adjustment in 2009) persists. Remediation efforts, including adding accounting resources, are underway but not yet complete.
• Risks: Key risks include availability of financing, supply of high-quality grapes, weather conditions, and competition. The Company is a smaller reporting company and is not required to provide detailed risk factor disclosures.
• Unusual Items: No unusual items were reported, though the Company noted a significant reduction in cash used for operating activities due to inventory management improvements.

Investor Verification Checklist

• Cost Allocation Weakness: Verify the progress of remediation regarding the material weakness in cost allocation for produced wines, as this impacts inventory valuation and cost of goods sold accuracy.
• Margin Recovery: Monitor future quarters to confirm if gross margins improve as the 2009 vintage wines enter the sales cycle, as currently higher costs are compressing profitability.
• Out-of-State Sales: Investigate the reasons for the 13.43% decline in out-of-state sales and the sustainability of the offsetting growth in direct-to-consumer channels.
• Debt Covenants: Confirm continued compliance with the restrictive financial covenants (equity, debt-to-equity, debt coverage) on the Umpqua Bank line of credit.
• Inventory Levels: Assess the balance between the increase in produced wine inventory (from the 2009 harvest) and the reduction in purchased wine inventory to ensure no obsolescence risks.