10-K 1 willamette_12312011-10k.htm WILLAMETTE VALLEY VINEYARDS, INC. 12/31/2011 10-K willamette_12312011-10k.htm
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K

(Mark One)
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended December 31, 2011
 
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from _________________ to _______________________
 
Commission file number: 000-21522
 
WILLAMETTE VALLEY VINEYARDS, INC.
(Exact name of registrant as specified in its charter)
 
Oregon
93-0981021
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
   
8800 Enchanted Way, S.E.
Turner, OR 97392
(Address of principal executive offices)
 
Registrant’s telephone number, including area code: (503) 588-9463
 
Securities registered pursuant to Section 12(b) of the Act: None
 
Securities registered pursuant to Section 12(g) of the Act:
Common Stock
(Title of class)
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act:   Yes o  No x
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act:   Yes o   No x
 
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 o   No x
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files):   Yes x  No o
 
 
 
 
 
1

 
 
 
 
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:            Yes o   No x
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
 
Large accelerated filer o  Accelerated filer o  Non-accelerated filer o  Smaller reporting company x
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act): Yes o    No x
 
The aggregate market value of common stock held by non-affiliates of the registrant as of June 30, 2011 was approximately $15,119,299.
 
The number of outstanding shares of the registrant’s Common Stock as of March 27, 2012 was 4,892,977.
 

DOCUMENTS INCORPORATED BY REFERENCE
None
 

 

 
 
 

 
2

 

WILLAMETTE VALLEY VINEYARDS, INC.
FORM 10-K
 

TABLE OF CONTENTS
 
     
   
PAGE
     
 
PART I
 
     
     
Item 1
Business
4
Item 1A
Risk Factors
13
Item 1B
Unresolved Staff Comments
16
Item 2
Properties
16
Item 3
Legal Proceedings
16
Item 4
(Removed and Reserved)
16
     
     
 
PART II
 
     
     
Item 5
Market for Registrant’s Common Equity, Related Stockholder Matters and
 
 
Issuer Purchases of Equity Securities
16
Item 6
Selected Financial Data
17
Item 7
Management’s Discussion and Analysis of Financial Condition and
 
 
Results of Operations
17
Item 7A
Quantitative and Qualitative Disclosures about Market Risk
24
Item 8
Financial Statements and Supplementary Data
25
Item 9
Changes in and Disagreements with Accountants on Accounting
 
 
and Financial Disclosure
47
Item 9A
Controls and Procedures
47
Item 9B
Other Information
48
     
     
 
PART III
 
     
     
Item 10
Directors, Executive Officers and Corporate Governance
48
Item 11
Executive Compensation
51
Item 12
Security Ownership of Certain Beneficial Owners and Management
 
 
and Related Stockholder Matters
53
Item 13
Certain Relationships and Related Transactions, and Director Independence
55
Item 14
Principal Accounting Fees and Services
55
Item 15
Exhibits, Financial Statements Schedules
56

 
 
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WILLAMETTE VALLEY VINEYARDS, INC.
FORM 10-K
 
As used in this Annual Report on Form 10-K, “we,” “us”, “our” and “the Company” refer to Willamette Valley Vineyards, Inc.


PART I

ITEM 1.  BUSINESS

Forward Looking Statements

This Annual Report on Form 10-K, including any information incorporated by reference, contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, referred to as the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, referred to as the Exchange Act. In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “expect,” “plan,” “intend,” “forecast,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “continue” or the negative of these terms or other comparable terminology, which when used are meant to signify the statement as forward-looking. These forward-looking statements include, but are not limited to, statements about our plans, objectives, expectations and intentions and other statements that are not historical facts. These forward-looking statements are not guarantees of future performance and involve known and unknown risks, uncertainties and situations that are difficult to predict and that may cause our own, or our industry’s actual results, to be materially different from the future results that are expressed or implied by these statements. Accordingly, actual results may differ materially from those anticipated or expressed in such statements as a result of a variety of factors, including those set forth under Item 1A “Risk Factors.”

Business

Introduction – Willamette Valley Vineyards, Inc. (the “Company” or WVV) was formed in May 1988 to produce and sell premium, super premium and ultra premium varietal wines (i.e., wine which sells at retail prices of $7 to $14, $14 to $20 and over $20 per 750 ml bottle, respectively). Willamette Valley Vineyards was originally established as a sole proprietorship by Oregon winegrower Jim Bernau in 1983. The Company is headquartered in Turner, Oregon, where the Company’s Turner Vineyard and Winery are located on 110 acres of Company-owned land adjacent to Interstate 5, approximately two miles south of Salem, Oregon. The Company’s wines are made from grapes grown on the 791 acres of vineyard owned, leased or contracted by the Company, and from grapes purchased from other nearby vineyards. The grapes are harvested, fermented and made into wine at the Company’s Turner winery (the “Winery”) and the wines are sold principally under the Company’s Willamette Valley Vineyards label. Willamette Valley Vineyards is the owner of Tualatin Estate Vineyards and Winery located on approximately 125 acres near Forest Grove, Oregon, and leases an additional 114 acres of vineyard land at the Forest Grove location.

Products – Under its Willamette Valley Vineyards label, the Company produces and sells the following types of wine in 750 ml bottles: Pinot Noir, the brand’s flagship and its largest selling varietal in 2011, $22 to $100 per bottle; Chardonnay, $25 to $35 per bottle; Pinot Gris, $15 to $18 per bottle; Riesling and Oregon Blossom (blush blend), $10 to $12 per bottle (all bottle prices included herein are the suggested retail prices). The Company’s mission for this brand is to become the premier producer of Pinot Noir from the Pacific Northwest.

Under its Tualatin Estate Vineyards label, the Company currently produces and sells the following type of wine in 750 ml bottles:  Semi-Sparkling Muscat, $19 per bottle.

Under its Griffin Creek label, the Company produces and sells the following types of wine in 750 ml bottles: Syrah, the brand’s flagship, $38 per bottle; Merlot, $38 per bottle; Cabernet Sauvignon, $38 per bottle; Cabernet Franc, $38 per bottle; The Griffin (a Bordeaux style), $60 per bottle; and Viognier, $25 per bottle. This brand’s mission is to be the highest quality producer of Bordeaux and Rhone varietals in Oregon.

 
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ITEM 1.  BUSINESS - continued
 
The Company holds U.S. federal and/or Oregon state trademark registrations for the trademarks material to the business, including but not limited to, the WILLAMETTE VALLEY VINEYARDS, GRIFFIN CREEK, WILLAMETTE and SIP.SAVE marks.

Market overview – The United States wine industry has seen a rapid increase in the number of wineries that are being established throughout the country. Since 1999, there has been an increase of 83 percent in the number of wineries located in the United States. In addition, wineries are classified as one of the fastest growing segments in agriculture with an annual growth of 10–15 percent.

In spite of the sluggish economy, the United States is also experiencing growth in the revenue generated from the sale of wine. United States wine consumption registered its 16th consecutive annual gain in 2009 with a mere 0.5 percent increase (30 percent increase in the past decade).  According to the Gomberg-Fredrikson 2010 Annual Wine Industry Review, America is now the No. 1 wine consuming country in the world, surpassing France. America shows no signs of slowing down by posting the highest sales by value in January 2011 for the past five years.  Domestically-produced red wines are projected to be the industry’s fastest-growing segment, led by Pinot Noir and Cabernet Sauvignon, according to The U.S. Wine Market: Impact Databank Review and Forecast, 2009 Edition. Domestic white varietals are also expected to record volume gains, led by Pinot Gris and Riesling.

More than ever, Americans are seeking value. With a few minor exceptions, the biggest increases in volume among each of the fastest-growing varietals are coming from wines priced between $3 and $7 per bottle. Pinot Noir is one of the highest-priced varietals on the market, yet its sales have nearly tripled in the U.S. since the movie Sideways was released in 2004. Yet inexpensive Pinot Noir brands, which are those brands priced below the industry average, are now outpacing the higher-end of the spectrum, by roughly twice the rate for both domestic and imported wines, according to Impact Databank, a provider of data on the wine industry owned by M. Shanken Communications, the parent company of Wine Spectator.

A larger portion of the U.S. population is drinking wine too – 57 percent in 2007, compared to 43 percent in 2000. Unlike previous generations, which typically did not drink wine regularly until they reached their 40s, younger consumers are discovering wine in their 20s and 30s. The proportion of consumers who drink wine at least once a week has also risen, reaching 55 percent. Much of the increase can be attributed to the Millennial generation, those people between ages 23 and 30, who make up 26 percent of the population and account for about 70 million people, second only to the baby boomer generation with 77 million people.

The Oregon wine industry – Oregon is a relatively new wine-producing region in comparison to California and France. In 1966, there were only two commercial wineries licensed in Oregon. In 2009 there were 387 commercial wineries licensed in Oregon and 19,400 acres of wine grape vineyards, 15,600 acres of which are currently producing. Total production of Oregon wines in 2009 is estimated to be approximately 2.3 million cases versus 2.1 million cases in 2008. The increase in cases produced is mainly due to the higher harvest yields in 2009 versus 2008. Oregon’s entire 2009 production has an estimated retail value of approximately $466 million, assuming a retail price of $200 per case, and a FOB value of approximately one-half of the retail value, or $233 million.

Because of climate, soil and other growing conditions, the Willamette Valley in western Oregon is ideally suited to growing superior quality Pinot Noir, Chardonnay, Pinot Gris and Riesling wine grapes. Some of Oregon’s Pinot Noir, Pinot Gris and Chardonnay wines have developed outstanding reputations, winning numerous national and international awards.

Oregon does have certain disadvantages as a new wine-producing region. Oregon’s wines are relatively little known to consumers worldwide and the total wine production of Oregon wineries is small relative to California and French competitors. Greater worldwide label recognition and larger production levels give Oregon’s competitors certain financial, marketing, distribution and unit cost advantages.

Furthermore, Oregon’s Willamette Valley has an unpredictable rainfall pattern in early autumn. If significantly above-average rains occur just prior to the autumn grape harvest, the quality of harvested grapes is often materially diminished, thereby affecting that year’s wine quality.

Finally, phylloxera, an aphid-like insect that feeds on the roots of grapevines, has been found in several commercial vineyards in Oregon. Contrary to the California experience, most Oregon phylloxera infestations have expanded very slowly and done only minimal damage. Nevertheless, phylloxera does constitute a significant risk to Oregon vineyards. Prior to the discovery of phylloxera in Oregon, all vine plantings in the Company’s Vineyard were with non-resistant rootstock. As of December 31, 2011, the Company has not detected any phylloxera at its Turner site. Beginning with the Company’s plantings in May 1992, only phylloxera-resistant rootstock is used. In 1997, the Company purchased Tualatin Vineyards, which has phylloxera at its site. All plantings are with, and all future planting will be with phylloxera-resistant rootstock. The Company takes commercially reasonable precautions in an effort to prevent the spread of phylloxera to its Turner site.
 
 
 
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ITEM 1.  BUSINESS - continued
 
As a result of these factors, subject to the risks and uncertainties identified above, the Company believes that long-term prospects for growth in the Oregon wine industry are excellent. The Company believes that over the next several years the Oregon wine industry will grow at a faster rate than the overall domestic wine industry, and that much of this growth will favor producers of premium, super premium and ultra premium wines such as the Company’s.

2010 Oregon harvest – The National Agricultural Statistics report states that the total yield per harvested acre in Oregon was down 29.0% in 2010. The planting of new grape acreage slowed again in 2010 with 900 acres of new acres planted compared to 1,098 in 2009. There was a net gain of 40 wineries in Oregon with a 4.4% increase in total cooperage. Case sales of Oregon wine increased 16.0% in 2010 and wine sales in dollars increased 25.0% from a year ago. The average price per ton for all grapes harvested in Oregon increased from $1,910 per ton in 2009 to $2,030 per ton in 2010. Total wine production in Oregon decreased 24.0% in 2010.

2011 Oregon harvest – There is no available data on the 2011 Oregon harvest as of the date of this report.

Company Strategy

The Company, one of the largest wineries in Oregon by volume, believes its success is dependent upon its ability to: (1) grow and purchase high quality vinifera wine grapes; (2) vinify the grapes into premium, super premium and ultra premium wine; (3) achieve significant brand recognition for its wines, first in Oregon and then nationally and internationally; and (4) effectively distribute and sell its products nationally. The Company’s goal is to continue as one of Oregon’s largest wineries, and establish a reputation for producing some of Oregon’s finest, most sought-after wines.

Based upon several highly regarded surveys of the U.S. wine industry, the Company believes that successful wineries exhibit the following four key attributes: (i) focus on production of high-quality premium, super premium and ultra premium varietal wines; (ii) achieve brand positioning that supports high bottle prices for its high quality wines; (iii) build brand recognition by emphasizing restaurant sales; and (iv) develop strong marketing advantages (such as a highly visible winery location, successful support of distribution, and life-long customer service programs).

To successfully execute this strategy, the Company has assembled a team of accomplished winemaking professionals and has constructed and equipped a 12,784 square foot state-of-the-art Winery and a 12,500 square foot outdoor production area for the harvesting, pressing and fermentation of wine grapes.

The Company’s marketing and selling strategy is to sell its premium, super premium and ultra premium cork-finished-wine through a combination of direct sales at the Winery and sales through independent distributors and wine brokers who market the Company’s wine in specific targeted areas.

The Company believes the location of its Winery next to Interstate 5, Oregon’s major north-south freeway, significantly increases direct sales to consumers. The Company believes this location provides high visibility for the Winery to passing motorists, thus enhancing recognition of the Company’s products in retail outlets and restaurants. The Company’s Hospitality Center has further increased the Company’s direct sales and enhanced public recognition of its wines.

Vineyard – The Company now owns and leases for 460 acres of vineyard land. The vineyards the company owns and leases are all certified sustainable by LIVE (Low Input Viticulture and Enology) and Salmon Safe. At full production, we anticipate these vineyards, along with the existing grape purchase contracts, will enable the Company to grow approximately 85% of the grapes needed to meet the Winery’s ultimate production capacity of 297,000 gallons (125,000 cases).
 
 
 
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ITEM 1.  BUSINESS - continued
 
The property – The Company’s estate vineyard at the Turner site currently has 56 acres planted and producing, with 24 acres of “certified organic” (by Oregon Tilth) Pinot Noir and 24 acres of Pinot Gris and Chardonnay. The oldest grapevines were planted in 1985, with additional grapevines planted in 1992, 1993, and 1999. Vineyards generally remain productive for 30 to 100 years, depending on weather conditions, disease and other factors. We estimate these vines will continue to produce for another 35 years under conditions known today. In 2009 an additional 8.8 acres of Pinot Noir was planted at the Estate on property acquired through lot line adjustment and purchase that will begin producing as part of the 2012 harvest.

The Estate Vineyard uses an elaborate trellis design known as the Geneva Double Curtain. The Company has incurred the additional expense of constructing this trellis because it doubles the number of canes upon which grape clusters grow and spreads these canes for additional solar exposure and air circulation. Research and practical applications of this trellis design indicate that it should improve grape quality through smaller clusters and berries over traditional designs.

Beginning in 1997, the Company embarked on a major effort to improve the quality of its flagship varietal by planting new Pinot Noir clones that originated directly from the cool climate growing region of Burgundy rather than the previous source, Napa, California, where winemakers believe the variety adapted to the warmer climate over the many years it was grown there.

These new French clones are called “Dijon clones” after the University of Dijon in Burgundy, which assisted in their selection and shipment to a U.S. government authorized quarantine site, and then seven years later to Oregon winegrowers. The most desirable of these new Pinot Noir clones are numbered 113, 114, 115, 667 and 777. In addition to certain flavor advantages, these clones ripen up to two weeks earlier, allowing growers to pick before heavy autumn rains. Heavy rains can dilute concentrated fruit flavors and promote bunch rot and spoilage. These new Pinot Noir clones were planted at the Tualatin Estate with phylloxera-resistant rootstock and the 667 and 777 clones have been grafted onto 7 acres of self-rooted, non-phylloxera-resistant vines at the Company’s Estate Vineyard near Turner.

New clones of Chardonnay preceded Pinot Noir into Oregon and were planted at the Company’s Estate Vineyard with phylloxera-resistant rootstock.

The purchase of Tualatin Vineyards, Inc. in April 1997 (including the subsequent sale-leasebacks of portions of the property in December 1999 and 2004) added 83 acres of additional producing vineyards and approximately 60 acres of bare land for future plantings. In 1997, the Company planted 19 acres at the Tualatin site and planted another 41 acres in 1998, the majority being Pinot Noir. In 2009 an additional 5 acres was planted at Tualatin Vineyards on property acquired though lot line adjustment and purchase.

In 1999, the Company purchased 33 acres of vineyard land adjoining Tualatin Estate for future plantings and used lot line adjustments to create three separate land parcels at Tualatin Estate. In 2005 and 2006, the Company planted 23 acres and 10 acres, respectively, of mainly Pinot Gris and Pinot Noir.

In 2011, the Company purchased 17 acres of vineyard land adjoining the Turner Estate for future plantings. This land was acquired through lot line adjustment and purchase.

Grape supply – In 2011, the Company’s 56 acres of producing estate vineyard yielded approximately 135 tons of grapes for the Winery’s twenty third harvest. Tualatin Vineyards produced 461 tons of grapes in 2011. Elton Vineyards produced 122 tons of grapes in 2011. In 2011, the Company purchased an additional 609 tons of grapes from other growers. The Winery’s 2011 total wine production was 190,000 gallons (80,200 cases) from its 2009 and 2010 harvests. The Company expects to produce approximately 230,000 gallons in 2012 (97,000 cases) from its 2011 harvest. The Vineyard cannot and will not provide the sole supply of grapes for the Winery’s near-term production requirements.

In 2005, the Company entered into a long-term grape purchase agreement with one of its Willamette Valley wine grape growers whereby the grower agreed to plant 40 acres of Pinot Gris and 50 acres of Riesling and the Winery agreed to purchase the yield at fixed contract prices through 2015, with the first crop received in 2007. In 2006, the Company entered into a long-term grape purchase agreement with the same Willamette Valley wine grape grower whereby the grower agreed to plant 100 acres of Pinot Noir, 50 acres of Pinot Gris and 20 acres of Riesling and the Winery agreed to purchase the yield at fixed contract prices through 2016. The wine grape grower must meet strict quality standards for the wine grapes to be accepted by the Winery at time of harvest and delivery. The Company is obligated to purchase 100% of the crop produced within the strict quality standards and crop loads, equating to maximum payments of approximately $1,500,000 per year. We cannot calculate the minimum payment as such a calculation is dependent in large part on an unknown – the amount of grapes produced in any given year. If there are no grapes produced in any given year, or if the grapes are rejected for failure to meet contractual quality standards, the Company has no payment obligation for that year. Failure of the grower to comply with the provisions of the contracts would constitute a default, allowing the Company to recover damages, including expected lost profits. The Company has no right to use of the underlying properties. These new long-term grape purchase agreements will increase the Company’s supply of high quality wine grapes and provide a long-term grape supply, at fixed prices.
 
 
 
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ITEM 1.  BUSINESS - continued
 
In 2007 the Company entered into a lease agreement for approximately 60 acres of vineyard land at Elton Vineyards. The acreage is mostly planted in Pinot Noir. This lease is for a 10-year term with four five-year renewals at the Company’s option and a first right of refusal in the event of the vineyard’s sale. For 2011, the annual costs of this lease were $113,468. For subsequent years there is an escalation provision tied to the CPI not to exceed 2% per annum.

In 2008 the Company purchased 80 acres, of which 71 acres is plantable, and also entered into a 34-year lease agreement with a property owner in the Eola Hills for an additional 109 acres. Both the purchased and leased properties are adjacent to the existing Elton Vineyards site. The 71 and 109 acres which are available for planting in 2011 will be developed into vineyards over time. Terms of the lease agreement contain rent escalation that rises as the vineyard is developed.

The Company fulfills its remaining grape needs by purchasing grapes from other nearby vineyards at competitive prices or from bulk wine purchases from neighboring wineries. The Company believes high quality grapes and bulk wine will be available for purchase in sufficient quantity to meet the Company’s requirements. The grapes grown on the Company’s vineyards establish a foundation of quality, through the Company’s farming practices, upon which the quality of the Company’s wines is built. In addition, wine produced from grapes grown in the Company’s own vineyards may be labeled as “Estate Bottled” wines. These wines traditionally sell at a premium over non-estate bottled wines.

Viticultural conditions – Oregon’s Willamette Valley is recognized as a premier location for growing certain varieties of high quality wine grapes, particularly Pinot Noir, Chardonnay, Riesling and Pinot Gris. The Company believes that the Vineyard’s growing conditions, including its soil, elevation, slope, rainfall, evening marine breezes and solar orientation are among the most ideal conditions in the United States for growing certain varieties of high-quality wine grapes. The Vineyard’s grape growing conditions compare favorably to those found in some of the famous Viticultural regions of France. Western Oregon’s latitude (42o–46o North) and relationship to the eastern edge of a major ocean is very similar to certain centuries-old wine grape growing regions of France. These conditions are unduplicated anywhere else in the world except in the great wine grape regions of Northern Europe.

The Vineyard’s soil type is Jory/Nekia, a dark, reddish-brown, silky clay loam over basalt bedrock, noted for being well drained, acidic, of adequate depth, retentive of appropriate levels of moisture and particularly suited to growing high quality wine grapes.

The Vineyard’s elevation ranges from 533 feet to 700 feet above sea level with slopes from 2 percent to 30 percent (predominately 12-20 percent).  The Vineyard’s slope is oriented to the south, southwest and west. Average annual precipitation at the Vineyard is 41.3 inches; average annual air temperature is 52 to 54 degrees Fahrenheit, and the length of each year’s frost-free season averages from 190 to 210 days. These conditions compare favorably with conditions found throughout the Willamette Valley viticultural region and other domestic and foreign viticultural regions, which produce high quality wine grapes.

In the Willamette Valley, permanent vineyard irrigation generally is not required. The average annual rainfall provides sufficient moisture to avoid the need to irrigate the Vineyard. However, if the need should arise, the Company’s Estate property contains one water well which can sustain sufficient volume to meet the needs of the Winery and to provide auxiliary water to the Vineyard for new plantings and unusual drought conditions.

 
 
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ITEM 1.  BUSINESS - continued
 
At Tualatin Estate vineyard the Company has water rights to a year round spring that feeds an irrigation pond.

Susceptibility of vineyards to disease – The Tualatin Vineyard and the leased vineyards are known to be infested with phylloxera, an aphid-like insect, which can destroy vines. The Company has not detected any phylloxera at its Turner Vineyard.

It is not possible to estimate any range of loss that may be incurred due to the phylloxera infestation of our vineyards. The phylloxera at Tualatin Estate Vineyard is believed to have been introduced on the roots of the vines first planted on the property in the southern most section Gewurztraminer in 1971 that the Company partially removed in 2004.  The remaining vines, and all others infested, remain productive at low crop levels.

Winery

Wine production facility – The Company’s Winery and production facilities are capable of efficiently producing up to 125,000 cases (297,000 gallons) of wine per year, depending on the type of wine produced. In 2011, the Winery produced approximately 190,000 gallons (80,200 cases) from its 2009 and 2010 harvest. The Winery is 12,784 square feet in size and contains areas for processing, fermenting, aging and bottling wine, as well as an underground wine cellar, a tasting room, a retail sales room and administrative offices. There is a 12,500 square foot outside production area for harvesting, pressing and fermenting wine grapes, and a 4,000 square foot insulated storage facility with a capacity of 30,000 cases of wine. The Company also has a 20,000 square foot storage building to store its inventory of bottled product. The production area is equipped with a settling tank and sprinkler system for disposing of wastewater from the production process in compliance with environmental regulations.

With the purchase of Tualatin Vineyards, Inc., the Company added 20,000 square feet of additional production capacity. Although the Tualatin facility was constructed over twenty years ago, it adds 25,000 cases (59,000 gallons) of wine production capacity to the Company, which the Company felt at the time of purchase was needed. Production and sales volumes have not expanded enough to necessitate the utilization of the Tualatin facilities. The Company decided to move current production to its Turner site to meet short-term production requirements. The capacity at Tualatin is available to the Company to meet any anticipated future production needs. In 2008, the Company replaced the roof and production floor, insulation and walls, in anticipation of using it for wine storage and future production.

Hospitality facility – The Company has a large tasting and hospitality facility of 19,470 square feet (the “Hospitality Center”). The first floor of the Hospitality Center includes retail sales space and a “great room” designed to accommodate approximately 400 persons for gatherings, meetings, weddings and large wine tastings. An observation tower and decking around the Hospitality Center enable visitors to enjoy the view of the Willamette Valley and the Company’s Vineyard. The Hospitality Center is joined with the present Winery by an underground cellar tunnel. The facility includes a basement cellar of 10,150 square feet (including the 2,460 square foot underground cellar tunnel) to expand storage of the Company’s wine in a proper environment. The cellar provides the Winery with ample space for storing up to 1,600 barrels of wine for aging.

Just outside the Hospitality Center, the Company has a landscaped park setting consisting of one acre of terraced lawn for outdoor events and five wooded acres for picnics and social gatherings. The area between the Winery and the Hospitality Center forms a 20,000 square foot quadrangle. As designed, a removable fabric top can cover the quadrangle, making it an all-weather outdoor facility to promote sale of the Company’s wines through outdoor festivals and social events.

The Company believes the Hospitality Center and the park and quadrangle make the Winery an attractive recreational and social destination for tourists and local residents, thereby enhancing the Company’s ability to sell its wines.

Mortgages on properties – The Company’s winery facilities in Turner are subject to three mortgages with an aggregate principal balance of $4,193,917 at December 31, 2011. The mortgage is payable in monthly aggregate installments, including principal and interest, of approximately $450,000 annually through 2012, $436,826 annually from 2013 through 2025 and $195,300 annually through 2026.
 
 

 
 
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ITEM 1.  BUSINESS - continued
 
Wine production – The Company operates on the principle that winemaking is a natural but highly technical process requiring the attention and dedication of the winemaking staff. The Company’s Winery is equipped with current technical innovations and uses modern laboratory equipment and computers to monitor the progress of each wine through all stages of the winemaking process.

The Company’s recent annual grape harvest and wine production is as follows:

   
Tons of
   
Gallons of
             
   
Grapes
   
Bulk
   
Production
   
Cases
 
Harvest Year
 
Harvested
   
Purchases
   
Year
   
Produced
 
                         
2005
    1,132       -       2005       72,297  
2006
    1.488       -       2006       81,081  
2007
    1,746       -       2007       115,466  
2008
    1,425       57,736       2008       121,027  
2009
    2,133       74,954       2009       132,072  
2010
    1,045       4,276       2010       110,224  
2011
    1,327       9,620       2011       81,357  

Cases produced per ton harvested often varies between years mainly due to the timing of when the cases are produced.

Sales and Distribution

Marketing strategy – The Company markets and sells its wines through a combination of direct sales at the Winery, sales directly and indirectly through its shareholders, self-distribution to local restaurants and retail outlets in Oregon (ending August 31, 2011), directly through mailing lists, and through distributors and wine brokers selling in specific targeted areas outside of the state of Oregon. As the Company has increased production volumes and achieved greater brand recognition, sales to other domestic markets have increased, both in terms of absolute dollars and as a percentage of total Company sales.

On August 1, 2011, the Company and Young’s Market Company of Oregon, LLC, an Oregon limited liability company, and Young’s Market Company of Washington, LLC, an Oregon limited liability company (collectively referred to hereafter as “Young’s”) entered into an Exclusive Distribution Agreement concerning the distribution of wines produced by the Company. Under the terms of the Exclusive Distribution Agreement, for a period of seven years commencing on September 1, 2011, Young’s will be the exclusive distributor of the Company’s Willamette Valley Vineyards and Griffin Creek wines in the State of Washington and in all counties in the State of Oregon other than Morrow, Umatilla, Union, Wallowa, Grant, Baker and Malheur counties. The Company will discontinue its previous practice of distributing wines produced by the Company through Bacchus Fine Wines, the Company’s distribution business. Bacchus Fine Wines will continue to promote the Company’s wine as well as distribute other brands in its portfolio. No additional wine is being purchased for distribution by Bacchus as it winds down it’s activity as a distribution arm of the Company. The purchased wine on hand at year end will be sold until the inventory is depleted.

We believe that online, consumer wine reviews are and will continue to play a significant role in “word of mouth” recommendations and consumer choices, and thus have been focusing our efforts in recent years on generating online interest in Willamette Valley Vineyards and its wines.

Our online efforts include the world of social marketing, and Willamette Valley Vineyards is now active on Facebook and Twitter. We also upload videos to YouTube and have a company blog. The number of people who follow us on each of these applications has grown consistently since these programs have been active.

Direct sales – The Company’s Winery is located adjacent to the state’s major north-south freeway (Interstate 5), approximately 2 miles south of the state’s third-largest metropolitan area (Salem), and 50 miles in either direction from the state’s first and second-largest metropolitan areas (Portland and Eugene, respectively).

 
10

 
 
ITEM 1.  BUSINESS - continued
 
The Company believes the Winery’s unique location along Interstate 5 has resulted in a greater amount of wines sold at the Winery as compared to the Oregon industry standard. Direct sales from the Winery are an important distribution channel and an effective means of product promotion. To increase brand awareness, the Company offers educational Winery tours and product presentations by trained personnel.

The Company holds four major festivals and events at the Winery each year. In addition, open houses are held at the Winery during major holiday weekends such as Memorial Day, Independence Day, Labor Day and Thanksgiving, where barrel tastings and cellar tours are given. Numerous private parties, wedding receptions and political and other events are also held at the Winery.

Direct sales are profitable because the Company is able to sell its wine directly to consumers at retail prices rather than to distributors or retailers at wholesale prices. Sales made directly to consumers at retail prices result in an increased profit margin equal to the difference between retail prices and distributor or wholesale prices, as the case may be. For 2011, direct sales contributed approximately 19.3% of the Company’s revenue.

In September 2009, Willamette Valley Vineyards launched our partnership with Travel Salem at their new downtown Travel Café facility. This partnership now offers visitors and local consumers the opportunity to taste the “Fruit of the Vine” at a newly created tasting room and retail outlet. The goal of this partnership is to raise awareness and interest in the region’s rich wine country, and ultimately lead to an increased regional economic impact from tourism.

Self-distribution – In 1990, the Company established a self-distribution wholesale system, which the Company refers to as Bacchus Fine Wines, to sell its wines to restaurant and retail accounts located in Oregon. In 2011 the Company discontinued this self-distribution operation of produced wine and began to utilize Young’s as the Company’s distribution arm for Oregon. The relationship with Young’s commenced September 1, 2011. Management feels that the new process of distribution in Oregon will allow the Company to redirect its focus to the vineyards and wine making process as well as continuing the development of a distribution network nationwide.

Distributors and wine brokers – The Company uses both independent distributors and wine brokers primarily to market the Company’s wines in specific targeted areas. Only those distributors and wine brokers who have demonstrated knowledge of and a proven ability to market premium, super premium, and ultra premium wines are utilized. The Company’s products are distributed in 50 states and the District of Columbia and 8 non-domestic (export) customers. In 2011 and 2010, approximately 43.0% and 40.0%, respectively, of the Company’s net revenues were attributable to out of state distribution.

Tourists – Oregon wineries are a popular tourist destination with many bed & breakfasts, motels and fine restaurants available. The Willamette Valley, Oregon’s leading wine region has two-thirds of the state’s wineries and vineyards and is home to approximately 400 wineries. An additional advantage for the Willamette Valley wine tourist is the proximity of the wineries to Portland (Oregon’s largest city and most popular destination). From Portland, tourists can visit the Willamette Valley winery of their choice in anywhere from 45 minutes to two hours.

The Company believes its convenient location, adjacent to Interstate 5, enables the Winery to attract a significant number of visitors. The Winery is located 45 minutes from Portland and less than one mile from The Enchanted Forest, which operates from March 15 to September 30 each year and attracts approximately 130,000 paying visitors per year. Adjacent to the Enchanted Forest is the Hope Valley Recreational Vehicle Park, which contains approximately 110 overnight recreational vehicle sites. Many of the visitors to the Enchanted Forest and RV Park visit the Winery.

Dependence on Major Customers

Historically, the Company’s revenue has been derived from thousands of customers annually. In 2011 no one customer represented more than 10% of total revenues. In 2010 no one customer represented more than 10% of total revenues.
 
 
 
11

 
 
ITEM 1.  BUSINESS - continued
 
Research and Development
 
The nature of the Company’s business does not require the Company to incur a material amount of research and development expense.

Competition

The wine industry is highly competitive. In a broad sense, wines may be considered to compete with all alcoholic and nonalcoholic beverages. Within the wine industry, the Company believes that its principal competitors include wineries in Oregon, California and Washington, which, like the Company, produce premium, super premium, and ultra premium wines. Wine production in the United States is dominated by large California wineries that have significantly greater financial, production, distribution and marketing resources than the Company. Currently, no Oregon winery dominates the Oregon wine market. Several Oregon wineries, however, are older and better established and have greater label recognition than the Company.

The Company believes that the principal competitive factors in the premium, super premium, and ultra premium segment of the wine industry are product quality, price, label recognition, and product supply. The Company believes it competes favorably with respect to each of these factors. The Company has received “Excellent” to “Recommended” reviews in tastings of its wines and believes its prices are competitive with other Oregon wineries. Larger scale production is necessary to satisfy retailers’ and restaurants’ demand and the Company believes that additional production capacity will be needed to meet estimated future demand. Furthermore, the Company believes that its ultimate forecasted production level of 297,000 gallons (125,000 cases) per year will give it significant competitive advantages over most Oregon wineries in areas such as marketing, distribution arrangements, grape purchasing, and access to financing. The current production level of most Oregon wineries is generally much smaller than the projected production level of the Company’s Winery. With respect to label recognition, the Company believes that its unique structure as a consumer-owned company will give it a significant advantage in gaining market share in Oregon as well as penetrating other wine markets.

Governmental Regulation of the Wine Industry

The production and sale of wine is subject to extensive regulation by the U.S. Department of the Treasury, Alcohol and Tobacco Tax and Trade Bureau and the Oregon Liquor Control Commission. The Company is licensed by and meets the bonding requirements of each of these governmental agencies. Sale of the Company’s wine is subject to federal alcohol tax, payable at the time wine is removed from the bonded area of the Winery for shipment to customers or for sale in its tasting room. The current federal alcohol tax rate is $1.07 per gallon for wines with alcohol content at or below 14.0% and $1.57 per gallon for wines with alcohol content above 14.0%; however, wineries that produce not more than 250,000 gallons during the calendar year are allowed a graduated tax credit of up to $0.90 per gallon on the first 100,000 gallons of wine (other than sparkling wines) removed from the bonded area during that year. The Company also pays the state of Oregon an excise tax of $0.67 per gallon for wines with alcohol content at or below 14.0% and $0.77 per gallon for wines with alcohol content above 14.0% on all wine sold in Oregon. In addition, all states in which the Company’s wines are sold impose varying excise taxes on the sale of alcoholic beverages. As an agricultural processor, the Company is also regulated by the Oregon Department of Agriculture and, as a producer of wastewater, by the Oregon Department of Environmental Quality. The Company has secured all necessary permits to operate its business.

Prompted by growing government budget shortfalls and public reaction against alcohol abuse, Congress and many state legislatures are considering various proposals to impose additional excise taxes on the production and sale of alcoholic beverages, including table wines. Some of the excise tax rates being considered are substantial.  The ultimate effects of such legislation, if passed, cannot be assessed accurately since the proposals are still in the discussion stage. Any increase in the taxes imposed on table wines can be expected to have a potentially adverse impact on overall sales of such products. However, the impact may not be proportionate to that experienced by producers of other alcoholic beverages and may not be the same in every state.

Costs and Effects of Compliance with Local, State and Federal Environmental Laws

The Company management is strongly focused on environmental stewardship and maintains a variety of policies and processes designed to protect the environment, the public and consumers of its wine. Much of our expenses for protecting the environment are voluntary, however the Company is regulated by various local, state and federal agencies regarding environmental laws where these costs and processes are effectively integrated into our regular operations and do not cause significant alternative processes or costs.
 
 
 
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ITEM 1.  BUSINESS - continued
 
Employees

As of December 31, 2011 the Company had 62 full-time employees and 30 part-time employees. In addition, the Company hires additional employees for seasonal work as required. The Company’s employees are not represented by any collective bargaining unit. The Company believes it maintains positive relations with its employees.

Additional Information

The Company files Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and proxy statements with the Securities and Exchange Commission (“SEC”). The public may read and copy any materials that the Company files with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C. 20549, on official business days during the hours of 10 a.m. to 3 p.m. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an internet site that contains reports, proxy and information statements, and other information regarding issues, including the Company, that file electronically with the SECwww.sec.gov.. You may learn more about the Company by visiting the Company’s website at www.wvv.com.


ITEM 1A.  RISK FACTORS

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.

Agricultural risks could adversely affect our business

Winemaking and grape growing are subject to a variety of agricultural risks. Various diseases, pests, fungi, viruses, drought, frost and certain other weather conditions can affect the quantity of grapes available to the Company, decreasing the supply of the Company’s products and negatively impacting profitability. In particular, certain of the Company’s vines are not resistant to phylloxera; accordingly, those vines are particularly at risk to the effects from an infestation of phylloxera. Phylloxera is a pest that attacks the rootstocks of wine grape plants. Vineyards in the United States, including some in Oregon and some owned by us, have been infested in recent years with Phylloxera. Since May of 1992, our vineyard properties have been planted with rootstocks believed to be resistant to Phylloxera. However, rootstocks planted by us prior to 1992 are not resistant. There can be no assurance that our existing vineyards, or the rootstocks we are now using in our planting programs, will not become susceptible to current or new strains of Phylloxera. Pierce’s Disease is a vine bacterial disease. It kills grapevines and there is no known cure. Small insects called Sharpshooters spread this disease. A new strain of the Sharpshooter was discovered in Southern California and is believed to be migrating north. We are actively supporting the efforts of the agricultural industry to control this pest and are 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. Additionally, long-term changes in weather patterns could adversely affect our business.

We may not be able to grow or acquire enough quality fruit 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.
 
 
 
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ITEM 1A.  RISK FACTORS - continued
 
Loss of key employees could harm our reputation and business

Our success depends to some degree upon the continued service of a number of key employees. The loss of the services of one or more of our key employees, including the President, Winemaker, and CFO, could harm our business and our reputation and negatively impact our profitability, particularly if one or more of our key employees resigns to join a competitor or to form a competing company.

The Company’s ability to operate requires utilization of the line of credit

The Company’s cash flow from operations historically has not been sufficient to provide all funds necessary for the Company’s Operations. The Company has entered into a line of credit agreement to provide such funds and entered into term loan arrangements, the proceeds of which were used to acquire the Tualatin operations, construct the Hospitality Center and pay down the revolving line of credit. There is no assurance that the Company will be able to comply with all conditions under its credit facilities in the future or that the amount available under the line of credit facility will be adequate for the Company’s future needs. Failure to comply with all conditions of the credit facilities or to have sufficient funds for operations could adversely affect the Company’s results of operations and shareholder value.

Costs of being a publicly-held company may put us at a competitive disadvantage

As a public company, we incur substantial costs that are not incurred by our competitors that are privately-held. These compliance costs may result in our wines being more expensive than those produced by our competitors and/or may reduce our profitability compared to such competitors.

We face significant competition which could adversely affect our profitability

The wine industry is intensely competitive and highly fragmented. Our wines compete in several premium wine market segments with many other premium domestic and foreign wines, with imported wines coming from the Burgundy and Bordeaux regions of France, as well as 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. A result of this intense competition has been and may continue to be upward pressure on our selling and promotional expenses. In addition, 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’ costs. There can be no assurance that in the future we will be able to successfully compete with our current competitors or that it will not face greater competition from other wineries and beverage manufacturers.

We compete for shelf space in retail stores and for marketing focus by our independent distributors, most of whom carry extensive product portfolios

Nationwide 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. Sales to distributors are expected to continue to represent a substantial portion of our net revenues in the future. A change in our relationship with any of our significant distributors could harm our business and reduce our sales. 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. Any 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. There can be no assurance that the distributors and retailers we use will continue to purchase our products or provide our products with adequate levels of promotional support. Consolidation at the retail tier, among club and chain grocery stores in particular, can be expected to heighten competitive pressure to increase marketing and sales spending or constrain or reduce prices.

 
 
 
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ITEM 1A.  RISK FACTORS - continued
 
Fluctuations in quantity and quality of grape supply could adversely affect us

A shortage in our supply of quality grapes may result from a variety of factors that determine the quality and quantity of our grape supply, including weather conditions, pruning methods, diseases and pests and the number of vines producing grapes. Any shortage in our grape production could cause a reduction in the amount of wine we are able to produce, which could reduce our sales and adversely impact our results from operations. Factors that reduce the quantity of our grapes may also reduce their quality, which in turn could reduce the quality or amount of wine we produce. Deterioration in the quality of our wines could harm our brand name and could reduce our sales and adversely impact our results of operations.

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 cause us to destroy our wine held in inventory and could cause the need for a product recall, which could significantly damage our reputation for product quality. We maintain insurance against certain of 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 and this insurance may not be adequate to cover any resulting liability.

A reduction in consumer demand for premium wines could harm our business

There have been periods in the past in which there were substantial declines in the overall per capita consumption of beverage alcohol products in the United States and other markets in which we participate. A limited or general decline in consumption in one or more of our product categories could occur in the future due to a variety of factors, including: a general decline in economic conditions; increased concern about the health consequences of consuming beverage alcohol products and about drinking and driving; a trend toward a healthier diet including lighter, lower calorie beverages such as diet soft drinks, juices and water products; the increased activity of anti-alcohol consumer groups; and increased federal, state or foreign excise and other taxes on beverage alcohol products. The competitive position of our products could also be affected adversely by any failure to achieve consistent, reliable quality in the product or service levels to customers.

Changes in consumer spending could have a negative impact on our financial condition and business results

Wine sales depend upon a number of factors related to the level of consumer spending, including the general state of the economy, federal and state income tax rates, deductibility of business entertainment expenses under federal and state tax laws, and consumer confidence in future economic conditions. Changes in consumer spending in these and other regions can affect both the quantity and the price of wines that customers are willing to purchase at restaurants or through retail outlets. Reduced consumer confidence and spending may result in reduced demand for our products, limitations on our ability to increase prices and increased levels of selling and promotional expenses. This, in turn, may have a considerable negative impact upon our sales and profit margins.

Increased regulation could adversely affect us

The wine industry is subject to extensive regulation by the Federal Alcohol Tobacco Tax and Trade Bureau (“TTB”) and various foreign agencies, state liquor authorities, such as the Oregon Liquor Control Commission (“OLCC”), and local authorities. These regulations and laws dictate such matters as licensing requirements, trade and pricing practices, permitted distribution channels, permitted and required labeling, and 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 excise taxes, income taxes, property and sales taxes or international tariffs, could affect our financial condition or results of operations. Recently, many states have considered proposals to increase, and some of these states have increased, state alcohol excise taxes. New or revised regulations or increased licensing fees, requirements or taxes could have a material adverse effect on our financial condition or results of operations. There can be no assurance that new or revised regulations or increased licensing fees and requirements will not have a material adverse effect on our business and our results of operations and our cash flows.

 
 
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ITEM 1A.  RISK FACTORS - continued
 
Our common stock is thinly traded, and therefore not as liquid as other investments.

The trading volume of our common stock on NASDAQ is consistently “thin,” in that there is not a great deal of trading activity on a daily basis. Because the average active trading volume is thin, there is less opportunity for shareholders to sell their shares of our common stock on the open market, resulting in the common stock being less liquid than common stock in other publicly traded companies.

 
ITEM 1B.  UNRESOLVED STAFF COMMENTS

None.


ITEM 2.  PROPERTIES

Vineyards – The Company owns, leases, or contracts for 794 acres of vineyard land of which 317 acres is owned and 477 acres leased or under contract for grape purchases.

Wine production facility – The Company’s Winery and production facilities are capable of efficiently producing up to 125,000 cases (297,000 gallons) of wine per year, depending on the type of wine produced. In 2011, the Winery produced approximately 190,000 gallons (80,200 cases) from its 2009 and 2010 harvest. The Winery is 12,784 square feet in size and contains areas for processing, fermenting, aging and bottling wine, as well as an underground wine cellar, a tasting room, a retail sales room and administrative offices. There is a 12,500 square foot outside production area for harvesting, pressing and fermenting wine grapes, and a 4,000 square foot insulated storage facility with a capacity of 30,000 cases of wine. The Company also has a 20,000 square foot storage building to store its inventory of bottled product. The production area is equipped with a settling tank and sprinkler system for disposing of wastewater from the production process in compliance with environmental regulations. The Company has a large tasting and hospitality facility of 19,470 square feet (the “Hospitality Center”). The facility includes a basement cellar of 10,150 square feet (including the 2,460 square foot underground cellar tunnel) to expand storage of the Company’s wine in a proper environment. The cellar provides the Winery with ample space for storing up to 1,600 barrels of wine for aging. See additional discussion of vineyard & wine production facility under Item 1. Business.

The Company carries Property and Liability insurance coverage in amounts deemed adequate by Management.


ITEM 3.  LEGAL PROCEEDINGS

There are no material legal proceedings pending to which the Company is a party or to which any of its property is subject, and the Company’s management does not know of any such action being contemplated.


ITEM 4.  MINE SAFETY DISCLOSURES

Not applicable



PART II

ITEM 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Market Information

The Company’s Common Stock is traded on the NASDAQ Capital Market under the symbol “WVVI.”
 
 
 
 
 
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ITEM 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES - continued
 
The following table below sets forth for the quarters indicated the high and low intraday sales prices for the Company’s Common Stock as reported on the NASDAQ Capital Market:
 
Quarters ended 2011
 
12/31/2011
   
9/30/2011
   
6/30/2011
   
3/31/2011
 
                         
                         
High
  $ 3.24     $ 3.70     $ 3.40     $ 3.55  
Low
  $ 2.85     $ 2.65     $ 3.00     $ 3.02  
                                 
                                 
                                 
Quarters ended 2010
 
12/31/2010
   
9/30/2010
   
6/30/2010
   
3/31/2010
 
                                 
                                 
High
  $ 3.92     $ 3.69     $ 3.71     $ 3.95  
Low
  $ 3.25     $ 3.30     $ 3.17     $ 3.26  
 
Holders

As of May 11, 2011, we had approximately 4,521 stockholders of record.

Dividends

The Company has not paid any dividends on the Common Stock, and the Company does not anticipate paying any dividends in the foreseeable future. The Company intends to use its earnings to grow the distribution of its brands, improve the quality of its products and reduce debt.

Recent Sales of Unregistered Securities

None.

Issuer Purchases of Equity Securities

None.


ITEM 6.   SELECTED FINANCIAL DATA

Not required.

 
ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our financial statements and related notes. Some statements and information contained in this Management’s Discussion and Analysis of Financial Condition and Results of Operations are not historical facts but are forward-looking statements. For a discussion of these forward-looking statements, and of important factors that could cause results to differ materially from the forward-looking statements contained in this report, see Item 1 of Part I, “Business – Forward-Looking Statements.”

Critical Accounting Policies and Estimates

Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses Willamette Valley Vineyards’ financial statements, which have been prepared in accordance with generally accepted accounting principles. As such, management is required to make certain estimates, judgments and assumptions that are believed to be reasonable based upon the information available. On an on-going basis, management evaluates its estimates and judgments, including those related to product returns, bad debts, inventories, investments, income taxes, financing operations, and contingencies and litigation. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
 
 
 
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ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - continued
 
The Company’s principal sources of revenue are derived from sales and distribution of wine. Revenue is recognized from wine sales at the time of shipment and passage of title. Our payment arrangements with customers provide primarily 30-day terms and, to a limited extent, 45-day, 60-day or longer terms for some international customers.

The Company values inventories at the lower of actual cost to produce the inventory or market value. We regularly review inventory quantities on hand and adjust our production requirements for the next twelve months based on estimated forecasts of product demand. A significant decrease in demand could result in an increase in the amount of excess inventory quantities on hand. In the future, if our inventory cost is determined to be greater than the net realizable value of the inventory upon sale, we would be required to recognize such excess costs in our cost of goods sold at the time of such determination. Therefore, although we make every effort to ensure the accuracy of our forecasts of future product demand, any significant unanticipated changes in demand could have a significant impact on the ultimate selling price and, therefore, the carrying value of our inventory and our reported operating results.

We capitalize internal vineyard development costs prior to the vineyard land becoming fully productive. These costs consist primarily of the costs of the vines and expenditures related to labor and materials to prepare the land and construct vine trellises. Amortization of such costs as annual crop costs is done on a straight-line basis for the estimated economic useful life of the vineyard, which is estimated to be 30 years. The Company regularly evaluates the recoverability of capitalized costs. Amortization of vineyard development costs are included in capitalized crop costs that, in turn are included in inventory costs and ultimately become a component of cost of goods sold.

The Company pays depletion allowances to the Company’s distributors based on their sales to their customers. The Company sets these allowances on a monthly basis and the Company’s distributors bill them back on a monthly basis. All depletion expenses associated with a given month are expensed in that month as a reduction of revenues. The Company also pays a sample allowance to some of the Company’s distributors in the form of a 1.5% discount applied to invoices for product sold to the Company’s distributors. The expenses for samples are expensed at the time of sale in the selling, general and administrative expense. The Company’s distributors use the allowance to sample product to prospective customers.

Amounts paid by customers to the Company for shipping and handling expenses are included in the net revenue. Expenses incurred for outbound shipping and handling charges are included in selling, general and administrative expense. Inbound freight costs for Bacchus purchased wines are capitalized into inventory at the time of purchase. The Company’s gross margins may not be comparable to other companies in the same industry as other companies may include shipping and handling expenses as a cost of goods sold.

Overview

Results of Operations

The Company produced revenues of $15,661,905 in 2011 versus $17,370,803 in the prior year, a decrease of 9.8%. Income from operations increased by 77.2% to $1,500,437 in 2011, in comparison to $846,604 in 2010. Net earnings increased by 108.3% to $857,755 versus $411,808 in the prior year, and diluted earnings per share were 18 cents per share, which compares to 8 cents per share in the prior year.

These results are a combination of several key factors, including an increase in gross profit, decreased expenses and increase in income tax expense.

The increase in gross profit accounted for approximately 4.0% of the favorable change in income from operations versus the prior year and decreases in expenses account for about 96.0% of the favorable change.
 
 
 
 
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ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - continued
 
Gross profit increase was generally affected by one key factor: decreased production costs of produced brands which resulted in a lower cost of goods sold.

The decrease in sales, general and administrative expense versus the prior year resulted from decreased commissions, wages and salary expense in selling, general & administrative expense coupled with the related expenses for payroll taxes and benefits.  Audit fees again decreased in 2011 versus the prior year. The G&A expenses show an overall decrease of 16% from the prior year as G&A costs were better controlled.  This was partially offset by the increase in facility repairs during the year versus the prior year.

The gross margin percent received from sales of all the winery’s products were 49.3% in 2011 compared to 44.3% for 2010. The increased margin is due to decreases in the cost of produced wine. The gross margin received from the sale of produced wine in 2011 was 57.3% compared to 49.7% in 2010.

Out-of-state distributor sales revenue decreased 4.2% for the year ended December 31, 2011 as compared to the prior year. Retail sales increased 8.2%. Bacchus Fine Wines decreased 12.6% in the sales of Winery produced products and a decrease of 21.3% in sales of purchased wine and merchandise from other suppliers. The decrease in sales of Winery produced products for Bacchus was mostly the result of converting our in-state sales from utilizing our own distributor to selling the product through an Oregon distributor with the corresponding reduction in sales price beginning in September. This reduction in sales prices is a reflection of selling produced wine at an FOB prices as opposed to direct sales to restaurants and stores.

The Company had a line of credit balance of $0 at December 31, 2011 and 2010, respectively.

Sales

In the year ended December 31, 2011, the Company sold approximately 16,000 cases of Willamette Valley Pinot Noir (vintage level), 6,500 cases of Barrel Select Pinot Noir, 2,000 cases of Founders Reserve Pinot Noir, 2,400 cases of Single Vineyard Designates Pinot Noir, 19,000 cases of Whole Cluster Pinot Noir, 18,000 cases of Pinot Gris and 22,000 cases of Riesling.

At December 31, 2011 the Company had inventory on-hand of 28,272 cases of Willamette Valley Pinot Noir (vintage level), 4,220 cases of Barrel Select Pinot Noir, 2,427 cases of Founders Reserve Pinot Noir, 6,817 cases of Single Vineyard Designates Pinot Noir, 1,676 cases of Whole Cluster Pinot Noir, 13,785 cases of Pinot Gris and 8,412 cases of Riesling.

The Company has or plans to bottle 12,000 cases of 2011 Willamette Valley Pinot Noir (vintage level), 3,500 cases of Single Vineyard Designate Pinot Noir, 21,000 cases of 2011 Whole Cluster Pinot Noir, 17,000 cases of 2011 Pinot Gris and 23,000 cases of 2011 Riesling by December 2012.

The Company sold approximately 135,000 cases of wine in 2011, of which 104,000 cases were Winery-produced wines. Of the Winery-produced case sales in 2011, approximately 83,800 were the above listed varieties. Total purchased wine case sales in 2011 were approximately 30,800 cases. The 2011 harvest produced 1,327 tons of wine grapes. The 2011 harvest yielded higher volumes, approximately 27.0% higher than prior year. The expected 2011 vintage yield is expected to produce approximately 87,500 cases, which includes a few selected bulk wine sales.

Wine Inventory

The Company had approximately 85,000 cases of bottled wine on-hand at the end of 2011.  In 2008, the Company addressed long-term grape shortages by acquiring an additional 80 acres of undeveloped vineyard land in the Eola Hills adjacent to the existing Elton Vineyards property currently under lease. The Company also executed a long-term lease for an additional 108.8 acres at the same Eola Hills site. These sites remain undeveloped. The Company also acquired 15 acres of property in 2008 adjacent to the existing Estate site at the Winery in Turner, OR. Of these 15 acres at the Estate Winery, 8.8 acres were developed and have been planted in grapes in 2009. The Company also acquired 5 acres of additional vineyard land at its Tualatin Estate Vineyard in 2008 and these acres were also developed and planted in 2009. In 2011 the Company purchased an additional 17 acres of land adjacent to the Estate Winery of which 15 acres will be planted in the future.
 
 
 
19

 
 
ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - continued
 
These actions bring to a total of 811 acres of vineyard owned, leased or contracted by the Company, with 23 of those acres recently planted and not productive. The 244 acres recently purchased and leased are undeveloped and therefore not planted. The total acres of Pinot Noir are 300, of which nine are young, non-productive vines; the total acres of Pinot Gris are 122 of which 14 are young, non-productive vines; the total acres of Riesling are 95, all of which are producing vines.

Production Capacity

Management purchased capital assets in 2011 at a much higher level than 2010. Purchases made in 2011 were annual replacement barrels for production and some major machinery and equipment purchases also for production. Capital purchases in 2012 will be reviewed closely to address future production requirements based on the expected increases in wine grape quantities. Management decided not to use the Tualatin production facility in 2011 due to the need to utilize the facility for storage of inventory. In 2008, the Company replaced the roof and production floor, insulation and walls in anticipation of using it for wine storage and future production.

Head Winemaker

During 2011 the Company lost its head winemaker, Forrest Klaffke, who passed away in December after a 3 year battle with cancer. As a result of Forrest's initial absence, our then assistant winemaker, Don Crank, who has been with the Company for 8 years, was promoted to winemaker. When Forrest returned to his duties, they both worked side by side until a reoccurrence of the cancer prevented Forrest from continuing his duties. In late December, Don assumed the duties of head winemaker. The Company's management is confident that he will continue the production of excellent wine in the future.

Wine Quality

Continued awareness of the Willamette Valley Vineyards brand, the Company and the quality of its wines, was enhanced by national and regional media coverage throughout 2011 and into 2012.

Three ’08 Pinot Noirs were reviewed in the January issue of Wine & Spirits: Estate Pinot Noir, 92pts; Vintage Pinot Noir, 90pts; Signature Cuvée Pinot Noir, 92pts.

Also in January, Harvey Steiman of Wine Spectator rated the ’08 Estate Pinot Noir 90pts.

In Gregory S. Walter’s “Pinot Report", the following '08 Pinot Noirs were reviewed: Vintage Pinot Noir, 91pts.; South Block Pinot Noir, 91pts.; Hannah Pinot Noir, 93pts.; Fuller Pinot Noir, 93pts.; O’Brien Pinot Noir, 90pts.

Coined as “The Ultimate Burgundy Reference,” Allen Meadows’ Burghound.com recently reviewed Willamette Valley Vineyards’ Pinot Noirs: 2008 Pinot Noir, 90pts.; 2008 Elton Pinot Noir, 90pts.; 2008 Estate Pinot Noir, 91pts.; 2008 Hannah Pinot Noir, 90pts.; 2008 O’Brien Pinot Noir, 91pts.; 2008 Tualatin Estate Pinot Noir, 90pts.; 2008 Whole Cluster Pinot Noir, 91pts..

In the March Wine Enthusiast magazine issue, the ’08 South Block earned 92pts. and Editor’s Choice.

Up against more than 2,000 wines, our 2009 Riesling took “Wine of the Year” at the 20th Annual Indy International Wine Competition in Indiana.

Willamette Valley Vineyards was one of four wineries to pour at the James Beard dinner held in Portland, OR in the month of March. The dinner was a kick-off event for the annual James Beard Foundation Awards, the nation's most prestigious recognition program honoring professionals in the food and beverage industry.

Wine Press Northwest magazine named the winery "Oregon Winery of the Year" in its Spring '11 edition.
 
 
20

 
 
ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - continued
 
At the LIVE annual meeting in April,  Jim Bernau, Founder of Willamette Valley Vineyards was awarded Salmon-Safe’s very first “Hero of Salmon” award for his implementation of the high impact Salmon-Safe SIP•SAVE campaign in print, retail, web and even vehicle graphics.

The June issue of Oregon Business magazine named Willamette Valley Vineyards one of “The 100 Best Green Companies to Work for in Oregon.” The winners are from every sector in the state: landscapers, hotels, builders, software makers and of course, wineries.

In September, the nationally distributed magazine, Wine & Spirits, recognized the winery as one of the “Top 100 Wineries in the World for 2011.” Editor, Joshua Greene states, “Willamette Valley Vineyards’ performance makes it a great ambassador for the wines of Oregon.” Recent reviews factored into their decision: 2008 South Block Pinot Noir, 93pts.; 2008 Signature Cuvée Pinot Noir, 92pts.; 2008 Estate Pinot Noir, 92pts.; 2008 Pinot Noir, 90pts. and Best Buy; 2009 Pinot Gris - One of the Top 5 (number 4) "Most Popular" Pinot Gris & Grigio in their annual Restaurant Poll.

The September issue of Portland Monthly Magazine declared the 2008 Tualatin Estate Pinot Noir as one of the “50 Best Wines in Oregon” giving it a 90pt. score.

October 2011 continued a long-held tradition as the Willamette Valley Vineyards Estate hosted its 13th annual Chefs’ Nite Out, this year raising $50,000 for the Marion-Polk Food Share.

Dr. Jay Miller of Robert Parker’s Wine Advocate stated in their October issue, “Willamette Valley Vineyards is a reliable producer of quality Pinot Noir…their Whole Cluster Pinot Noir is a perennial Best Buy.” Dr. Miller also reviewed these wines; 2009 Elton Pinot Noir, 90pts; 2009 Hannah Pinot Noir, 90pts; 2009 Tualatin Estate Pinot Noir, 89pts.

Wine & Spirits featured our 2009 Estate Chardonnay giving it 90pts in their October issue.

Editor in chief of Snooth.com, Gregory DI Piaz, recongnized our 2009 Estate Pinot Noir as one of his top 6 Oregon Pinot Noirs and awarded it with a 92 pt score in a November article.

In December, the Seattle Times Wine Advisor, Paul Gregutt, named the 2008 South Block Pinot Noir as one of  the “Top 100 Wines in the Oregon and Washington area.”

NBC’s new hit show “Grimm” chose to feature our 2009 Pinot Noir in select scenes on a recent episode, further strengthening brand awareness.

Up against over 350 outstanding Pinots, our 2008 O’Brien Pinot Noir was awarded a gold medal in February 2012 at the 10th annual Pinot Noir Shootout in California.

The OSU Austin Entrepreneurship Program held their 2012 Weatherford Awards in February, recognizing Jim Bernau and three other individuals who have ‘furthered Oregon’s pioneering and innovative spirit.”

The March 2012 issue of Wine Enthusiast magazine recognized several of our wines with 90+ point scores; 2010 Riesling, 90pts/Best Buy;2009 Elton Pinot Noir, 91pts/Cellar Selection; 2009 Tualatin Estate Pinot Noir, 90pts.

Seasonal and Quarterly Results

The Company has historically experienced and expects to continue experiencing seasonal fluctuations in its revenues and net income. The Company reported a profit during its first quarter of 2011 and expects the first quarter of 2012 to report a profit as well although it historically is the weakest of the year. Sales volumes increase progressively beginning in the second quarter through the fourth quarter because of consumer buying habits.
 
 
 
21

 
 
ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - continued
 
The following table sets forth certain information regarding the Company’s revenues, excluding excise taxes, from Winery operations for the three and twelve months ended December 31, 2011 and December 31, 2010:

   
Three months ended   
Twelve months ended  
   
December 31, 2011
   
December 31, 2011  
 
   
2011
   
2010
   
2011
   
2010
 
                         
Retail sales
  $ 882,213     $ 718,367     $ 3,014,980     $ 2,785,786  
In-state sales
    1,243,402       2,254,818       6,296,319       7,640,237  
Out-of-state sales
    1,862,608       2,069,013       6,740,106       7,038,322  
Bulk wine/miscellaneous sales
    1,400       222,918       2,010       371,908  
                                 
Total revenue
    3,989,623       5,265,116       16,053,415       17,836,253  
                                 
Less excise taxes
    (87,975 )     (143,662 )     (391,510 )     (465,450 )
                                 
Net revenue
  $ 3,901,648     $ 5,121,454     $ 15,661,905     $ 17,370,803  
 
2011 Compared to 2010

Retail sales for the year ended December 31, 2011 increased $229,194, or 8.2%, as compared to the corresponding prior year period. Retail sales increased significantly during the year ended December 31, 2011, due to a combination of increases throughout the department. There was an increase of On Site and Off Site Events of $42,994, or 14.3% as well as an increase of $144,396, or 24.2%, in Wine Club sales and an increase of $75,088, or 149.6% in Internet sales. The focus on customers for life through telephone, internet order and retail sales will continue with the goal of expanding the customer base and continuing the trend of increasing revenue generation by the Retail department.

Total wholesale sales in the state of Oregon, through the combination of the Company’s in-state sales force and the Company’s new distributor relationship with Young’s decreased $1,343,918, or 17.6%, in the year ended December 31, 2011, as compared to the prior year. The decrease was mainly the result of the newly created relationship with Young’s as the distributor of WVV label products starting September 1, 2011 as well as reduced sales of purchased wine as Bacchus winds down its operation as a distribution arm of the Company. This new relationship resulted in a lower sales price of wine during the last four months of 2011.  The Willamette Valley Vineyards branded wine sales were lower than 2010 by 12.6% and as already noted were the primary factor in the 17.6% decrease in overall in-state sales.

Out-of-state sales in the year ended December 31, 2011 decreased $298,216, or 4.2%, as compared to the prior year. The national sales team is actively pursuing increasing our points of distribution and has opened markets through new distribution channels. The Company now sells wine in all 50 states and exports wine to eight countries. The Pinot Noir variety led sales in 2011.

The Company pays alcohol excise taxes to both the Oregon Liquor Control Commission and to the U.S. Department of the Treasury, Alcohol and Tobacco Tax and Trade Bureau. These taxes are based on product sales volumes. The Company is liable for the taxes upon the removal of product from the Company’s warehouse on a per gallon basis. The Company also pays taxes on the grape harvest on a per ton basis to the Oregon Liquor Control Commission for the Oregon Wine Board. The Company’s excise taxes for the year ended December 31, 2011 decreased 15.8% as compared to the prior year period. This was due primarily to a decrease in overall volume of sales out of state in 2011 which are taxed by the TTB and the decline of obtaining purchased wine from other wineries which are taxed by OLCC. Sales data in the discussion above is quoted before the exclusion of excise taxes.

As a percentage of net revenue, gross profit was 49. 3% in the year ended December 31, 2011, an increase of 11.3% compared to the 44.3% gross profit percentage from the prior year. This increase in the gross profit percent is mainly due to the decrease in production costs on produced wine.

The Company is continuing its focus on improved distribution of higher margin products through distributors nationwide and through direct sales and strives to minimize increases in grape and production costs.

 
22

 
 
ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - continued
 
Amortization of vineyard development costs of productive acres is included in capitalized crop costs that, in turn, are included in inventory costs and ultimately become a component of cost of goods sold. For the years ending December 31, 2011 and 2010, approximately $75,044 and $73,751, respectively, were amortized into inventory costs.

Selling, general and administrative expenses for the year ended December 31, 2011 decreased $627,952, or 9.2%, compared to the prior year. The decrease in sales, general and administrative expense versus the prior year resulted from decreased commissions, wages and salary expense in Selling, general & administrative expense coupled with the related expenses for payroll taxes and benefits.  Audit fees again decreased in 2011 versus the prior year. The G&A expenses show an overall decrease of 16% from the prior year as G&A costs were better controlled through management oversight of daily expenditures as well as reduction in staffing levels due to the wind down of Bacchus Distribution for the distribution of wine in Oregon.  This was partially offset by the increase in facility repairs during the year versus the prior year.
 
Interest income remained the same for the year ended December 31, 2011 versus the prior year. Interest expense increased 12.9% or $24,831 in the year ended December 31, 2011 as compared to the prior year. The increase in interest expense was due to the increase in long-term debt during the year.

The provision for income taxes and the Company’s effective tax rate was $514,926 and 37.5%, respectively of pre-tax income in the year ended December 31, 2011, compared to $273,351 and 39.9% of pre-tax income recorded for the prior year.

As a result of the above factors, net income increased 108.3% to $857,755 in the year ended December 31, 2011 from $411,808 for the prior year. Earnings per share were $0.18 per share in the year ended December 31, 2011 and $0.08 in the prior year.

First Quarter 2012 Outlook

Sales in the first two months of 2012 are lower than the prior year’s sales for the same period, showing a 4.0% overall decrease. In-state sales through Bacchus Fine Wines, which includes only purchased wine sales in 2012, are down by 27.2%. This is reflective of the winding down of Bacchus as a distribution arm of WVV, National sales, which now includes the Oregon market are down slightly by 0.4% and Retail/Direct sales are up by 25.1%.

Liquidity and Capital Resources

At December 31, 2011, the Company had a working capital balance of $12.9 million and a current ratio of 8.11:1. At December 31, 2010, the Company had a working capital balance of $11.4 million and a current ratio of 5.98:1. The Company had a cash balance of $3,411,292 at December 31, 2011 compared to a cash balance of $1,518,864 at December 31, 2010. The increase in cash year over year was primarily due to the reduction of inventory levels from the prior year as well as reducing operating expenses.

Total cash provided in operating activities for the year ended December 31, 2011 was $2,719,798, compared to cash provided of $3,008,319 for the prior year, primarily as a result of the cash provided by the reduction of Company’s inventory levels in 2011.

Total cash used in investing activities in the year ended December 31, 2010 was $1,737,593, compared to $643,274 in the prior year. Cash used in investing activities consisted mainly of additions to property and equipment and vineyard development expenditures.
 
 
Total cash provided by financing activities in the year ended December 31, 2011 was $910,223, compared to cash used of $846,181 in 2010. Cash provided by financing activities in 2011 primarily consisted of the obtaining of a long-term loan during the year.
 
 
23

 
 
ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - continued
 
At December 31, 2011, the line of credit balance was $0 on a maximum borrowing amount of $2,000,000. The Company has a loan agreement with Umpqua Bank that contains, among other things, certain restrictive financial covenants with respect to total equity, debt-to-equity and debt coverage that must be maintained by the Company on a quarterly basis. As of December 31, 2011, the Company was in compliance with all of the financial covenants. The current line of credit loan agreement with Umpqua Bank is due to renew in June 2012.

As of December 31, 2011, the Company had a total long-term debt balance of $4,193,917 owed to NW Farm Credit Services. The debt with NW Farm Credit Services was used to finance the Hospitality Center, invest in winery equipment to increase the Company’s winemaking capacity, complete the storage facility, acquire new vineyard land for future development and, most recently, to upgrade the Hospitality Center and other property infrastructure.

The Company believes that cash flow from operations and funds available under its existing credit facilities will be sufficient to meet the Company’s foreseeable short and long-term needs.

The Company’s contractual obligations as of December 31, 2011 including long-term debt, grape payables and commitments for future payments under non-cancelable lease arrangements are summarized below:

   
Payments Due by Period
 
         
Less than 1
    1 3     4 – 5    
After 5
 
   
Total
   
Year
   
Years
   
Years
   
Years
 
                                   
                                   
Long-term debt
  $ 4,208,590     $ 197,936     $ 663,808     $ 510,360     $ 2,836,486  
Grape payables
    389,233       389,233       -       -       -  
Operating leases
    3,322,693       384,259       1,058,011       719,921       1,160,502  
                                         
Total contractual obligations
  $ 7,920,516     $ 971,428     $ 1,721,819     $ 1,230,281     $ 3,996,988  
 
 
ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not required.
 
 
 
 
 
 
 
 
 

 
 
24

 

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO FINANCIAL STATEMENTS
 
     
   
PAGE
     
Report of Independent Registered Public Accounting Firm
26
Financial Statements
 
 
Balance Sheets
27
 
Statements of Income
28
 
Statements of Shareholders’ Equity
29
 
Statements of Cash Flows
30
 
Notes to Financial Statements
31

 
 
 
 
 
 
 
 
 
 
 
 

 

 
25

 



REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Shareholders
Willamette Valley Vineyards, Inc.

We have audited the accompanying balance sheets of Willamette Valley Vineyards, Inc. (the “Company”) as of December 31, 2011 and 2010, and the related statements of income, shareholders’ equity, and cash flows for the years 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 audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, 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, the financial statements referred to above present fairly, in all material respects, the financial position of Willamette Valley Vineyards, Inc. as of December 31, 2011 and 2010, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.

/s/ Moss Adams LLP

Portland, Oregon
March 27, 2012


 
26

 

WILLAMETTE VALLEY VINEYARDS, INC.
 BALANCE SHEETS

 
ASSETS
 
             
   
December 31,
   
December 31,
 
   
2011
   
2010
 
   
(audited)
   
(audited)
 
             
CURRENT ASSETS
           
Cash and cash equivalents
  $ 3,411,292     $ 1,518,864  
Accounts receivable, net
    1,058,312       1,264,966  
Inventories (Note 3)
    9,619,145       10,712,018  
Prepaid expenses and other current assets
    138,382       82,241  
Current portion of note receivable
    61,492       62,415  
Current portion of distribution agreement receivable
    250,000       -  
Income tax receivable
    229,337       115,063  
Total current assets
    14,767,960       13,755,567  
                 
                 
Vineyard development costs, net
    1,643,546       1,662,292  
Property and equipment, net (Note 4)
    7,300,737       6,243,990  
Debt issuance costs
    50,752       32,438  
Distribution agreement receivable, net of current portion
    500,000       -  
Note receivable
    19,276       71,457  
Other  assets
    4,456       4,456  
                 
TOTAL ASSETS
  $ 24,286,727     $ 21,770,200  
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
                 
CURRENT LIABILITIES
               
Current portion of long-term debt
    197,936       452,226  
Accounts payable
    301,168       748,813  
Accrued expenses
    438,983       595,197  
Deferred income taxes
    351,000       232,000  
Current portion of deferred revenue-distribution agreement
    142,857       -  
Grapes payable
    389,233       273,211  
Total current liabilities
    1,821,177       2,301,447  
                 
Long-term debt, net of current portion
    4,010,654       2,827,086  
Deferred rent liability
    208,047       215,003  
Deferred revenue-distribution agreement, net of current portion
    809,523       -  
Deferred gain
    249,646       281,741  
Deferred income taxes
    754,000       578,000  
Total liabilities
    7,853,047       6,203,277  
                 
COMMITMENTS AND CONTINGENCIES
               
                 
SHAREHOLDERS’ EQUITY
               
Common stock, no par value, 10,000,000 shares authorized,
               
shares authorized, 4,892,977 and 4,892,977 issued and outstanding at
               
December 31, 2011 and December 31, 2010
    8,632,746       8,623,744  
Retained earnings
    7,800,934       6,943,179  
Total shareholders’ equity
    16,433,680       15,566,923  
                 
TOTAL LIABILITIES AND SHAREHOLDERS’
               
EQUITY
  $ 24,286,727     $ 21,770,200  


The accompanying notes are an integral part of the financial statements.

 
27

 

WILLAMETTE VALLEY VINEYARDS, INC.
STATEMENTS OF INCOME

 
    Year Ended  
   
December 31,
 
   
2011
   
2010
 
   
(audited)
   
(audited)
 
             
SALES
  $ 15,661,905     $ 17,370,803  
COST OF SALES
    7,944,635       9,679,414  
                 
GROSS PROFIT
    7,717,270       7,691,389  
                 
SELLING GENERAL & ADMINISTRATIVE EXPENSES
    6,216,833       6,844,785  
                 
INCOME FROM OPERATIONS
    1,500,437       846,604  
                 
OTHER INCOME (EXPENSE)
               
Interest income
    12,772       12,814  
Interest expense
    (217,037 )     (192,206 )
Other income, net
    76,509       17,947  
                 
INCOME BEFORE INCOME TAXES
    1,372,681       685,159  
                 
INCOME TAX PROVISION
    514,926       273,351  
                 
NET INCOME
  $ 857,755     $ 411,808  
                 
Retained earnings beginning of period
    6,943,179       6,531,371  
                 
Retained earnings end of period
    7,800,934       6,943,179  
                 
                 
                 
BASIC NET INCOME  PER COMMON SHARE
  $ 0.18     $ 0.08  
                 
DILUTED NET INCOME  PER COMMON SHARE
  $ 0.18     $ 0.08  

The accompanying notes are an integral part of the financial statements.
 
 
 
 
 

 
 
28

 

WILLAMETTE VALLEY VINEYARDS, INC.
STATEMENTS OF SHAREHOLDERS’ EQUITY

 
    Common Stock    
 
       
   
Shares
   
Dollars
   
Retained Earnings
   
Total
 
                         
Balance at December 31, 2009
    4,888,977     $ 8,608,658     $ 6,531,371     $ 15,140,029  
                                 
Stock based compensation expense
    -       8,836       -       8,836  
                                 
Common stock issued and options exercised
    4,000       6,250       -       6,250  
                                 
Net income
    -       -       411,808       411,808  
                                 
Balance at December 31, 2010
    4,892,977       8,623,744       6,943,179       15,566,923  
                                 
Stock based compensation expense
    -       9,002       -       9,002  
                                 
Net income
            -       857,755       857,755  
                                 
Balance at December 31, 2011
    4,892,977     $ 8,632,746     $ 7,800,934     $ 16,433,680  


The accompanying notes are an integral part of the financial statements.
 
 
 
 
 
 
 
 
 
 
 
 
 

 
 
29

 

WILLAMETTE VALLEY VINEYARDS, INC.
STATEMENTS OF CASH FLOWS

 
   
Year ended December 31,
 
   
2011
   
2010
 
   
(audited)
   
(audited)
 
             
CASH FLOWS FROM OPERATING ACTIVITIES
           
Net income
  $ 857,755     $ 411,808  
Adjustments to reconcile net income to net cash:
               
from operating activities
               
Depreciation and amortization
    747,144       719,906  
Loss on disposal of property and equipment
    6,293       -  
Stock based compensation expense
    9,002       8,836  
Deferred rent liability
    (6,956 )     (3,203 )
Deferred income tax
    295,000       257,000  
Deferred revenue-distribution agreement
    (47,620 )     -  
Deferred gain
    (32,095 )     (32,094 )
Change in operating assets and liabilities:
               
Accounts receivable
    206,654       193,531  
Inventories
    1,092,873       1,457,389  
Prepaid expenses and other current assets
    (56,141 )     (23,495 )
Income taxes receivable
    (114,274 )     349,895  
Distribution agreement receivable
    250,000       -  
Grapes payable
    116,022       (384,160 )
Accounts payable
    (447,645 )     (74,704 )
Accrued expenses
    (156,214 )     127,610  
Net cash from operating activities
    2,719,798       3,008,319  
                 
CASH FLOWS FROM INVESTING ACTIVITIES
               
Additions to property and equipment
    (1,738,700 )     (689,002 )
Additions to vineyard development
    (56,298 )     (3,063 )
Proceeds from sale of property and equipment
    4,301       -  
Payments received on note receivable
    53,104       48,791  
Net cash from investing activities
    (1,737,593 )     (643,274 )
                 
CASH FLOWS FROM FINANCING ACTIVITIES
               
Bank overdraft
    -       (271,911 )
Proceeds from stock options exercised
    -       6,250  
Net repayments on line of credit
    -       (140,964 )
Payments on long-term debt
    (470,722 )     (439,556 )
Borrowings on long-term debt
    1,400,000       -  
Payment of debt issuance cost
    (19,055 )     -  
Net cash from financing activities
    910,223       (846,181 )
                 
NET CHANGE IN CASH AND CASH EQUIVALENTS
    1,892,428       1,518,864  
                 
CASH AND CASH EQUIVALENTS, beginning of year
    1,518,864       -  
                 
CASH AND CASH EQUIVALENTS, end of year
  $ 3,411,292     $ 1,518,864  


The accompanying notes are an integral part of the financial statements.

 
30

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010


NOTE 1 – SUMMARY OF OPERATIONS, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

Organization and operations  Willamette Valley Vineyards, Inc. (the “Company”) owns and operates vineyards and a winery located in the state of Oregon, and produces and distributes premium, super premium, and ultra premium wines, primarily Pinot Noir, Pinot Gris, Chardonnay, and Riesling. In 2011 no one customer represented more than 10% of total revenues. In 2010 no one customer represented more than 10% of total revenues.

The Company has identified two operating segments, Produced Wine and Bacchus Distribution. Bacchus Distribution (dba Bacchus Fine Wines), is the company’s in-state distribution department. Bacchus distributes purchased wine and glassware at wholesale prices to in-state customers. Produced wine represents all Willamette Valley Vineyard branded wine which is produced at the winery. Purchased wines and glassware are brands purchased from other wine distributors and wineries for sale to in-state customers. For segment reporting, the produced wines distributed by Bacchus are consolidated with Retail and Out-of-State sales and shown as Produced Wines.

Bacchus Distribution is in the process of winding down as a distribution arm of the Company. Currently the produced wine is now being distributed in Oregon through a new relationship with Young’s Market Company of Oregon, LLC, an Oregon limited liability company, and Young’s Market Company of Washington, LLC, an Oregon limited liability company (collectively referred to hereafter as “Young’s”). Bacchus is continuing the distribution of purchased wine and will continue until this inventory is depleted. The Company will apply discontinued operation accounting in the period that operations cease.

Sales in Oregon through the Company’s in-state sales force and through direct sales from the winery represented approximately 59.4% and 54.5% respectively, of revenues for 2011 and 2010. In-state sales of purchased wines and glassware represented 53.0% and 55.6% of total 2011 and 2010 in-state sales, respectively. In-state sales of Willamette Valley Vineyards branded wines represented 47.0% and 44.4% of total 2011 and 2010 in-state sales, respectively.

Out-of-state sales represented approximately 43.0% and 40.0% respectively, of revenues for 2011 and 2010. Foreign sales represent less than 1% of total sales. The Company also sells its wine through the tasting room at its winery.

Basis of presentation  The accompanying financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America, which require management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The Company bases its estimates on historical experience and on various assumptions that are believed to be reasonable under the circumstances at the time. Actual results could differ from those estimates under different assumptions or conditions.
 
Financial instruments and concentrations of risk – The Company has the following financial instruments: cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities, grapes payable and long-term debt. The carrying value of these instruments approximate fair value.

Cash and cash equivalents are for the most part maintained at two financial institutions. Deposits held with these financial institutions may exceed the amount of insurance provided on such deposits. Generally, these deposits may be redeemed upon demand and are maintained with a financial institution of reputable credit and therefore bear minimal credit risk.

 
31

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
NOTE 1 – SUMMARY OF OPERATIONS, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES - continued
 
Other comprehensive income – The nature of the Company’s business and related transactions do not give rise to other comprehensive income.

Cash and cash equivalents  Cash and cash equivalents include highly liquid short-term investments with an original maturity of less than 90 days.

Accounts receivableThe Company performs ongoing credit evaluations of its customers and does not require collateral. A reserve is maintained for potential credit losses. The allowance for doubtful accounts is based on an assessment of the collectability of customer accounts. The Company regularly reviews the allowance by considering factors such as historical experience, credit quality, the age of the accounts receivable balances, and current economic conditions that may affect a customer’s ability to pay. The Company has credit risk associated with uncollateralized trade accounts receivable totaling $1,078,597 and $1,276,357 as of December 31, 2011 and 2010, respectively. The Company has recorded an allowance for doubtful accounts of $20,285 and $11,391 at December 31, 2011 and 2010, respectively.

Notes receivable  The notes receivable balance relates to a note entered into in 2007 with one of the Company’s key grape suppliers with whom we purchase grapes from under contract. The purpose of the note was to provide the grower with the capital necessary for their vineyard land development. The original amount of the note was $250,000. The note accrues interest at 8.5% per year and is payable in semi-annual payments through March 2013.

Inventories – For Company produced wines, after a portion of the vineyard becomes commercially productive, the annual crop and production costs relating to such portion are recognized as work-in-process inventories. Such costs are accumulated with related direct and indirect harvest costs, wine processing and production costs, and are transferred to finished goods inventories when the wine is produced, bottled, and ready for sale. For purchased wines distributed through the Company’s in-state distribution division, Bacchus Fine Wines, the supplier invoiced costs of the wine, including freight, are recognized into finished goods inventories at the point of receipt.

The cost of finished goods is recognized as cost of sales when the wine product is sold. Inventories are stated at the lower of first-in, first-out (“FIFO”) cost or market by variety. Bacchus inventory is accounted for on a separate accounting system which calculates average invoice cost on the purchased brands. The average cost for the Bacchus inventory approximates blended FIFO in all material respects.

In accordance with general practices in the wine industry, wine inventories are generally included in current assets in the accompanying balance sheets, although a portion of such inventories may be aged for more than one year (Note 3).

Vineyard development costs  Vineyard development costs consist primarily of the costs of the vines and expenditures related to labor and materials to prepare the land and construct vine trellises. The costs are capitalized until the vineyard becomes commercially productive, at which time annual amortization is recognized using the straight-line method over the estimated economic useful life of the vineyard, which is estimated to be 30 years. Accumulated amortization of vineyard development costs aggregated $806,729 and $731,685 at December 31, 2011 and 2010, respectively.

Amortization of vineyard development costs are included in capitalized crop costs that in turn are included in inventory costs and ultimately become a component of cost of goods sold. For the year ending December 31, 2011 and 2010, approximately $75,044 and $73,751, respectively, was amortized into inventory costs.
 

 
32

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
NOTE 1 – SUMMARY OF OPERATIONS, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES - continued
 
Property and equipment  Property and equipment are stated at cost and are depreciated on the straight-line basis over their estimated useful lives as follows:

Land improvements
15 years
Winery building
30 years
Equipment
 
3 10 years (depending on classification
         
     of the asset)
 
Expenditures for repairs and maintenance are charged to operating expense as incurred. Expenditures for additions and betterments are capitalized. When assets are sold or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts, and any resulting gain or loss is included in operations. The Company reviews the carrying value of investments for impairment whenever events or changes in circumstances indicate the carrying amounts may not be recoverable.

Debt issuance costs  Debt issuance costs are amortized on the straight-line basis, which approximates the effective interest method, over the life of the debt. The Company incurred an additional $19,055 of debt issuance costs in 2011 related to the new long-term debt from NW Farm Credit Service. For the years ended December 31, 2011 and 2010, amortization of debt issuance costs was approximately $741 and $8,195 respectively. The following table shows the debt issuance amortization scheduled for the next five years:

   
Amount
 
       
2012
  $ 3,383  
2013
    3,383  
2014
    3,383  
2015
    3,383  
2016
    3,383  
Thereafter
    33,837  

Income taxes  Income taxes are recognized using enacted tax rates, and are composed of taxes on financial accounting income that is adjusted for requirements of current tax law, and deferred taxes. Deferred taxes are estimated using the asset and liability approach whereby deferred income taxes are calculated for the expected future tax consequences of temporary differences between the book basis and tax basis of the Company’s assets and liabilities.

The Company had no unrecognized tax benefits as of December 31, 2011 or 2010. The Company recognizes interest assessed by taxing authorities as a component of tax expense. The Company recognize any penalties assessed by taxing authorities as a component of tax expense. Interest and penalties for the years ended December 31, 2011 and 2010 were not material.

The Company file U.S. federal income tax returns with the Internal Revenue Service (“IRS”) as well as income tax returns in Oregon. The Company may be subject to examination by the IRS for tax years 2008 through 2011. Additionally, the Company may be subject to examinations by state taxing jurisdictions for tax years 2008 through 2011. The Company is currently not under examination by the IRS or the Oregon Department of Revenue.

Deferred rent liability  The Company leases land under a sale-leaseback agreement. The long-term operating lease has minimum lease payments that escalate every year. For accounting purposes, rent expense is recognized on the straight-line basis by dividing the total minimum rents due during the lease by the number of months in the lease. In the early years of a lease with escalation clauses, this treatment results in rental expense recognition in excess of rents paid, and the creation of a long-term deferred rent liability. As the lease matures, the deferred rent liability will decrease and the rental expense recognized will be less than the rents actually paid. For the year ended December 31, 2011, rent costs recognized in excess of amounts paid totaled $6,956. For the year ended December 31, 2010, rent costs recognized in excess of amounts paid totaled $3,203.
 
 
 
 
33

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
NOTE 1 – SUMMARY OF OPERATIONS, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES - continued
 
Revenue recognition The Company recognizes revenue when the product is shipped and title passes to the customer. The Company’s standard terms are ‘FOB’ shipping point, with no customer acceptance provisions. The cost of price promotions and rebates are treated as reductions of revenues. No products are sold on consignment. Credit sales are recorded as trade accounts receivable and no collateral is required. Revenue from items sold through the Company’s retail locations is recognized at the time of sale. Net revenues reported herein are shown net of sales allowances and excise taxes.

Cost of goods sold  Costs of goods sold include costs associated with grape growing, external grape costs, packaging materials, winemaking and production costs, vineyard and production administrative support and overhead costs, purchasing and receiving costs and warehousing costs.

Administrative support, purchasing, receiving and most other fixed overhead costs are expensed as selling, general and administrative expenses without regard to inventory units. Warehouse and production facilities costs, which make up less than 10 percent of total costs, are allocated to inventory units on a per gallon basis during the production of wine, prior to bottling the final product. No further costs are allocated to inventory units after bottling.

Selling, general and administrative expenses  Selling, general and administrative expenses consist primarily of non-manufacturing administrative and overhead costs, advertising and other marketing promotions. Advertising costs are expensed as incurred or the first time the advertising takes place. For the years ended December 31, 2011 and 2010, advertising costs incurred were approximately $54,000 and $23,000 respectively.

The Company provides an allowance to distributors for providing sample of products to potential customers.  For the years ended December 31, 2011 and 2010, these costs, which are included in selling, general and administrative expenses, totaled approximately $89,600 and $95,400, respectively.

Shipping and handling costs  Amounts paid by customers to the Company for shipping and handling costs are included in the net revenue. Costs incurred for shipping and handling charges are included in selling, general and administrative expense. For the years ended December 31, 2011 and 2010, such costs totaled approximately $375,600 and $311,100, respectively. The Company’s gross margins may not be comparable to other companies in the same industry as other companies may include shipping and handling costs as a cost of goods sold.

Excise taxesThe Company pays alcohol excise taxes based on product sales to both the Oregon Liquor Control Commission and to the U.S. Department of the Treasury, Alcohol and Tobacco Tax and Trade Bureau. The Company is liable for the taxes upon the removal of product from the Company’s warehouse on a per gallon basis. The federal tax rate is affected by a small winery tax credit provision which declines based upon the number of gallons of wine production in a year rather than the quantity sold. The Company also pays taxes on the grape harvest on a per ton basis to the Oregon Liquor Control Commission for the Oregon Wine Advisory. For the years ended December 31, 2011 and 2010, excise taxes incurred were approximately $391,000 and $466,000 respectively.

Stock based compensation  The Company expenses stock options on a straight line basis over the options’ related vesting term. For the year ended December 31, 2011, the Company recognized pretax compensation expense related to stock options of $9,002. This compares to $8,836 of pretax compensation expense for the period ended December 31, 2010.

 
 
34

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
NOTE 1 – SUMMARY OF OPERATIONS, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES - continued
 
Basic and diluted net income per shareBasic earnings per share are computed based on the weighted-average number of common shares outstanding each year. Diluted earnings per share are computed using the weighted average number of shares of common stock and potentially dilutive securities assumed to be outstanding during the year. Potentially dilutive shares from stock options and other common stock equivalents are excluded from the computation when their effect is anti-dilutive.

Options to purchase 356,200 shares of common stock were outstanding at December 31, 2011 and diluted weighted-average shares outstanding at December 31, 2011 include the effect of 3,991 stock options. Options to purchase 208,700 shares of common stock were outstanding at December 31, 2010 and diluted weighted-average shares outstanding at December 31, 2010 include the effect of 6,616 stock options.

         
2011
               
2010
       
         
Weighted
               
Weighted
       
         
Average
   
Earnings
         
Average
   
Earnings
 
         
Shares
   
per
         
Shares
   
per
 
   
Income
   
Outstanding
   
Share
   
Income
   
Outstanding
   
Share
 
                                     
Basic
  $ 857,755     $ 4,892,977       0.18     $ 411,808       4,890,687       0.08  
Options
    -       3,991       -       -       6,616       -  
Warrant
    -       -       -       -       -       -  
                                                 
Diluted
  $ 857,755     $ 4,895,968     $ 0.18     $ 411,808     $ 4,897,303     $ 0.08  
 
Statement of cash flows

Supplemental disclosure of cash flow information:

   
2011
   
2010
 
             
Income tax paid
  $ 309,000     $ -  
Interest paid
  $ 217,000     $ 192,000  
Supplemental schedule of noncash investing and financing
               
activities:
               
Purchases of property, plant, and equipment
               
included in accounts payable
  $ 7,715     $ 7,430  
 
Recently issued accounting standards  In April 2010, the Financial Accounting Standards Board (“FASB”) issued authoritative guidance that establishes criteria for a milestone to be considered substantive and allows revenue recognition when the milestone is achieved in research and development arrangements. In addition, this guidance requires disclosure of certain information with respect to arrangements that contain milestones. This guidance is effective for the Company prospectively beginning January 1, 2010. This guidance and did not have a significant impact on the Company’s financial statements.
 
In June 2011, the Financial Accounting Standards Board (“FASB”) issued authoritative guidance that revises the manner in which entities present comprehensive income in their financial statements. The guidance requires entities to report comprehensive income in either a single, continuous statement or two separate but consecutive statements. This guidance will become effective for fiscal years beginning after December 15, 2011. We expect the adoption of this new guidance will have no impact on our financial condition and results of operations.
 
 
 
35

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
NOTE 1 – SUMMARY OF OPERATIONS, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES - continued
 
In May 2011, the FASB issued authoritative guidance to amend the fair value measurement and disclosure requirements. The guidance requires the disclosure of quantitative information about unobservable inputs used, a description of the valuation processes used and a qualitative discussion around the sensitivity of the measurements. The guidance will become effective for the Company at the beginning of our second quarter of fiscal 2012. We expect the adoption of this new guidance will have no impact on our financial condition and results of operations.

NOTE 2 – ACCOUNTS RECEIVABLE

Oregon law prohibits the sale of wine in Oregon on credit; therefore, the Company’s accounts receivable balances are primarily the result of sales to out-of-state and foreign distributors. The Company’s accounts receivable balance is net of an allowance for doubtful accounts of $20,285 at December 31, 2011. This compares to an allowance for doubtful accounts of $11,391 at December 31, 2010.

Changes in the allowance for doubtful accounts are as follows:
 
   
Balance at
   
Charged to
                   
   
Beginning
   
Costs and
   
Charged to
   
Write-offs Net
   
Balance at End
 
   
of Period
   
Expenses
   
Other Accounts
   
of Recoveries
   
of Period
 
                               
Fiscal year ended December 31, 2011:
                             
Allowance for doubtful
                             
accounts
  $ 11,391     $ 8,894     $ -     $ -     $ 20,285  
                                         
Fiscal year ended December 31, 2010:
                                       
Allowance for doubtful
                                       
accounts
  $ 36,216     $ (5,390 )   $ (19,435 )   $ -     $ 11,391  


 
 
 
 

 

 
36

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010


NOTE 3 – INVENTORIES

   
December 31,
   
December 31,
 
   
2011
   
2010
 
   
 
   
 
 
             
Winemaking and packaging materials
  $ 248,350     $ 296,012  
Work-in-progress (costs relating to unprocessed and/or
    3,535,028       3,209,692  
unbottled wine products)
               
Finished goods (bottled wine and related products)
    5,889,816       7,226,730  
Obsolescence reserve
    (54,049 )     (20,416 )
                 
Current inventories
  $ 9,619,145     $ 10,712,018  
 
NOTE 4 – PROPERTY AND EQUIPMENT

   
December 31,
   
December 31,
 
   
2011
   
2010
 
   
 
   
 
 
             
Construction in progress
  $ 333,162     $ 152,039  
Land and improvements
    2,610,374       2,608,960  
Winery building and hospitality center
    6,727,419       5,516,343  
Equipment
    6,347,435       6,030,706  
                 
    $ 16,018,390     $ 14,308,048  
                 
Less accumulated depreciation
    (8,717,653 )     (8,064,058 )
                 
    $ 7,300,737     $ 6,243,990  
 
Depreciation expense was $671,359 and $646,155 during the years ended December 31, 2011 and 2010, respectively.

NOTE 5 – LINE OF CREDIT FACILITY

In December of 2005 the Company entered into a revolving line of credit agreement with Umpqua Bank that allows borrowings of up to $2,000,000 against eligible accounts receivables and inventories as defined in the agreement. The revolving line bears interest at prime, is payable monthly, and is subject to annual renewal. The Company renewed the credit agreement in June of 2011 for a period of 12 months. The interest rate was 3.25% at December 31, 2011 and 2010. At December 31, 2011 and 2010 there were no borrowings on this revolving line of credit.

The line of credit agreement includes various covenants, which among other things, requires the Company to maintain minimum amounts of tangible net worth, debt-to-equity, and debt service coverage as defined, and limits the level of acquisitions of property and equipment. As of December 31, 2011, the Company was in compliance with these covenants.


 
37

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010


NOTE 6 – LONG-TERM DEBT

Long-term debt consists of:

   
December 31,
 
   
2011
   
2010
 
             
Northwest Farm Credit Services Loan #1
  $ 1,437,557     $ 332,359  
Northwest Farm Credit Services Loan #2
    1,370,215       1,491,753  
Northwest Farm Credit Services Loan #3
    1,386,145       1,434,846  
Other long term debt
    14,673       20,354  
                 
      4,208,590       3,279,312  
Less current portion
    (197,936 )     (452,226 )
                 
    $ 4,010,654     $ 2,827,086  

The Company has three agreements with Northwest Farm Credit Services (“FCS”). Loan #1 requires monthly payments of $12,266, bears interest at a rate of 5.9%, is collateralized by real estate and equipment, and matures in 2026. Loan #2 requires monthly payments of $13,232, bears interest at a rate of 6.7%, is collateralized by real estate and equipment, and matures in 2024. Loan #3 requires monthly payments of $12,004, bears interest at a rate of 6.25%, is collateralized by real estate and equipment, and matures in 2026.

The loan agreements contain covenants, which require the Company to maintain certain financial ratios and balances. At December 31, 2011, the Company was in compliance with these covenants. In the event of future noncompliance with the Company’s debt covenants, FCS would have the right to declare the Company in default, and at FCS’ option without notice or demand, the unpaid principal balance of the loan, plus all accrued unpaid interest thereon and all other amounts due shall immediately become due and payable.

Future minimum principal payments of long-term debt mature as follows:

Year ending December 31,
2012
  $ 197,936  
 
2013
    210,395  
 
2014
    221,298  
 
2015
    232,115  
 
2016
    247,166  
 
Thereafter
    3,099,680  
           
      $ 4,208,590  
 
The weighted-average interest rates on the aforementioned borrowings for the fiscal years ended December 31, 2011 and 2010 are 6.3% and 6.1%, respectively.
 
 
 

 
 
38

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010


NOTE 7 – SHAREHOLDERS’ EQUITY

The Company is authorized to issue 10,000,000 shares of its common stock. Each share of common stock is entitled to one vote. At its discretion, the Board of Directors may declare dividends on shares of common stock, although the Board does not anticipate paying dividends in the foreseeable future.


NOTE 8 – STOCK INCENTIVE PLAN

The Company has two stock option plans, the 1992 Stock Incentive Plan (“1992 Plan”) and 2001 Stock Option Plan (“2001 Plan”). No additional grants may be made under the 1992 Plan. The 2001 Plan, which is shareholder approved, permits the grant of stock options and restricted stock awards for up to 900,000 shares. All stock options have an exercise price that is equal to the fair market value of the Company’s stock on the date the options were granted. Administration of the plan, including determination of the number, term, and type of options to be granted, lies with the Board of Directors or a duly authorized committee of the Board of Directors. Options are generally granted based on employee performance with vesting periods ranging from date of grant to seven years. The maximum term before expiration for all grants is ten years.

The following table presents information on stock options outstanding for the periods shown:

   
2011
   
2010
 
                 
   
Weighted Average Exercise
   
Weighted Average Exercise
 
   
Shares
   
Price
   
Shares
   
Price
 
                         
Outstanding at beginning of period
    208,700     $ 4.12       355,700     $ 4.16  
Granted
    155,000       3.17       -       -  
Exercised
    -       -       (4,000 )     1.56  
Forfeited
    (7,500 )     4.17       (143,000 )     (4.30 )
                                 
Outstanding at end of period
    356,200     $ 3.71       208,700     $ 4.12  
 
The following table presents information on stock options outstanding for the periods shown:

   
2011
   
2010
 
             
Intrinsic value of options exercised in the period
  $ -     $ 5,040  
Stock options fully vested and expected to vest
    356,200       208,700  
Weighted average exercise price
  $ 3.71     $ 4.12  
Aggregate intrinsic value
  $ 8,440     $ 22,720  
Weighted average contractual term of options
 
5.09 years
   
4.64 years
 
Stock options vested and currently exercisable
    208,700       208,700  
Weighted average exercise price
  $ 4.12     $ 4.12  
Aggregate intrinsic value
  $ 8,440     $ 22,720  
Weighted average contractual term of options
 
3.64 years
   
4.64 years
 
 

 
39

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010


NOTE 8 – STOCK INCENTIVE PLAN - continued
 
Weighted-average options outstanding and exercisable at December 31, 2011 are as follows:

           
Options
                   
           
Outstanding
         
Options Exercisable
 
           
Weighted
                   
     
Number
   
Average
   
Weighted
   
Number
   
Weighted
 
     
Outstanding at
   
Remaining
   
Average
   
Exercisable at
   
Average
 
Exercise
   
December 31,
   
Contractual
   
Exercise
   
December 31,
   
Exercise
 
Price
   
2011
   
Life
   
Price
   
2011
   
Price
 
$ 2.31       12,000       2.39     $ 2.31       12,000     $ 2.31  
  2.99       16,000       3.11       2.99       16,000       2.99  
  3.09       75,000       9.55       3.09       -       -  
  3.24       80,000       4.55       3.24       -       -  
  3.76       91,000       3.58       3.76       91,000       3.76  
  5.00       82,200       3.99       5.00       82,200       5.00  
                                             
                                             
$ 2.31 - $ 5.00       356,200       5.09     $ 3.71       201,200     $ 4.12  
 
All share-based compensation is measured at the grant date based on the fair value of the award, and is recognized as an expense in earnings over the requisite service period.  The fair value of each stock option granted is estimated on the date of grant using the Black-Scholes based stock option valuation model. This model uses the assumptions listed in the table below. Expected volatilities are based on implied volatilities from the Company’s stock, historical volatility of the Company’s stock, and other factors. Expected dividends are based on the Company’s plan not to pay dividends for the foreseeable future. The Company uses historical data to estimate option exercises and employee terminations within the valuation model. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. The following table details assumptions applied to stock options granted during the year ended December 31, 2011. There were no stock options granted during the year ended December 31, 2010.

   
2011
 
       
Risk-free interest rate
    1.37 %
Expected lives
 
5.2 years
 
Expected volatility
    33 %
 
 
40

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
 
NOTE 9 – INCOME TAXES

The provision for income taxes consists of:
 
    Year Ended December 31,  
   
2011
   
2010
 
             
Current tax expense
           
Federal
  $ 196,890     $ (10,645 )
State
    23,036       26,996  
                 
      219,926       16,351  
                 
Deferred tax expense (benefit)
               
Federal
    258,888       225,540  
State
    36,112       31,460  
                 
      295,000       257,000  
                 
Total
  $ 514,926     $ 273,351  
 
The effective income tax rate differs from the federal statutory rate as follows:
 
   
Year Ended December 31,
 
   
2011
   
2010
 
             
Federal statutory rate
    34.0 %     34.0 %
State taxes, net of federal benefit
    4.7 %     4.7 %
Permanent differences
    0.4 %     3.2 %
Adjustments to deferred tax asset
    0.0 %     (1.1 )%
Prior period adjustment
    (1.6 )%     (.9 )%
                 
      37.5 %     39.9 %
 
Permanent differences consist primarily of nondeductible meals and entertainment and life insurance premiums.

 
41

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
 
NOTE 9 – INCOME TAXES - continued
 
Deferred tax assets and (liabilities) at December 31 consist of:
 
   
2011
   
2010
 
             
Accounts receivable
  $ 8,000     $ 4,000  
Deferred gain on sale-leaseback
    97,000       109,000  
Stock compensation
    -       6,000  
Other
    40,000       37,000  
                 
Total deferred tax assets
    145,000       156,000  
                 
Prepaids
    (54,000 )     (44,000 )
Inventories
    (851,000 )     (235,000 )
Depreciation
    (345,000 )     (687,000 )
                 
Total deferred tax liabilities
    (1,250,000 )     (966,000 )
                 
Net deferred tax liability
  $ (1,105,000 )   $ (810,000 )

NOTE 10 – RELATED PARTY TRANSACTIONS

The Company provides living accommodations in a manufactured home on the Company’s premises for the president as additional compensation for security and lock-up services the president provides. Over the years the Company has recorded annual expenses less than $12,000 related to the housing provided for its president.

In February 2007 the Company entered into a lease agreement for approximately 60 acres of vineyard land at Elton Vineyards. This lease is for a 10-year term with four five-year renewals at the Company’s option and a first right of refusal in the event of the vineyard’s sale. For 2011, the annual costs of this lease were $113,468. For subsequent years there is an escalation provision tied to the CPI not to exceed 2% per annum. Betty M. O’Brien, a Director of the Company, is a principal owner of Elton Vineyards.

NOTE 11 – COMMITMENTS AND CONTINGENCIES

Litigation  From time to time, in the normal course of business, the Company is a party to legal proceedings. Management believes that these matters will not have a material adverse effect on the Company’s financial position, results of operations or cash flows, but, due to the nature of the litigation, the ultimate outcome cannot presently be determined.

 
42

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
 
NOTE 11 – COMMITMENTS AND CONTINGENCIES - continued
 
Operating leases  The Company entered into a lease agreement for approximately 45 acres of vineyards and related equipment in 1997. In December 1999, under a sale-leaseback agreement, the Company sold a portion of the Tualatin Vineyards property with a net book value of approximately $1,000,000 for approximately $1,500,000 cash and entered into a 20-year operating lease agreement. The gain of approximately $500,000 is being amortized over the 20-year term of the lease. In December 2004, under a new sale-leaseback agreement, the Company sold a 75.3 acres portion of the Tualatin Vineyards property with a net book value of approximately $551,000 for approximately $727,000 cash and entered into a 14-year operating lease agreement for 42.7 acres of the subject sale agreement. Approximately $99,000, relating to the 42.7 acres leased back, of the total gain of $176,000 realized from this 75.3 acre sale/leaseback transaction has been deferred and will be amortized over the life of the lease agreement.

The amortization of the deferred gain totals approximately $25,000 per year for the 1999 sale-leaseback agreement and $7,000 for the 2004 sale-leaseback agreement, and is recorded as an offset to the related lease expense in selling, general and administrative expenses.

In 2005, the Company entered into a long-term grape purchase agreement with one of its Willamette Valley wine grape growers whereby the Winery agreed to purchase the grape yields at fixed contract prices through 2015, with the first crop received in 2007. In 2006, the Company entered into another long-term grape purchase agreement with the same Willamette Valley wine grape growers whereby the Winery agreed to purchase additional grape yields at fixed contract prices through 2016, with the first crop in 2008. The Company is obligated to purchase 100% of the crop produced within the strict quality standards and crop loads, equating to maximum payments of approximately $1,500,000 per year. The Company cannot calculate the minimum payment as such a calculation is dependent in large part on an unknown – the amount of grapes produced in any given year. If there are no grapes produced in any given year, or if the grapes are rejected for failure to meet contractual quality standards, the Company has no payment obligation for that year.

In February 2007 the Company entered into a lease agreement for approximately 60 acres of vineyard land at Elton Vineyards. This lease is for a 10 year term with four five-year renewals at the Company’s option and a first right of refusal in the event of the vineyard’s sale. For 2011, the annual costs of this lease were $113,468. For subsequent years there is an escalation provision tied to the CPI not to exceed 2% per annum. Betty M. O’Brien, a Director of the Company, is a principal owner of Elton Vineyards. The terms of the lease currently call for a monthly payment of $9,442.50 with the annual adjustment ending January 2017 unless renewed.

In December 2007 the Company entered into a three-year lease agreement for a small, four-room office space in Wilsonville, Oregon. This space was leased to accommodate the out-of-state sales team. This lease was  cancelled as of January 31, 2011.

In July 2008 the Company entered into a 34-year lease agreement with a property owner in the Eola Hills for 108.8 acres adjacent to the existing Elton Vineyards site. These 108.8 acres will be developed into vineyards in the future. Terms of this agreement contain rent escalation that rises as the vineyard is developed. The current terms call for monthly payments of $274.

 
43

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
NOTE 11 – COMMITMENTS AND CONTINGENCIES - continued
 
As of December 31, 2011, future minimum lease payments are as follows:
 
Year ending December 31,
2012
  $ 384,259  
 
2013
    364,771  
 
2014
    343,361  
 
2015
    349,879  
 
2016
    356,549  
 
Thereafter
    1,523,874  
           
 
Total
  $ 3,322,693  
 
The Company is also committed to lease payments for various pieces of office equipment. Total rental expense for these operating leases amounted to $12,800 and $22,968 in 2011 and 2010, respectively. In addition, payments for the leased vineyards have been included in inventory or vineyard developments costs and aggregate approximately $323,270 and $317,641 for the years ended December 31, 2011 and 2010, respectively.

Vineyard developmentThe Company has approximately 204 acres of undeveloped vineyard land at December 31, 2011. This estimated cost to develop this for grape production is approximately $18,000 per acre or $3.67 million in total. The Company estimates that this acreage will be developed as projected sales demand dictates the need for increased grape supply.


NOTE 12 – EMPLOYEE BENEFIT PLAN

In February 2006, the Company instituted a 401(k) profit sharing plan covering all eligible employees. Employees who participate may elect to make salary deferral contributions to the Plan up to 100% of the employees’ eligible payroll subject to annual Internal Revenue Code maximum limitations. The Company may make a discretionary contribution to the entire qualified employee pool, in accordance with the Plan. For the years ended December 31, 2011 and 2010 there were no contributions by the Company to the 401(k) plan.


NOTE 13 – SEGMENT REPORTING

The Company has identified two operating segments, Produced Wine and Bacchus Distribution. Bacchus Distribution (dba Bacchus Fine Wines), is the company’s in-state distribution department. Bacchus distributes produced wine, purchased wine and glassware at wholesale prices to in-state customers. Produced wine represents all Willamette Valley Vineyard branded wine which is produced at the winery. Purchased wines and glassware are brands purchased from other wine distributors and wineries for sale to in-state customers. For segment reporting, the produced wines distributed by Bacchus are consolidated with Retail and Out-of-State sales and shown as Produced Wines.

 
44

 


NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2011 AND 2010

 
 
NOTE 13 – SEGMENT REPORTING - continued
 
The two segments reflect how the Company’s operations are evaluated by senior management and the structure of its internal financial reporting. The Company evaluates performance based on the gross profit of the respective business segment. Sales, general and administrative expenses are not allocated between operating segments, therefore net income information for the respective segments is not available. Discrete financial information related to segment assets, other than inventory, is not available and that information continues to be aggregated.

The following tables outline the sales, cost of sales and gross profit, for the twelve month periods ended December 31, 2011 and 2010 by operating segment:

   
Twelve Months Ended December 31, 2011
 
   
Bacchus
   
Produced
       
   
Distribution
   
Wine
   
Total
 
                   
Net sales
  $ 3,337,540     $ 12,324,365     $ 15,661,905  
Cost of sales
    2,677,175       5,267,460       7,944,635  
Gross profit
    660,365       7,056,905       7,717,270  
Percentage of sales
    19.8 %     57.3 %     49.3 %
                         
   
Twelve Months Ended December 31, 2010