| SUNOPTA INC Item 1A Risk Factors |
| Risks associated with rapid growth are detailed below |
| The Company will continue to devote significant effort to increase returns on capital by improving its investment in working capital and capital projects with increased accountability and measurement |
| Risks and Uncertainties The Common Shares of the Company are speculative in nature and involve a high degree of risk |
| Accordingly, in analyzing an investment in these securities, prospective investors should carefully consider the following risk factors, together with all of the other information appearing, or incorporated by reference, in this document, in light of his or her particular financial circumstances and/or investment objectives |
| These risk factors could materially and adversely affect the Company’s future operating results and could cause actual events to differ materially from those described in forward-looking statements relating to the Company |
| We Need Additional Capital to Maintain Current Growth Rates Over the last seven years the Company has had a compounded annual revenue growth rate of 63prca |
| Our ability to raise capital, through equity and/or debt financing, is directly related to our ability to continue to grow and improve returns from operations |
| Additional capital through equity financing may also result in additional dilution to our current shareholders and a decrease in our share price if we are unable to realize returns equal to or above our current rate of return |
| We will not be able to maintain our growth rate and our strategy as a consolidator within the natural and organic food industries without continued access to capital |
| Exercise of Warrants and Stock Options, Participation in our Employee Stock Purchase Plan and Issuance of Additional Securities Could Dilute the Value of Our Common Shares As of December 31, 2005, there are approximately 2cmam706cmam400 stock options outstanding to purchase Common Shares, with exercise prices ranging from dlra1dtta41 to dlra9dtta90 per Common Share |
| The exercise of these warrants and stock options could result in dilution in the value of our Common Shares and the voting power represented thereby |
| Furthermore, to the extent the holders of our warrants and stock options exercise such securities and then sell the Common Shares they receive upon exercise or upon the sale of common shares received as part of the employee stock purchase plan or the issuance of additional securities, our share price may decrease due to the additional amount of Common Shares available in the market |
| The subsequent sales of these shares could encourage short sales by our shareholders and others which could place further downward pressure on our share price |
| Moreover, the holders of our warrants and stock options may hedge their positions in our Common Shares by short selling our Common Shares, which could further adversely affect our stock price |
| Consumer Preferences for Natural and Organic Food Products are Difficult to Predict and May Change 91prca of our fiscal 2005 consolidated revenue was derived from the SunOpta Food Group |
| Our success depends, in part, on our ability to offer products that anticipate the tastes and dietary habits of consumers and appeal to their preferences on a timely and affordable basis |
| A significant shift in consumer demand away from our products or products that utilize our integrated ingredients, or our failure to maintain our current market position could reduce our sales, which could harm our business |
| Consumer trends change based on a number of possible factors, including nutritional values, such as a change in preference from fat free to reduced fat to no reduction in fat; and a shift in preference from organic to non-organic and from natural products to non-natural products |
| These changes could lead to, among other things, reduced demand and price decreases, which could have a material adverse effect on our business |
| We Operate in a Highly Competitive Industry We carry on businesses in highly competitive product and geographic markets in the US, Canada and various international markets |
| The SunOpta Grains and Foods Group, the SunOpta Ingredients Group and the SunOpta Fruit Group compete with large companies in the US and various international commercial grain procurement marketers, major chemical companies with food ingredient divisions, other food ingredient companies, stabilizer companies and consumer food companies that also engage in the development and sale of food ingredients |
| The SunOpta Canadian Food Distribution Group competes against other organic and natural food distributors and conventional food distributors that provide specialty or high end packaged products |
| Many of these competitors SunOpta Inc |
| 24 December 31, 2005 – 10-K ______________________________________________________________________ have financial resources and staff larger than ours and may be able to benefit from economies of scale, pricing advantages and greater resources to launch new products that compete with our offerings |
| We have little control over and cannot otherwise affect these competitive factors |
| If we are unable to effectively respond to these competitive factors or if the competition in any of our product markets results in price reductions or decreased demand for our products, our business, results of operations and financial condition will be materially impacted |
| We Rely on Our Manufacturing Facilities We own, manage and operate a number of manufacturing, processing and packaging facilities located throughout the U S and Canada |
| The SunOpta Food Group operates from twenty three processing facilities (fifteen owned, eight leased) in eight US states and one Canadian province |
| The Opta Minerals Group operates from seven locations (three owned, four leased) located throughout the U S and Canada |
| The SunOpta BioProcess Group operates its facilities at our corporate location in Brampton, Ontario |
| An interruption in or the loss of operations at one or more of these facilities, or the failure to maintain our labour force at one or more of these facilities, could delay or postpone production of our products, which could have a material adverse effect on our business, results of operations and financial condition until we could secure an alternate source of supply |
| The Loss of Key Management or Our Inability to Attract and Retain Management Talent Could Adversely Affect our Business Our future prospects depend to a significant extent upon the continued service of our key executives |
| Furthermore, our continued growth depends on our ability to identify, recruit and retain key management personnel |
| The competition for such employees is intense |
| We are also dependent on our ability to continue to attract, retain and motivate our sourcing, production, distribution, sales, marketing and other personnel |
| We rely on third parties for our raw materials and for the manufacturing, processing and distribution of many of our products |
| The inability of any of these third parties to deliver or perform for us in a timely or cost-effective manner could cause our operating costs to rise and our margins to fall |
| Many of our products are perishable and require timely processing and transportation to our customers |
| We must continuously monitor our inventory and product mix against forecasted demand, or risk having inadequate supplies to meet consumer demand as well as having too much inventory that may reach its expiration date |
| If we are unable to manage our supply chain efficiently and ensure that our products are available to meet consumer demand, our operating costs could increase and our margins could fall |
| Volatility in the Prices of Raw Materials, Energy and Freight Logistics Could Increase Our Cost of Sales and Reduce Our Gross Margin Raw materials used in the SunOpta Food Group and the Opta Minerals Group represent a significant portion of our cost of sales |
| Our cost to purchase these materials and services, such as organic grains and fruit, abrasive industrial minerals and natural gas, from our suppliers can fluctuate depending on many factors, including weather patterns, economic and political conditions and pricing volatility |
| In addition, we must compete with competitors having greater resources than us for limited supplies of these raw materials and services |
| If the cost of these materials and services increases due to any of the above factors, we may not be able to pass along the increased costs to our customers |
| The SunOpta Food Group enters into exchange-traded commodity futures and options contracts to hedge its exposure to price fluctuations on grain transactions to the extent considered practicable for minimizing risk from market price fluctuations |
| Futures contracts used for hedging purposes are purchased and sold through regulated commodity exchanges |
| Inventories, however, may not be completely hedged, due in part to our assessment of our exposure from expected price fluctuations |
| Exchange purchase and sales contracts may expose us to risk in the event that a counter-party to a transaction is unable to fulfill its contractual obligation |
| We are unable to hedge 100prca of the price risk of each transaction due to timing, availability of hedge contracts and third party credit risk |
| In addition, we have a risk of loss from hedge activity if a grower does not deliver the grain as scheduled |
| The Company also monitors the prices of natural gas and will from time to time lock in a percentage of its natural gas needs based on current prices and expected trends |
| 25 December 31, 2005 – 10-K ______________________________________________________________________ Technological Innovation by Competitors Could Make Our Products Less Competitive Competitors include major chemical companies, other food ingredient companies and consumer food companies that also engage in the development and sale of food and food ingredients |
| Many of these companies are engaged in the development of texturizers and other food ingredients and food products and have introduced a number of products into the market |
| Existing products or products under development by our competitors could prove to be more effective or less costly than any products which have been or are being developed by us |
| We Rely on Protection of Our Intellectual Property and Proprietary Rights We and particularly the SunOpta Food Group and SunOpta BioProcess Group depend, in part, on our ability to protect intellectual property rights |
| We rely primarily on patent, copyright, trademark and trade secret laws to protect our proprietary technologies |
| The failure of any patents or other intellectual property rights to provide protection to our technologies would make it easier for our competitors to offer similar products, which could result in lower sales or gross margins |
| The SunOpta Food Group has developed a number of new ingredients and alternatives to accommodate new product adaptations of these and other ingredients into various food items |
| The nature of a number of the SunOpta Food Group’s products and processes requires us to create and maintain a number of patents and trade secrets |
| The SunOpta Food Group’s policy is to protect its technology by, among other things, filing patent applications for technology relating to the development of its business in the US and in selected foreign jurisdictions |
| Our trademarks and brand names are registered in the United States, Canada and other jurisdictions and we intend to keep these filings current and seek protection for new trademarks to the extent consistent with business needs |
| We rely on trade secrets and proprietary know-how and confidentiality agreements to protect certain of the technologies and processes used by the Food Group |
| In addition, the SunOpta BioProcess Group holds a number of patents on its steam explosion process |
| We recognize that there exists a threat of others attempting to copy our proprietary steam explosion technology |
| To mitigate this risk, the normal business practice of this group includes the signing of confidentiality agreements with all parties to which confidential information is supplied including all customers and licensees |
| We also hold several patents on our equipment and process technologies |
| We are Subject to Substantial Environmental Regulation and Policies We are, and expect to continue to be, subject to substantial federal, state, provincial and local environmental regulation |
| There are specific regulations governing the recycling of solid waste material regulated by the Ontario Ministry of Environment and Energy and the Commonwealth of Virginia, Department of Environment Quality |
| Some of the key regulations include: • Air Quality – regulated by Environmental Protection Agency (EPA) and certain city/state air pollution control groups |
| Emission reports are filed annually; • Waste Treatment/Disposal – solid waste is either disposed of by a third-party or in some cases the Company has a permit to haul and apply the sludge to land |
| Agreements exist with local city sewer districts to treat waste at specified levels of biochemical oxygen demand (BOD) and total suspended solids (TSS); • Sewer – agreements with the local city sewer districts to treat waste as specified limits of BOD and TSS, which requires weekly/monthly reporting as well as annual inspection; and • Hazardous Chemicals – various reports are filed with local city/state emergency response agencies to identify potential hazardous toxic chemicals being used, including reports filed with the Department of Public Safety Emergency Response Commission in Minnesota and the Kentucky Emergency Response Commission |
| Permits are required from various state, provincial and local authorities related to air quality, storm water discharge, solid waste, land spreading and hazardous waste |
| In the event that our safety procedures for handling and disposing of potentially hazardous materials in certain of our businesses were to fail, we could be held liable for any damages that result and any such liability could exceed our resources |
| We may be required to incur significant costs to comply with environmental laws and regulations in the future |
| In addition, changes to environmental regulations may require us to modify our existing plant and processing facilities and could significantly increase the cost of those operations |
| 26 December 31, 2005 – 10-K ______________________________________________________________________ The foregoing environmental regulations, as well as others common to the industries in which we participate, can present delays and costs that can adversely affect business development and growth |
| If we fail to comply with applicable laws and regulations, we may be subject to civil remedies, including fines, injunctions, recalls or seizures, as well as potential criminal sanctions, which could have a material adverse effect on our business, results of operations and financial condition |
| In addition, any changes to current regulations may impact the development, manufacturing and marketing of our products, and may have a negative impact on our future results |
| The SunOpta Food Group Is Subject to Significant Food Regulations The SunOpta Food Group is affected by state and federal fertilizer, pesticide, food processing, grain buying and warehousing, and wholesale food regulations |
| Government-sponsored price supports and acreage set aside programs are two examples of policies that may affect the SunOpta Food Group |
| The SunOpta Food Group is currently in compliance with all state and federal regulations |
| Because the Food Group is involved in the manufacture, supply, processing and marketing of organic seed and food products, it is voluntarily subject to certain organic quality assurance standards |
| Certain food ingredient products are regulated under the 1958 Food Additive Amendments to the Federal Food, Drug and Cosmetic Act of 1938 (FDCA), as administered by the United States Food and Drug Administration (FDA) |
| Under the FDCA, pre-marketing approval by the FDA is required for the sale of a food ingredient which is a food additive unless the substance is Generally Recognized As Safe (GRAS) under the conditions of its intended use by qualified experts in food safety |
| We believe that most products for which the Food Group has retained commercial rights are GRAS However, such status cannot be determined until actual formulations and uses are finalized |
| As a result, the Food Group may be adversely impacted if the FDA determines that our food ingredient products do not meet the criteria for GRAS In December 2000, the USDA adopted regulations with respect to a national organic labeling and certification program which became fully effective in October 2002 |
| These regulations, among other things, set forth the minimum standards producers must meet in order to have their products labeled as “certified organic |
| ” We currently manufacture and distribute a number of organic products that are covered by these new regulations |
| While we believe our products and our supply chain are in compliance with these regulations, changes to food regulations may increase our costs to remain in compliance |
| In addition, in January 2001, the FDA proposed new policy guidelines regarding the labeling of genetically engineered foods |
| These guidelines, if adopted, could require us to modify the labeling of our products, which could affect the sales of our products and thus harm our business |
| We could lose our “organic” certification if a facility becomes contaminated with non-organic materials or if we do not use raw materials that are certified organic |
| The loss of our “organic” certifications could materially harm our business, results of operations and financial condition |
| Product Liability Suits, if Brought, Could Have a Material Adverse Effect on Our Business As a manufacturer and marketer of natural and organic food products and environmental mineral products, we are subject to the risk of claims for product liability |
| If a product liability claim exceeding our insurance coverage were to be successfully asserted against us, it could materially harm our business |
| Acceptance of StakeTech Steam Explosion Technology The SunOpta Bioprocess Group’s StakeTech Steam Explosion technology has yet to gain wide acceptance within the industry and, consequently, earnings can fluctuate from quarter to quarter |
| Its patented steam technology, while proven, has yet to develop a firm customer base |
| The success of this Group will depend upon its ability to promote commercial acceptance of it’s steam explosion technology and related biomass process solutions |
| We Are Subject to Financial Exposure Related to Bonding and Guarantees For the SunOpta BioProcess Group to enter international markets, we expect to have to provide substantial performance guarantees in the form of process guarantees and equipment guarantees |
| These guarantees will need to be backed by bank guarantees and/or surety bonds |
| We endeavor to reduce the associated risks, however there will always remain a possibility that our guarantees or bonds could be called, rightfully or wrongfully and/or that the equipment supplied fails to meet the guarantees and warranties provided resulting in potential financial losses |
| 27 December 31, 2005 – 10-K ______________________________________________________________________ We Are Subject to Dividend Restrictions and Potential Withholding Taxes on Dividends We have not paid dividends on our Common Shares since our inception and have used available cash resources to fund growth |
| Moreover, we are precluded under the terms of various agreements with our creditors from paying dividends without approval from certain creditors |
| It is our intention to retain future earnings to fund growth |
| We will consider paying dividends on our Common Shares in the future when circumstances permit, having regard to, among other things, our earnings, cash flow and financial requirements, as well as relevant legal and business considerations |
| Accordingly, investors should not expect to receive a return on investment in our Common Shares through the payment of dividends in the foreseeable future and may not realize a return on investment even if they sell their shares |
| Any future payment of dividends to holders of our Common Shares will depend on decisions that will be made by the Board of Directors and will depend on then existing conditions, including our financial condition, contractual restrictions, capital requirements and business prospects |
| Also, if we pay dividends, the receipt of cash dividends by United States shareholders from a Canadian corporation may be subject to a 5prca to 15prca Canadian withholding tax |
| Loss of Our Key Customer Could Materially Reduce Revenues and Earnings We have no customers that represent over 10prca of annualized revenues in 2005 |
| The loss or cancellation of business any of our other larger customers could materially and adversely affect our business, financial condition or results of operations |
| Our Operating Results and Share Price are Subject to Significant Volatility Our net sales and operating results may vary significantly from period to period due to: • changes in our operating expenses; • management’s ability to execute our business and growth strategies; • personnel changes; • supply shortages; • general economic conditions; • changes in customer preferences and demands for natural and organic food products; • volatility in commodity prices resulting from poor growing conditions, natural disasters or otherwise; and • future acquisitions, particularly in periods immediately following the consummation of such acquisition transactions while the operations of the acquired businesses are being integrated into our operations |
| In addition, our share price is more volatile than other larger public companies |
| Announcements regarding: • fluctuations in financial performance from period to period; • mergers and acquisitions; • strategic partnerships or arrangements; • litigation and governmental inquiries; • changes in governmental regulation and policy; • patents or proprietary rights; • changes in consumer preferences and demand; • new financings; and • general market conditions may have a significant impact on our share price |
| Higher volatility increases the chance of larger than normal price swings which reduces predictability in the share value of our stock and could impair investment decisions |
| In addition, price and volume trading volatility in the US stock markets can have a substantial effect on our share price, frequently for reasons other than our operating performance |
| These broad market fluctuations could adversely affect the market price of our Common Shares |
| 28 December 31, 2005 – 10-K ______________________________________________________________________ Fluctuations in Exchange Rates, Interest Rates and Certain Commodities Could Adversely Affect Our Results of Operations Financial Condition and Liquidity We are exposed to foreign exchange rate fluctuations as the financial results of our Canadian Corporate office and our Canadian subsidiaries are translated into US dollars on consolidation and to interest rate risk as a large percentage of our term debt is at variable rates |
| See Item 7A for a quantitative and qualitative disclose about these risks |
| Debt Financing The credit facility that the Company has with a syndicate of banks and life insurance companies contain restrictive covenants that limit the discretion of the Company’s management with respect to certain business matters |
| These covenants place restrictions on, among other things, the ability of the Company to incur additional indebtedness, to create other security interests, to complete a liquidation, dissolution, merger, amalgamation or reorganization, to make certain distributions or make certain payments, investments, loans and guarantees and to sell or otherwise dispose of certain assets |
| The credit facility also includes covenants requiring the Company to satisfy certain financial ratios and tests |
| A failure of the Company to comply with these obligations could result in an event of default which, if not cured or waived, could permit the acceleration of the relevant indebtedness |
| There can be no assurance that, if any indebtedness under the credit facility were to be accelerated, the Company’s assets would be sufficient to repay in full that indebtedness |
| Furthermore, prior to the expiry of the credit facility, the Company may be required to refinance its short-term debt |
| If the Company is required to replace the credit facility with new debt on less favourable terms, or if the Company cannot refinance its short-term debt, the Company may be adversely impacted |
| We May Not Be Able to Effectively Manage Our Growth and Integrate Acquired Companies Our growth strategy inherently assumes that we will be able to identify suitable acquisition candidates on terms acceptable to us and that these acquisitions, if pursued and completed, will be integrated successfully |
| Our ability to effectively integrate current and future acquisitions, including our ability to realize potentially available marketing opportunities and cost savings in a timely and efficient manner will have a direct impact on our future results |
| We may encounter problems in connection with the integration of any new businesses, such as: • integration of an acquired company’s products into our product mix; • amount of cost savings that may be realized as the result of our integration of an acquired product or business; • unanticipated quality and production issues with acquired products; • adverse effects on business relationships with our suppliers and customers; • diversion of management attention; • difficulty with personnel and loss of key employees; • implementation of an integrated enterprise wide accounting and information system; • compatibility of financial control and information systems; • exchange rate risk with respect to our acquisitions in Canada |