Ralcorp Holdings, Inc. Form 10-K
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-K
 
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 2006
or
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 
Commission file number 1-12619
 
RALCORP HOLDINGS, INC.
(Exact name of registrant as specified in its charter)

Missouri
43-1766315
(State of incorporation)
(I.R.S. Employer Identification No.)
   
800 Market Street, St. Louis, Missouri
63101
(Address of principal executive offices)
(Zip Code)

Registrant’s telephone number, including area code (314) 877-7000

Securities registered pursuant to Section 12(b) of the Act:

Title of each class
Name of each exchange on which registered
Common Stock, $.01 par value
New York Stock Exchange, Inc.
Common Stock Purchase Rights
New York Stock Exchange, Inc.

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. 
 þYes   ¨No
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  
 ¨Yes   þNo
 
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.   
 þYes   ¨No
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
 
Indicate by check mark whether registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).  
 þYes   ¨No
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). 
 ¨Yes   þNo
 
On March 31, 2006, the aggregate market value of the Common Stock held by non-affiliates of registrant was $959,063,681. Excluded from this figure is the Common Stock held by registrant’s Directors and Corporate Officers, who are the only persons known to registrant who may be considered to be its “affiliates” as defined under Rule 12b-2.
 
Number of shares of Common Stock, $.01 par value, outstanding as of December 1, 2006: 26,848,352.

DOCUMENTS INCORPORATED BY REFERENCE
 
Registrant’s Notice of Annual Meeting and Proxy Statement relating to its 2007 Annual Meeting (to be filed), to the extent indicated in Part III.

 
TABLE OF CONTENTS
 
2
     
 
PART I
  
     
Business
3
Properties
13
Legal Proceedings
14
Submission of Matters to a Vote of Security Holders
14
Executive Officers of the Registrant
14
     
 
PART II
  
     
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
15
Selected Financial Data
16
Management’s Discussion and Analysis of Financial Condition and Results of Operations
17
Quantitative and Qualitative Disclosures About Market Risk
27
Financial Statements and Supplementary Data
29
Changes In and Disagreements With Accountants on Accounting and Financial Disclosure
56
Controls and Procedures
56
Other Information
56
     
 
PART III
  
     
Directors and Executive Officers of the Registrant
56
Executive Compensation
56
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
56
Certain Relationships and Related Transactions
57
Principal Accountant Fees and Services
57
     
 
PART IV
  
     
Exhibits and Financial Statement Schedules
57
     
58
59
 
1

CAUTIONARY STATEMENT ON FORWARD-LOOKING STATEMENTS

Forward-looking statements, within the meaning of Section 21E of the Securities Exchange Act of 1934, are made throughout this Report. These forward-looking statements are sometimes identified by their use of terms and phrases such as “believes,” “should,” “expects,” “anticipates,” “intends,” “plans,” “will,” “can” or similar expressions elsewhere in this Report. The Company’s results of operations and financial condition may differ materially from those in the forward-looking statements. Such statements are based on management’s current views and assumptions, and involve risks and uncertainties that could affect expected results. The factors set forth below may cumulatively or individually impact the Company’s expected results.
 
•    If the Company is unable to maintain a meaningful price gap between its private label products and the branded products of its competitors, successfully introduce new products or successfully manage costs across all parts of the Company, the Company’s private label businesses could incur operating losses.
•    Consolidation among members of the grocery trade may lead to increased wholesale price pressure from larger grocery trade customers and could result in significant profit pressure, or in some cases, the loss of key accounts if the surviving entities are not customers of the Company.
•    Significant increases in the cost of certain commodities (e.g., wheat, peanuts, soybean oil, eggs, various tree nuts, corn syrup and other sweeteners, cocoa, fruits), packaging or energy (e.g., natural gas) used to manufacture the Company’s products, to the extent not reflected in the price of the Company’s products, could adversely impact the Company’s results.
•    In light of its ownership in Vail Resorts, Inc. (approximately 19%), the Company’s non-cash earnings can be adversely affected by unfavorable results from Vail Resorts or the inability to recognize earnings under the equity method of accounting in the future.
•    The Company is currently generating profit from certain co-manufacturing contract arrangements with other manufacturers within its competitive categories. The termination or expiration of these contracts and the inability of the Company to replace this level of business could negatively affect the Company’s operating results.
•    The Company’s businesses compete in mature segments with competitors having large percentages of segment sales. If such competitors are able to obtain larger percentages of their respective segment sales, the Company could lose its market position.
•    The Company has realized increases in sales and earnings through the acquisitions of businesses, but the ability to undertake future acquisitions depends on many factors, such as identifying available acquisition candidates and negotiating satisfactory terms to purchase such candidates, which the Company does not unilaterally control.
•    Presently, a portion of the interest on the Company’s indebtedness is set on a short-term basis. Consequently, increases in interest rates will increase the Company’s interest expense.
•    If actual or forecasted cash flows of any reporting unit deteriorate such that its fair value falls below its carrying value, goodwill will likely be impaired and an impairment loss would be recorded immediately as a charge against earnings.
•    The Company has experienced increases in the cost to transport finished goods to customers. The Company’s costs have risen due to the increased cost of fuel and a limited supply of freight carriers. In the event this situation worsens, transportation costs will increase significantly and the Company will experience service problems and reduced customer sales.
•    Fluctuations in the Canadian Dollar could result in losses in value of the Company’s net foreign currency investment in its Canadian subsidiary.
•    A portion of the Company’s employees are represented by labor unions. Labor strikes, work stoppages or other employee related interruptions or difficulties in the employment of labor could negatively impact our manufacturing capabilities.
•    Other uncertainties, all of which are difficult to predict and many of which are beyond the control of the Company, may impact its financial position, including those risks detailed from time to time in its publicly filed documents. These and other factors are discussed in the Company’s Securities and Exchange Commission filings.
 
The factors set forth above are illustrative, but by no means exhaustive. All forward-looking statements should be evaluated with the understanding of their inherent uncertainty.
 
2

PART I
 
BUSINESS
 
INTRODUCTION
 
Ralcorp Holdings, Inc. is a Missouri corporation incorporated on October 23, 1996. Our principal executive offices are located at 800 Market Street, Suite 2900, St. Louis, Missouri 63101. The terms “we,” “our,” “Company,” “Ralcorp,” and “Registrant” as used herein refer to Ralcorp Holdings, Inc. and its consolidated subsidiaries.
 
We are primarily engaged in the manufacturing, distribution and marketing of store brand (private label) food products in the grocery, mass merchandise, drug and foodservice channels. Our products include: ready-to-eat and hot cereal products; store brand and value brand snack mixes and corn-based snacks; store brand and branded crackers and cookies; foodservice, store brand and branded frozen griddle products (pancakes, waffles, French toast and custom griddle products) and biscuits; foodservice and store brand breads, rolls and muffins; store brand wet-filled products such as salad dressings, mayonnaise, peanut butter, syrups, jams and jellies, and specialty sauces; and store brand and value branded snack nuts and chocolate candy. Substantially all of our products are sold to customers within the United States.
 
Our strategy is to grow our businesses through increased sales of existing and new products and through the acquisition of other companies. Since 1997 we have acquired eighteen companies. We typically pursue companies that manufacture predominantly store brand or value oriented food products.
 
The following sections of this report contain financial and other information concerning our business developments and operations and are incorporated into this Item 1:
•   “Management’s Discussion and Analysis of Financial Condition and Results of Operations” under Item 7; and
•   “Acquisitions and Goodwill,” “Supplemental Earnings Statement and Cash Flow Information,” and “Segment Information” in the Notes to the Consolidated Financial Statements filed as part of this document under Item 8.
 
You can find additional information about Ralcorp including our 10-Ks, 10-Qs, 8-Ks, and other securities filings (and amendments thereto) by visiting our website at http://www.ralcorp.com or the SEC’s website at http://www.sec.gov, from which they can be printed free of charge as soon as reasonably practicable after their electronic filing with the SEC. The Company’s Corporate Governance Guidelines; Standards of Business Conduct for Employees, including Executive Officers; Director Code of Ethics; and the Charters of the Board’s Audit, Corporate Governance, and Compensation Committees are also available on our website, from which they can be printed free of charge. All of these documents are also available to shareholders at no charge upon request sent to the Company’s Secretary (PO Box 618, St. Louis, MO 63188-0618, Telephone: 314-877-7046).
 
RECENT BUSINESS DEVELOPMENTS
 
·
On October 17, 2005, the Board of Directors increased our existing share repurchase authorization by 2,000,000 shares of common stock.
·
On November 15, 2005, we completed the acquisition of Western Waffles, Ltd.
·
On December 21, 2005, we issued Fixed Rate Senior Notes, Series E and Series F, totaling $175 million.
·
On December 27, 2005, we entered into a new $150 million Revolving Credit Agreement which replaced a previous agreement established on October 15, 2004.
·
On February 7, 2006, we completed the acquisition of Parco Foods, Inc.
·
On February 22, 2006, we issued Floating Rate Senior Notes, Series G and Series H, totaling $100 million. The proceeds from this private placement debt were used to repay our Series A Floating Rate Senior Notes.
·
On May 25, 2006, after the October 17, 2005 authorization had been exhausted, the Board of Directors authorized the repurchase of up to 2,000,000 shares of common stock.
·
On October 27, 2006, we announced the appointment of Ronald D. Wilkinson as President of Bremner, Inc. and Nutcracker Brands, Inc. and the appointment of Richard R. Koulouris as President of The Carriage House Companies, Inc.
·
On November 10, 2006, we completed the acquisition of Cottage Bakeries, Inc.
·
Since October 31, 2005, we have entered into three forward sale agreements relating to our shares of Vail Resorts, Inc. and received approximately $140 million.

3

OTHER INFORMATION PERTAINING TO THE BUSINESS OF THE COMPANY
 
Segments
 
During fiscal year 2006 our businesses were comprised of four reportable business segments: Cereals, Crackers & Cookies (consisting of Ralston Foods and Bremner, Inc.); Frozen Bakery Products (Ralcorp Frozen Bakery Products, Inc.); Dressings, Syrups, Jellies & Sauces (The Carriage House Companies, Inc.); and Snack Nuts & Candy (Nutcracker Brands, Inc.). During fiscal 2006 we changed the name of Bakery Chef, Inc. to Ralcorp Frozen Bakery Products, Inc. The Frozen Bakery Products segment now includes Ralcorp Frozen Bakery Products, Lofthouse, Concept 2 Bakers, Parco, Western Waffles and for the first quarter of fiscal 2007, the recently acquired Cottage Bakery, Inc. business.
 
We develop, manufacture, and market emulations of various types of branded food products that retailers, mass merchandisers and drug stores sell under their own “store” brands or under value brands. We attempt to manufacture products that are equivalent in quality to branded products. In the event branded producers modify their existing products or successfully introduce new products, we may attempt to emulate the modified or new products. In conjunction with our customers, we develop packaging and graphics that rival the national brands. Our goal is that the only difference consumers perceive when purchasing our store brand products is a notable cost savings when compared to branded counterparts.
 
We also develop, manufacture and market signature frozen value-added bakery products for the foodservice, in-store bakery, retail and mass merchandising channels. Our frozen products typically are not emulations of branded products. Instead, they are designed to have unique tastes or characteristics that customers desire. To a much lesser extent, we also offer unique, custom products in our other businesses.
 
In Item 2, we have listed the principal plants operated by the Company as well as the types of products produced at each plant.
 
Cereals, Crackers & Cookies
 
The Cereals, Crackers & Cookies segment is composed of store brand ready-to-eat and hot cereals, store brand snack mixes and corn-based snacks (the “Cereal and Snack Business”); and store brand and branded crackers and cookies (the “Cracker and Cookie Business”). In fiscal 2006, these businesses accounted for approximately 58% and 42% respectively, of the Company’s Cereals, Crackers & Cookies segment sales. These two businesses (operating segments) have been aggregated into a single reportable segment because they have similar economic characteristics, product ingredients, types of customers and distributions methods, and because of some shared processing.
 
Cereal and Snack Business
 
Store brand ready-to-eat cereals are currently produced at three operating facilities and include over 35 different cereal varieties, utilizing flaking, extrusion and shredding technologies. Our Cracker and Cookie Business produces shredded wheat cereal for the Cereal and Snack Business. Three additional cereals are produced for the Cereal and Snack Business through certain co-manufacturing arrangements. Store brand and branded hot cereals are produced at one facility and include old-fashioned oatmeal, quick oatmeal, regular instant oatmeal, flavored instant oatmeals, farina, instant Ralston® (a branded hot wheat cereal), and 3 Minute Brand® hot cereals. As expected, we sell far more hot cereals in cooler months. We believe we are the largest manufacturer in the U.S. of store brand ready-to-eat and hot cereals. In fiscal 2006, approximately 70% of this business’s net sales were in retail ready-to-eat cereals (excluding co-manufacturing), approximately 13% of its net sales were in retail hot cereals and approximately 11% of its net sales were in corn-based snack products. Corn-based snacks are produced at one facility and include four types of tortilla chips, two types of corn chips and three types of extruded puffed products that are packaged under store brands and the Medallion® name.
 
We produce cereal products based on our estimates of customer orders and consequently maintain, on average, three to five weeks’ inventory of finished products. Our ready-to-eat and hot cereals are warehoused in and distributed through four independent distribution facilities and two of our cereal plants, and are shipped to customers principally via independent truck lines. Our corn-based snack products are produced based on customer orders and are shipped directly to customers through independent truck lines and customer supplied trucks. The ready-to-eat and hot cereal products as well as corn-based snack products are sold through internal sales staff and independent food brokers.
 
4

Cracker and Cookie Business
 
We believe our Cracker and Cookie Business is currently the largest manufacturer of store brand crackers and cookies for sale in the United States. The business also produces cookies under the Rippin’ Good® brand and crackers under the Ry Krisp® brand. Management positions the Cracker and Cookie Business as a low cost, premier quality producer of a wide variety of store brand crackers and cookies. We produce 54 kinds of store brand cookies and 24 kinds of store brand crackers. In fiscal 2006 and solely with respect to the retail channel, approximately 58% of this business’s net sales was in crackers and approximately 42% of its net sales was in cookies.
 
Our Cracker and Cookie Business operates seven plants where products are largely produced to order. In the fall and winter as consumer consumption of crackers increases, we have the ability to produce to estimated volumes, thereby building product inventories ranging from four to six weeks. Store brand crackers and cookies are sold through a broker network and internal sales staff. Branded Ry Krisp® crackers and branded cookies, including Rippin’ Good® cookies are sold through direct store distributor networks. Our cookies and crackers are primarily distributed through our own warehouses and delivered to customers through independent truck lines.
 
Frozen Bakery Products
 
Our Frozen Bakery Products business operates eleven facilities, including the Cottage Bakery, Inc acquisition. We produce frozen griddle products such as pancakes, waffles and French toast; frozen bread products such as breads, rolls and biscuits; dessert products such as frozen cookies and frozen cookie dough, muffins, and Danishes, as well as dry mixes for bakery foods. During fiscal 2006, one plant within the Cereals, Crackers and Cookies segment began producing in-store bakery cookies for the Frozen Bakery Products segment. The segment’s griddle, muffin, biscuit, and some other bread products are largely produced to order and shipped frozen directly to customers or third-party frozen warehouses. Cookies and artisan breads are produced to order and in anticipation of customer needs. These products are stored in onsite frozen warehouses and the majority of the products are shipped frozen.
 
The Frozen Bakery Products segment sells products through a broker network and an internal sales staff. Products are sold to foodservice customers such as large restaurant chains and distributors of foodservice products, retail grocery chains, and mass merchandisers. We utilize the trademark Krusteaz® for frozen griddle products sold to retail grocery chains and mass merchandisers. Also, we produce in-store bakery cookies under the Lofthouse®, Cascade®, and Parco® brands. During fiscal 2007, we intend to consolidate most of our in-store bakery cookies under the Lofthouse® brand; however, we will continue to use the Cascade®, and Parco® brands at a reduced level. Sales of cookies increase significantly in anticipation of holidays.
 
We sell a significant amount of products to a large international chain of restaurants. The loss of that customer would have a material adverse effect on the Frozen Bakery Products segment.
 
In fiscal 2006, approximately 37% of the segment’s net sales was griddle products, 29% was cookies, 16% was breads and rolls, and 15% was biscuits, with the remainder representing various muffins, cakes and dry mixes. Approximately 45% of its net sales was in the foodservice channel, 36% was to in-store bakeries, and 18% was retail.
 
Dressings, Syrups, Jellies & Sauces
 
Our Dressings, Syrups, Jellies & Sauces segment currently operates four plants and produces a variety of store brand shelf-stable dressings, syrups, peanut butter, jellies, salsas and sauces, and non-alcoholic drink mixes under the Major Peters’® and JERO® brands. The segment’s products are largely produced to order and shipped directly to customers using independent truck lines. However, we maintain warehouses at our plants to hold several weeks’ supply of key products. The products are sold through an internal sales staff and a broker network. In fiscal 2006, approximately 19% of the segment’s net sales was preserves and jellies, 16% was spoonable or pourable salad dressings, 17% was table syrup, and 17% was peanut butter, with the remainder consisting of various salsas, sauces, other syrups, and drink mixes. Approximately 88% of its net sales was to retail customers.
 
Due to the varied nature of branded counterparts and customer preferences, this segment produces far more variations of each type of product compared to our other segments. At any one time, we maintain over 5,000 active SKUs in this segment.
 
5

Snack Nuts & Candy
 
Our Snack Nuts & Candy segment operates two plants that produce a variety of jarred, canned and bagged snack nuts and one plant that produces chocolate candy. Our snack nut and candy products are largely produced to order and shipped directly to customers; however, we maintain two warehouses where finished snack nut products are stored during peak times of demand. Snack nuts and candy are shipped to customers through independent truck lines. We sell our products through an internal sales staff and a broker network. The segment produces store brand products as well as value branded products under the Nutcracker® and Flavor House® brands. Snack nut sales are seasonal, and the segment sells approximately 45% of its snack nuts in a four-month period between September and December. Profits from the sale of snack nuts are impacted significantly by the cost of raw materials (peanuts and tree nuts). Our chocolate candy products are positioned as premium chocolate products and not as an emulation of a branded product. Consequently, our chocolate candy products are sold to customers who maintain premium store brand product lines. We also produce chocolate candy for customers who use the candy as ingredients for ice cream and other products. In fiscal 2006, approximately 88% of the segment’s net sales was nuts and approximately 10% was candy, with the remainder representing various snack mixes.
 
Ownership of Vail Resorts, Inc.
 
We own 7,454,406 shares of Vail Resorts, Inc. (Vail) common stock (approximately 19 percent of the shares outstanding as of September 30, 2006). Additionally, two of our Directors, Messrs. Stiritz and Micheletto, are on the Vail Board of Directors. Currently, we utilize the equity method of accounting to reflect our share of Vail’s earnings (or losses) on a non-cash basis. On October 31, 2005, we entered into a prepaid variable forward sale contract relating to 1.78 million shares of our Vail common stock. We entered into a second prepaid variable forward sale contract on March 22, 2006 relating to 1.97 million of our Vail common stock, and a third contract on November 6, 2006 relating to 1.2 million shares. Under the three contracts, at the maturity dates (which range from November 2008 to November 2013) we can deliver a variable number of shares in Vail to Bank of America. The number of shares ultimately delivered will depend on the price of Vail shares at settlement. We obtained approximately $50.5 million, $60 million and $29.5 million, respectively, under the prepayment feature of the contracts. The contracts do not currently impact our equity accounting method due in part to the fact that we continue to vote the shares of Vail subject to the forward contract.
 
Vail’s results of operations are highly seasonal and are dependent in part on weather conditions and consumers’ discretionary spending trends. In light of the significance of our ownership in Vail in comparison to our earnings and assets, changes in Vail’s common stock price or earnings can impact our stock price.
 
Trademarks
 
We own (or use under a license) a number of trademarks that are substantially important to our businesses, including, Krusteaz®, Lofthouse®, Parco®, Major Peters’®, Medallion®, Ry Krisp®, Rippin’ Good®, Flavor House® and Nutcracker®.
 
Competition
 
Our businesses face intense competition from large branded manufacturers and highly competitive store brand and foodservice manufacturers in each of their product lines. Further, in some instances large branded companies presently manufacture, or in the past have manufactured, store brand products. Top branded ready-to-eat and hot cereal competitors include Kellogg, General Mills, Kraft Foods’ Post division, and Quaker Oats (owned by PepsiCo). Large branded competitors of the Cracker and Cookie Business include Nabisco (owned by Kraft) and Keebler (owned by Kellogg), which possess large portions of the branded cracker and cookie categories. Branded competitors in the snack mix and corn-based snack categories include General Mills and Frito Lay. The Snack Nuts & Candy segment faces significant competition from one significant branded snack nut producer, Planters (owned by Kraft). Top branded competitors of the Dressings, Syrups, Jellies & Sauces segment include Kraft Foods, Bestfoods (owned by Unilever), Smucker’s and Heinz. In addition, privately owned store brand manufacturers provide significant competition in all of the Company’s segments. The Frozen Bakery Products segment faces intense competition from numerous producers of griddle, bread and cookie products, including Kellogg.
 
The industries in which we compete are highly sensitive to both pricing and promotion. Competition is based upon product quality, price, effective promotional activities, and the ability to identify and satisfy emerging consumer preferences. These industries are expected to remain highly competitive in the foreseeable future. Our customers do not typically commit to buy predetermined amounts of products. Moreover, many food retailers utilize bidding procedures to select vendors. Consequently, during the course of a year, up to 50% of any segment’s business can be subject to a bidding process conducted by our customers.
 
6

Future growth opportunities are expected to depend on our ability to implement strategies for competing effectively in all of our businesses, including strategies relating to emulating branded products, enhancing the performance of our employees, maintaining effective cost control programs, developing and implementing methods for more efficient manufacturing and distribution operations, and developing successful new products, while at the same time maintaining high product quality, aggressive pricing and promotion of our products.
 
Customers
 
In fiscal 2006, Wal-Mart Stores, Inc. accounted for approximately 16% of our aggregate net sales. Each of our reporting segments sells products to Wal-Mart. Additionally, we sell our products to retail chains, mass merchandisers, grocery wholesalers, warehouse club stores, drug stores, restaurant chains and foodservice distributors across the country and in Canada.
 
Seasonality
 
Due to our equity interest in Vail, which typically yields more than the entire year's equity income during our second and third fiscal quarters, our net earnings are seasonal. In addition, certain aspects of our operations, especially in the Snack Nuts & Candy segment, hot cereal portion of the Cereal, Crackers & Cookies segment, and in-store bakery portion of the Frozen Bakery Products segment, are seasonal, with a higher percentage of sales and operating profits expected to be recorded in the first and fourth fiscal quarters. See Note 20 in Item 8 for historical quarterly data.
 
Employees
 
As of September 30, 2006, we had approximately 6,500 employees, of whom an estimated 6,175 were located in the United States and 325 were located in Canada. We have entered into numerous collective bargaining agreements that we believe contain terms that are typical for the industries in which we operate. As these agreements expire, we believe that the agreements can be renegotiated on terms satisfactory to the Company. We believe our relations with our employees, including union employees, are good.
 
Raw Materials, Freight, and Energy
 
Our raw materials consist of ingredients and packaging materials. Our principal ingredients are grain and grain products, flour, corn syrup, sugar, soybean oil, eggs, tomatoes and other fruits, various nuts such as peanuts and cashews, and liquid chocolate. Our principal packaging materials are linerboard cartons, corrugated boxes, plastic bottles, plastic containers and composite cans. We purchase raw materials from local, regional, national and international suppliers. The cost of raw materials used in our products may fluctuate widely due to weather conditions, labor disputes, government regulations, industry consolidation, economic climate, energy shortages, transportation delays, or other unforeseen circumstances. Presently, we do not believe any raw materials we use are in short supply. However, the supply of raw materials can be negatively impacted by the same factors that can impact their cost. From time to time we will enter into supply contracts for periods up to three years to secure favorable pricing for ingredients and up to five years for packaging materials. Most of our sales are FOB destination, where we pay freight costs to deliver our products to the customer via common carriers or our own trucks. Freight costs are affected by both fuel prices and the availability of common carriers in the area. We also purchase natural gas, electricity, and steam for use in our processing facilities. Where possible, and when advantageous to the Company, we enter into purchase or other hedging contracts of up to 18 months to reduce the price volatility of these items and the cost impact upon our operations. In fiscal 2006, ingredients, packaging, freight, and energy represented approximately 42%, 20%, 9%, and 3%, respectively, of our total cost of goods sold.
 
Governmental Regulation and Environmental Matters
 
We are subject to regulation by federal, state and local governmental entities and agencies. As a producer of goods for human consumption, our operations are subject to stringent production and labeling standards. For example, in the early 1990’s, new labeling regulations were promulgated and implemented which required us to modify information disclosed on our packaging. Recently, new labeling regulations relating to trans fatty acids and allergens were adopted by regulatory bodies. As a result, we had to change our packaging and in many instances, our formulations. In the event that mandated label disclosure causes customers to demand the use of different ingredients, the cost of goods sold may increase. In many instances we may not be able to obtain increased pricing to offset the increased cost.
 
7

Our operations, like those of similar businesses, are subject to various federal, state and local laws and regulations with respect to environmental matters, including air and water quality, underground fuel storage tanks, waste handling and disposal, and other regulations intended to protect public health and the environment. While it is difficult to quantify with certainty the potential financial impact of actions regarding expenditures for environmental matters, particularly remediation, and future capital expenditures for environmental control equipment, in the opinion of management, based upon the information currently available, the ultimate liability arising from such environmental matters, taking into account established accruals for estimated liabilities, should not have a material effect on our consolidated results of operations, financial position, capital expenditures or other cash flows. In fiscal 2007, and possibly extending into fiscal 2008, we will complete improvements to certain waste water pretreatment facilities within our Cereal, Crackers & Cookies segment. In total, we expect to spend an estimated $1.5 million on these improvements.
 
Contract Manufacturing
 
From time to time, our segments may produce products for other manufacturers. Typically, such products are new branded products for which branded companies lack capacity. This business tends to be inconsistent in volume. Often, initial orders can be significant and favorably impact a fiscal period (with respect to sales and profits) but later volume will level off or the branded company will ultimately produce the product internally and cease purchasing product from us. Branded companies retain ownership of the formulas and trademarks related to products we produce for them. Net sales under these “co-manufacturing” agreements were approximately 3.0% to 5.5% of our annual net sales for the past three years and were approximately $59 million in fiscal 2006.
 
8

ITEM 1A.
RISK FACTORS
 
In addition to the factors discussed elsewhere in this Report, the following risks and uncertainties could have a material adverse effect on the Company’s business, financial condition and results of operations. Additional risks and uncertainties not presently known to the Company or that the Company currently deems immaterial may also impair the Company’s business operations and financial condition.
 
Continued increases in the cost of commodities could negatively impact profits.
 
The primary commodities used by our businesses include sugar, oats, almonds, wheat, soybean oil, corn sweeteners, almonds and other tree nuts, glass containers, caps and plastic packaging. We may experience shortages in these items as a result of commodity market fluctuations, availability, increased demand, weather conditions, and natural disasters as well as other factors outside of our control. Due to shortages, prices for these items have been volatile. Changes in the prices of our products may lag behind changes in the costs of our commodities. Competitive pressures also may limit our ability to raise prices in response to increased raw and packaging material costs. Accordingly, if we are unable to increase our prices to offset these costs, these costs may have a material adverse effect on our operating profits and margins.
 
Higher energy costs could negatively impact profits.
 
Higher prices for natural gas, electricity and fuel increase our production and delivery costs. Many of our large manufacturing operations use large quantities of natural gas and electricity. Our inability to respond to these cost increases may negatively affect our operating results. In addition, the Company has experienced increases in the cost of transporting finished goods to customers. Due to the increased cost of fuel and limited supply of freight carriers, the Company’s costs have risen. In the event that this situation continues to worsen, the Company may experience service problems and reduced customer sales.
 
The Company may not be able to continue to make acquisitions at the rate at which we have been able to make acquisitions in the past.
 
The Company has experienced significant sales and operating profits through the acquisition of other companies. However, acquisition opportunities may not always present themselves. In such cases, the Company’s sales and operating profit may not continue to grow from period to period at the same rate as it has in the past.
 
The success of our acquisitions will depend on many factors, such as our ability to identify potential acquisition candidates, negotiate satisfactory purchase terms and our ability to successfully integrate and manage acquisitions. Integrating the operations, financial reporting, disparate technologies and personnel of newly acquired companies involve risks. We cannot guarantee that we will be successful or cost-effective in integrating any new businesses into our existing businesses. In fact, the process of integrating newly acquired businesses may cause interruption or slow down the operations of our existing businesses. As a result, we may not be able to realize expected synergies or other anticipated benefits of acquisitions.
 
Significant private label competitive activity can lead to price declines.
 
Some customer buying decisions are based on a periodic bidding process in which the successful bidder is assured the selling of its selected product to the food retailer, super center or mass merchandiser until the next bidding process. Our sales volume may decrease significantly if our offer is too high and we lose the ability to sell products through these channels, even temporarily. Alternatively, we risk reducing our margins if our offer is successful but below our desired price points. Either of these outcomes may adversely affect our results of operations.
 
Our inability to successfully manage the price gap between our private-label products and those of our branded competitors may adversely affect our results of operation.
 
Competitors’ branded products have an advantage over our private label products primarily due to advertising and name recognition. When branded competitors focus on price and promotion, the environment for private label products becomes more challenging because the price gaps between private label and branded products can become less meaningful.
 
At the retail level, private label products sell at a discount to those of branded competitors. If branded competitors continue to reduce the price of their products, the price of branded products offered to consumers may approximate or be lower than the prices of our private label products. Further, promotional activities by branded competitors such as temporary price rollbacks, buy-one-get-one-free offerings and coupons have the effect of price decreases. Price decreases taken by competitors could result in a decline in the Company’s sales volumes.
 
9

Loss of one of the Company’s significant customers may adversely affect our results of operations.
 
A limited number of customer accounts represent a large percentage of our consolidated net sales. The success of our business depends, in part, on our ability to maintain our level of sales and product distribution through high volume food retailers, super centers and mass merchandisers. The competition to supply products to these high volume stores is intense. These high volume stores and mass merchandisers frequently re-evaluate the products they carry; if a major customer elected to stop carrying one of our products, our sales may be adversely affected.
 
Unsuccessful implementation of business strategies to reduce costs may adversely affect our results of operations.
 
Many of our costs, such as raw materials, energy and freight are outside our control. Therefore, we must seek to reduce costs in other areas, such as operating efficiency. If we are not able to complete projects which are designed to reduce costs and increase operating efficiency on time or within budget, our operating profits may be adversely impacted. In addition, if the cost saving initiatives we have implemented or any future cost savings initiatives do not generate the expected cost savings and synergies, our results of operations may be adversely affected.
 
Our ability to raise prices for our products may be adversely affected by a number of factors, including but not limited to industry supply, market demand, and promotional activity by competitors. If we are unable to increase prices for our products as may be necessary to cover cost increases, our results of operations could be adversely affected. In addition, price increases typically generate lower volumes as customers then purchase fewer units. If these losses are greater than expected or if we lose distribution as a result of a price increase, our results of operations could be adversely affected.
 
We may be unable to anticipate changes in consumer preferences and trends, which could result in decreased demand for our products.
 
Our success depends in part on our ability to anticipate the tastes and eating habits of consumers and to offer products that appeal to their preferences. Consumer preferences change from time to time and can be affected by a number of different and unexpected trends. Our failure to anticipate, identify or react quickly to these changes and trends, and to introduce new and improved products on a timely basis, could result in reduced demand for our products, which would in turn cause our revenues and profitability to suffer. Similarly, demand for our products could be affected by consumer concerns regarding the health effects of nutrients or ingredients such as trans fats, sugar, processed wheat or other product attributes.
 
Changes in weather conditions, natural disasters and other events beyond our control can adversely affect our results of operations.
 
Changes in weather conditions and natural disasters such as floods, droughts, frosts, earthquakes, hurricanes or pestilence, may affect the cost and supply of commodities and raw materials, including tree nuts, corn syrup, sugar and wheat. Additionally, these events can result in reduced supplies of raw materials and longer recoveries of usable raw materials. Competing manufacturers can be affected differently by weather conditions and natural disasters depending on the location of their suppliers and operations. Damage or disruption to our manufacturing or distribution capabilities due to weather, natural disaster, fire, terrorism, pandemic, strikes or other reasons could impair our ability to manufacture or sell our products. Failure to take adequate steps to reduce the likelihood or mitigate the potential impact of such events, or to effectively manage such events if they occur, particularly when a product is sourced from a single location, could adversely affect our business and results of operations, as well as require additional resources to restore our supply chain.
 
The Company competes in mature categories with strong competition.
 
The Company’s businesses compete in mature segments with competitors that have a large percentage of segment sales. Our private label products face strong competition from branded competitors for shelf space and sales. Competitive pressures could cause us to lose market share, which may require us to lower prices, increase marketing expenditures or increase the use of discounting or promotional programs, each of which would adversely affect our margins and could result in a decrease in our operating results and profitability.
 
Some of the Company’s competitors have substantial financial, marketing and other resources, and competition with them in the Company’s various markets and product lines could cause the Company to reduce prices, increase marketing, or lose category share, any of which would have a material adverse effect on the business and financial results of the Company. This high level of competition by branded competitors could result in a decrease in the Company’s sales volumes.
 
10

The termination or expiration of current co-manufacturing arrangements could reduce our sales volume and adversely affect our results of operations.
 
Our businesses periodically enter into co-manufacturing arrangements with manufacturers of branded products. Terms of these agreements vary but are generally for relative short periods of time (less than two years). Volumes produced under each of these agreements can fluctuate significantly based upon the product’s life cycle, product promotions, alternative production capacity and other factors, none of which are under our direct control. Our future ability to enter into co-manufacturing arrangements is not guaranteed, and a decrease in current co-manufacturing levels could have a significant negative impact on sales volume.
 
We have a substantial amount of indebtedness which could limit financing and other options.
 
As of November 30, 2006, we had total debt of approximately $630 million. Our level of indebtedness may limit our ability to obtain additional financing for working capital, capital expenditures or general corporate purposes. In addition, our indebtedness may limit our flexibility to adjust to changing business and market conditions and may make us more vulnerable to a downward turn in general economic conditions.
 
The agreements governing our credit facilities impose restrictions on our business.
 
There are various financial covenants and other restrictions in our debt instruments. Our ability to comply with these covenants may be affected by events beyond our control, including prevailing economic, financial and industry conditions. An event of default under our debt agreements would permit some of our lenders to declare all amounts borrowed from them to be due and payable, together with accrued and unpaid interest. A default under our debt instruments may also impair our ability to obtain additional or alternative financing. Our ability to make scheduled payments on or to refinance our debt or other obligations will depend on our operating and financial performance, which in turn is subject to prevailing economic conditions and to financial, business and other factors beyond our control.
 
Changing currency exchange rates may adversely affect earnings.
 
On November 15, 2005, the Company completed the purchase of Western Waffles, Ltd, a Canadian manufacturer of private label frozen griddle products. A significant portion of Western Waffles sales are to customers in the United States and are denominated in U.S. currency. In addition, the Company’s consolidated financial statements are presented in U.S. dollars; the Company must translate its Canadian assets, liabilities, revenue and expenses into U.S. dollars at then applicable exchange rates. Consequently, fluctuations in the value of the Canadian dollar may negatively affect the value of these items in the Company’s consolidated financial statements. To the extent the Company fails to manage its foreign currency exposure adequately, we may suffer losses in value of our net foreign currency investment and the Company’s consolidated results of operations may be negatively affected. 
 
If our assessments and assumptions about commodity prices, as well as ingredient and other prices, prove to be incorrect in connection with our hedging or forward-buy efforts or planning cycles, our costs may be greater than anticipated and our financial results could be adversely affected.
 
We generally use commodity futures and options to reduce the price volatility associated with anticipated commodity purchases of oats, sugar, tree nuts, and wheat used in the production of certain of our products. Additionally, we have a hedging program for heating oil relating to diesel fuel prices, natural gas, and corrugated paper products. The extent of our hedges at any given time depends upon our assessment of the markets for these commodities, including our assumptions for future prices. For example, if we believe that market prices for the commodities we use are unusually high, we may choose to hedge less, or possibly not hedge any, of our future requirements. If we fail to hedge and prices subsequently increase, or if we institute a hedge and prices subsequently decrease, our costs may be greater than anticipated or greater than our competitors’ costs and our financial results could be adversely affected.
 
Consolidation among the retail grocery and foodservice industries may hurt profit margins.
 
Over the past several years, the retail grocery and foodservice industries have undergone significant consolidations and mass merchandisers are gaining market share. As this trend continues and such customers grow larger, they may seek lower pricing or increased promotional pricing from suppliers since they represent more volume. As a result, our profit margins as a grocery and foodservice supplier may be negatively impacted. In the event of consolidation if the surviving entity is not a customer, we may lose key business once held with the acquired retailer.
 
11

Ownership of Vail Resorts creates a risk to the Company’s earnings.
 
The Company owns approximately 19% of the outstanding common stock of Vail Resorts, Inc (“Vail”). Because we account for this investment using the equity method of accounting, our non-cash earnings may be adversely affected by unfavorable results from Vail. Vail typically yields more than the entire year’s equity income during our second and third fiscal quarters; as a result our net earnings are seasonal. In addition, Vail’s results of operations are also dependant in part on weather conditions and consumer discretionary spending trends. In light of our significant ownership in Vail, changes in its common stock price or earnings can impact our stock price.
 
Labor strikes or work stoppages by our employees could harm our business.
 
Currently, a significant number of our full-time distribution, production and maintenance employees are covered by collective bargaining agreements. A dispute with a union or employees represented by a union could result in production interruptions caused by work stoppages. If a strike or work stoppage were to occur, our results of operations could be adversely affected.
 
Impairment in the carrying value of goodwill or other intangibles could negatively impact the Company’s net worth.
 
The carrying value of goodwill represents the fair value of acquired businesses in excess of identifiable assets and liabilities as of the acquisition date. The carrying value of other intangibles represents the fair value of trademarks, trade names, and other acquired intangibles. Goodwill and other acquired intangibles expected to contribute indefinitely to cash flows of the Company are not amortized, but must be evaluated by management at least annually for impairment. Impairments to goodwill may be caused by factors outside our control, such as the inability to quickly replace lost co-manufacturing business, increasing competitive pricing pressures, or the bankruptcy of a significant customer and could negatively impact the Company’s net worth.
 
Product liability or recalls could result in significant and unexpected costs to the Company.
 
The Company may need to recall some or all of its products if they become adulterated or misbranded. This could result in destruction of product inventory, negative publicity, temporary plant closings, and substantial costs of compliance or remediation. Any of these events, including a significant product liability judgment against us could result in a loss of confidence in our food products. This could have an adverse affect on our financial condition, results of operations or cash flows.
 
New laws or regulations could adversely affect our business.
 
Food production and marketing are highly regulated by a variety of federal, state, local and foreign agencies. Changes in laws or regulations that impose additional regulatory requirements on us could increase our costs of doing business or restrict our actions, causing our results of operations to be adversely affected. In addition, as we advertise our products, we could be the target of claims relating to false or deceptive advertising under federal, state and foreign laws and regulations.
 
The bankruptcy or insolvency of a significant customer could negatively impact profits.
 
Over the past five years we have had several customers file bankruptcy. As a result, the accounts receivable related to sales to these customers were not recovered. If the Company’s bad debt reserve is inadequate to cover the amounts owed by bankrupt customers, the Company may have to write off the amount of the receivable to the extent the receivable is greater than our bad debt reserve. In the event a bankrupt customer is not able to emerge from bankruptcy or the Company is not able to replace sales lost from such customer, our profits could be negatively impacted.
 
The Company may experience losses or be subject to increased funding and expenses to its pension plan which could negatively impact profits.
 
The Company maintains a defined benefit plan. Although the Company has frozen benefits under the plan for all administrative employees and many production employees, the Company remains obligated to ensure that the plan is funded in accordance with applicable regulations. The plan remains under funded pursuant to FAS 87 guidelines. In the event the stock market deteriorates, the funds in which the Company has invested do not perform according to expectations, or the under funded nature of the plan worsens the Company may be required to make significant cash contributions to the pension plan and recognize increased expense within its financial statements.
 
12

PROPERTIES
 
Our principal properties are our manufacturing locations. Shown below are our principal owned and leased properties. We also lease our principal executive offices and research and development facilities in St. Louis, Missouri. Management believes its facilities are suitable and adequate for the purposes for which they are used and are adequately maintained. We believe each segment’s combination of facilities provides adequate capacity for current and anticipated future customer demand.
 
   
Size
  
Owned/
  
Production
    
Plant Locations
  
(Sq. Ft.)
  
Leased
  
Lines
  
Products
                 
Cereals, Crackers & Cookies
                
Battle Creek, MI
  
477,000
 
Owned
  
7
  
Ready-to-eat cereal
Cedar Rapids, IA
  
150,000
 
Owned
  
5
  
Hot cereal
Lancaster, OH
  
479,000
 
Owned
  
11
  
Ready-to-eat cereal
Sparks, NV
  
243,000
 
Owned
  
7
  
Ready-to-eat cereal
Newport, AR
  
252,000
 
Owned
  
9
  
Corn-based snacks
Princeton, KY
  
700,000
 
Owned
  
6
  
Crackers, cookies and ready-to-eat cereal
Poteau, OK
  
250,000
 
Owned
  
5
  
Crackers and cookies
Minneapolis, MN
  
40,000
 
Owned
  
3
  
Crackers
Tonawanda, NY
  
95,000
 
Owned
  
3
  
Cookies
Ripon, WI (two plants)
  
350,000
  
Owned
  
11
  
Cookies
South Beloit, IL
  
83,500
 
Owned
  
3
  
Cookies
                 
Snack Nuts & Candy
                
Billerica, MA
  
80,000
 
Owned
  
8
  
Snack nuts
Dothan, AL
  
135,000
 
Leased
  
13
  
Snack nuts
Womelsdorf, PA
  
100,000
 
Owned
  
5
  
Candy
                 
Dressings, Syrups, Jellies & Sauces
                
Buckner, KY
  
269,250
 
Owned
  
6
  
Syrups, jellies, salsas and sauces
Dunkirk, NY
  
306,000
 
Owned
  
6
  
Dressings, syrups and sauces
Fredonia, NY
  
367,000
 
Owned
  
10
  
Dressings, syrups, jellies, sauces, salsas, peanut butter and drink mixes
Streator, IL
  
165,000
 
Owned
  
1
  
Peanut butter
                 
Frozen Bakery Products
                
Blue Island, IL
  
300,000
  
Owned
  
1
  
Cookies
Chicago, IL
  
72,000
 
Owned
  
1
  
Muffins and pound cakes
Fridley, MN
  
147,000
 
Owned
  
5
  
Breads, rolls and frozen cookie dough
Grand Rapids, MI
  
75,000
 
Leased
  
4
  
Breads and rolls
Kent, WA
  
82,000
 
Owned
  
8
  
Pancakes, waffles, French toast and custom griddle items
Lodi, CA
  
345,000
 
Leased
  
13
  
Breads, frozen dough, cakes and cookies
Louisville, KY
  
205,000
 
Owned
  
5
  
Biscuits and pancakes
Louisville, KY
  
130,000
 
Leased
  
3
  
Dry mixes and pancakes
Ogden, UT
  
325,000
 
Leased
  
9
  
Cookies
Brantford, ON, Canada
  
140,000
  
Owned
  
4
  
Pancakes and waffles
Delta, BC, Canada
  
65,000
 
Leased
  
4
  
Pancakes and waffles

 
LEGAL PROCEEDINGS
 
We are a party to a number of legal proceedings in various state and federal jurisdictions. These proceedings are in varying stages and many may proceed for protracted periods of time. Some proceedings involve complex questions of fact and law. Additionally, our operations, like those of similar businesses, are subject to various federal, state, and local laws and regulations intended to protect public health and the environment, including air and water quality and waste handling and disposal.
 
Pending legal liability, if any, from these proceedings cannot be determined with certainty; however, in the opinion of management, based upon the information presently known, the ultimate liability of the Company, if any, arising from the pending legal proceedings, as well as from asserted legal claims and known potential legal claims which are likely to be asserted, taking into account established accruals for estimated liabilities (if any), are not expected to be material to our consolidated financial position, results of operations or cash flows. In addition, while it is difficult to quantify with certainty the potential financial impact of actions regarding expenditures for compliance with regulatory matters, in the opinion of management, based upon the information currently available, the ultimate liability arising from such compliance matters should not be material to the Company’s consolidated financial position, results of operations or cash flows.
 
Additionally, we retained certain potential liabilities associated with divested businesses (former branded cereal business and ski resort business). Presently, management believes that, taking into account applicable liability caps, sharing arrangements with acquiring entities and the known facts and circumstances regarding the retained liabilities, potential liabilities of the divested businesses should not be material to the Company’s consolidated financial position, results of operations or cash flows.
 
 
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 
There were no matters submitted to the security holders during the fourth quarter of fiscal year 2006.
 
 
EXECUTIVE OFFICERS OF THE REGISTRANT
 
Kevin J. Hunt
55
  
Co-Chief Executive Officer and President of the Company since September 2003; Chief Executive Officer of Bremner Food Group, Inc. and Nutcracker Brands, Inc. since November 2003. He served as Corporate Vice President of the Company from October 1995 to September 2003; President of Bremner from October 1995 to November 2003; and President of Nutcracker Brands from January 2003 to November 2003.
David P. Skarie
60
 
Co-Chief Executive Officer and President of the Company since September 2003; Chief Executive Officer, The Carriage House Companies, Inc. since September 2003 and Chief Executive Officer and President Ralston Foods since September 2003. He served as Corporate Vice President of the Company from March 1994 to September 2003; President of Nutcracker Brands, Inc. from April 2002 to January 2003; President of Ralston Foods from June 2000 to September 2003; and President of The Carriage House Companies, Inc. from October 2002 to November 2006.
Thomas G. Granneman
57
  
Corporate Vice President and Controller since January 1999.
Charles G. Huber, Jr.
42
  
Corporate Vice President, General Counsel and Secretary of the Company since October 2003. He served as Vice President and Assistant General Counsel from September 2001 to October 2003; and Assistant General Counsel from March 1994 to September 2001.
Richard R. Koulouris
50
  
Corporate Vice President, and President, The Carriage House Companies, Inc. since December 1, 2006. He served as Corporate Vice President, and President of Bremner, Inc. and Nutcracker Brands, Inc. from November 2003 to November 2006. He also served as Vice President of Operations, Bremner from September 1995 to November 2003.
 
14
 
Scott Monette
45
  
Corporate Vice President and Treasurer since September 2001. He joined Ralcorp in January 2001 as Vice President and Treasurer. Prior to joining Ralcorp, Mr. Monette was Chief Investment Officer/Benefit Plans for Hallmark Cards, Inc. from December 1998 to January 2001.
Richard G. Scalise
52
  
Corporate Vice President, and President of Frozen Bakery Products since July 2005. Prior to joining Ralcorp, Mr. Scalise was President/Chief Operating Officer of ConAgra’s Refrigerated Food Group from 2003 to 2005 and President/Chief Operating Officer of ConAgra’s Dairy Foods Group from 2000 to 2003.
Ronald D. Wilkinson
56
  
Corporate Vice President, and President Bremner Food Group, Inc. and Nutcracker Brands, Inc. since December 1, 2006. He also served as Director of Product Supply of Ralston Foods from October 1996 to November 2006 and of The Carriage House Companies, Inc. from January 2003 to November 2006. He has held the Corporate Vice President position since October 1996.
(Ages are as of December 31, 2006.)
 
 
PART II
 

MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
 
The Company’s common stock is traded on the New York Stock Exchange under the symbol “RAH”. There were 9,494 shareholders of record on December 1, 2006. The Company paid a special dividend of $1.00 per share on October 22, 2004, but has no plans to pay cash dividends in the foreseeable future. The range of high and low sale prices of Ralcorp common stock as reported on the NYSE Composite Tape is set forth in Note 20 to the financial statements filed as a part of this document under Item 8.
 
Issuer Purchases of Equity Securities
Period
  
(a)
Total Number of Shares Purchased
  
(b)
Average Price Paid per Share
  
(c)
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
  
(d)
Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs*
  
July 1 -
July 31, 2006
    
0
 
$
0
    
0
   
See total
  
August 1 -
August 31, 2006
    
0
   
0
   
0
   
See total
  
September 1 -
September 30, 2006
    
0
   
0
   
0
   
See total
  
                       
 
  
Total
    
0
 
$
0
    
0
   
2,000,000
 
 
*On May 25, 2006, the Board of Directors authorized the repurchase of up to 2,000,000 shares of common stock at prevailing market prices. The authorization has no expiration date. From time to time, the Company may repurchase its common stock through plans established under Rule 10b5-1. Typically, these plans direct a broker to purchase a variable amount of shares each day (usually between 0 and 50,000) depending on the previous day's closing share price.
 
15
SELECTED FINANCIAL DATA
 
FIVE YEAR FINANCIAL SUMMARY
(In millions except per share data)
 
   
Year Ended September 30,
  
   
2006
  
2005
  
2004
  
2003
  
2002
  
Statement of Earnings Data
                      
Net sales (a)
  
$
1,850.2
  
$
1,675.1
  
$
1,558.4
  
$
1,303.6
  
$
1,280.3
  
Cost of products sold
    
(1,497.2
)
  
(1,339.1
)
  
(1,237.2
)
  
(1,045.6
)
  
(1,027.6
)
Gross profit
    
353.0
    
336.0
    
321.2
    
258.0
    
252.7
  
Selling, general and administrative expenses
    
(226.4
)
  
(215.1
)
  
(204.7
)
  
(171.3
)
  
(163.1
)
Interest expense, net
    
(28.1
)
  
(16.5
)
  
(13.1
)
  
(3.3
)
  
(5.9
)
Goodwill impairment loss (b)
    
-
    
-
    
-
    
(59.0
)
  
-
  
Loss on forward sale contracts (c)
    
(9.8
)
  
-
    
-
    
-
    
-
  
Gain on sale of securities (d)
    
2.6
    
-
    
-
    
-
    
-
  
Restructuring charges (e)
    
(.1
)
  
(2.7
)
  
(2.4
)
  
(14.3
)
  
-
  
Litigation settlement income (f)
    
-
    
1.8
    
.9
    
14.6
    
1.6
  
Earnings before income taxes and equity earnings
    
91.2
    
103.5
    
101.9
    
24.7
    
85.3
  
Income taxes
    
(29.9
)
  
(36.6
)
  
(37.2
)
  
(16.9
)
  
(30.7
)
Equity in earnings (loss) of Vail Resorts, Inc., net of related deferred income taxes (g)
    
7.0
    
4.5
    
.4
    
(.4
)
  
(.8
)
Net earnings
  
$
68.3
  
$
71.4
  
$
65.1
  
$
7.4
  
$
53.8
  
Earnings per share:
                                
Basic
  
$
2.46
  
$
2.41
  
$
2.22
  
$
0.25
  
$
1.79
  
Diluted
  
$
2.41
  
$
2.34
  
$
2.17
  
$
0.25
  
$
1.77
  
Weighted average shares outstanding:
                                
Basic
    
27.7
    
29.6
    
29.2
    
29.3
    
30.0
  
Diluted
    
28.2
    
30.4
    
29.9
    
29.7
    
30.4
  
                                 
Balance Sheet Data
                                
Cash and cash equivalents
  
$
19.1
  
$
6.2
  
$
23.7
  
$
29.0
  
$
3.2
  
Working capital (excl. cash and cash equivalents)
    
170.3
    
92.4
    
107.3
    
84.2
    
85.4
  
Total assets
    
1,507.5
    
1,269.5
    
1,221.6
    
794.3
    
832.5
  
Long-term debt
    
552.6
    
422.0
    
425.7
    
155.9
    
179.0
  
Shareholders' equity
    
476.4
    
518.3
    
444.2
    
412.7
    
436.1
  
                                 
Other Data
                                
Cash provided (used) by:
                                
Operating activities
  
$
52.8
  
$
161.0
  
$
78.7
  
$
101.0
  
$
97.4
  
Investing activities
    
(162.2
)
  
(156.3
)
  
(365.5
)
  
(30.7
)
  
(69.0
)
Financing activities
    
122.3
    
(22.2
)
  
281.5
    
(44.5
)
  
(29.1
)
Depreciation and amortization
    
66.8
    
55.8
    
47.5
    
38.7
    
35.8
  
Dividends declared per share
  
$
-
  
$
-
  
$
1.00
  
$
-
  
$
-
  
 
(a)
In 2006, Ralcorp acquired Western Waffles Ltd. and Parco Foods L.L.C. In 2005, Ralcorp acquired Medallion Foods, Inc. In 2004, Ralcorp acquired Value Added Bakery Holding Company (Bakery Chef) and Concept 2 Bakers. In 2002, Ralcorp acquired Lofthouse Foods Incorporated. For more information about the 2006, 2005, and 2004 acquisitions, see Note 2 to the financial statements in Item 8.
(b)
In 2003, a non-cash goodwill impairment loss related to the Carriage House reporting unit was recorded in accordance withFAS 142.
(c)
For information about the loss on forward sale contracts, see Note 7 to the financial statements in Item 8.
(d)
On March 21, 2006, the Company sold 100,000 of its shares of Vail Resorts for a total of $3.8. The shares had a carrying value of $1.2, so the transaction resulted in a $2.6 gain.
(e)
For information about the 2006, 2005, and 2004 restructuring charges, see Note 3 to the financial statements in Item 8. In 2003, charges were due to the reduction of operations in Streator, IL, the sale of the ketchup and tomato paste businesses, and the relocation of in-store bakery production.
(f)
The Company received payments in settlement of legal claims, primarily related to antitrust litigation, which are shown net of related expenses.
(g)
In 2003 and 2002, Ralcorp adjusted its equity earnings to reflect the cumulative effect of earnings restatements made by Vail Resorts, Inc.


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
The following discussion summarizes the significant factors affecting the consolidated operating results, financial condition, liquidity and capital resources of Ralcorp Holdings, Inc. This discussion should be read in conjunction with the financial statements under Item 8, especially Note 18, and the “Cautionary Statement on Forward-Looking Statements” on page 2. The terms “we,” “our,” “Company,” and “Ralcorp” as used herein refer to Ralcorp Holdings, Inc. and its consolidated subsidiaries.
 
RECENTLY ISSUED ACCOUNTING STANDARDS
 
See Note 1 for a discussion regarding the recently issued accounting standards, including Statement of Financial Accounting Standards (FAS) No. 123 (revised), FASB Interpretation No. 48, FAS 157, FAS 158, and Staff Accounting Bulletin No. 108.
 

RESULTS OF OPERATIONS
 
Consolidated
 
Fiscal 2006 was another challenging year as we faced intense cost pressures across all reporting segments: Cereals, Crackers & Cookies; Frozen Bakery Products; Dressings, Syrups, Jellies & Sauces; and Snack Nuts & Candy. We continue to benefit from our acquisition strategy while experiencing organic growth in many categories. While our net sales increased, our reported net earnings decreased as a result of the effects of a non-cash loss on our forward sale contracts. The following table summarizes key data (in millions of dollars, except for percentage data as indicated) for the past three years that we believe is important for you to note as you read the consolidated results analysis discussions below. In addition, please refer to Note 18 for data regarding net sales and profit contribution by segment.

   
2006
  
2005
  
2004
  
Net earnings
    
68.3
   
71.4
   
65.1
 
Net sales
    
1,850.2
   
1,675.1
   
1,558.4
 
Cost of products sold as a percentage of net sales
    
80.9
%
  
79.9
%
  
79.4
%
SG&A as a percentage of net sales
    
12.2
%
  
12.8
%
  
13.1
%
Interest expense
    
28.1
   
16.5
   
13.1
 
Loss on forward sale contracts
    
9.8
   
-
   
-
 
Gain on sale of securities
    
2.6
   
-
   
-
 
Restructuring charges
    
.1
   
2.7
   
2.4
 
Litigation settlement income
    
-
   
1.8
   
.9
 
Effective income tax rate
    
32.8
%
  
35.4
%
  
36.5
%
Equity in earnings of Vail Resorts, Inc.
    
10.8
   
6.9
   
.6
 

 
Net Earnings Earnings have been positively impacted by business acquisitions, organic growth, and improved earnings from our investment in Vail Resorts, Inc., but negatively impacted by cost increases and the loss on our Vail forward sale contracts. More detailed discussion and analysis of these and other factors follows.
 
Net Sales Most of the increases in net sales is attributable to the timing of business acquisitions. The table below shows the approximate amount of sales derived from recent acquisitions.
 
Business Acquired
  
Reporting Segment
  
Acquisition Date
  
2006
  
2005
  
2004
  
Parco Foods
    
Frozen Bakery Products
    
February 7, 2006
  
$
25
  
$
-
  
$
-
  
Western Waffles
    
Frozen Bakery Products
    
November 15, 2005
    
67
   
-
   
-
 
Medallion Foods
    
Cereal, Crackers & Cookies
    
June 22, 2005
    
51
   
13
   
-
 
Concept 2 Bakers
    
Frozen Bakery Products
    
February 24, 2004
    
49
   
43
   
22
 
Bakery Chef
    
Frozen Bakery Products
    
December 3, 2003
    
204
   
185
   
149
 
 
Excluding sales from the fiscal 2004 and 2005 acquisitions, our net sales grew by 3% from 2004 to 2005, and excluding sales from the fiscal 2005 and 2006 acquisitions, our net sales grew by 3% from 2005 to 2006. Though there were volume gains in several product lines, they were largely offset by declines in others, so most of this net sales growth is attributable to improved selling prices. We further describe these and other factors affecting net sales in the segment discussions below.
 
17

Operating Expenses Cost of products sold as a percentage of net sales has been increasing as costs of raw materials (ingredients and packaging), freight (outbound rates and fuel surcharges), and energy (primarily natural gas and electricity) rapidly increased, partially offset by the effects of related (but delayed) selling price increases. The following table shows the estimated year-over-year gross impacts (in millions) of the higher per unit costs (or rates) of these cost components by reportable segment.
 
   
2006 vs 2005
  
2005 vs 2004
  
   
Raw
  
Outbound
      
Raw
  
Outbound
      
   
Materials
  
Freight
  
Energy
  
Materials
  
Freight
  
Energy
  
Cereals, Crackers & Cookies
  
$
5.6
  
$
4.9
  
$
6.0
  
$
5.7
  
$
11.2
  
$
1.5
  
Frozen Bakery Products
    
5.3
   
1.8
   
.7
   
(2.5
)
  
1.9
   
.5
 
Dressings, Syrups, Jellies & Sauces
    
9.1
   
3.8
   
1.8
   
7.4
   
4.4
   
.5
 
Snack Nuts & Candy
    
5.0
   
.5
   
.4
   
15.7
   
.8
   
.3
 
   
$
25.0
  
$
11.0
  
$
8.9
  
$
26.3
  
$
18.3
  
$
2.8
  
 
Through our continuing cost containment efforts, cost reduction efforts in response to the rising costs noted above, and synergies from integrating functions among our businesses, we have reduced our selling, general, and administrative (SG&A) percentage. SG&A was also impacted by expenses associated with the implementation of large-scale information systems upgrades and conversions and other unallocated corporate expenses. The systems conversion costs consisted of both project costs (amounting to $3.4 million in 2006, $7.0 million in 2005, and $5.5 million in 2004) and unallocated systems maintenance costs and amortization. Our policy is to charge divisions, including the corporate headquarters, costs of centralized systems based on usage. During periods of transition, when more than one system is being utilized by the Company, this approach results in unallocated amounts representing the duplication of costs. These excess transitional amounts are reported as unallocated corporate expenses within SG&A. In fiscal 2006, SG&A also included approximately $4.7 million of additional stock-based compensation expense due to the adoption of FAS 123(R).
 
Again, refer to the segment discussions below for other factors affecting cost of products sold and SG&A expenses. In addition, refer to our policy regarding cost of products sold in Note 1 because our gross profit percentages may not be comparable to those of other companies who report cost of products sold on a different basis.
 
Interest Expense, Net Net interest expense has increased primarily as a result of changing debt levels and interest rates, but in fiscal 2006, it also includes $3.7 million of discount amortization related to our Vail forward sale contracts. Long-term debt rose from $155.9 million at the beginning of fiscal 2004 to $552.4 million at the end of fiscal 2006. The weighted average interest rate on all of the Company’s outstanding debt was 4.8% in 2006, 4.5% in 2005, and 3.5% in 2004. For more information about our long-term debt, see Note 14. For more information about the Vail forward sale contracts, see “Loss on Forward Sale Contracts” and “LIQUIDITY AND CAPITAL RESOURCES” below, as well as Note 7. Refer to Note 11 for information about our agreement to sell our trade accounts receivable on an ongoing basis, including amounts of related discounts reported in SG&A.
 
Loss on Forward Sale Contracts Net earnings were affected by non-cash gains and losses on forward sale contracts, executed November 22, 2005 and April 19, 2006, related to a total of 3,750,100 of our shares of Vail Resorts, Inc. The contracts include a collar on the Vail stock price and the prepayment of proceeds at a discount (whereby Ralcorp received a total of $110.5 million). Because Ralcorp accounts for its investment in Vail Resorts using the equity method, these contracts, which are intended to hedge the future sale of those shares, are not eligible for hedge accounting. Therefore, gains or losses on the contracts are immediately recognized in earnings. For more information on these contracts, see “LIQUIDITY AND CAPITAL RESOURCES” below, as well as Note 7.
 
Gain on Sale of Securities On March 21, 2006, we sold 100,000 of our shares of Vail Resorts for a total of $3.8 million. The shares had a carrying value of $1.2 million, so the transaction resulted in a $2.6 million gain.
 
Restructuring Charges In fiscal 2005, we closed our leased plant in City of Industry, CA, and transferred much of the production to other facilities within the Dressings, Syrups, Jellies & Sauces segment. This project, which included termination benefits and other charges totaling $1.2 million, resulted in estimated annual savings (net of certain increased costs and lost sales) of approximately $1.0 million beginning in fiscal 2006. Fiscal 2006 included a small amount of additional costs related to this project.
 
18

In 2004, the Company closed its plant in Kansas City, KS, and moved production to other facilities within the Dressings, Syrups, Jellies & Sauces segment. Related restructuring charges included termination benefits, a loss from the write-down of property value, and other charges totaling $1.0 million in 2005 and $.6 million in 2004. Annual cost savings from this project (net of certain increased costs and lost sales) are estimated to be $1.2 million.
 
In the second quarter of fiscal 2003, we announced our plans to close our in-store bakery (ISB) facility in Kent, WA, and began transferring production from that facility and two other ISB facilities to a new ISB plant located in Utah. This project was substantially completed in fiscal 2004 and resulted in estimated annual cost savings of $3.0 to $3.6 million. Restructuring charges for this project totaled $.5 million in fiscal 2005, $1.8 million in 2004, and $2.9 million in 2003, including operating lease termination costs, costs related to the removal and relocation of equipment, equipment write-offs, and employee termination benefits.
 
For more information regarding these restructuring charges, see Note 3.
 
Litigation Settlement Income We received payments in fiscal 2005 and 2004 in settlement of certain claims related to antitrust litigation.
 
Income Taxes The 2006 effective tax rate was reduced by the new “Domestic Production Activities Deduction” (approximately 1%), the effect of approximately $1.2 million related to favorable resolutions of uncertain tax positions, and favorable Canadian tax benefits related to the Western Waffles entities. The 2005 effective rate was reduced by the effect of approximately $1.2 million related to favorable resolutions of uncertain tax positions. The effective rate was also affected by changes in our business mix which affect state tax provisions. See Note 5 for more information about income taxes.
 
Equity in Earnings of Vail Resorts, Inc. As noted previously, earnings from our investment in Vail Resorts (NYSE ticker: MTN) improved over the past three years. See Note 6 for more information about this equity investment.
 
Cereals, Crackers & Cookies
 
Because the Cereals, Crackers & Cookies segment consists of two of our divisions, we will discuss the year-over-year comparisons separately for fiscal 2006 versus 2005 and fiscal 2005 versus 2004 to improve readability. Volume changes are summarized in the following table (note that co-manufacturing was approximately 5% and 7% of total 2006 sales volume for Ralston Foods and Bremner, respectively):
 
   
Sales Volume Change
  
   
from Prior Year
  
   
2006
  
2005
  
Ralston Foods (excl. Medallion)
          
Ready-to-eat (RTE) cereal
    
1
%
  
12
%
Hot cereal
    
0
%
  
1
%
Co-manufacturing
    
28
%
  
-46
%
Other minor categories
    
3
%
  
11
%
Total
    
2
%
  
6
%
               
Bremner
              
Crackers
    
-3
%
  
1
%
Cookies
    
-5
%
  
11
%
Co-manufacturing
    
-20
%
  
-15
%
Total
    
-6
%
  
3
%
 
Fiscal 2006 vs. Fiscal 2005
 
For the year ended September 30, 2006, net sales for the Cereals, Crackers & Cookies segment were up 8% from fiscal 2005, as Ralston Foods grew $62.5 million and Bremner declined $2.1 million. Ralston Foods benefited from a full year of results from Medallion (as shown on page 17), but also had strong cereal business growth (about 6%), primarily as a result of higher average selling prices. The volume declines at Bremner were largely offset by the effects of price increases and improved product mix.
 
19

The segment’s profit contribution improved 12% to $77.6 million. The extra nine months of results from Medallion added approximately $4.4 million (net of $1.9 million of intangible asset amortization in those nine months), while the positive impact of higher net sales in the base business was partially offset by the negative effects of higher energy, raw materials, and freight costs (as shown on page 18). Specific commodities with higher costs included oats, rice, sugar, wheat, tree nuts, and raisins. Approximately $3.0 million of the improvement in segment profit contribution was the result of a change in the allocations of certain shared management costs between the Bremner division and the Snack Nuts & Candy segment to better reflect the proportion of benefits received by each division.
 
Fiscal 2005 vs. Fiscal 2004
 
For the year ended September 30, 2005, net sales for the Cereals, Crackers & Cookies segment were up 8% from fiscal 2004, with Ralston Foods and Bremner contributing increases of $41.2 million and $13.8 million, respectively. Excluding the incremental net sales from Medallion, Ralston Foods increase was driven by continued expansion with existing customers and the effect of a change in product mix. Note that ready-to-eat cereal sales volume was up 12% for the year in an overall category that continues to show minimal growth. Bremner’s net sales growth is attributable to both the increased volume and improved pricing on some products. Bremner comparisons were helped by incremental sales to former customers of Bake-Line Group, LLC, which ceased operations during the second quarter of fiscal 2004.
 
The segment’s profit contribution improved 1% for the year to $69.1 million. Medallion contributed approximately $1.7 million (net of $.6 million of amortization of acquired intangible assets), while the existing businesses contributed less than last year as a result of higher costs of freight, raw materials, and energy (as shown on page 18), as well as $3.2 million of increased warehousing costs. The decline in sales under co-manufacturing agreements reduced segment profit by approximately $8.7 million.
 
Frozen Bakery Products
 
Net sales of the Frozen Bakery Products segment have grown from $276.5 million in 2004 to $334.8 million in 2005 and $442.8 million in 2006, largely as a result of acquisitions (as shown on page 17). Most of the segment’s $16 million base business growth was the result of a strong 7% increase in the foodservice channel. The base retail channel was up nearly $5 million (32%) while base ISB was down about $2 million (2%) for the year. The foodservice and retail growth was a result of both higher volumes and slightly improved pricing. The ISB decline was due to a drop in cookie sales, partially offset by higher bread sales. The 2005 base business increase from 2004 was primarily driven by stronger foodservice and ISB sales volume partially offset by lower retail griddle products volume, and small improvements in foodservice pricing.
 
The segment’s profit contribution was $38.4 million, $49.3 million, and $50.6 million in fiscal 2004, 2005, and 2006, respectively. Again, most of this improvement was due to the timing of acquisitions, which added approximately $7 million during the extra months of Bakery Chef and C2B results in 2005 and approximately $3.7 million in 2006 due to Western Waffles and Parco. Excluding the acquisition effects, the segment’s 2006 profit contribution was $2.4 million lower than in 2005 as the effects of strong sales growth were more than offset by the higher costs of raw materials, freight, and energy (as shown on page 18). In addition, Frozen Bakery Products incurred about $1.2 million of expenses in fiscal 2006 related to the start-up of a new production line, which improved the flexibility of our operations. In fiscal 2005, base business profit benefited from favorable volume, lower ingredient costs, improved manufacturing efficiencies (particularly due to the ISB plant consolidation), and pricing. Those benefits were partially offset by higher freight costs, about $1.1 million of incentive compensation (not paid in 2004), and $.6 million of additional intangible asset amortization expense compared to fiscal 2004.
 
Dressings, Syrups, Jellies & Sauces
 
Our Dressings, Syrups, Jellies & Sauces segment’s net sales have remained flat over the last three years as improved pricing offset volume declines as follows:
 
   
Sales Volume Change
  
   
from Prior Year
  
   
2006
  
2005
  
Table syrups
    
-2
%
  
-3
%
Preserves & jellies
    
0
%
  
4
%
Spoonable & pourable dressings
    
-10
%
  
-11
%
Peanut butter
    
2
%
  
4
%
Other minor categories
    
-3
%
  
3
%
Total
    
-3
%
  
-1
%
 
20

For fiscal 2006, the decrease in volume was due in part to the effects of the City of Industry plant closure at the end of fiscal 2005, industry softness in most Carriage House product categories, and the loss of certain product lines with a few customers in competitive bids.
 
The segment’s profit contribution was also flat over the last three years, despite significant increases in the costs of raw materials (especially petroleum-based plastic packaging), freight, and energy (as shown on page 18). In fiscal 2006, the higher costs were largely offset by improved selling prices, approximately $2.5 million of net cost savings from the closure of the City of Industry plant, and a $1.6 million property tax refund. In fiscal 2005, the segment benefited from lower workers’ compensation expense ($3.7 million), overhead savings from the Kansas City plant closure ($2.4 million), reduced expenses incurred to determine and implement cost savings initiatives (more than $2.3 million), lower broker commission expenses ($1.0 million), and the continued benefits of cost reduction projects that have improved the segment’s SG&A cost structure.
 
Snack Nuts & Candy
 
Net sales for the Snack Nuts & Candy segment increased 3% in fiscal 2006 and 1% in fiscal 2005. In 2006, the growth was the result of both increased volume (primarily attributable to a new retail customer) and higher prices. In 2005, the decrease in volume was more than offset by improved pricing on several items, which had lagged commodity cost increases in the previous year. Volume changes were as follows:
 
   
Sales Volume Change
  
   
from Prior Year
  
   
2006
  
2005
  
Nuts
    
1
%
  
-11
%
Candy
    
-1
%
  
7
%
Other minor categories
    
47
%
  
94
%
Total
    
2
%
  
-8
%
 
Fiscal 2006 profit contribution decreased $4.7 million, or about 21%, as a result of unfavorable costs of raw materials (primarily almonds and other tree nuts), freight, and energy (as shown on page 18). In addition, larger allocations from centralized cost centers (at both corporate and Bremner) resulted in nearly $4 million higher costs in this segment in 2006 as a result of increased charges related to information systems and revised cross-charges for other shared functions to better reflect the proportion of benefits received. The 2005 profit contribution for the segment increased $1.7 million from 2004, as the benefits of improved pricing were largely offset by higher costs of raw materials (primarily almonds, pecans, and cashews), freight, and energy.
 

LIQUIDITY AND CAPITAL RESOURCES
 
Historically, we have funded operating needs by generating positive cash flows through operations. We expect to continue generating operating cash flows through our mix of businesses and expect that short-term and long-term liquidity requirements will be met through a combination of operating cash flows and strategic use of borrowings under committed and uncommitted credit arrangements. Capital resources remained strong at September 30, 2006, with total shareholders’ equity of $476.4 million and a long-term debt to total capital (which is the total of long-term debt and total shareholders’ equity) ratio of 54 percent, compared to corresponding figures for September 30, 2005, of $518.3 million and 45 percent. Working capital, excluding cash and cash equivalents, increased to $170.3 million at September 30, 2006, from $92.4 million at September 30, 2005, primarily as a result of a $50.8 million increase in our investment in Ralcorp Receivables Corporation.
 
Operating Activities
 
Cash provided by operating activities was $52.8 million, $161.0 million, and $78.7 million in 2006, 2005, and 2004, respectively, affected most significantly by fluctuations in proceeds from our accounts receivable sale program. During fiscal 2006, 2005, and 2004, proceeds decreased $49.0 million, increased $49.0 million and decreased $34.2 million, respectively. This explains $83.2 million of the increase in cash from operating activities from 2004 to 2005 and $98 million of the decrease from 2005 to 2006. See “Off-Balance Sheet Financing” below for more information about the sale of receivables. In 2006 and 2005, operating cash flows were reduced by contributions to our qualified pension plan of $25 million and $10 million, respectively. We do not expect to be required to make any significant contributions to this plan in fiscal 2007, but we expect to consider making a small (less than $10 million) voluntary contribution in September. See Note 16 for more information about pension plans, including the funded status. Remaining changes are due to fluctuations in other components of working capital.
 
21

Investing Activities
 
Net cash paid for business acquisitions totaled $110.1 million in fiscal 2006 (Western Waffles and Parco), $100.0 million in fiscal 2005 (Medallion), and $313.1 million in fiscal 2004 (Bakery Chef and C2B). See Note 2 for more information about these acquisitions. On November 10, 2006, we purchased Cottage Bakery, Inc. for approximately $173 million (see Note 21 - Subsequent Event).
 
Capital expenditures were $58.1 million, $56.9 million, and $53.8 million in fiscal years 2006, 2005, and 2004, respectively. Expenditures in these three years were unusually high due to information systems projects and special projects at the recently acquired businesses. Capital expenditures for fiscal 2007 are expected to be approximately $45 to $50 million. As discussed below, we have adequate capacity under current borrowing arrangements to meet these cash needs.
 
Financing Activities
 
On December 22, 2003, we issued Fixed Rate Senior Notes, Series B, Series C, and Series D, totaling $270 million. On November 22, 2004, $50.0 million of Floating Rate Senior Notes, Series A, was repaid with proceeds from the sale of accounts receivable. On December 21, 2005, we issued Fixed Rate Senior Notes, Series E and Series F, totaling $175 million, with $100 million due in 2015 and $75 million due in 2012. On December 27, 2005, we entered into a new $150 million revolving credit agreement, replacing the similar agreement established on October 15, 2004. Borrowings under the new agreement mature December 27, 2010. On February 22, 2006, we repaid the remaining $100.0 million outstanding under Floating Rate Senior Notes, Series A, with proceeds from the issuance of Floating Rate Senior Notes, Series G and Series H. The new notes incur interest at a rate of 3-month LIBOR plus 0.45% (compared to 3-month LIBOR plus 0.85% on Series A) and mature on February 22, 2011 (compared to May 22, 2010 for Series A). Total remaining availability under our $150 million revolving credit agreement and our $15 million of uncommitted credit arrangements was $163.2 million as of September 30, 2006.
 
We have amended all of our notes such that, if we elect to pay additional interest, our ratio of “Total Debt” to “Adjusted EBITDA” (each term as defined in the debt agreements) may exceed the 3.5 to 1.0 limit, but be no greater than 4.0 to 1.0, for a period not to exceed 12 consecutive months. As of September 30, 2006, the ratio of Total Debt to Adjusted EBITDA was 2.55 to 1.0, and we were also in compliance with all other debt covenants.
 
Supplementing our available borrowing capacity, under the agreement described under “Off-Balance Sheet Financing” below, we could choose to sell up to $66 million of ownership interests in accounts receivable, but no such interests were sold as of September 30, 2006. Further cash needs could be met through the sale of the Company’s investment in Vail Resorts, Inc. Based on the market price of Vail stock at November 30, 2006, and excluding the 4.95 million shares already under forward sale contracts (discussed in the following paragraph), we could realize approximately $71 million in cash through the sale of this investment, net of income taxes.
 
During the first quarter of fiscal 2006, we entered into a forward sale contract relating to 1.78 million shares of our Vail common stock and received $50.5 million under the discounted advance payment feature of the contract. In April 2006, we entered into a similar contract relating to another 1.97 million shares and received $60.0 million and in November 2006, we entered into a third contract relating to 1.2 million shares and received $29.5 million. These contracts operate as a hedge of the cash flows expected from the sale of Vail shares in the future. At the maturity dates in the contracts, we can deliver a variable number of shares of Vail stock to the counterparty or settle the contracts with cash. The number of shares (or amount of cash) to be delivered will depend upon the market price of Vail shares at the settlement dates. A summary of contract terms follows:
 
   
Maximum
  
Minimum
  
Floor
  
Cap
  
Maturity Date
  
Shares
  
Shares
  
Price
  
Price
  
November 2008
    
890,000
    
727,157
  
$
34.59
  
$
42.33
  
November 2009
    
985,050
    
783,028
    
38.34
    
48.23
  
November 2010
    
890,000
    
632,551
    
34.59
    
48.67
  
November 2011
    
985,050
    
681,695
    
38.34
    
55.40
  
November 2013
    
1,200,000
    
570,825
    
35.29
    
74.19
  
 
Because Ralcorp accounts for its investment in Vail Resorts using the equity method, we are currently precluded from using hedge accounting under FAS 133 for these contracts. Accordingly, we must report changes to the fair value of these contracts within our statement of earnings. These gains or losses have no impact on our cash flows. The fair value of the contracts is dependent on several variables including the market price of Vail stock, estimated future Vail stock price volatility, interest rates, and the time remaining to the contract maturity dates.
 
22

A stock repurchase program was initiated in August 2005, and we purchased a total of $10.3 million of Ralcorp stock (243,000 shares) in fiscal 2005. An additional 3,422,000 shares were purchased at prevailing market prices for a total cost of $134.9 million during fiscal year 2006. On May 25, 2006, the Board of Directors authorized the repurchase of up to 2,000,000 additional shares which was the amount available for repurchase as of September 30, 2006.
 
On September 24, 2004, our Board of Directors declared a special cash dividend of $1.00 per share, payable on October 22, 2004, to shareholders of record as of the close of business on October 8, 2004. The dividend payout totaled approximately $29.3 million.
 
Off-Balance Sheet Financing
 
As an additional source of liquidity, on September 24, 2001, Ralcorp entered into an agreement to sell, on an ongoing basis, all of its trade accounts receivable to a wholly owned, bankruptcy-remote subsidiary called Ralcorp Receivables Corporation (RRC). The accounts receivable of the Frozen Bakery Products segment and the recently acquired Medallion business have not been incorporated into the sale agreement and are not currently being sold to RRC. RRC can then sell up to $66.0 million of undivided percentage ownership interests in qualifying receivables to a bank commercial paper conduit (the Conduit). RRC’s only business activities relate to acquiring and selling interests in Ralcorp’s receivables. Upon the agreement’s termination, the Conduit would be entitled to all cash collections on RRC’s accounts receivable until its purchased interest has been repaid. Unless extended, the agreement will terminate in October 2007.
 
The trade receivables sale arrangement with RRC represents “off-balance sheet financing” since the sale results in assets being removed from our balance sheet rather than resulting in a liability to the Conduit. The organizational documents of RRC and the terms of the agreements governing the receivables sale transactions make RRC a qualifying special purpose entity. As such, it is not to be consolidated in Ralcorp’s financial statements under generally accepted accounting principles. Furthermore, the “true sale” nature of the arrangement requires Ralcorp to account for RRC’s transactions with the Conduit as a sale of accounts receivable instead of reflecting the Conduit’s net investment as debt with a pledge of accounts receivable as collateral. If RRC were not a qualifying special purpose entity and if the arrangement were not considered a “true sale,” the outstanding balance of receivables would remain on Ralcorp’s balance sheet, proceeds received from the Conduit (none as of September 30, 2006) would be shown as short-term debt, and there would be no investment in RRC. See further discussion in Note 11.
 
Contractual Obligations
 
In the normal course of business, we enter into contracts and commitments which obligate us to make payments in the future. The table below sets forth our significant future obligations by time period as of September 30, 2006.

       
Less Than
  
1-3
  
3-5
  
More Than
  
   
Total
  
1 Year
  
Years
  
Years
  
5 Years
  
Long-term debt obligations (a)
  
$
703.8
  
$
56.8
  
$
126.8
  
$
222.8
  
$
297.4
  
Operating lease obligations (b)
    
49.5
   
8.4
   
14.1
   
10.6
   
16.4
 
Purchase obligations (c)
    
260.5
   
240.0
   
20.5
   
-
   
-
 
Deferred compensation obligations (d)
    
21.6
   
2.6
   
4.8
   
3.9
   
10.3
 
Total
  
$
1,035.4
  
$
307.8
  
$
166.2
  
$
237.3
  
$
324.1
  
 
(a)
Long-term debt obligations include principal payments, interest payments, and interest rate swap settlements based on interest rates at September 30, 2006. See Note 14 for details.
(b)
Operating lease obligations consist of minimum rental payments under noncancelable operating leases, as shown in Note 15.
(c)
Purchase obligations are legally binding agreements to purchase goods or services that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction.
(d)
Deferred compensation obligations have been allocated to time periods based on existing payment plans for terminated employees and the estimated timing of distributions to current employees based on age.
 
23

INFLATION

We recognize that inflationary pressures may have an adverse effect on the Company through higher asset replacement costs, related depreciation and higher material and energy costs. We try to minimize these effects through cost reductions and productivity improvements as well as price increases to maintain reasonable profit margins. It is our view that inflation has not had a significant impact on operations in the three years ended September 30, 2006.
 

CURRENCY
 
Until the acquisition of Western Waffles in November 2005, all of our sales and costs were denominated in U.S. dollars. Western Waffles sells approximately 80% of its products (representing approximately $60 million USD), to customers in the U.S., but its raw materials and labor are purchased in Canadian dollars. Consequently, Western Waffles’ profits can be impacted by fluctuations in the value of Canadian dollars relative to U.S. dollars. When practical, we use various types of currency hedges to reduce the economic impact of currency fluctuations.
 

OUTLOOK
 
Our strategy is to continue to grow the Company by capitalizing on the opportunities in the private label, value brand, and foodservice arenas. In the past few years, we have taken substantial steps to reshape the Company, reducing our reliance on any one business segment while achieving sufficient scale in the categories in which we operate. We expect to continue to improve our business mix through volume and profit growth of existing businesses, as well as through acquisitions or strategic alliances. We will continue to explore those acquisition opportunities that strategically fit with our intention to be the premier provider of value-oriented food products, such as the recent acquisition of Cottage Bakery, Inc. The following paragraphs discuss significant trends that we believe will impact our results across all segments.
 
Results of operations for the first half of fiscal 2006 were negatively impacted by cost increases (especially fuel, transportation and energy) across all business segments. These cost increases were largely mitigated in the second half of fiscal 2006 due to a combination of reducing costs, and, where justified, increasing prices. Based upon preliminary results of operations for the first two months of fiscal 2007, we expect total segment operating profit contribution for the first quarter to exceed depressed prior year results by approximately 35% to 45%. However, comparisons will become increasingly difficult throughout the rest of the year because results improved later in fiscal 2006 and because certain costs are expected to rise later in fiscal 2007.
 
The Company purchases significant quantities of certain ingredients (e.g., wheat flour, soybean oil, corn syrup and sweeteners, peanuts and various tree nuts, other grain products, cocoa, fruits), packaging materials (e.g., resin, glass, paper products), energy (e.g., natural gas), and transportation services. Recently, the market costs of some of these items, notably wheat and corn products (as well as other grain products), have increased significantly. To offset the impact of these significant cost increases and maintain adequate profitability levels, the Company will need to take additional actions, including further cost reductions and pricing changes, where justified. To the extent mitigating efforts trail the impact of cost increases, results of operations will be negatively affected. We expect this trend to intensify and have a greater impact on the second half of fiscal 2007.
 
Ralston Foods, Bremner, and other divisions periodically enter into co-manufacturing agreements with manufacturers of branded products. Terms of these agreements vary but are generally relatively short periods of time (less than two years). Volumes produced under each of these agreements can fluctuate significantly based upon the product’s life cycle, product promotions, alternative production capacity and other factors, none of which are under our direct control.
 
Freight costs have been increasing over the past several years and are expected to remain at elevated levels in fiscal 2007, thereby putting continued pressure on profit margins. These cost increases are primarily the result of high fuel prices. Further, a shortage of available common carriers in some areas during certain months put additional upward pressure on freight rates as well as having a negative effect on our customer service and sales. In fiscal 2004, freight costs were approximately 7.3% of our cost of products sold; for fiscal 2005, the percentage rose to 8.5% and rose again to 9% in fiscal 2006. In addition, the cost of energy (e.g., natural gas) and certain petroleum-based packaging (e.g. resins, PET) have also increased significantly over this time period and remain volatile. The effects of rising costs on our past results of operations have been mitigated to some extent through hedging and forward purchase contracts, as well as volume and selling price increases. We expect that similar mitigation efforts and continued cost reduction efforts will reduce the impact of the anticipated increases; however, these efforts are not likely to fully offset these cost increases in a timely manner.
 
24

As a result of the American Jobs Creation Act of 2004, the Company received an additional “Domestic Production Activities Deduction” in fiscal 2006. The effect of this additional deduction was to reduce our federal tax rate by 1 percent in fiscal 2006, which will progress to a total reduction of 3 percent for fiscal 2011 and beyond, pending further tax law changes. The Company expects our fiscal 2007 annual blended state and federal effective tax rate on earnings before taxes and equity earnings to be between 33% and 35%. Our blended effective tax rate for fiscal 2006 was 32.8% and included the favorable resolution of certain uncertain tax positions as well as other matters.
 
The following sections contain discussions of the specific factors affecting the outlook for each of our reportable segments.
 
Cereals, Crackers & Cookies
 
The level of competition in the cereal and snack categories continues to be intense for our Ralston Foods division. Competition comes from branded box cereal manufacturers, branded bagged cereal producers and other private label cereal providers, as well as from alternative breakfast-food items and producers of corn and cereal-based snacks. For the last several years, category growth in ready-to-eat and hot cereals has been minimal or has declined, which has exacerbated its competitive nature. When branded competitors focus on price/promotion, the environment for private label producers becomes more challenging. We must maintain an effective price gap between our quality private label products and those of branded producers, thereby providing the best value alternative for the consumer.
 
Pricing and volume agreements with customers are generally determined by the customers’ periodic requests for competitive category reviews in each of our divisions. During the past twelve months, however, Ralston Foods pre-empted a number of these reviews by aggressively seeking price increases to aid in offsetting the aforementioned input cost increases. Ralston Foods does expect additional category reviews covering a significantly portion (35% - 45%) of its sales volume will occur in fiscal 2007. In this environment, it is imperative that volume gains substantially offset the inevitable pricing pressures.
 
Our cracker and cookie operation, Bremner, also conducts business in a highly competitive category and faces many of the same challenges. Major branded competitors continue to market and promote their offerings aggressively and many smaller, regional branded and private label manufacturers provide additional competitive pressures. Minimal growth in the cookie and cracker categories has intensified the competition. Bremner’s ability to maintain a sufficient price gap between products of branded producers and Bremner’s quality private label emulations will be important to its results of operations. In fiscal 2007, Bremner will continue to focus on cost containment, new products, and volume growth of existing products in order to improve operating results.
 
Frozen Bakery Products
 
As previously mentioned, the Frozen Bakery Products segment now consists of Ralcorp Frozen Bakery Products (formerly Bakery Chef), the ISB group, Western Waffles (acquired November 15, 2005), Parco Foods (acquired February 7, 2006), and the Cottage Bakery acquisition (effective November 10, 2006).
 
For Frozen Bakery Products to grow, we must provide high quality products, excellent customer service, superior product innovation, and competitive pricing to our customers. New product offerings, new foodservice and retail customers, and growth of existing customers will all be important to the future success of this segment.
 
During fiscal 2006, the ISB group’s frozen cookie business completed the consolidation of a majority of Parco Foods volume into the ISB plant in Ogden, UT and the closure of a waffles facility in Moncton, New Brunswick. The November 2006 addition of Cottage Bakery, a producer of par-baked frozen breads and dough, provides the segment with an expanded product line for sale in both the ISB and foodservice channels. In addition, the segment has expanded capacity in its frozen artisan bread business to further capitalize on the continued growth of this category.
 
The segment’s focus for fiscal 2007 is to capitalize on the coordination of its component businesses by offering an expanded product grouping to its combined customer base.
 
25

Dressings, Syrups, Jellies & Sauces
 
Carriage House continues to be pressured by the affects of the previously mentioned cost increases. As the cost environment warrants, we will seek price increases to help offset these rising costs. However, competitors, both large and small, continue to be very aggressive on pricing which may result in lower margins or volume losses or both.
 
To further mitigate the impact of the cost increases, the segment has undertaken ongoing process improvement and cost reduction projects. In light of the segment’s thin profit margins, ongoing cost reduction efforts, in concert with warranted pricing actions, are critical to maintaining segment profitability during periods of rising costs.
 
Snack Nuts & Candy
 
Snack nuts and candy continue to be very competitive categories. This segment of Ralcorp faces significant competition from branded manufacturers and, to a lesser extent, from private label and regional producers. We expect competition to intensify in the future as the snack nut category growth has slowed or declined.
 
The majority of the segment’s cost of products sold relates to commodities including peanuts, cashews, and tree nuts such as macadamias, pecans, and almonds. The costs of these commodities fluctuate, sometimes drastically, based upon worldwide supply and demand. These commodity fluctuations, when not accompanied by pricing changes due to competition, can result in short-term changes in the profitability of the segment. We currently have committed contracts for a large portion of our commodity needs for the first half of fiscal 2007. During that period, we expect our peanut costs to be unchanged and our cashew and other tree nut costs to be lower compared to the corresponding period of fiscal 2006. However, rapid declines in material costs have resulted in category reviews and some decreases in average pricing.
 
The segment will continue to focus on maintaining and expanding its customer base, developing new products, and maintaining product quality.
 

CRITICAL ACCOUNTING POLICIES AND ESTIMATES
 
The following discussion is presented pursuant to the United States Securities and Exchange Commission’s Financial Reporting Release No. 60, “Cautionary Advice Regarding Disclosure About Critical Accounting Policies.” The policies below are both important to the representation of the Company's financial condition and results and require management's most difficult, subjective or complex judgments.
 
Under generally accepted accounting principles in the United States, we make estimates and assumptions that impact the reported amounts of assets, liabilities, revenues, and expenses as well as the disclosure of contingent liabilities. We base estimates on past experience and on various other assumptions that are believed to be reasonable under the circumstances. Those estimates form the basis for making judgments about 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.
 
Revenue is recognized when title of goods is transferred to the customer, as specified by the shipping terms. Products are generally sold with no right of return except in the case of goods which do not meet product specifications or are damaged. We record estimated reductions to revenue for customer incentive offerings based upon each customer’s redemption history. Should a greater proportion of customers redeem incentives than estimated, additional reductions to revenue may be required.
 
Inventories are generally valued at the lower of average cost (determined on a first-in, first-out basis) or market value and have been reduced by an allowance for obsolete product and packaging materials. The estimated allowance is based on a review of inventories on hand compared to estimated future usage and sales. If market conditions and actual demands are less favorable than projected, additional inventory write-downs may be required.
 
We review long-lived assets, including leasehold improvements and property and equipment, for impairment whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable. Long-lived assets to be disposed of are reported at the lower of the carrying amount or fair value less the cost to sell.
 
Goodwill represents the excess of the cost of acquired businesses over the fair market value of their identifiable net assets. We conduct a goodwill impairment review during the fourth quarter of each fiscal year. The goodwill impairment tests require us to estimate the fair value of our businesses and certain assets and liabilities, for which we utilize valuation techniques such as EBITDA multiples and discounted cash flows based on projections. In our recent tests, we assumed EBITDA multiples of approximately 6 and discount rates of approximately 10.5%.
 
26

Pension assets and liabilities are determined on an actuarial basis and are affected by the estimated market-related value of plan assets; estimates of the expected return on plan assets, discount rates, and future salary increases; and other assumptions inherent in these valuations. We annually review the assumptions underlying the actuarial calculations and makes changes to these assumptions, based on current market conditions and historical trends, as necessary. Actual changes in the fair market value of plan assets and differences between the actual return on plan assets and the expected return on plan assets will affect the amount of pension expense or income ultimately recognized. The other postretirement benefits liability is also determined on an actuarial basis and is affected by assumptions including the discount rate and expected trends in healthcare costs. Changes in the discount rate and differences between actual and expected healthcare costs will affect the recorded amount of other postretirement benefits expense. For both pensions and postretirement benefit calculations, the assumed discount rate is determined by projecting the plans’ expected future benefit payments as defined for the projected benefit obligation or accumulated postretirement benefit obligation, discounting those expected payments using a theoretical zero-coupon spot yield curve derived from a universe of high-quality (rated Aa or better by Moody’s Investor Service) corporate bonds as of the measurement date, and solving for the single equivalent discount rate that results in the same present value. See Note 16 for more information about pension and other postretirement benefit assumptions.
 
Liabilities for workers’ compensation claims and accrued healthcare costs (including a reserve for claims incurred but not yet reported) are estimated based on details of current claims, historical experience, and expected trends determined on an actuarial basis.
 
We account for stock-based compensation in accordance with FAS 123(R), Share-Based Payment. Under the fair value recognition provisions of this statement, share-based compensation cost is measured at the grant date based on the value of the award and is recognized as expense over the vesting period for awards expected to vest. Determining the fair value of share-based awards at the grant date requires judgment, including estimating the expected term, expected stock price volatility, risk-free interest rate, and expected dividends. In addition, judgment is required in estimating the amount of share-based awards that are expected to be forfeited before vesting. The original estimate of the grant date fair value is not subsequently revised unless the awards are modified, but the estimate of expected forfeitures is revised throughout the vesting period and the cumulative stock-based compensation cost recognized is adjusted accordingly. See Note 18 for more information about stock-based compensation and our related estimates.
 
We estimate income tax expense based on taxes in each jurisdiction, including (effective November 15, 2005) Canada. We estimate current tax exposures together with temporary differences resulting from differing treatment of items for tax and financial reporting purposes. These temporary differences result in deferred tax assets and liabilities. We believe that sufficient income will be generated in the future to realize the benefit of most of our deferred tax assets. Where there is not sufficient evidence that such income is likely to be generated, we establish a valuation allowance against the related deferred tax assets. We are subject to periodic audits by governmental tax authorities of our income tax returns. These audits generally include questions regarding our tax filing positions, including the amount and timing of deductions and the allocation of income among various tax jurisdictions. We evaluate our exposures associated with our tax filing positions, including state and local taxes, and record reserves for estimated exposures. As of the end of fiscal 2006, three years (2004, 2005 and 2006) were subject to audit by the Internal Revenue Service.
 
 
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
Commodity Price Risk
 
In the ordinary course of business, the Company is exposed to commodity price risks relating to the acquisition of raw materials and fuels. Ralcorp utilizes derivative financial instruments, including futures contracts, options and swaps, to manage certain of these exposures when it is practical to do so. As of September 30, 2006, a hypothetical 10% adverse change in the market price of the Company’s principal hedged commodities, including linerboard, wheat, natural gas, and heating oil, would have decreased the fair value of the Company’s commodity-related derivatives portfolio by approximately $6.7 million. As of September 30, 2005, the Company had no material open derivative contracts, so market risk associated with its commodity-related derivatives portfolio was immaterial. This volatility analysis ignores changes in the exposures inherent in the underlying hedged transactions. Because the Company does not hold or trade derivatives for speculation or profit, all changes in derivative values are effectively offset by corresponding changes in the underlying exposures. For more information, see Note 1 and Note 13 to the financial statements included in Item 8.
 
27

Interest Rate Risk
 
The Company has interest rate risk related to its debt. Changes in interest rates impact fixed and variable rate debt differently. For fixed rate debt, a change in interest rates will only impact the fair value of the debt, whereas a change in the interest rates on variable rate debt will impact interest expense and cash flows. At September 30, 2006, Ralcorp’s financing arrangements included $445.0 million of fixed rate debt and $107.6 million of variable rate debt. However, in December 2004, $100 million of the variable rate debt was effectively fixed at 4.76% through December 2009 with an interest rate swap contract.
 
As of September 30, 2006 and 2005, the fair value of the Company’s fixed rate debt was approximately equal to its carrying value, based on the discounted amount of future cash flows using Ralcorp’s incremental rate of borrowing for similar debt. A hypothetical 10% decrease in interest rates would increase the fair value of the fixed rate debt by approximately $10.8 million.
 
With respect to variable rate debt, including the effect of the swap in fiscal 2005, a hypothetical 10% change in interest rates would not have had a material impact on the Company’s reported net earnings or cash flows in fiscal 2006 or 2005.
 
The fair value of the interest rate swap contract was $3.2 million at September 30, 2006. A hypothetical 10% decrease in expected future interest rates would reduce that fair value by $1.3 million.
 
For more information, see Note 1, Note 13, and Note 14 to the financial statements included in Item 8.
 
Foreign Currency Risk
 
The Company has foreign currency exchange rate risk related to its Canadian subsidiaries, whose functional currency is the Canadian dollar. While nearly all of those subsidiaries’ cash outflows are denominated and paid in Canadian dollars, most of their cash inflows are denominated and received in U.S. dollars. The Company uses foreign exchange forward contracts to hedge the risk of fluctuations in future cash flows and earnings related to fluctuations in the exchange rate between the Canadian dollar and U.S. dollar. A hedging offset is accomplished because the gain or loss on the forward contracts occurs on or near the date of the anticipated transactions. As of September 30, 2006, the Company held foreign exchange forward contracts with a total notional amount of $16 million and a fair value of $.2 million. A hypothetical 10% increase in the expected CAD-USD exchange rates would have reduced that fair value by $1.8 million. For more information, see Note 1 and Note 13 to the financial statements included in Item 8.
 
Equity Price Risk
 
The Company has equity price risk related to its investment in Vail Resorts, Inc. To limit the risk of a significant decline in the market price of Vail stock, the Company entered into forward sale contracts which include price collars. At the maturity dates in the contracts, we can deliver a variable number of shares of Vail stock to the counterparty or settle the contracts with cash. The number of shares (or amount of cash) to be delivered will depend upon the market price of Vail shares at the settlement dates. A summary of terms for contracts held at September 30, 2006 are included in a table under “LIQUIDITY AND CAPITAL RESOURCES” in Item 7 (which also includes data pertaining to a similar contract executed in November 2006). Because Ralcorp accounts for its investment in Vail Resorts using the equity method, it is currently precluded from using hedge accounting under FAS 133 for these contracts. Accordingly, it must report changes to the fair value of these contracts within the statement of earnings. These gains or losses have no impact on current cash flows. The fair value of the contracts is dependent on several variables including the market price of Vail stock, estimated future Vail stock price volatility, interest rates, and the time remaining to the contract maturity dates. As of September 30, 2006, a hypothetical 10% increase in the Vail stock price would have increased the fair value of the total contract liability by approximately $11.8 million, holding all other variables constant. For more information, see Note 6 and Note 7 to the financial statements included in Item 8, along with related discussions under “LIQUIDITY AND CAPITAL RESOURCES” in Item 7.
 
28

FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
 

REPORT OF MANAGEMENT RESPONSIBILITIES
 
Management of Ralcorp Holdings, Inc. is responsible for the fairness and accuracy of the consolidated financial statements. The statements have been prepared in accordance with accounting principles generally accepted in the United States, and in the opinion of management, the financial statements present fairly the Company’s financial position, results of operations and cash flows.
 
Management has established and maintains accounting and internal control systems that it believes are adequate to provide reasonable assurance that assets are safeguarded against loss from unauthorized use or disposition and that the financial records are reliable for preparing financial statements. The selection and training of qualified personnel, the establishment and communication of accounting and administrative policies and procedures and our Standards of Business Conduct for Officers and Employees are important elements of these control systems. We maintain a strong audit program that independently evaluates the adequacy and effectiveness of internal controls. Appropriate actions are taken by management to correct any control weaknesses identified in the audit process.
 
The Board of Directors, through its Audit Committee consisting solely of independent directors, meets periodically with management and the independent registered public accounting firm to discuss internal control, auditing and financial reporting matters. To ensure independence, PricewaterhouseCoopers LLP has direct access to the Audit Committee.
 
The Audit Committee reviewed and approved the Company’s annual financial statements and recommended to the full Board of Directors that they be included in the Annual Report.
 
 
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
 
Management of Ralcorp Holdings, Inc. is responsible for establishing and maintaining adequate internal control over financial reporting, as defined in Rule 13a-15(f) of the Securities Exchange Act of 1934. Under the supervision and with the participation of management, including the Co-Chief Executive Officers and Controller and Chief Accounting Officer, we conducted an evaluation of the effectiveness of our internal controls over financial reporting based on the criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on the evaluation under this framework, management concluded that our internal control over financial reporting was effective as of September 30, 2006 at the reasonable assurance level. We have excluded Western Waffles and Parco Foods from the assessment of internal control over financial reporting as of September 30, 2006 because they were acquired by the Company in purchase business combinations during 2006. Western Waffles and Parco Foods’ combined total assets and combined total revenues represented 9% and 4%, respectively, of the related consolidated financial statement amounts as of and for the year ended September 30, 2006. Management’s assessment of the effectiveness of our internal control over financial reporting as of September 30, 2006 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report below.
 
/s/ KEVIN J. HUNT
 
/s/ DAVID P. SKARIE
 
/s/ THOMAS G. GRANNEMAN
Kevin J. Hunt
 
David P. Skarie
 
Thomas G. Granneman
Co-Chief Executive Officer
 
Co-Chief Executive Officer
 
Controller and Chief Accounting Officer
 
December 13, 2006
 
 
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
To the Board of Directors and Shareholders of Ralcorp Holdings, Inc.:
 
We have completed integrated audits of Ralcorp Holdings, Inc.’s September 30, 2006 and 2005 consolidated financial statements and of its internal control over financial reporting as of September 30, 2006, and an audit of its 2004 consolidated financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below.
 
29

Consolidated financial statements
In our opinion, the consolidated financial statements listed in the index appearing under Item 15(1) present fairly, in all material respects, the financial position of Ralcorp Holdings, Inc. and its subsidiaries at September 30, 2006 and 2005, and the results of their operations and their cash flows for each of the three years in the period ended September 30, 2006 in conformity with accounting principles generally accepted in the United States of America. 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 of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements 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, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
As discussed in Note 1 to the consolidated financial statements, the Company changed the manner in which it accounts for share-based compensation in fiscal 2006.
 
Internal control over financial reporting
Also, in our opinion, management’s assessment, included in Management’s Report on Internal Control Over Financial Reporting appearing under Item 8, that the Company maintained effective internal control over financial reporting as of September 30, 2006 based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated, in all material respects, based on those criteria. Furthermore, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of September 30, 2006, based on criteria established in Internal Control - Integrated Framework issued by the COSO. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express opinions on management’s assessment and on the effectiveness of the Company’s internal control over financial reporting based on our audit. We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
As described in Management’s Report on Internal Control Over Financial Reporting, management has excluded Western Waffles and Parco Foods from its assessment of internal control over financial reporting as of September 30, 2006 because they were acquired by the Company in purchase business combinations during 2006. We have also excluded Western Waffles and Parco Foods from our audit of internal control over financial reporting. Western Waffles and Parco Foods are wholly-owned subsidiaries whose combined total assets and combined total revenues represent 9% and 4%, respectively, of the related consolidated financial statement amounts as of and for the year ended September 30, 2006.

/s/ PRICEWATERHOUSECOOPERS LLP
 
St. Louis, MO
December 13, 2006


RALCORP HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF EARNINGS
(Dollars in millions except per share data, shares in thousands)
 
   
Year Ended September 30,
  
   
2006
 
2005
 
2004
 
               
Net Sales
  
$
1,850.2
  
$
1,675.1
  
$
1,558.4
  
Cost of products sold
    
(1,497.2
)
  
(1,339.1
)
  
(1,237.2
)
Gross Profit
    
353.0
   
336.0
   
321.2
 
Selling, general and administrative expenses
    
(226.4
)
  
(215.1
)
  
(204.7
)
Interest expense, net
    
(28.1
)
  
(16.5
)
  
(13.1
)
Loss on forward sale contracts
    
(9.8
)
  
-
   
-
 
Gain on sale of securities
    
2.6
   
-
   
-
 
Restructuring charges
   
(.1
)
  
(2.7
)
  
(2.4
)
Litigation settlement income
    
-
   
1.8
   
.9
 
Earnings before Income Taxes and Equity Earnings
    
91.2
   
103.5
   
101.9
 
Income taxes
    
(29.9
)
  
(36.6
)
  
(37.2
)
Earnings before Equity Earnings
    
61.3
   
66.9
   
64.7
 
Equity in earnings of Vail Resorts, Inc.,
net of related deferred income taxes
    
7.0
   
4.5
   
.4
 
Net Earnings
  
$
68.3
  
$
71.4
  
$
65.1
  
                     
Basic Earnings per Share
  
$
2.46
  
$
2.41
  
$
2.22
  
Diluted Earnings per Share
  
$
2.41
  
$
2.34
  
$
2.17
  
                     
Weighted Average Shares for Basic Earnings per Share
    
27,663
   
29,566
   
29,228
 
Dilutive effect of:
                    
Stock options
    
502
   
818
   
670
 
Restricted stock awards
    
39
   
25
   
6
 
Weighted Average Shares for Diluted Earnings per Share
    
28,204
   
30,409
   
29,904
 

See accompanying Notes to Consolidated Financial Statements.
 
 
RALCORP HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
(In millions except share and per share data)

 
   
September 30,
  
   
2006
 
2005
 
           
Assets
          
Current Assets
          
Cash and cash equivalents
  
$
19.1
  
$
6.2
  
Investment in Ralcorp Receivables Corporation
    
93.3
   
42.5
 
Receivables, net
    
66.8
   
30.8
 
Inventories
    
196.0
   
181.5
 
Deferred income taxes
    
5.7
   
6.7
 
Prepaid expenses and other current assets
    
5.5
   
2.3
 
Total Current Assets
    
386.4
   
270.0
 
Investment in Vail Resorts, Inc.
    
97.2
   
87.6
 
Property, Net
    
401.1
   
357.4
 
Goodwill
    
460.0
   
412.5
 
Other Intangible Assets, Net
    
142.6
   
125.0
 
Other Assets
    
20.2
   
17.0
 
Total Assets
  
$
1,507.5
  
$
1,269.5
  
               
Liabilities and Shareholders' Equity
              
Current Liabilities
              
Accounts payable
  
$
96.1
  
$
76.9
  
Book cash overdrafts
    
39.4
   
35.0
 
Other current liabilities
    
61.5
   
59.5
 
Total Current Liabilities
    
197.0
   
171.4
 
Long-term Debt
    
552.6
   
422.0
 
Deferred Income Taxes
    
81.3
   
61.2
 
Other Liabilities
    
200.2
   
96.6
 
Total Liabilities
    
1,031.1
   
751.2
 
Commitments and Contingencies
              
Shareholders' Equity
              
Common stock, par value $.01 per share
              
Authorized: 300,000,000 shares
              
Issued: 33,011,317 shares
    
.3
   
.3
 
Capital in excess of par value
    
122.3
   
119.9
 
Retained earnings
    
569.2
   
500.9
 
Common stock in treasury, at cost (6,170,788 and 3,190,557 shares)
    
(187.7
)
  
(65.8
)
Unearned portion of restricted stock
    
(4.0
)
  
(4.3
)
Accumulated other comprehensive loss
    
(23.7
)
  
(32.7
)
Total Shareholders' Equity
    
476.4
   
518.3
 
Total Liabilities and Shareholders' Equity
  
$
1,507.5
  
$
1,269.5
  

See accompanying Notes to Consolidated Financial Statements.
 

RALCORP HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In millions)
 
   
Year Ended September 30,
  
   
2006
 
2005
 
2004
 
               
Cash Flows from Operating Activities
              
Net earnings
  
$
68.3
  
$
71.4
  
$
65.1
  
Adjustments to reconcile net earnings to net cash flow provided by operating activities:
                    
Depreciation and amortization
    
66.8
   
55.8
   
47.5
 
Sale of receivables, net
    
(49.0
)
  
49.0
   
(34.2
)
Contributions to qualified pension plan
    
(25.0
)
  
(10.0
)
  
-
 
Equity in earnings of Vail Resorts, Inc.
    
(10.8
)
  
(6.9
)
  
(.6
)
Loss on forward sale contracts
    
9.8
   
-
   
-
 
Deferred income taxes
    
6.5
   
.6
   
4.6
 
Stock-based compensation expense
    
5.7
   
.7
   
.2
 
Gain on sale of securities
    
(2.6
)
  
-
   
-
 
Other changes in current assets and liabilities, net of effects of business acquisitions:
                    
(Increase) decrease in receivables
    
(24.0
)
  
5.1
   
(3.9
)
(Increase) decrease in inventories
    
(6.9
)
  
(4.4
)
  
(17.6
)
(Increase) decrease in prepaid expenses and other current assets
    
(2.5
)
  
1.4
   
.2
 
Increase (decrease) in accounts payable and other current liabilities
    
2.8
   
(7.9
)
  
13.9
 
Other, net
    
13.7
   
6.2
   
3.5
 
Net Cash Provided by Operating Activities
    
52.8
   
161.0
   
78.7
 
                     
Cash Flows from Investing Activities
                    
Business acquisitions, net of cash acquired
    
(110.1
)
  
(100.0
)
  
(313.1
)
Additions to property and intangible assets
    
(58.1
)
  
(56.9
)
  
(53.8
)
Proceeds from sale of property
    
2.2
   
.6
   
1.4
 
Proceeds from sale of securities
    
3.8
   
-
   
-
 
Net Cash Used by Investing Activities
    
(162.2
)
  
(156.3
)
  
(365.5
)
                     
Cash Flows from Financing Activities
                    
Proceeds from issuance of long-term debt
    
275.0
   
-
   
270.0
 
Repayment of long-term debt
    
(100.0
)
  
(50.0
)
  
-
 
Net (repayments) borrowings under credit arrangements
    
(44.6
)
  
46.3
   
-
 
Advance proceeds from forward sale of investment
    
110.5
   
-
   
-
 
Purchase of treasury stock
    
(134.9
)
  
(10.3
)
  
-
 
Proceeds from exercise of stock options
    
7.4
   
12.7
   
5.0
 
Change in book cash overdrafts
    
4.4
   
8.4
   
6.7
 
Dividends paid
    
-
   
(29.3
)
  
-
 
Other, net
    
4.5
   
-
   
(.2
)
Net Cash Provided (Used) by Financing Activities
    
122.3
   
(22.2
)
  
281.5
 
                     
Net Increase (Decrease) in Cash and Cash Equivalents
    
12.9
   
(17.5
)
  
(5.3
)
Cash and Cash Equivalents, Beginning of Year
    
6.2
   
23.7
   
29.0
 
Cash and Cash Equivalents, End of Year
  
$
19.1
  
$
6.2
  
$
23.7
  

See accompanying Notes to Consolidated Financial Statements.
 

RALCORP HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
(Dollars in millions except per share data, shares in thousands)
 
   
Common Stock
  
Capital in Excess of Par Value
  
Retained Earnings
  
Common Stock in Treasury
  
Unearned Portion of Restricted Stock
  
Accum. Other Compre- hensive Loss
  
Total
  
Balance, September 30, 2003
  
$
.3
  
$
114.1
  
$
393.8
  
$
(76.9
)
$
(.1
)
$
(18.5
)
$
412.7
  
Net earnings
                
65.1
                     
65.1
 
Minimum pension liability adjustment, net of $4.4 tax benefit
                                  
(7.3
)
  
(7.3
)
Cash flow hedging adjustments, net of $2.4 tax benefit
                                  
(4.1
)
  
(4.1
)
Comprehensive loss
                                        
53.7
 
Dividends declared ($1.00 per share)
                
(29.4
)
                    
(29.4
)
Stock options exercised (295 shares)
          
1.2
         
5.6
               
6.8
 
Restricted stock awards granted (134 shares) and amortized
          
2.1
         
2.6
   
(4.5
)
        
.2
 
Activity under deferred compensation plans (20 shares)
          
(.1
)