The full Annual Report for 2008 may be found here.

Since its formation, the [Craft Brewers Alliance] has focused its business activities on the brewing, marketing and selling of craft beers in the United States. The Company generated gross sales of $86.0 million and a net loss of $33.3 million for the year ended December 31, 2008, compared with gross sales of $46.5 million and a net loss $939,000 for the corresponding period in 2007. The Company generated a loss per share of $2.63 on 12.7 million shares for fiscal year 2008 compared with a loss per share of $0.11 on 8.3 million shares for fiscal year 2007. The results for the year ended December 31, 2008 reflect a non-cash charge of $30.6 million as a loss on impairment of assets recorded by the Company due to its analysis at year end of the estimated fair value of certain assets that were acquired by the Company in the Merger as compared to their respective carrying value in light of current economic circumstances. The comparability of the two fiscal periods is further impacted by the Merger.

The Company’s sales volume (shipments) increased 34.1% to 424,900 barrels in 2008 as compared with 316,900 barrels in 2007, due primarily to shipments of Widmer- and Kona-branded products in the second half of 2008 as a result of the Merger. Sales in the craft beer industry generally reflect a degree of seasonality, with the first and fourth quarters historically being the slowest and the rest of the year typically demonstrating stronger sales. The Company has historically operated with little or no backlog, and its ability to predict sales for future periods is limited.
Since July 1, 2008, the Company has produced its specialty bottled and draft Redhook-branded and Widmer-branded products in its four Company-owned breweries, one in the Seattle suburb of Woodinville, Washington (“Washington Brewery”), another in Portsmouth, New Hampshire (“New Hampshire Brewery”), and two in Portland, Oregon. The two in Portland, Oregon are the Company’s largest production facility (“Oregon Brewery”) and its smallest, a manual brewpub-style brewery at the Rose Quarter (“Rose Quarter Brewery”). The Company sells these products in addition to the Kona branded products predominantly to Anheuser-Busch, Incorporated (“A-B”) and its network of wholesalers pursuant to the July 1, 2004 Master Distributor Agreement (the “A-B Distribution Agreement”), as amended. These products are available in 48 states.

In addition to the sale of Redhook-branded and Widmer-branded beer, the Company also earns revenue in connection with two operating agreements with Kona – an alternating proprietorship agreement and a distribution agreement. Pursuant to the alternating proprietorship agreement, Kona produces a portion of its malt beverages at the Oregon Brewery. The Company sells raw materials to Kona prior to production beginning and receives from Kona a facility leasing fee based on the barrels brewed and packaged at the Company’s brewery. These sales and fees are reflected as revenue in the Company’s statements of operations. Under the distribution agreement, the Company purchases and distributes product manufactured by Kona and then markets, sells and distributes the Kona-branded products pursuant to the A-B Distribution Agreement. As Kona’s distributor, the Company also markets, sells and distributes any Kona-branded products manufactured at the Company’s Oregon Brewery.

The Company also derives other revenues from sources including the sale of retail beer, food, apparel and other retail items in its three brewery pubs. The Company added the third pub, located in Portland, Oregon and attached to the Oregon Brewery, in the Merger.

In conjunction with the Merger, the Company acquired from Widmer a 20% equity ownership in Kona and a 42% equity ownership in FSB, brewer of Goose Island-branded products. Both investments are accounted for under the equity method, as outlined by Accounting Principles Board Opinion (“APB”) No. 18, The Equity Method of Accounting for Investments in Common Stock (“APB 18”).

From July 1, 2004 through June 30, 2008, the Company produced its specialty bottled and draft Redhook-branded products at the Washington Brewery and the New Hampshire Brewery. The Company distributed these products in the Midwest and Eastern United States. pursuant to the A-B Distribution Agreement and in the western United States through Craft Brands Alliance LLC (“Craft Brands”). In addition to the sale of Redhook-branded beer, the Company also brewed, marketed and sold Widmer Hefeweizen in the Midwest and Eastern United States in conjunction with a 2003 licensing agreement with Widmer and brewed Widmer-branded products for Widmer in connection with contract brewing arrangements.

Craft Brands was a joint venture sales and marketing entity formed by the Company and Widmer in July 2004. The Company and Widmer manufactured and sold their product to Craft Brands at a price substantially below wholesale pricing levels; Craft Brands, in turn, advertised, marketed, sold and distributed the product to wholesale outlets in the western United States through a distribution agreement between Craft Brands and A-B. (Due to state liquor regulations, the Company sold its product in Washington state directly to third-party beer distributors and returned a portion of the revenue to Craft Brands based upon a contractually determined formula.) Profits and losses of Craft Brands were generally shared between the Company and Widmer based on the cash flow percentages of 42% and 58%, respectively. In connection with the Merger, Craft Brands was merged with and into the Company, effective July 1, 2008. All existing agreements between the Company and Craft Brands and between Craft Brands and Widmer terminated as a result of the merger of Craft Brands with and into the Company.

For additional information regarding the A-B Distribution Agreement and Craft Brands, see Part 1, Item 1, Business “- Product Distribution,” ” – Relationship with Anheuser-Busch, Incorporated” and “- Relationship with Craft Brands Alliance LLC.”

The Company’s sales are affected by several factors, including consumer demand, price discounting and competitive considerations. The Company competes in the highly competitive craft brewing market as well as in the much larger beer, wine, spirits and flavored alcohol markets, which encompass producers of import beers, major national brewers that produce fuller-flavored products, large spirit companies, and national brewers that produce flavored alcohol beverages. The craft beer segment is highly competitive due to the proliferation of small craft brewers, including contract brewers, and the large number of products offered by such brewers.

Certain national domestic brewers have also sought to appeal to this growing demand for craft beers by producing their own fuller-flavored products. These fuller-flavored products have been most successful within the wheat beer category, including Shock Top Belgian White and Blue Moon Belgian White. These beers are generally considered to be within the same category as the Company’s Hefeweizen beer, putting them in direct competition. The wine and spirits market has also experienced significant growth in the past five years or so, attributable to competitive pricing, increased merchandising, and increased consumer interest in wine and spirits.

In recent years, the specialty segment has seen the introduction of flavored alcohol beverages, the consumers of which, industry sources generally believe, correlate closely with the consumers of the import and craft beer products. Sales of these flavored alcohol beverages were initially very strong, but growth rates have slowed in recent years.
While there appear to be fewer participants in the flavored alcohol category than at its peak, there is still significant volume associated with these beverages. Because the number of participants and number of different products offered in this segment have increased significantly in the past ten years, the competition for bottled and draft product placements has intensified.

While the craft beer market has seen a significant growth in the number of competitors, the national domestic and international brewers have undergone a second round of consolidation, reducing the number of market participants at the top of the beer market. A number of factors have driven this consolidation, including the desire to capture market share and positioning as either the largest brewer or second largest brewer in any given market. The U.S. beer market, in which the Company competes, was once dominated by three companies, A-B, Miller Brewing Company and Adolph Coors Company. During the past decade, Miller Brewing Company and Adolph Coors Company were merged with international brewers, South African Brewers (“SAB”) and Molson of Canada, respectively, to increase the global market reach of their brands.

During the current year, the resulting companies, SABMiller and MolsonCoors, completed the terms of a joint venture to merge their U.S. operations, competing under the name MillerCoors. Likewise, A-B was acquired by Belgium-based InBev in a deal consummated in the fourth quarter of 2008. Shipments for the two entities, A-B and MillerCoors, represented nearly 80% of the total U.S. market, including imports, for 2008.

Another factor driving this is the desire on the part of these larger consolidated national brewers to control the rising cost of the majority of the inputs to the brewing process, primarily barley, wheat and hops, and packaging and shipping costs. While consolidation promises to alleviate these cost pressures for the national brewers, the Company faces these same pressures with limited resources available to achieve similar benefits.

Management monitors the annual working capacity of each brewery in connection with production and resource planning. Because an industry standard for defining brewery capacity does not exist, there are numerous variables that can be considered in arriving at an estimate of annual working capacity. Following the Merger, management reviewed each facility, scrutinized the factors important to the Company in arriving at a practical definition of capacity, and recomputed the annual working capacity of each brewery. Among the factors that management considered in estimating annual working capacity are: Brewhouse capacity, fermentation capacity, and packaging capacity; A normal production year; The product mix and product cycle times; and Brewing losses and packaging losses.

Because the conditions under which each brewery operates differs (such as age of equipment, local environment, product mix), the impact that these factors have on the estimate of capacity also vary by brewery. For example, while the New Hampshire Brewery and the Oregon Brewery are constrained by the volume of beer that each can ferment (each brewery can brew more beer than it can ferment), the Washington Brewery is constrained by the size of its brewhouse (the brewery has adequate capacity to ferment all product that it brews).

Management did not consider the impact that seasonality clearly has on the capacity calculation. Rather, management assumed that each brewery produces beer at 100% of working capacity throughout a 50 week year. But because seasonality is a notable factor affecting the Company’s sales, the Company expects that the breweries’ capacity will be more efficiently utilized during periods when the Company’s sales are strongest and there likely will be periods where the breweries’ capacity utilization will be lower.

Management estimates the annual working capacity after the Merger for its breweries as follows:

Annual Working
Capacity at
December 31, 2008
(In barrels)
Oregon Brewery(1) 377,000
Washington Brewery 230,000
New Hampshire Brewery 190,000
797,000

Note 1 – Excludes the annual working capacity for the Rose Quarter Brewery,
In order to accommodate volume growth in the markets served by the New Hampshire Brewery, the Company has expanded the brewery’s fermentation capacity several times during the past several years. During the year ended December 31, 2007, the Company completed the installation of four additional 400-barrel fermenters, one 70,000 pound grain silo and upgraded its process control automation at an estimated cost of $1.3 million. These improvements added approximately 21,700 barrels of capacity to the New Hampshire Brewery. During the year ended December 31, 2008, the Company added eight 400-barrel fermenters and four bright tanks, and began an upgrade of its incoming water filtration and water treatment systems, which is expected to be completed during the first quarter of 2009. For the year ended December 31, 2008, the Company has expended $4.1 million associated with these projects and increased annual working capacity by 43,300 barrels, bringing the annual working capacity to 190,000 barrels. Further expansion of the New Hampshire Brewery’s fermentation capacity and improvements to its refrigeration facility has been deferred from their scheduled completion in 2008 into the third quarter of 2009.

The Company’s capacity utilization has a significant impact on gross profit. Generally, when facilities are operating at their working capacities, profitability is favorably affected because fixed and semi-variable operating costs, such as depreciation and production salaries, are spread over a larger sales base. Because current period production levels have been below the Company’s working capacity, gross margins have been negatively impacted. If the Company is unable to achieve significant sales growth, the resulting excess capacity and unabsorbed overhead of the Company will have an adverse effect on the Company’s gross margins, operating cash flows and overall financial performance.

In addition to capacity utilization, other factors that could affect cost of sales and gross margin include changes in freight charges, the availability and prices of raw materials and packaging materials, the mix between draft and bottled product sales, the sales mix of various bottled product packages, and fees related to the A-B Distribution Agreement. Prior to July 1, 2008, sales to Craft Brands at a price substantially below wholesale pricing levels and sales of contract beer at a pre-determined contract price also affected cost of sales, gross margins and the comparability of fiscal periods.

Brand Trends

Redhook Beers. The Redhook brand has lagged the trend in the growth of the craft segment for the last several years, due in part to the life cycle of the brand family’s former flagship, ESB, which had matured in key markets even while the overall segment continued to grow. To offset this factor, the Company engaged in systematic initiatives, including rebranding Redhook IPA into Long Hammer IPA and relaunching this brand with new packaging and a concentrated focus as the new Redhook flagship in January 2007. Leveraging off of the growth of the IPA category, this rebranding effort resulted in an increase in shipments of Long Hammer IPA the Company estimates approximated 15% from 2007 to 2008. As part of these initiatives, the Company reexamined its pricing strategy and has increased the brand family to price points comparable to the market leaders in the last couple of years.

The Company will continue to look for niche areas of category growth for Redhook on which to capitalize. For example, in early 2009 the Company has launched Slim Chance Light Ale to fulfill consumer demand for full-flavored, low-calorie craft beer. In order to reconnect the Redhook brand with the craft community, a high-end line of Redhook beers was launched in late 2008. Each beer in this line is marketed toward the beer connoisseur, premium-priced, and only available for a limited time.

Since these efforts were initiated, the Redhook brand sales trends in the Western United States have shown a slowing in the rate of decline and modest growth during some periods, driven primarily by a reversal of the negative trend in Washington state. For 2008, overall shipments of Redhook-branded products declined approximately 2.6%.

Widmer Brothers’ Beers. The Widmer Brothers’ brand has experienced significant growth in recent years, led by the popular consumer response to the Hefeweizen category within the craft beer segment and the role that Widmer Hefeweizen has enjoyed as a leader in this category. This category continues to experience positive trends nationally, but has more recently seen a significant increase in competitive products from other craft brewers as well as offerings from large domestic brewers such as A-B’s Shock Top Belgian White and MillerCoors’ Blue Moon Belgian White attempting to participate in the same category. Widmer Hefeweizen has also been particularly impacted by the downturn in the restaurant industry as a result of the U.S. economic recession worsening during the fourth quarter of 2008. This brand is significantly more dependent on on-premise sales than any of the Company’s other brands.

As a result of the Merger, the Company now has the ability to sell and market other Widmer-branded products in the Midwest and Eastern United States. This will round out the Widmer-brand offering in these regions, giving the consumers in these areas a true Widmer brand family to enjoy, including Drop Top Amber Ale and Drifter Pale Ale, which has been launched in 2009. In an effort to keep Widmer Hefeweizen top of mind with consumers and to shift the emphasis of this brand from the on-premise market, beginning in 2009, the Company will offer Widmer Hefeweizen in the Western U.S. markets in a 5-liter steel mini keg. This is expected to allow consumers the opportunity to enjoy the draft experience of this brand at home.

Except for Widmer-branded products brewed and shipped under the contract brewing arrangements and Widmer Hefeweizen shipped under the licensing agreement, sales and shipments for Widmer-branded product were not reflected in the Company’s statements of operations prior to the Merger.

Kona Brewing Beers. Prior to its association with the Company, the Kona Brewing brand had experienced strong growth as a result of forming relationships with Widmer and Craft Brands beginning in 2004. However, Kona-branded product is relatively new outside of Hawaii and has been recently introduced into a number of new markets in the continental United States. Kona-branded products have experienced the rapid growth of a new brand that benefits from growing distribution and new trial from consumers. The brand family has a clear identity, the Company markets it as “Liquid Aloha”, which is easily grasped by consumers, and the beer is of high quality, making it easy to sell to wholesalers, retailers and consumers.

Despite lapping strong launch volumes in the Kona brand’s biggest mainland market, California, the brand continues to see double-digit growth in this market, suggesting that consumers have formed a strong bond with the brand, purchasing it repeatedly. The Company identifies Longboard Island Lager as the brand family’s flagship, creating a direct connection to Hawaii with consumers. The Company believes that the Kona brand’s growth potential is significant not only from organic growth within its current markets, but also from geographic expansion into the Eastern United States.
Sales and shipments for Kona-branded product were not reflected in the Company’s statements of operations prior to the Merger.

Results of Operations
The following table sets forth, for the periods indicated, certain items from the Company’s Statements of Operations expressed as a percentage of net sales:

Year Ended December 31,
2008 2007
Sales 107.8 % 112.2 %
Less excise taxes 7.8 12.2
Net sales 100.0 100.0
Cost of sales 82.3 88.7
Gross profit 17.7 11.3
Selling, general and administrative expenses 24.9 19.9
Loss on impairment of assets 38.4 –
Merger-related expenses 2.2 1.4
Income from equity investment in Craft Brands 1.7 6.8
Operating loss (46.1 ) (3.2 )
Loss from equity investments in Kona & FSB – –
Interest expense (1.2 ) (0.7 )
Interest and other income, net 0.1 1.2
Loss before income taxes (47.2 ) (2.7 )
Income tax benefit (5.5 ) (0.4 )
Net loss (41.7 )% (2.3 )%

Non-GAAP Financial Measures
The Company’s loan agreement as modified subjects the Company to a financial covenant based on earnings before interest, taxes, depreciation and amortization (“EBITDA”). See “Liquidity and Capital Resources.” EBITDA is defined per the modified loan agreement and requires additional adjustments, among other items, to (a) exclude defined costs associated with restructuring, (b) adjust losses

For the Quarter Ended
December 31, 2008
(In thousands)
Net loss $ (30,101 )
Interest expense 541
Income tax benefit (2,719 )
Depreciation expense 1,645
Amortization expense 367
Loss on impairment of assets 30,589
Merger-related expenses 140
Restructuring costs, as defined 1,044
Loss on sale or disposal of assets 18
Allowable indirect merger-related costs 150
EBITDA per the modified loan agreement $ 1,674

Year Ended December 31, 2008 Compared with Year Ended December 31, 2007
The following table sets forth, for the periods indicated, a comparison of
certain items from the Company’s Statements of Operations:
Year Ended December 31, Increase/
2008 2007 (Decrease) % Change
(Dollars in thousands)
Sales $ 86,013 $ 46,544 $ 39,469 84.8 %
Less excise taxes 6,252 5,074 1,178 23.2
Net sales 79,761 41,470 38,291 92.3
Cost of sales 65,646 36,785 28,861 78.5
Gross profit 14,115 4,685 9,430 201.3
Selling, general and administrative expenses 19,894 8,257 11,637 140.9
Loss on impairment of asset 30,589 – 30,589 –
Merger-related expenses 1,783 584 1,199 205.3
Income from equity investment in Craft Brands 1,390 2,826 (1,436 ) (50.8 )