Menu Foods Income Fund
TSX : MEW.UN

Menu Foods Income Fund

November 08, 2006 09:00 ET

Menu Foods Income Fund increases third quarter EBITDA by 69%

TORONTO, ONTARIO--(CCNMatthews - Nov. 8, 2006) –

NOT FOR DISTRIBUTION TO U.S. NEWSWIRE SERVICES OR FOR DISSEMINATION IN THE UNITED STATES

Menu Foods Income Fund (TSX:MEW.UN): (the"Fund") announced today its financial results for the quarter ended September 30, 2006.

A conference call to review these results will take place tomorrow, November 9, 2006 at 8:30 a.m. EST (Toronto time). The conference call will be chaired by Paul Henderson, Menu's President and Chief Executive Officer. Paul will be joined on the call by Mark Wiens, Menu's Executive Vice-President and Chief Financial Officer.

To access the conference call in real time, please call 416-644-3429 or 1-800-796-7558. A replay will be available from approximately one hour after the end of the conference call until November 23, 2006 by dialing 416-640-1917 or 1-877-289-8525, using passcode 21207180 followed by the number sign. A live audio webcast of the conference call is also available, it can be accessed by entering www.newswire.ca/webcast on an Internet browser. A replay of the webcast will be available for 90 days, it can be accessed by entering www.newswire.ca/webcast on an Internet browser.

MESSAGE to UNITHOLDERS

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We are pleased to present, to unitholders of Menu Foods Income Fund, our report for the third quarter ended September 30, 2006. The table below reports selected highlights of the quarter's results:



Quarter ended Nine months ended
September 30, September 30,
2006 2005 2006 2005
($ millions) ($ millions) ($ millions) ($ millions)

Sales 90.1 93.6 268.3 262.1
Income before non-
controlling interest and
goodwill impairment loss 2.1 0.3 7.4 4.0
Net income (loss) 1.3 (43.0) 4.6 (40.9)
EBITDA 10.4 6.2 29.4 19.4
Distributable cash 6.8 3.9 19.2 12.4
Diluted distributable
cash per Trust Unit and
per Class B unit ($) 0.2375 0.1339 0.6641 0.4288


The 2006 thrd quarter results continue the trend established during the first half of the year, with the Fund improving its EBITDA by 69% and its Distributable cash by 76% when compared to the third quarter of 2005.

During the first six months of 2006, the Fund initiated price increases with its United States private-label customers, the impacts of which were fully realized during the third quarter. The price increases in cans and pouches have both favorably impacted the Fund's results year-to-date, and are expected to continue to positively contribute to the Fund's results for the balance of 2006.

In summary, on a comparative basis to the third quarter of 2005:

- Sales decreased by 3.8% or $3.5 million, due in large part to the continued effect of the stronger Canadian dollar, which reduced sales by $6.8 million, more than offsetting the positive effects of pricing adjustments realized during the quarter.

- EBITDA of $10.4 million improved by $4.2 million or 69.1%. EBITDA was favourably impacted by the full impact of the previously mentioned price increases as well as by improved operating efficiencies. Similar to sales, these improvements were partially offset by the effects of the higher Canadian dollar, as well as the effects of higher raw material costs arising subsequent to the price increases that have not been passed on to private-label customers.

- The Fund generated $6.8 million in distributable cash, an improvement of $2.9 million. Since distributions have been suspended, the Fund used this distributable cash to fund operations and to reduce its outstanding indebtedness with its Lenders.

During the third quarter, the Fund reduced its bank and long-term indebtedness by $12.2 million, bringing its year-to-date repayments to $22.9 million. As a result of these repayments and the improvement in the Fund's operating results, the trailing 12-month debt to EBITDA ratio as at September 30, 2006 was 2.83 to 1, which compares favourably to 5.14 to 1 at December 31, 2005. Having attained a ratio of less than 3 to 1, the restriction on making distributions to Unitholders is now removed. The Fund remains committed to a strategy of reducing indebtedness even further. The Fund's board is monitoring the future business prospects and cash requirements and will determine an appropriate distribution policy.

Like others in the trust sector, the Fund was impacted by the Canadian Government's decision last week to introduce a tax on distributions made by publicly traded income trusts. Not having seen the final legislation, it is too early in the process to be definitive on the impacts of this tax on the Fund. However, to put things in context, it is important to note that the majority of the Fund's business is conducted outside of Canada and that the Fund pays tax in each of the foreign jurisdictions in which it operates. Since the Fund's IPO, for the periods ended December 31, 2002, 2003, 2004 and 2005, the percentage of distributions that were considered "other taxable income" amounted to 22.79%, 22.38%, 21.05% and 34.98%, respectively. Given the difficult conditions experienced in 2005, management does not consider the composition of distributions in that year to be representative of future expectations. Management's interpretation of the announcements made by the Department of Finance is that it is only this "other taxable income" that will be subject to the proposed tax of 31.5% starting in 2011. The Fund is considering this announcement and the possible impact of the proposed rules to the Fund.

Management remains encouraged by the positive actions and events that are already impacting the Fund's 2006 results. The price increases to United States private-label customers and the improved operating performance of the Fund's production facilities are all expected to continue to positively contribute to the Fund's results in the remainder of 2006.

We continue to appreciate the support of our investors, customers and suppliers and the ongoing dedication of our employees and look forward to reporting our progress next quarter.

Paul K. Henderson

President and Chief Executive Officer

Menu Foods GenPar Limited

Administrator of Menu Foods Income Fund

Management's Discussion and Analysis of Financial Results

(For the quarter ended September 30, 2006)

Presentation of Financial Information

The following discussion and analysis of the financial results of Menu Foods Income Fund (the "Fund") is dated as of November 8, 2006 and is supplementary to and should be read in conjunction with the unaudited consolidated financial statements for the quarters and nine months ended September 30, 2006 and 2005.

Menu Foods Income Fund (the "Fund") is the indirect owner of Menu Foods Limited ("Menu"), the leading North American private label/contract manufacturer of wet pet food products. The Fund's results include those of Menu, its subsidiaries, affiliates and the partnerships which conduct its day-to-day business.

Where applicable, financial information contained herein is prepared in accordance with Canadian generally accepted accounting principles ("GAAP") and is reported in Canadian dollars.

Certain statements in this Management's Discussion and Analysis of Financial Results are "forward-looking statements", which reflect management's expectations regarding the Fund and Menu's future growth, results of operations, performance, business prospects and opportunities. Such forward-looking statements reflect management's current beliefs and are based on information currently available to management. Many factors could cause results to differ materially from the results discussed in the forward-looking statements, including risks related to dependence on key suppliers, economic conditions, competition, regulatory change, foreign exchange rates and interest rates, among others. Although the forward-looking statements are based on what management believes to be reasonable assumptions, the Fund and Menu cannot assure investors that actual results will be consistent with these forward-looking statements. These forward-looking statements are made as of the date of this report, and neither the Fund nor Menu assumes any obligation to update or revise them to reflect new events or circumstances.



Overall Performance and Results of Operations

The following table highlights selected comparative results (all figures,
except per unit amounts, expressed in thousands of Canadian dollars)


For the quarter For the nine months
ended September 30, ended September 30,
2006 2005 2006 2005
$ $ $ $


Sales 90,083 93,643 268,263 262,090
Cost of sales 76,582 86,368 230,624 236,626
------------------------------------------
Gross profit 13,501 7,275 37,639 25,464
Selling, general and
administrative expenses 7,024 5,807 19,944 18,424
------------------------------------------
Income before the undernoted 6,477 1,468 17,695 7,040
Goodwill impairment loss - 70,295 - 70,295
Financial expenses 3,469 1,729 8,239 4,869
------------------------------------------
Income (loss) before income
taxes and non-controlling
interest 3,008 (70,556) 9,456 (68,124)
------------------------------------------
Current income taxes 84 (10) 578 (17)
Future income taxes 867 (597) 1,497 (1,850)
------------------------------------------
Total income taxes 951 (607) 2,075 (1,867)
------------------------------------------
Income (loss) before
non-controlling interest 2,057 (69,949) 7,381 (66,257)
Non-controlling interest of
Class B Exchangeable Units 711 (26,997) 2,760 (25,389)
------------------------------------------
Net (loss) income for the
period 1,346 (42,952) 4,621 (40,868)
------------------------------------------
------------------------------------------

Basic net income (loss) per
Trust Unit 0.071 (2.425) 0.253 (2.426)
Diluted net income (loss)
per Unit 0.071 (2.425) 0.253 (2.426)

Distributions per Trust Unit - 0.1900 - 0.7900
Distributions (net of
subordinated amounts)
per Class B Unit - 0.0416 - 0.4984

Basic weighted average number
of Trust Units outstanding
(000's) 18,921 17,713 18,275 16,845
Diluted weighted average number
of Units outstanding (000's) 29,081 28,943 29,049 28,933

Average US/Cdn exchange rate
per Bank of Canada 0.8915 0.8322 0.8828 0.8169


Operating Results for the Quarter Ended September 30, 2006

Sales for the quarter ended September 30, 2006, were $90.1 million, down
3.8% or $3.6 million compared to the same quarter last year. This decrease is
attributable to:

1. the strengthening of the Canadian dollar relative to the United
States dollar, which had the effect of reducing sales by $6.8 million
relative to the third quarter of 2005;

2. a 1.9% decrease in volume translated into a sales decrease of $1.9
million primarily due to lost business as a consequence of the Fund's
first quarter can price increase to its United States private-label
customers; and

3. the impact of take-or-pay agreements in the third quarter of 2006
relative to the same quarter in 2005, had the effect of decreasing
sales by $0.2 million. These decreases in sales were offset by:

4. the effect of pricing adjustments to pass through cost increases to
Menu's co-pack customers and the price increases initiated on can and
pouch sales to Menu's United States private-label customers, together
with changes to sales mix and other variables, had the effect of
increasing sales by $5.3 million.


Overall, volume (expressed in cases of 24 cans or pouches) was down 1.9% compared to the quarter ended September 30, 2005.

Can volume, which represented 75.2% of Menu's volume in the third quarter of 2006, contracted by 1.7% (equating to a decrease in total volume of 1.2%). As a result of the can price increase to United States private-label customers initiated in the first quarter of 2006, Menu lost sales to one of its customers which reduced Menu's third quarter can volumes, relative to the third quarter of 2005, by 3.7%. Sales of cans to new customers or increased sales of cans to other existing customers, combined to increase can volume by 2.0%.

During the third quarter of 2006, case sales of the pouch product, which represented 24.8% of total volume, contracted by 2.8% (equating to a decrease in total volume of 0.7%) compared to the third quarter of 2005, primarily due to a 19.6% decrease in pouch volume to Menu's largest customer, as that customer adjusted their levels of inventory.

Gross profit increased by $6.2 million (or 85.6%) for the quarter ended September 30, 2006, compared to the prior year. This increase is attributable to:

1. Effect of Change in Sales Volume. As previously noted, total volume for the third quarter decreased by 1.9%. This change in sales volume decreased gross profit by $0.2 million.

2. Price and Cost Increases/Adjustments. In January 2006 and again in the second quarter of 2006, Menu followed a leading national brand manufacturer and announced a price increase on canned and pouch products, respectively, sold to its United States private-label customers. These increases were effective from the beginning of the second and third quarters of 2006, respectively. On a comparative basis to the same quarter in 2005, the costs of certain inputs to production, including raw and packaging materials, utilities, labour and benefits, as well as the cost of freight, have continued to rise and have increased cost of sales as a result. The price increases referred to above, together with selling price increases to co-pack customers and improved operating efficiencies and other variables, combined to more than offset these cost increases, and increased gross profit by $7.2 million;

3. Foreign Exchange Effect on Sales. The strengthening of the Canadian dollar relative to the United States dollar during the quarter had the effect of reducing sales by approximately $6.8 million and that translated into a reduction in gross profit of $1.3 million for the quarter ended September 30, 2006;

4. Decrease in Amortization. The amortization of capital projects completed during the past twelve months, was more than offset by the effects of fully-amortized assets and resulted in a decrease in the amortization associated with the cost of goods sold of $0.5 million versus the third quarter of 2005.

Selling, general and administrative expenses for the quarter ended September 30, 2006 increased by $1.2 million compared to the prior year. Since the majority of these expenses are incurred in the United States, the stronger Canadian dollar, relative to the United States dollar had the effect of lowering selling, general and administrative expenses. Foreign exchange losses on Menu's United States dollar exposure in working capital and the absence of marked-to-market adjustments in the quarter ended September 30, 2006 (marked-to-market losses on forward contracts entered into to hedge distributions were included in selling, general and administrative expenses in the quarter ended September 30, 2005) were $0.4 million higher than the same quarter last year. Amortization was $0.2 million less than in 2005, largely as a result of assets being fully amortized in prior periods. The one significant exception to this trend of lower expenses arises from the significant improvement in the Fund's operating performance in 2006 which results in a bonus expense that is $0.8 million greater than in the quarter ended September 30, 2005.

The foregoing resulted in EBITDA (See Note A) of $10.4 million for the quarter ended September 30, 2006, an increase of $4.2 million (or 69.1%) compared to the same period in 2005. The strengthening of the Canadian dollar, relative to the United States dollar, has reduced sales, gross margin, selling, general and administrative expenses, amortization, interest and EBITDA. Menu estimates that each change of $0.01 in the cost of the Canadian dollar changes EBITDA by approximately $0.15 million and Distributable Cash (see Note A) by approximately $0.115 million, on a quarterly basis.

Menu estimates that absent the impacts of its hedging program in 2005, the strengthening of the Canadian dollar during the third quarter of 2006 versus the same period in 2005 reduced EBITDA by approximately $0.9 million and Distributable Cash by approximately $0.7 million. Under its program for hedging distributions, in 2005 the Fund entered into foreign exchange contracts for the period through July 2006. Any outstanding contracts were settled in December 2005, following the decision to suspend distributions. During the quarter ended September 30 2005, the Fund realized a gain of $0.1 million on matured contracts and had unrealized gains of $0.2 million on contracts that had yet to mature. These gains were recorded in selling, general and administration expenses.

Amortization (which is included in cost of sales and SG&A expense) in the third quarter of 2006 was $0.8 million lower than in 2005. This decrease is directly attributable to fully amortized assets and the effects of the strengthening of the Canadian dollar relative to the United States dollar, offset by the additional amortization in 2006 on the $4.6 million of capital expenditures made during the twelve month period ended September 30, 2006, together with the full quarter amortization on the $2.1 million of capital expenditures made during the quarter ended September 30, 2005.

Financial expenses were $1.7 million greater during the quarter ended September 30, 2006, than in the third quarter of 2005. This increase reflects the higher interest rates in 2006 and the amortization of the fees arising from the amended Agreements with its banker and with the holders of the senior secured notes (the "Lenders"), which were concluded during the first quarter of 2006, together with a $1.0 million comparative loss in marked-to-market value of the interest rate swap.

The Fund operates using a number of different legal structures (i.e. partnerships, trusts and corporations) in a number of jurisdictions. Each of these structures and jurisdictions is subject to income tax at different rates. The effective tax rate can vary from quarter-to-quarter, depending upon the taxing jurisdiction and the legal structure in which the income is earned. As a consequence, the Fund's effective tax rate is 31.6% during the quarter as compared to recovery in the third quarter of 2005.

Income before non-controlling interest of Class B Exchangeable Units ("Class B Units") for the quarter ended September 30, 2006, was $2.1 million, compared to a loss of $69.9 million for the quarter ended September 30, 2005.

Operating Results for the Nine Months Ended September 30, 2006

Sales for the nine months ended September 30, 2006, were $268.3 million, up 2.4% or $6.2 million compared to the same period last year. This increase is attributable to:

1. a 4.7% increase in can volume translated into a sales increase of $9.6 million, despite the loss of some can volume following the Fund's first quarter can price increase to United States private- label customers. The increase in can volume is primarily due to a 46.9% increase in can sales volumes to Menu's largest customer. Management believes that this increase can be attributed to a build in inventory by this customer during the first quarter of 2006, coupled with a return to more historical purchasing patterns during the second and third quarters of 2006;

2. a 3.7% increase in pouch volume equating to a sales increase of $1.9 million. This represents a resumption of growth in this packaging format, albeit at a slower rate than in the past;

3. the effect of pricing adjustments to pass through cost increases to Menu's co-pack customers and the price increase initiated on can and pouch sales to Menu's United States private-label customers, together with changes to sales mix and other variables, had the effect of increasing sales by $13.3 million; and,

4. take-or-pay agreements in the first nine months of 2006 had the affect of increasing sales by $0.4 million. Much of which was offset by:

5. the strengthening of the Canadian dollar relative to the United States dollar which had the effect of reducing sales by $19.0 million relative to the first nine months of 2005;

Overall, volume (expressed in cases of 24 cans or pouches) was up 4.5% compared to the nine months ended September 30, 2005, with both packaging formats showing growth in 2006.

Can volume, which represented 76.4% of Menu's volume in the first nine months of 2006, expanded by 4.7% (equating to an increase in total volume of 3.6%). This increase was primarily attributable to the 46.9% increase in the first nine months of 2006 in case volume of canned wet pet food sold to Menu's largest customer, which increased can and total volume for the first nine months by 7.8% and 5.9%, respectively. As noted above, this increase can be attributed to a build in inventory by this customer during the first quarter of 2006, coupled with a return to more historical purchasing patterns during the second and third quarters of 2006.

As a consequence of its can price increase to United States private-label customers initiated in the first quarter of 2006, Menu lost some of its private-label can business. During the second quarter of 2005 a Canadian co-pack customer, who relied on Menu for its supply of certain products for sale in the Canadian market, opted to reduce its dependence on Menu and self-manufacture that product in its United States facilities. This decision, together with the lost business due to the price increase, reduced Menu's can volumes, relative to the first nine months of 2005, by 3.0%. Sales of cans to new customers or increased sales of cans to other existing customers, other than Menu's largest customer, combined to nominally increase can volume . By comparison, during the first nine months of 2005 can volume had been adversely effected by inventory reduction programs initiated by two other key customers, which had the effect of reducing can volumes by 3.0%, when compared to 2004. These inventory reduction programs did not recur in 2006

In addition to the increase in case sales of canned wet pet food as described above, sales of Menu's pouch product also increased over the same period in the prior year. During the first nine months of 2006, case sales of the pouch product, which represented 23.6% of total volume, grew by 3.7% (equating to an increase in total volume of 0.9%) compared to the same period of 2005.

Gross profit increased by $12.2 million (or 47.8%) for the nine months ended September 30, 2006, compared to the prior year. This increase is attributable to:

1. Effect of Change in Sales Volume. As previously noted, total volume or the nine months ended September 30, 2006 increased by 4.5%. This change in sales volume increased gross profit by $1.4 million.

2. Price and Cost Increases/Adjustments. In January 2006 and again in the second quarter of 2006, Menu followed a leading national brand manufacturer and announced a price increase on canned and pouch products, respectively, sold to its United States private-label customers. These increases were effective from the beginning of the second and third quarters of 2006, respectively. On a comparative basis to the same period in 2005, the costs of certain inputs to production, including raw and packaging materials, utilities, labour and benefits, as well as the cost of freight, have continued to rise and have increased cost of sales as a result. The price increases referred to above, together with selling price increases to co-pack customers and improved operating efficiencies and other variables, combined to more than offset these cost increases, and increased gross profit by $14.1 million;

3. Foreign Exchange Effect on Sales. The strengthening of the Canadian dollar relative to the United States dollar during the period had the effect of reducing sales by approximately $19.0 million and that translated into a reduction in gross profit of approximately $3.3 million for the nine months ended September 30, 2006;

5. Increase in Amortization. The amortization of capital projects completed during the past twelve months was almost fully offset by the effects of fully-amortized assets, resulting in only a nominal increase in the amortization associated with the cost of goods sold versus the same period of 2005.

Selling, general and administrative expenses for the nine months ended September 30, 2006 increased by $1.5 million compared to the prior year. Since the majority of these expenses are incurred in the United States, the stronger Canadian dollar, relative to the United States dollar had the effect of lowering selling, general and administrative expenses. The one significant exception is that the improved earnings in 2006 lead to an increase in the bonus expense for the first nine months of 2006, which, coupled with the costs of terminating the former long-term incentive plan, increased selling, general and administrative expenses by $2.0 million compared to the nine months ended September 30, 2005.

The foregoing resulted in EBITDA (See Note A) of $29.4 million for the nine months ended September 30, 2006, an increase of $10.0 million (or 51.6%) compared to the same period in 2005. The strengthening of the Canadian dollar, relative to the United States dollar, has reduced sales, gross margin, selling, general and administrative expenses, amortization, interest and EBITDA. Menu estimates that each change of $0.01 in the cost of the Canadian dollar changes EBITDA by approximately $0.60 million and Distributable Cash (see Note A) by approximately $0.46 million, on an annual basis.

Menu estimates that absent the impacts of its hedging program in 2005, the strengthening of the Canadian dollar during the first three quarters of 2006 versus the same period in 2005 reduced EBITDA by approximately $3.0 million and Distributable Cash by approximately $2.3 million.

Amortization (which is included in cost of sales and SG&A expense) in the first three quarters of 2006 was $0.7 million lower than in 2005. This decrease is directly attributable to the amortization on the $4.6 million of capital expenditures made during the twelve month period ended September 30, 2006 together with the full period amortization on the $10.0 million of capital expenditures made during the three quarters ended September 30, 2005, being more than offset by the absence of amortization on fully-amortized assets and the effects of the strengthening of the Canadian dollar relative to the United States dollar.

Financial expenses were $3.4 million greater during the nine months ended September 30, 2006, than in the same period of 2005. This increase reflects the higher interest rates in 2006 and the amortization of the fees arising from the amended Agreements with its Lenders, which were concluded during the first quarter, together with a $0.2 million loss in marked-to-market value of the interest rate swap.

The Fund operates using a number of different legal structures (i.e. partnerships, trusts, corporations) in a number of jurisdictions. Each of these structures and jurisdictions is subject to income tax at different rates. The effective tax rate can vary from quarter-to-quarter, depending upon the taxing jurisdiction and the legal structure in which the income is earned. As a consequence, the Fund's effective tax rate was 21.9% during the period as compared to a recovery in the first nine months of 2005.

Income before non-controlling interest of Class B Exchangeable Units ("Class B Units") for the nine months ended September 30, 2006, was $7.4 million, compared to a loss of $66.3 million for the same period of 2005.

Liquidity

During the nine months ended September 30, 2006, the Fund generated cash flow from operations of $21.5 million, and further increased cash flow by $0.3 million as a result of changes in non-cash working capital items. The change in non-cash working capital items is primarily the result of a $1.1 million increase in inventories and a $3.3 million increase in accounts receivable, both of which were more than offset by a $4.8 million increase in accounts payable. The modest increase in inventory was undertaken in anticipation of demand during the first two weeks of the final quarter of 2006. The increases in accounts receivable and payable are consistent with the activity in the final month of the period.

For the nine months ended September 30, 2006, the Fund, as required by its amended Agreements with its Lenders, did not declare or pay any distributions on the Trust Units or on the Class B Exchangeable Units. Per those Agreements, the Fund could not pay any distributions until it achieved a total debt to EBITDA ratio of 3 to 1 or less. As discussed in notes 7 and 8 to the consolidated financial statements, the Fund was expected to use its excess cash to reduce its indebtedness until this level was reached. Since the Fund achieved a total debt to EBITDA ratio of less than 3 to 1 for the twelve-months ended September 30, 2006, it is not required to make any offer to reduce its indebtedness with its Lenders in respect of performance during the third quarter of 2006. However, attaining this ratio means that, during the fourth quarter, the Fund must offer $2.3 million and $0.8 million to the noteholders and bank, respectively, representing the final amounts payable with respect to the first and second quarters of 2006.

Since inception, the pay-out ratio (including the distributions declared on the Class B Exchangeable Units) is 84.6%.

The Fund operates utilizing its US$30 million bank facility, of which US$9.9 million was drawn or committed at September 30, 2006. Cash flow from operations, together with the US$20.1 million in unutilized bank facility, are expected to be sufficient to fund Menu's ongoing operating requirements and maintenance capital expenditures.

Capital Resources

During the nine months ended September 30, 2006, Menu spent $4.2 million on property, plant and equipment. Capital expenditures of a maintenance nature, which totaled $2.3 million for the first nine months of 2006, were financed from the cash flow of the business. These maintenance capital expenditures were over and above the $10.9 million (2005 - $11.0 million) for labour and parts expended by Menu for the ongoing repairs and maintenance of its plants that have been expensed as part of cost of sales.



Outstanding Units


The following table highlights the number of units outstanding:

Class B
Exchangeable
Trust Units Units


December 31, 2003 13,259,823 12,631,915
Options exercised during the year 380,413 -
Issuance during the year 2,500,000 -
--------------------------
December 31, 2004 16,140,236 12,631,915
Conversion of Class B Units during the year 1,498,260 (1,498,260)
Options exercised during the year 127,663 -
--------------------------
December 31, 2005 17,766,159 11,133,655
Conversion of Class B Units during the period 1,236,431 (1,236,431)
Options exercised during the period 13,612 -
--------------------------
September 30, 2006 19,016,202 9,897,224
--------------------------
--------------------------


Menu Foods Corporation (the former parent company of Menu) had a stock option plan pursuant to which there were outstanding options issued to 61 of its directors, executive officers and key employees. In connection with the initial public offering and acquisition, these options were exchanged for Trust Unit options in the Fund having equivalent terms and conditions. As at September 30, 2006, 61,071 vested Trust Unit options, having a weighted average exercise price of $2.977 per unit, were outstanding. These Trust Unit options expire in November and December 2006. In February 2005, 36,390 units were purchased under the Fund's Long-Term Incentive Plan for the benefit of 22 individuals.

During the nine months ended September 30, 2006, 959,296 unit options with an exercise price of $4.56 were granted to 41 executives and employees, 6,000 unit options with an exercise price of $5.25 were granted to one employee, 21,000 unit options with an exercise price of $5.00 were granted to one executive and 15,000 unit options with an exercise price of $4.56 were forfeited. These options, of which 238,148 will vest after 36 months, with the balance vesting in equal annual amounts over three years, will expire 39 months after the date they were granted. On May 11, 2006, the option plan under which these options were granted, which authorizes 2,815,000 units, received Unitholder approval at the Annual and Special Meeting of Unitholders.

Outlook

Cost and Price Increases

In the United States, in early 2004, and in Canada, in early 2005, Menu initiated price increases to its private-label customers, following the price increases taken by the leading national brands. Since the time of those increases, Menu has experienced increases in certain operating and administrative costs. Rising costs of steel and aluminum mean higher can costs, while the strengthening of the Euro has increased the cost of empty pouches purchased by Menu. Higher utility costs, together with increases in property insurance and medical benefits (both escalating at rates well above inflation) have pushed the cost of operating higher. Higher fuel costs, together with new legislation in the United States on work hours for truck drivers and trucking delays crossing the Canadian/United States border have increased the cost of delivery.

In January 2006, following a price increase announced by a leading national brand manufacturer, Menu announced a price increase on its canned products sold to its private-label customers in the United States. During the second quarter of 2006, Menu again followed a leading national brand manufacturer and announced a price increase, this time on pouch products sold to its United States private-label customers. The first price increase was effective during the second quarter of 2006, while the second was fully effective during the third quarter of 2006. While costs have continued to rise since these price increases were first initiated, these price increases should none-the-less enable Menu to recover much of the margin erosion experienced over the past two years on the sale of cans and pouches to United States private-label customers.

For the contract-manufacturing portion of Menu's business, most of these cost increases are automatically passed on to customers (albeit with some timing delays). However, for its private-label business, Menu's practice, with respect to price increases, has been to follow the brand leaders. While this practice at times compresses Menu's margins, as it did in 2005, it none-the-less helps to ensure that Menu's products are competitively priced at retail.

Menu expects that input costs for its products in both Canada and the United States will continue to rise. Aluminum cans in particular are expected to increase in cost throughout the remainder of 2006 and into 2007. The price increase announced in January 2006 helps to mitigate the impact that rising costs over the past two years have had on margins. However, absent regular price increases in the future, Menu expects that its margins will continue to be squeezed.

Bovine Spongiform Encephalopathy ("BSE")

BSE surveillance continues to confirm an extremely low incidence of BSE in North America, with cases in both the US and Canada. Both countries instituted a ruminant feed rule in 1997 as part of their prevention programs. Cases have been identified in Canada in cattle born after the feed ban. In response to this, Canada has announced a strengthening of the feed ban to prevent the addition of specified risk materials (those components of the animal thought to have the highest level of infectivity when consumed) in all animal feed, including pet food. The effective date of implementation is currently set at July 12, 2007. This change does not impact the Fund's formulations, as these risk materials are not currently used.

Additionally, the US has published information stating that the BSE agents found in their cases come from a rare strain also seen in France, Sweden and Poland, which is harder to detect and mainly found in older cattle. It is possible that these cases form spontaneously in older cattle without consumption of ruminant material.

The US currently requires companies to obtain import permits for Canadian pet food imported into their country. Canada has recently announced that they will institute a similar program. Publication in the Gazette is expected either late in 2006 or early 2007 outlining the specifics of the program. On a positive note, the US has opened the border to a wider range of Canadian cattle in recent months and there are signs that they may be willing to accept pet foods containing beef that can be certified coming from cattle less than 30 months of age. With the excellent identification programs present in Canada, it appears that this may be possible and Menu is pursuing this opportunity.

Subordination and Distribution

The Fund has two classes of units: (a) publicly traded Trust Units and (b) privately held Class B Exchangeable Units (the "Class B Units"). The Declaration of Trust established that the Class B Units' rights to distributions were subordinated to those of the public Trust Units until such time as certain conditions were satisfied. These conditions were met by February 2005, since which time, except as discussed below, the Class B Units have no longer been subordinated to the publicly traded Trust Units.

On May 11, 2005 certain holders of Class B Units (including senior management), representing more than 11 million units, agreed to forego a portion of their distributions until February 2006. Specifically, holders of approximately 3.4 million units agreed to forego all distributions, while holders of approximately 7.7 million units agreed to forego receipt of distributions in excess of $0.02 per unit. Such unitholders are entitled to a reimbursement of such foregone distributions, which at June 30, 2006 amounted to $4.2 million, only to the extent that the Fund generates sufficient Distributable Cash in the future.

Financial Covenants

Most of the Fund's outstanding debt is represented by its operating facility and senior secured notes. As at September 30, 2006, the Fund had $10.1 million drawn on its operating facility and $88.8 million of senior secured notes outstanding. Each of these facilities has financial covenants and cross default provisions that must be met.

On February 28, 2006, the Fund reached agreement with its Lenders to continue its operating facility and senior secured notes under modified terms and conditions. As a consequence, the Fund agreed to suspend distributions until it is in compliance with the covenants specified in the original Agreements, to pay consent and amendment fees amounting to US$0.5 million, to change certain covenants and cross-default provisions, and to change the method of charging interest, whereby the rates charged by its Lenders increase as the ratio of debt to adjusted EBITDA increases. The Fund is in compliance with these financial covenants as at September 30, 2006 and management of the Fund believes that it will be able to comply with these amended terms and conditions throughout the balance of the year.

Under the terms of this agreement, the Fund was required to have a debt to EBITDA ratio (based upon the trailing twelve-months) of less than 3 to 1 by September 30, 2007. This level was achieved for the twelve-months ended September 30, 2006.

Legislative Changes

Like others in the trust sector, the Fund was impacted by the Canadian Government's decision last week to introduce a tax on distributions made by publicly traded income trusts. Not having seen the final legislation, it is too early in the process to be definitive on the impacts of this tax on the Fund. However, to put things in context, it is important to note that the majority of the Fund's business is conducted outside of Canada and that the Fund pays tax in each of the foreign jurisdictions in which it operates. Since the Fund's IPO, for the periods ended December 31, 2002, 2003, 2004 and 2005, the percentage of distributions that were considered "other taxable income" amounted to 22.79%, 22.38%, 21.05% and 34.98%, respectively. Given the difficult conditions experienced in 2005, management does not consider the composition of distributions in that year to be representative of future expectations. Management's interpretation of the announcements made by the Department of Finance is that it is only this "other taxable income" that will be subject to the proposed tax of 31.5% starting in 2011.

Risks and Uncertainties

Menu and the Fund are subject to numerous risk factors in its ongoing business. These include reliance on a key customer, absence of long-term sales contracts, customer performance and relationships, foreign exchange fluctuations, governmental regulations and restrictions, reliance on key suppliers, reliance on key personnel, among others. For a review of some of the risks affecting the business, please refer to notes 19 and 20 to the accompanying consolidated financial statements. Additional information about the Fund is available at www.sedar.com.

In the present economic climate, the most significant risks and uncertainties facing the Fund and its ability to re-establish distributions at historic levels, result from the continued strength of the Canadian dollar relative to the United States dollar, and from the ongoing inability to pass input cost increases on to private-label customers in a timely manner. Since a majority of the Fund's operations and assets are in the United States, a "natural" business hedge exists. However, while it is possible to hedge Distributable Cash flow against future fluctuations in the currency (as has been done in the past), it is not possible to hedge business operations, so a continuation of a strong Canadian dollar will have a negative impact on the relative contribution of the Fund's United States denominated business. Similarly, if the Fund must continue to absorb increased raw material and other costs without the benefit of a timely price increase to its private-label customers, gross margin will remain depressed and profitability and the Fund's ability to pay distributions will be curtailed. Given the nature of the industry, price increases are largely beyond Menu's control.

The Fund's Lenders do not permit the Fund to make any monthly distributions unless it is in compliance with the covenants contained in the original Agreements with the Lenders, including a total debt to EBITDA ratio of 3 to 1 or less. Having attained a total debt to EBITDA ratio of less than 3 to 1 during the quarter ended September 30, 2006, the Fund is now accumulating distributable cash which can be used to make future distributions. Accordingly, it is necessary for the board to determine an appropriate strategy for making monthly distributions. There can be no assurance as to either when the Fund can resume monthly distributions, or the amount of the monthly distributions that can be paid at that time.

On October 31, 2006 the Department of Finance (Canada) announced the "Tax Fairness Plan" whereby the income tax rules applicable to publicly traded trusts and partnerships will be significantly modified. The Fund is considering this announcement and the possible impact of the proposed rules to the Fund. The proposed rules may adversely affect the marketability of the Fund's units and the ability of the Fund to undertake financings and acquisitions, and, at such time as the proposed rules apply to the Fund, the distributable cash of the Fund may be reduced.

Note A: EBITDA is not a recognized measure under Canadian generally accepted accounting principles (GAAP). Management believes that in addition to net income, EBITDA is a useful supplemental measure of operating performance as it provides investors with an indication of cash available for distribution prior to debt service, capital expenditures and income taxes. EBITDA, as defined in the Menu Foods Limited Partnership Agreement, is Earnings Before Interest, Taxes, Depreciation, Amortization and Non-controlling Interest.

Distributable Cash is not a recognized measure under GAAP. Management believes that together with net income and EBITDA, Distributable Cash is a useful supplemental measure of operating performance, which provides investors with an indication of cash available for distribution after adjusting for maintenance capital expenditures and certain principal repayments.

Investors should be cautioned, however, that neither EBITDA nor Distributable Cash should be construed as an alternative to net income determined in accordance with GAAP as an indicator of Menu's performance or to cash flows from operating, investing and financing activities as a measure of liquidity and cash flow. Menu's method of calculating EBITDA and Distributable Cash may differ from other companies and, accordingly, EBITDA and Distributable Cash may not be comparable to measures used by other companies.

The following are reconciliations of: Net income to EBITDA and of Cash Flow from Operating Activities to Distributable Cash for the third quarter:



For the Quarter ended
September 30
2006 2005
$'000's $'000's
Net income (loss) 1,346 (42,952)
Adjust for:
Goodwill impairment loss - 70,295
Non-controlling interest of
Class B Exchangeable Units 711 (26,997)
Amortization of property,
plant and equipment 3,813 4,555
Amortization of customer
relationship 127 139
Future income taxes 867 (597)
Current income taxes 84 (10)
Interest and financial
expenses 3,469 1,729
--------------------
EBITDA 10,417 6,162
--------------------
--------------------


For the Quarter ended
September 30
2006 2005
$'000's $'000's

Cash flow from operating
activities 14,326 11,147
Adjust for:
Change in non-cash working
capital items (6,178) (6,642)
Maintenance capital
expenditures (1,324) (593)
Principal repayments (*) (6) (37)
--------------------
Distributable Cash 6,818 3,875
--------------------
--------------------

The following are reconciliations of: Net income to EBITDA and of Cash
Flow from Operating Activities to Distributable Cash for the three quarters
and since the inception of the Fund:


For the Since Inception
Nine Months (May 22, 2002)
ended September 30, to September 30,
2006 2005 2006
$'000's $'000's $'000's

Net income (loss) 4,621 (40,868) (23,847)
Adjust for:
Goodwill impairment loss - 70,295 93,415
Non-controlling interest of
Class B Exchangeable Units 2,760 (25,389) (8,011)
Amortization of property,
plant and equipment 11,268 11,907 63,558
Amortization of customer
relationships 388 418 2,362
Future income taxes 1,497 (1,850) 6,395
Current income taxes 578 (17) 1,684
Interest and financial
expenses 8,239 4,869 25,808
-------------------------------------------
EBITDA 29,351 19,365 161,364
-------------------------------------------
-------------------------------------------


For the Since Inception
Nine Months (May 22, 2002)
ended September 30, to September 30,
2006 2005 2006
$'000's $'000's $'000's
Cash flow from operating
activities 21,830 22,338 109,947
Adjust for:
Change in non-cash working
capital items (290) (7,703) 27,026
Maintenance capital
expenditures (2,321) (2,114) (11,257)
Principal repayments (*) (18) (115) (561)
-------------------------------------------
Distributable Cash 19,201 12,406 125,155
-------------------------------------------
-------------------------------------------

(*) principal repayments exclude amounts paid to the bank and
noteholders under the terms of amended Agreements



Menu Foods Income Fund
Consolidated Balance Sheets
(All figures expressed in thousands of Canadian dollars, unaudited)

As at
September 30, December 31,
2006 2005

$ $
Assets

Current assets
Cash - 5,790
Accounts receivable
Trade 19,017 17,298
Other 3,263 2,133
Inventories (note 3) 48,944 49,475
Prepaid expenses and sundry assets 1,578 1,318
Income taxes recoverable 148 550
Future income taxes (note 14) 1,410 1,701
-------------------------------------------------------------------------
Total Current Assets 74,360 78,265
Property, plant and equipment (note 4) 97,056 107,622
Goodwill (note 5) 71,972 71,972
Other assets (note 6) 4,864 5,374
-------------------------------------------------------------------------
Total Assets 248,252 263,233
-------------------------------------------------------------------------
-------------------------------------------------------------------------

Liabilities

Current liabilities
Bank indebtedness (note 7) 12,652 29,309
Accounts payable and accrued liabilities 23,883 18,803
Current portion of long-term debt (note 8) 2,304 24
-------------------------------------------------------------------------
Total Current Liabilities 38,839 48,136
Long-term debt (note 8) 86,565 98,912
Future income taxes (note 14) 14,749 13,996
-------------------------------------------------------------------------
Total Liabilities 140,153 161,044
-------------------------------------------------------------------------

Class B Exchangeable Units (note 9) 30,699 31,639
-------------------------------------------------------------------------

Unitholders' Equity

Trust Units (note 10) 174,244 170,454
Contributed surplus (note 12) 414 272
Deficit (84,209) (88,830)
Foreign currency translation adjustment (13,049) (11,346)
-------------------------------------------------------------------------
Total Unitholders' Equity 77,400 70,550
-------------------------------------------------------------------------
Total Liabilities and Unitholders' Equity 248,252 263,233
-------------------------------------------------------------------------
-------------------------------------------------------------------------

The accompanying notes are an integral part of these consolidated
financial statements.



Menu Foods Income Fund
Consolidated Statements of Operations and Deficit
(All figures, except per Unit amounts,
expressed in thousands of Canadian dollars, unaudited)

Quarter ended
September 30,
2006 2005

$ $

Sales 90,083 93,643
Cost of sales (note 15) 76,582 86,368
-------------------------------------------------------------------------
Gross profit 13,501 7,275
Selling, general and administrative expenses 7,024 5,807
-------------------------------------------------------------------------
Income before the undernoted 6,477 1,468
Goodwill impairment loss (note 5) - 70,295
Financial expenses (note 13) 3,469 1,729
-------------------------------------------------------------------------
Income (loss) before income taxes and
non-controlling interest 3,008 (70,556)
-------------------------------------------------------------------------
Current income taxes 84 (10)
Future income taxes 867 (597)
-------------------------------------------------------------------------
Total income taxes (note 14) 951 (607)
-------------------------------------------------------------------------
Income (loss) before non-controlling interest 2,057 (69,949)
Non-controlling interest of Class B
Exchangeable Units (note 9) 711 (26,997)
-------------------------------------------------------------------------
Net income (loss) for the period 1,346 (42,952)
Deficit - beginning of period (85,555) (26,938)
Distributions (note 11) - (3,367)
-------------------------------------------------------------------------
Deficit - end of period (84,209) (73,257)
-------------------------------------------------------------------------
-------------------------------------------------------------------------

Basic net income (loss) per Trust Unit $ 0.071 $ (2.425)
Diluted net income (loss) per Trust Unit $ 0.071 $ (2.425)

Basic weighted average number of
Trust Units outstanding (note 10) 18,920,845 17,713,252
Diluted weighted average number of
Trust Units outstanding (note 10) 29,080,937 28,942,840

The accompanying notes are an integral part of these consolidated
financial statements.



Menu Foods Income Fund
Consolidated Statements of Operations and Deficit
(All figures, except per Unit amounts,
expressed in thousands of Canadian dollars, unaudited)

Nine months ended
September 30,
2006 2005

$ $

Sales 268,263 262,090
Cost of sales (note 15) 230,624 236,626
-------------------------------------------------------------------------
Gross profit 37,639 25,464
Selling, general and administrative expenses 19,944 18,424
-------------------------------------------------------------------------
Income before the undernoted 17,695 7,040
Goodwill impairment loss (note 5) - 70,295
Financial expenses (note 13) 8,239 4,869
-------------------------------------------------------------------------
Income (loss) before income taxes and
non-controlling interest 9,456 (68,124)
-------------------------------------------------------------------------
Current income taxes 578 (17)
Future income taxes 1,497 (1,850)
-------------------------------------------------------------------------
Total income taxes (note 14) 2,075 (1,867)
-------------------------------------------------------------------------
Income (loss) before non-controlling interest 7,381 (66,257)
Non-controlling interest of Class B
Exchangeable Units (note 9) 2,760 (25,389)
-------------------------------------------------------------------------
Net income (loss) for the period 4,621 (40,868)
Deficit - beginning of period (88,830) (19,182)
Distributions (note 11) - (13,207)
-------------------------------------------------------------------------
Deficit - end of period (84,209) (73,257)
-------------------------------------------------------------------------
-------------------------------------------------------------------------

Deficit comprises:
Accumulated net loss (24,020) (14,844)
Accumulated distributions (60,189) (58,413)
-------------------------------------------------------------------------
(84,209) (73,257)
-------------------------------------------------------------------------
-------------------------------------------------------------------------

Basic net income (loss) per Trust Unit $ 0.253 $ (2.426)
Diluted net income (loss) per Trust Unit $ 0.253 $ (2.426)

Basic weighted average number of
Trust Units outstanding (note 10) 18,275,232 16,845,019
Diluted weighted average number of
Trust Units outstanding (note 10) 29,049,118 28,933,356

The accompanying notes are an integral part of these consolidated
financial statements.



Menu Foods Income Fund
Consolidated Statements of Cash Flows
(All figures expressed in thousands of Canadian dollars, unaudited)

Quarter ended
September 30,
2006 2005

$ $
Cash provided by (used in)
Operating activities
Net income (loss) for the period 1,346 (42,952)
Adjustments for non-cash items
Goodwill impairment loss - 70,295
Non-controlling interest of Class B
Exchangeable Units 711 (26,997)
Amortization of property, plant and equipment 3,813 4,555
Amortization of customer relationship 127 139
Amortization of deferred financing costs 87 96
Unit-based compensation 81 117
Marked-to-market adjustment 1,116 (151)
Future income taxes 867 (597)
-------------------------------------------------------------------------
8,148 4,505
Change in non-cash working capital items
Accounts receivable (2,048) (3,655)
Inventories 3,535 13,794
Prepaid expenses and sundry assets 222 212
Income taxes recoverable (335) (110)
Accounts payable and accrued liabilities 4,804 (3,599)
-------------------------------------------------------------------------
14,326 11,147
-------------------------------------------------------------------------
Financing activities
Change in bank indebtedness (7,740) -
Issuance of Trust Units, net 32 230
Long-term debt repayments (4,469) (37)
Deferred financing charges 4 -
Distributions paid to Trust Units - (4,070)
Distributions paid to Class B Exchangeable Units - (1,770)
-------------------------------------------------------------------------
(12,173) (5,647)
-------------------------------------------------------------------------
Investing activities
Purchase of property, plant and equipment (2,153) (2,059)
Other assets - 68
-------------------------------------------------------------------------
(2,153) (1,991)
-------------------------------------------------------------------------
Increase in cash - 3,509
Cash - beginning of period - 3,637
-------------------------------------------------------------------------
Cash - end of period - 7,146
-------------------------------------------------------------------------
-------------------------------------------------------------------------

Supplementary information

Income taxes paid 65 15
Interest paid 2,409 1,511

The accompanying notes are an integral part of these consolidated
financial statements.



Menu Foods Income Fund
Consolidated Statements of Cash Flows
(All figures expressed in thousands of Canadian dollars, unaudited)

Nine months ended
September 30,
2006 2005

$ $

Cash provided by (used in)
Operating activities
Net income (loss) for the period 4,621 (40,868)
Adjustments for non-cash items
Goodwill impairment loss - 70,295
Non-controlling interest of Class B
Exchangeable Units 2,760 (25,389)
Amortization of property, plant and equipment 11,268 11,907
Amortization of customer relationship 388 418
Amortization of deferred financing costs 330 199
Unit-based compensation 486 183
Gain on sale of property, plant and equipment (29) -
Marked-to-market adjustment 219 (260)
Future income taxes 1,497 (1,850)
-------------------------------------------------------------------------
21,540 14,635
Change in non-cash working capital items
Accounts receivable (3,319) (865)
Inventories (1,093) 12,337
Prepaid expenses and sundry assets (277) 320
Income taxes recoverable 188 (313)
Accounts payable and accrued liabilities 4,791 (3,776)
-------------------------------------------------------------------------
21,830 22,338
-------------------------------------------------------------------------
Financing activities
Change in bank indebtedness (16,657) 18,777
Issuance of Trust Units, net 40 380
Long-term debt repayments (6,210) (115)
Deferred financing charges (636) -
Distributions paid to Trust Units - (14,013)
Distributions paid to Class B Exchangeable Units - (9,728)
-------------------------------------------------------------------------
(23,463) (4,699)
-------------------------------------------------------------------------
Investing activities
Purchase of property, plant and equipment (4,200) (10,016)
Other assets - (477)
Proceeds from sale of property,
plant and equipment 43 -
-------------------------------------------------------------------------
(4,157) (10,493)
-------------------------------------------------------------------------
Increase (decrease) in cash (5,790) 7,146
Cash - beginning of period 5,790 -
-------------------------------------------------------------------------
Cash - end of period - 7,146
-------------------------------------------------------------------------
-------------------------------------------------------------------------

Supplementary information

Income taxes paid 208 372
Interest paid 6,801 4,275

The accompanying notes are an integral part of these consolidated
financial statements.


Menu Foods Income Fund

Notes to Consolidated Financial Statements

September 30, 2006

(All figures, except per Unit amounts, expressed in thousands of Canadian

dollars, unaudited)

1. Description of the business

Menu Foods Income Fund (the "Fund") is an unincorporated open-ended trust, established under the laws of the Province of Ontario by Declaration of Trust dated March 25, 2002 (the "Declaration of Trust"). The Fund was created to hold directly or indirectly, investments in entities engaged in the manufacture and sale of pet food products, including the securities or assets of Menu Foods Limited ("Menu" or the "Company").

Menu was incorporated on May 17, 1971 under the laws of the Province of Ontario. The Company is mainly engaged in the manufacture of wet pet food products, which are sold primarily to retail and wholesale operations in Canada and the United States.

2. Summary of significant accounting policies

a) Basis of presentation

The Fund prepares its consolidated financial statements in accordance with Canadian generally accepted accounting principles.

The consolidated financial statements include the accounts of the Fund and all of its subsidiaries. All inter-company transactions and accounts have been eliminated on consolidation.

These consolidated financial statements are based on accounting principles consistent with those used and described in the annual consolidated financial statements as at December 31, 2005, and should be read in conjunction with those consolidated financial statements. The disclosures contained in these unaudited interim consolidated financial statements may not include all requirements of Canadian generally accepted accounting principles for annual statements.

Accounting measurements at interim dates involve greater reliance on estimates than at year-end. In the opinion of management, the accompanying unaudited interim consolidated financial statements include all adjustments of a normal recurring nature to present fairly the financial position of the Fund as at September 30, 2006.

Certain comparative figures have been reclassified to conform to the presentation adopted during the period.

b) Use of estimates

The preparation of consolidated financial statements in conformity with Canadian generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.

c) Cash and cash equivalents

Deposits in banks and short-term investments with original maturities of three months or less are considered cash and cash equivalents. Cash equivalents are carried at cost, which approximates fair market value, due to the short-term nature of these instruments.

d) Inventories

Inventories are valued at the lower of cost, determined on a first- in, first-out basis, and net realizable value.

e) Property, plant and equipment

Property, plant and equipment are carried at cost less accumulated amortization. Cost represents the cost of acquisition or construction, including preparation and testing charges and direct financing costs incurred until the beginning of commercial production. An impairment loss is recognized when the asset's carrying value is no longer recoverable from estimated future undiscounted cash flows. When an impairment loss is recognized, the carrying value of the asset would be reduced to its estimated fair value. Amortization is calculated using the straight-line method applied to the cost of the assets, at annual rates based on their estimated useful lives, as follows:



Buildings 20 - 40 years
Machinery and equipment 3 - 10 years
Equipment under capital lease 3 - 10 years
Other property and equipment 3 - 20 years


Construction-in-progress represents expenditures incurred for uncompleted projects. Upon completion, the related construction-in- progress balance is transferred to the appropriate asset class and amortization commences.

f) Future income taxes

The Fund follows the liability method of accounting for future income taxes. Under the liability method, future income tax assets and liabilities are determined based on temporary differences (differences between the accounting basis and the tax basis of the assets and liabilities) and are measured using the currently enacted, or substantively enacted, tax rates and laws expected to apply when these differences reverse. A valuation allowance is recorded against any future income tax asset, if it is more likely than not that the asset will not be realized. Applicable withholding taxes are accrued as foreign sourced income is earned to the extent that the repatriation of earnings from foreign subsidiaries is expected to occur.

g) Research and development

Research expenditures are expensed as incurred. Development expenditures are written off as incurred unless, in the view of management, the expenditures are incurred in the development of products or processes, which are expected to be commercially viable for a period that exceeds one year and have a long-term commercial future. In these cases, development costs are deferred and amortized over the estimated commercial life of the product or process on a straight-line basis, not to exceed five years.

h) Deferred financing charges

Costs associated with the arrangement of long-term financing are deferred and amortized over the term of the debt. The amortization is included in financial expenses.

i) Goodwill

Goodwill reflects the price paid for the Menu business in excess of the fair market value of net tangible assets and identifiable intangible assets acquired. Menu operates as one reporting unit for purposes of allocating and evaluating goodwill. The Fund reviews goodwill on an annual basis or at any other time when events or changes have occurred that suggest an impairment of the carrying value. Impairment is recognized when the estimated fair value of the goodwill is lower than the carrying value.

j) Customer relationship

The customer relationship includes an exclusive agreement to supply (the "Contract") a portion of a customer's canned wet pet food requirements in the United States and Canada. The Contract is carried at cost less accumulated amortization. Amortization is charged to cost of sales on a straight-line basis, over the estimated term of the Contract, which is ten years. The customer relationship is evaluated for impairment whenever events or changes in circumstances indicate the carrying value may not be recoverable. An impairment loss is recognized when estimated undiscounted cash flows expected to result from the customer relationship are less than the carrying value of the Contract. Should an impairment loss be recognized, the carrying value of the Contract would be reduced to its estimated fair value.

k) Foreign currency translation

Monetary assets and liabilities denominated in foreign currencies, except those of self-sustaining subsidiaries, are translated at the exchange rate in effect at the consolidated balance sheet date and non-monetary items are translated at historical exchange rates. Operating revenue and expenses are translated at average exchange rates prevailing during the period. Gains or losses arising from these translations are included in net income.

The assets and liabilities of all foreign subsidiaries, which are considered to be self-sustaining operations, are translated at the exchange rate in effect at the consolidated balance sheet date. Revenues and expenses are translated at average exchange rates prevailing during the period. The Fund has designated a portion of its United States' dollar indebtedness as a hedge of its net investment in the United States. The indebtedness is translated at the exchange rate in effect at the consolidated balance sheet date. The resulting gains or losses are included in the foreign currency translation adjustment in unitholders' equity.

l) Revenue recognition

The Fund recognizes revenue from the sale of manufactured goods at the time of product shipment. From time to time the Fund enters into contracts with customers to manufacture products on their behalf. In some instances the customers provide a portion of the inventory to be used in the manufacturing process. Accordingly, when the goods are shipped, the Fund includes in sales the invoice price to the customer and includes in cost of sales the Fund's portion of costs incurred.

The Fund enters into "Take-or-pay" arrangements with certain customers which require the customer to make payments to Menu if their purchases do not exceed contracted volumes. These arrangements are reflected in sales - $335 and $977 for the quarter and nine months ended September 30, 2006, respectively (2005 - $500 and $500). At present the Fund has two such contracts which expire in September 2007 and December 2008.

m) Supplier rebates

Volume rebates on supplier purchases are recorded throughout the period as a reduction of inventory and cost of sales based on management's best estimate of the amounts that will ultimately be received.

n) Unit-based compensation

The Fund expenses awards made under its unit-based compensation plans in accordance with the fair value based method.

o) Derivative instruments

Any non-qualifying hedging derivative financial instruments are recognized in the consolidated balance sheet and measured at fair value, with changes in fair value recognized in net income as a charge or credit to selling, general and administrative expenses or financial expenses as appropriate.

p) Asset retirement obligations

The fair value of any liability for an asset retirement obligation is recognized in the period in which it is incurred, if a reasonable estimate of fair value can be made. The associated retirement costs are capitalized as part of the carrying amount of the long-lived assets and amortized over the life of the asset. As at September 30, 2006, the Fund has concluded that there were no asset retirement obligations associated with its assets.

q) Non-controlling interest

Effective January 1, 2004, the Fund adopted the requirements of the Emerging Issues Committee of The Canadian Institute of Chartered Accountants Abstract 151. This abstract described circumstances whereby exchangeable units, previously included in unitholders' equity, should be shown as non-controlling interest. This change in accounting policy was given retroactive application.



3. Inventories

As at
September 30, December 31,
2006 2005

$ $
Raw materials and packaging 13,975 16,462
Finished goods 34,969 33,013
---------------------------------------------------------------------
48,944 49,475
---------------------------------------------------------------------
---------------------------------------------------------------------

4. Property, plant and equipment


September 30, 2006
Accumulated
Cost amortization Net
$ $ $

Land 5,130 - 5,130
Buildings 42,564 6,111 36,453
Machinery and equipment 88,797 39,475 49,322
Other property and equipment 14,672 11,276 3,396
Equipment under capital lease 97 83 14
Construction-in-progress 2,741 - 2,741
---------------------------------------------------------------------
154,001 56,945 97,056
---------------------------------------------------------------------
---------------------------------------------------------------------


December 31, 2005
Accumulated
Cost amortization Net
$ $ $

Land 5,248 - 5,248
Buildings 43,671 5,094 38,577
Machinery and equipment 90,563 32,275 58,288
Other property and equipment 14,069 9,619 4,450
Equipment under capital lease 97 81 16
Construction-in-progress 1,043 - 1,043
----------------------------------------------------------------------
154,691 47,069 107,622
----------------------------------------------------------------------
----------------------------------------------------------------------

5. Goodwill

When the Fund purchased its interest in Menu Foods Limited
Partnership, $165,387 of the purchase price was assigned as goodwill
in the consolidated financial statements. Under Canadian generally
accepted accounting principles, goodwill is subject to an annual
impairment test which, for the Fund, takes place as at September 30th
of each year. Since the Fund's units were trading at lower than their
book value at September 30, 2005 and through December 31, 2005, the
application of generally accepted accounting principles identified an
impairment in the carrying value of goodwill. Following a fair value
assessment of other assets, goodwill was written down by $70,295
during the quarter ended September 30, 2005 and by a further $23,120
during the quarter ended December 31, 2005. The annual impairment
test as at September 30, 2006 did not identify any further
impairment.

6. Other assets

September 30, 2006
Accumulated
Cost amortization Net
$ $ $

Customer relationship 5,607 1,994 3,613
Deferred financing charges 2,484 1,233 1,251
Deferred long-term incentive
plan (note 12) 518 518 -
---------------------------------------------------------------------
8,609 3,745 4,864
---------------------------------------------------------------------
---------------------------------------------------------------------


December 31, 2005
Accumulated
Cost amortization Net
$ $ $

Customer relationship 5,834 1,677 4,157
Deferred financing charges 1,842 925 917
Deferred long-term incentive
plan (note 12) 518 218 300
---------------------------------------------------------------------
8,194 2,820 5,374
---------------------------------------------------------------------
---------------------------------------------------------------------


7. Bank indebtedness

The banking agreement provides the Fund with a US$30,000 operating facility of which $12,652 (US$11,319) was outstanding as at September 30, 2006 (December 31, 2005 - $29,309 (US$25,201)).

The Fund must adhere to certain restrictive covenants and required financial ratios in order to satisfy its obligations under the terms of its financing agreements with both its bankers and senior secured noteholders (note 8) (the "Lenders"). During 2005, the Fund was not in compliance with certain covenants contained in these agreements. The Fund obtained waivers of these breaches from its bankers and forbearance from its senior secured noteholders and on February 28, 2006 entered into amended agreements (the "Agreements") with its Lenders. The Agreements, among other things, define the terms and conditions governing the Fund's US$30,000 operating facility and US$85,000 senior secured notes facilities, going forward. The Fund is in compliance with its covenants at September 30, 2006. As part of these renegotiations, the Fund agreed to pay US$75 in fees to the bank, plus all associated legal expenses. The bank operating facility is a 364-day revolving term facility, which expires on February 27, 2007. The Management expects that the facility will be renewed on similar terms as presently exist.

Pursuant to its amended banking agreement, when the Fund's total debt to EBITDA ratio (the "Leverage Ratio"), as defined in the amended banking agreement, is less than or equal to 3 to 1, this operating facility bears interest at Canadian prime rate (6.00% as at September 30, 2006), U.S. base rate (8.25% as at September 30, 2006) or Euro rate plus 1.50% (6.87% as at September 30, 2006) (the "Base Rates") depending on the currency advanced. When the Leverage Ratio increases above 3 to 1, but is less than or equal to 4 to 1 the Base Rates increase by 1%. Similarly, should the Leverage Ratio be greater than 4 to 1 the Base Rates increase by 1.25%. In addition, the Fund is precluded from paying distributions to its Unitholders at any time the Leverage Ratio exceeds 3 to 1.

In the meantime, the Fund is required to use a portion of its excess cash to reduce its indebtedness until this Leverage Ratio is achieved. Specifically, the amended agreement requires the Fund to offer 50% of its excess cash (as defined in the amended agreement) to its Lenders each quarter, with a further 25% to be offered after the year end or after the first quarter that the Leverage Ratio of 3 to 1 or less is achieved. In the case of the bank, the reduction takes the form of a reduction in the operating facility. The bank's entitlement for the quarter ended June 30, 2006 amounted to $887 and for the quarter ended March 31, 2006 amounted to $748. These amounts were offered to the bank in accordance with this arrangement but the bank declined the offer to reduce the operating facility. Since the Fund's Leverage Ratio for the quarter ended September 30, 2006 was less than 3 to 1, a further $817 in respect of the quarters ended March 31, 2006 and June 30, 2006 must be offered to the bank during the fourth quarter of 2006.

The Fund has pledged, on a pari pasu basis with its noteholders, as security for bank indebtedness, all moveable property and book debts and, in addition, has signed a general security agreement.

At September 30, 2006, the Fund has an outstanding letter of credit in the amount of $950 (US$850) (December 31, 2005 - $645 (US$555)).



8. Long-term debt

As at
September 30, December 31,
2006 2005
$ $

Senior secured notes (a) 88,806 98,855
Obligation under capital lease (b) 63 81
---------------------------------------------------------------------
88,869 98,936
Less: Current portion 2,304 24
---------------------------------------------------------------------
86,565 98,912
---------------------------------------------------------------------
---------------------------------------------------------------------


a) Senior secured notes

On October 31, 2003, the Fund closed a private placement offering for US$85,000 in floating rate senior secured notes. The notes are repayable on October 31, 2010, with interest payable quarterly. The Fund has pledged, on a pari pasu basis with its banker, as security for its senior secured notes, all moveable property and book debts and, in addition, has signed a general security agreement. The Fund must adhere to certain restrictive covenants and required financial ratios in order to satisfy its obligations under the terms of its financing arrangements with both its banker (note 7) and senior secured noteholders.

During 2005, the Fund was not in compliance with certain covenants contained in these agreements. The Fund obtained waivers of these breaches from its bankers and forbearance from its senior secured noteholders and on February 28, 2006 entered into amended Agreements with its Lenders. The Agreements, among other things, define the terms and conditions governing the Fund's US$85,000 senior secured notes facilities and US$30,000 operating facility, going forward. The Fund is in compliance with its covenants at September 30, 2006. As part of the renegotiations, the Fund agreed to pay, in 2006, US$468 in fees to the noteholders, plus all associated legal expenses.

Pursuant to the terms of the amended agreement, when the Fund's Leverage Ratio is less than or equal to 3 to 1, the senior secured notes bear interest at floating rate, three-month LIBOR plus 155 basis points. When the Leverage Ratio increases above 3 to 1, but is less than or equal to 4 to 1 this rate increases to three-month LIBOR plus 255 basis points. Similarly, should the Leverage Ratio be greater than 4 to 1 this rate increases to three-month LIBOR plus 305 basis points. From January 1, 2006 until April 29, 2006 the interest rate was fixed at three-month LIBOR plus 355 basis points. In addition, the Fund is precluded from paying distributions to its Unitholders at any time the Leverage Ratio exceeds 3 to 1.

In the meantime, the Fund is required to use a portion of its excess cash to reduce its indebtedness until this level of leverage is achieved. Specifically, the amended agreement requires the Fund to offer 50% of its excess cash (as defined in the amended agreement) to its Lenders each quarter, with a further 25% to be offered after the year end or after the first quarter that the leverage ratio of 3 to 1 or less is achieved. In the case of the noteholders, this equated to $3,178 and $3,657 for the quarters ended March 31, 2006 and June 30, 2006, respectively. Since the bank did not accept the reduction in its facility (note 7), the agreements require Menu to offer the reduction to the noteholders. This amounted to an additional $748 and an additional $887 for the quarters ended March 31, 2006 and June 30, 2006, respectively. Accordingly, $1,729 (US$1,540) was repaid to the noteholders on June 30, 2006, $1,138 (US$1,014) on July 14, 2006 and $3,325 (US$2,992) on September 29, 2006.

Since the Fund's Leverage Ratio for the quarter ended September 30, 2006 was less than 3 to 1, a further $2,278 in respect of the quarters ended March 31, 2006 and June 30, 2006, must be offered to the noteholders during the fourth quarter of 2006.

During the quarter ended March 31, 2006, the Fund fixed interest rates at 5.35% plus the applicable spread on US$50,000 through to October 2010 (note 19).

b) Obligation under capital lease

The Fund entered into a capital lease in December 2002, collateralized by certain computer equipment. The lease, which was modified in December 2005, provides for blended monthly payments of $3 (2005 - $14).

Minimum lease payments:



As at
September 30, December 31,
2006 2005
$ $

2006 8 32
2007 32 32
2008 31 31
---------------------------------------------------------------------
Total minimum lease payments 71 95
Less: Amounts representing interest at
10.40 % (6.60% - 2005) 8 14
---------------------------------------------------------------------
Balance of obligation 63 81
Less: Current portion 26 24
---------------------------------------------------------------------
37 57
---------------------------------------------------------------------
---------------------------------------------------------------------

9. Class B Exchangeable Units

Number Carrying
of units value
$
Class B Exchangeable Units of MFLP
December 31, 2004 12,631,915 81,363
Conversion of Class B Exchangeable Units
to Trust Units (note 10) (1,498,260) (9,166)
Share of net loss for the year (34,036)
Distributions for the year (6,522)
---------------------------------------------------------------------
December 31, 2005 11,133,655 31,639
Conversion of Class B Exchangeable Units
to Trust Units (note 10) (1,236,431) (3,700)
Share of net income for the period 2,760
---------------------------------------------------------------------
September 30, 2006 9,897,224 30,699
---------------------------------------------------------------------
---------------------------------------------------------------------


The Class B Exchangeable Units together with their related Special Trust Units (note 10) can be exchanged on a one-for-one basis with the Fund for Trust Units at the option of the holder.

During the second quarter of 2005, certain holders of Class B Exchangeable Units agreed to subordinate their entitlement to distributions for a ten-month period beginning with the distributions in respect of the month of May 2005 and ending with the distributions in respect of the month of February 2006. Distributions subordinated amounted to $4,151. Such Unitholders are entitled to a reimbursement of such subordinated distributions before distributions can be increased above 9 cents per unit, per month. No obligation arises to the Fund in respect of these subordinated amounts until it has generated sufficient distributable cash and, accordingly, no amount has been accrued in distributions payable at September 30, 2006.



10. Trust Units

Issued
Number Gross Issuance Net
of units proceeds costs proceeds
$ $ $
Trust Units
December 31, 2004 16,140,236 171,672 11,300 160,372
Conversion of
Class B Exchangeable
Units during the
quarter ended
September 30, 2005
(note 9) 1,498,260 9,166 - 9,166
Exercise of options
during quarter ended
(note 12):
March 31, 2005 41,573 347 - 347
June 30, 2005 8,829 58 - 58
September 30, 2005 77,261 511 - 511
---------------------------------------------------------------------
December 31, 2005 17,766,159 181,754 11,300 170,454
Conversion of Class B
Exchangeable Units
during the quarter
ended
June 30, 2006
(note 9) 876,598 2,602 - 2,602
September 30, 2006
(note 9) 359,833 1,098 - 1,098
Exercise of options
during the quarter
ended (note 12)
March 31, 2006 2,575 17 - 17
September 30, 2006 11,037 73 - 73
---------------------------------------------------------------------
September 30, 2006 19,016,202 185,544 11,300 174,244
---------------------------------------------------------------------
---------------------------------------------------------------------


Special Trust Units

Special Trust Units are used solely for providing voting rights to the holders of Class B Exchangeable Units ("Class B Units") (note 9) and by their terms have voting rights of the Fund. Special Trust Units are not transferable separately from the Class B Units to which they relate. Conversely, the Special Trust Units will automatically be transferred upon a transfer of the associated Class B Units. Each Special Trust Unit entitles the holder thereof to a number of votes at any meeting of Unitholders and holders of Special Trust Units equal to the number of Units that may be obtained upon the exchange of the Class B Units to which the Special Trust Unit relates, but do not otherwise entitle the holder to any rights with respect to the Fund's property or income. The Fund issued 12,631,915 Special Trust Units relating to the Class B Units at the date of acquisition of Menu. There were 9,897,224 Special Trust Units outstanding as at September 30, 2006 (note 9).

Weighted average number of Units outstanding

Basic net income (loss) per Trust Unit is computed by dividing net income for the period by the weighted average number of Trust Units outstanding during the period. Diluted net income (loss) per Trust Unit includes the effect of exercising unit options (note 12), only if dilutive and includes the Class B Exchangeable Units using the "if converted" method.

The following table reconciles the basic weighted average number of units outstanding to the diluted weighted average number of units outstanding:



Quarter ended September 30,
2006 2005

Weighted average number of Trust
Units outstanding - basic 18,920,845 17,713,252
Weighted average number of Class B
Units outstanding - basic (note 9) 9,987,182 11,133,655
Dilutive effect of options (note 12) 172,910 95,933
---------------------------------------------------------------------
Weighted average number of units
outstanding - diluted 29,080,937 28,942,840
---------------------------------------------------------------------
---------------------------------------------------------------------

Nine months ended September 30,
2006 2005

Weighted average number of Trust Units
outstanding - basic 18,275,232 16,845,019
Weighted average number of Class B Units
outstanding - basic (note 9) 10,628,492 11,973,339
Dilutive effect of options (note 12) 145,394 114,998
---------------------------------------------------------------------
Weighted average number of units
outstanding - diluted 29,049,118 28,933,356
---------------------------------------------------------------------
---------------------------------------------------------------------

11. Distributions

No distributions were declared on the Trust Units during the quarter
and nine months ended September 30, 2006 (2005 - $3,367 ($0.1900 per
unit) and $13,207 ($0.7900 per unit), respectively).

No distributions were declared on the Class B Units during the
quarter and nine months ended September 30, 2006 (2005 (net of
subordinated distributions) - $464 ($0.0416 per unit) and $6,213
($0.4984 per unit), respectively).


11. Distributions

No distributions were declared on the Trust Units during the quarter and nine months ended September 30, 2006 (2005 - $3,367 ($0.1900 per unit) and $13,207 ($0.7900 per unit), respectively).

No distributions were declared on the Class B Units during the quarter and nine months ended September 30, 2006 (2005 (net of subordinated distributions) - $464 ($0.0416 per unit) and $6,213 ($0.4984 per unit), respectively).

12. Unit-based compensation

Unit option plan

Menu Foods Corporation (the former parent company of Menu) had an executive stock option plan pursuant to which there were outstanding options issued to 61 of its directors, executive officers and key employees. In connection with the Fund's Initial Public Offering and the acquisition of Menu, these options were exchanged for Trust Unit options in the Fund having equivalent terms and conditions.

The fair value of the Trust Unit options was determined as part of the cost of the acquisition of Menu Foods Limited Partnership ("MFLP") using the Black-Scholes model, incorporating a 4.25% risk free interest rate, at a 35% volatility factor and 11.75% expected distributions. On this basis, each Trust Unit option was valued at $5.36. The valuation of total Trust Unit options, after allowing for expected forfeitures, aggregated to $4,776, which was included as contributed surplus at the acquisition date. These options expire in November and December 2006.

During the quarter ended March 31, 2006, 959,296 unit options with an exercise price of $4.56 were granted to 41 employees and 6,000 unit options with an exercise price of $5.25 were granted to one employee. During the quarter ended June 30, 2006, 21,000 unit options with an exercise price of $5.00 were granted to one employee and 15,000 unit options with an exercise price of $4.56 were forfeited. These options, of which 238,148 will vest after 36 months, with the balance vesting one-third annually over three years. All options will expire 39 months after the date of grant, if not exercised. The option plan under which these options were granted, which authorizes 2,815,000 units, was approved by the Unitholders at the Annual and Special Meeting of the Fund held on May 11, 2006. Compensation expense of $81 and $192 were recognized for the quarter and nine months ended September 30, 2006, respectively, which was added to contributed surplus. Total compensation expense to be recognized under these awards is estimated to be $985.

The fair value of the Trust Unit options was determined using the Black-Scholes model, incorporating a 3.90% risk free interest rate, at a 34% volatility factor, 3.33% expected distributions and expected life 39 months. On this basis, each Trust Unit option was valued at $1.02.

A summary of option activities since January 1, 2005 is as follows:



Weighted
Range of average
Number exercise exercise
of options prices prices

January 1, 2005 202,346 2.977 2.977
Exercise of options during
quarter ended
March 31, 2005 (41,573) 2.977 2.977
June 30, 2005 (8,829) 2.977 2.977
September 30, 2005 (77,261) 2.977 2.977
---------------------------------------------------------------------
December 31, 2005 74,683 2.977 2.977
Options granted during
quarter ended
March 31, 2006 965,296 4.560-5.250 4.564
June 30, 2006 21,000 5.000 5.000
Options forfeited during
quarter ended
June 30, 2006 (15,000) 4.560 4.560
Exercise of options during
quarter ended
March 31, 2006 (2,575) 2.977 2.977
September 30, 2006 (11,037) 2.977 2.977
---------------------------------------------------------------------
Ending balance 1,032,367 2.977-5.250 4.479
---------------------------------------------------------------------
---------------------------------------------------------------------

The outstanding options are summarized as follows:

Options outstanding Vested options outstanding
Number Weighted Number Weighted
average average
remaining remaining
life life

Exercise price
2.977 61,071 3 months 61,071 3 months
4.560 944,296 32 months -
5.250 6,000 32 months -
5.000 21,000 35 months -
---------------------------------------------------------------------
1,032,367 61,071
---------------------------------------------------------------------
---------------------------------------------------------------------


Contributed surplus attributed to Trust Unit options

September 30, December 31,
2006 2005
$ $
Opening balance 272 808
Compensation expense recognized for
unit options 192 -
Options exercised (50) (536)
---------------------------------------------------------------------
Ending balance 414 272
---------------------------------------------------------------------
---------------------------------------------------------------------


As the Trust Unit options are exercised, the associated contributed surplus is reclassified to Trust Units (note 10).

Long-term incentive plan

In 2003, the Fund adopted a discretionary long-term incentive plan (the "Incentive Plan") for the 2003, 2004 and 2005 financial years in which trustees, directors, officers and employees (collectively the "Participants") were all eligible to participate. Pursuant to the Incentive Plan, the Fund could contribute an amount, equal to 14.286% of the amount by which distributable cash, as defined by the Declaration of Trust for a calendar year exceeded $33,500 and $34,000 for the calendar years 2004 and 2005, respectively, to a trust on behalf of the Participants in the Incentive Plan. The trust would then purchase Units, on the open market, equal in value to the amount contributed. Units would be awarded to Participants based on determinations made by the Compensation and Corporate Governance Committee of Menu Foods GenPar Limited's Board of Directors (the "Committee").

Once purchased, the Committee would determine the number of Units acquired on behalf of each Participant based on the amount contributed to the Trust on their behalf. Units awarded vested over a three-year period, subject to the provisions of the Incentive Plan. If the employment of a Participant was terminated prior to the final vesting of the Units attributed to such Participant, such Participant's unvested Units were sold and the net proceeds returned to the Fund. In February 2005, 36,390 Trust Units were purchased for $518 for the benefit of 22 individuals of which 6,330 units had vested by December 31, 2005. The Compensation and Corporate Governance Committee determined that during the quarter ended March 31, 2006, all outstanding units vested to the participants and the Incentive Plan was replaced by the unit option plan discussed above.

13. Financial expenses Quarter ended September 30, 2006 2005 $ $



13. Financial expenses
Quarter ended September 30,
2006 2005
$ $

Interest on senior secured notes 1,914 1,293
Interest on bank indebtedness 344 318
Interest on capital leases 2 3
Net loss on interest rate swap 1,116 92
Amortization of deferred financing
charges and associated costs 87 96
Other, net 6 (73)
---------------------------------------------------------------------
3,469 1,729
---------------------------------------------------------------------
---------------------------------------------------------------------


Nine months ended September 30,
2006 2005
$ $

Interest on senior secured notes 5,818 3,649
Interest on bank indebtedness 1,201 912
Interest on capital leases 6 9
Net loss on interest rate swap 219 133
Amortization of deferred financing
charges and associated costs 985 199
Other, net 10 (33)
---------------------------------------------------------------------
8,239 4,869
---------------------------------------------------------------------
---------------------------------------------------------------------


14. Income taxes

Income tax obligations relating to distributions from the Fund are obligations of the Unitholders and, accordingly, no provision for income taxes is made in respect of distributed income of the Fund. A provision for income taxes is recognized for the Fund's subsidiaries that are subject to tax.

The provision for income taxes in the consolidated statement of operations and deficit reflects an effective rate that differs from the combined Canadian federal and provincial rates for the following reasons:



Quarter ended September 30,
2006 2005
$ $
Income (loss) before income taxes and
non-controlling interest 3,008 (70,556)
Goodwill impairment loss - 70,295
Income of the Fund subject to tax in
the hands of recipients - (2,020)
---------------------------------------------------------------------
Income (loss) of subsidiary entities
subject to tax 3,008 (2,281)
---------------------------------------------------------------------
Income taxes at statutory rate 1,037 (787)
Increase (decrease) resulting from:
Effect of foreign tax rate (637) (525)
Other and permanent differences 551 705
---------------------------------------------------------------------
951 (607)
---------------------------------------------------------------------
---------------------------------------------------------------------

Nine months ended September 30,
2006 2005
$ $

Income (loss) before income taxes
and non-controlling interest 9,456 (68,124)
Goodwill impairment loss - 70,295
Income of the Fund subject to tax in
the hands of recipients - (7,223)
---------------------------------------------------------------------
Income (loss) of subsidiary entities
subject to tax 9,456 (5,052)
---------------------------------------------------------------------
Income taxes of statutory rate 3,260 (1,742)
Increase (decrease) resulting from:
Effect of foreign tax rate (1,362) (1,613)
Other and permanent differences 177 1,488
---------------------------------------------------------------------
2,075 (1,867)
---------------------------------------------------------------------
---------------------------------------------------------------------

The tax effects of temporary differences that give rise to the future
tax assets and future tax liabilities are:

As at
September 30, December 31,
2006 2005
$ $

Current future income tax assets:
Accounts receivable, accounts payable
and accrued liabilities 262 290
Inventory provisions 1,148 1,411
---------------------------------------------------------------------
1,410 1,701
---------------------------------------------------------------------
Long-term future income tax liabilities:
Property, plant and equipment 14,559 16,849
Withholding tax on foreign retained earnings 502 331
Tax benefits of loss carry-forwards (2,828) (5,984)
Valuation allowance 1,805 1,768
Other 711 1,032
---------------------------------------------------------------------
14,749 13,996
---------------------------------------------------------------------
---------------------------------------------------------------------

The benefits of these future tax loss carry-forwards expire between
2008 and 2010.


15. Other expenses and income

Research and development expenses amounted to $64 and $194 for the quarter and nine months ended September 30, 2006, respectively (2005 - $61 and $194). These expenses are included in cost of sales.



16. Obligations under operating leases

Future minimum payments under operating leases at September 30, 2006
are as follows:
$
2006 400
2007 846
2008 755
2009 541
2010 244
Thereafter 4
---------------------------------------------------------------------
2,790
---------------------------------------------------------------------
---------------------------------------------------------------------


17. Employee benefit plans

The Fund sponsors a 401(K) retirement savings plan in the United States for all eligible employees and a registered defined contribution pension plan for all eligible Canadian employees. The Fund has no past service pension liabilities.

Under the above plans, contributions are made by plan members, with varying matching contributions from the Fund.

The total expense related to these plans was $383 and $1,204 for the quarter and nine months ended September 30, 2006, respectively (2005 - $406 and $1,264).

18. Segmented information

The Fund's operations fall into one reportable business segment. The Fund is principally engaged in the manufacture of wet pet food products, where it serves major customers on a North American basis. Geographic segment information is presented below.

Accounting policies relating to each geographic operating segment are identical to those used for the purposes of these consolidated financial statements. Intersegment sales are made at values that approximate those prevailing in the markets, less a distribution margin. The point of invoicing and the location of the assets determine the geographic areas.



Quarter ended September 30,
2006 2005
$ $
Sales
Canada
Domestic 11,392 13,130
Foreign 27,060 21,974
Intersegment transfers 2,420 3,060
---------------------------------------------------------------------
40,872 38,164
---------------------------------------------------------------------
United States
Domestic 54,621 60,848
Foreign 114 68
Intersegment transfers 31,773 24,712
---------------------------------------------------------------------
86,508 85,628
---------------------------------------------------------------------
127,380 123,792
Elimination of intersegment transfers (34,193) (27,772)
Discounts (3,104) (2,377)
---------------------------------------------------------------------
90,083 93,643
---------------------------------------------------------------------
---------------------------------------------------------------------

Nine months ended September 30,
2006 2005
$ $
Sales
Canada
Domestic 35,088 39,305
Foreign 76,109 56,985
Intersegment transfers 10,189 7,377
---------------------------------------------------------------------
121,386 103,667
---------------------------------------------------------------------
United States
Domestic 165,302 173,175
Foreign 774 700
Intersegment transfers 93,614 60,604
---------------------------------------------------------------------
259,690 234,479
---------------------------------------------------------------------
381,076 338,146
Elimination of intersegment transfers (103,803) (67,981)
Discounts (9,010) (8,075)
---------------------------------------------------------------------
268,263 262,090
---------------------------------------------------------------------
---------------------------------------------------------------------

As at
September 30, December 31,
2006 2005
Property, plant and equipment $ $

Canada 34,517 33,423
United States 119,484 121,268
---------------------------------------------------------------------
154,001 154,691
Less: Accumulated amortization 56,945 47,069
---------------------------------------------------------------------
97,056 107,622
---------------------------------------------------------------------
---------------------------------------------------------------------

Given the nature of the Fund's operations, goodwill relates to the
Fund as a whole and cannot practicably be allocated on a geographic
basis.


19. Financial instruments

Credit risk

The Fund, in the normal course of business, reviews significant new customers' credit history and financial statements before extending credit and performs regular reviews of its existing credit performance.

Foreign exchange and interest rate risks

The Fund generates significant cash flows in foreign currency and is therefore exposed to risks relating to foreign exchange fluctuations. It is also subject to risks relating to interest rate fluctuations. In order to reduce these risks, the Fund uses derivative financial instruments, which are not held or issued for speculative purposes.

As at September 30, 2006 and December 31, 2005 the Fund did not have any outstanding foreign currency forward contracts.

The Fund has fixed interest rates on a portion of its indebtedness (note 8). The marked-to-market value of the contract at September 30, 2006 resulted in an unrealized loss of $219 (December 31, 2005 - $nil), which is included in accounts payable on the consolidated balance sheet, and debited to interest expense during the nine months ended September 30, 2006.

Fair value of financial instruments

The carrying values of cash, trade and other receivables, bank indebtedness, accounts payable and accrued liabilities and income taxes payable and recoverable approximate their fair values because of the near maturity of these instruments. The carrying value of long-term debt bearing interest at variable rates (note 8) approximates its fair value because effective rates represent the rates that would be used to calculate fair value.

20. Economic dependence

The Fund has approximately 22.6% of its sales to one customer and has approximately 43.5% of its sales to its three largest customers. Other than these customers, the Fund does not have a significant exposure to any individual customer. The Fund relies on a single supplier for the majority of its can requirements. Should this supplier fail to deliver in a timely manner, delays and/or shutdowns of the Fund's operations could result.

%SEDAR: 00017624E

Contact Information

  • Menu Foods GenPar Limited
    Mark Wiens
    Chief Financial Officer
    (905) 826-3870