Contents 2. Directors and Officers 3. Letter to Shareholders 4. Selected Financial Data 5. Business 6. Selected Quarterly Financial Data 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 18. Financial Statements ALICO, INC. 640 South Main Street Post Office Box 338 La Belle, Florida 33975 Tel: (863) 675-2966 Fax: (863) 675-6928 www.alicoinc.com ANNUAL MEETING Thursday, December 4, 2003, 10:00 a.m. Alico Arena Florida Gulf Coast University Fort Myers, Florida STOCK TRANSFER AGENT SunTrust Bank, Atlanta P.O. Box 4625 Atlanta, GA 30302-4625 – 1 – Directors Ben Hill Griffin, III* Chairman of the Board, Chief Executive Officer and Chairman of the Executive Committee Alico, Inc. La Belle, Florida Chairman of the Board and Chief Executive Officer Ben Hill Griffin, Inc. Frostproof, Florida Richard C. Ackert** President and Chief Executive Officer of SouthTrust Bank Fort Myers, Florida Walker E. Blount, Jr.** Retired Advisor to Wright, Walker & Company, P.A. Bartow, Florida Amy Gravina*** President Gravina, Smith and Matte Director Florida Gulf Bank Fort Myers, Florida William L. Barton** Retired Chief Executive Officer Wilson Miller, Inc. President Mitigation Land Partners, Inc. Naples, Florida Monterey Campbell, III** Attorney Gray Harris Robinson Lane Trohn Lakeland, Florida K. E. Hartsaw Retired Partner of KPMG, LLP Agribusiness Industry Consultant Orlando, Florida W. Bernard Lester* President and Chief Operating Officer Alico, Inc. La Belle, Florida Thomas E. Oakley** President Oakley Transport, Inc. Lake Wales, Florida *Member of the Executive Committee **Member of the Audit and Compensation Committees ***Member of the Compensation Committee Officers Ben Hill Griffin, III, Chairman and Chief Executive Officer W. Bernard Lester, President and Chief Operating Officer L. Craig Simmons, Vice President and Chief Financial Officer Steven M. Smith, Vice President, Citrus Division John T. Brantley, Vice President, Sugarcane and Special Crops Division B. Wade Grigsby, Vice President, Ranch Division Robert P. Miley, Vice President, Heavy Equipment Division Denise Plair, Corporate Secretary – 2 – Letter to Shareholders’ November 10, 2003 To Our Shareholders: Net income for the year ended August 31, 2003 increased to $12.7 million, or $1.78 per share, compared to $7.5 million, or $1.07 per share during the same period a year ago. Earnings from agricultural operations increased during the year due to improvements in citrus and sugarcane earnings. While citrus revenue decreased, the decline was more than offset by decreases in both harvesting and production costs. Improvement in sugarcane yields was the primary cause of the earnings increase for this division. Ranch earnings declined due to a reduction in the number of cattle sold during the year. These factors created increases in gross profits of $317 thousand in the Citrus Division and $853 thousand in the Sugarcane Division, while the Ranch Division decreased $202 thousand during the year. During fiscal 2003, our wholly owned subsidiary, Alico-Agri, Ltd., closed on sales of 353 acres in Lee County, Florida, for $15.2 million, generating gains of $13.4 million. When combined with sales from Saddlebag Lake Resorts and other miscellaneous land sales, real estate earnings increased $3.4 million over the prior year. The Company is continuing its marketing and permitting activities related to the land surrounding the Florida Gulf Coast University. There are contracts in place for 5,700 acres of the Lee County property totaling $171.8 million. The agreements are at various stages of the due diligence periods with closing dates expected over the next three years. Without the support of our Shareholders, Board of Directors and employees, the favorable operating results and other financial successes would not be possible. We appreciate your continuing support. Sincerely, Ben Hill Griffin, III Chairman and Chief Executive Officer – 3 – Selected financial data 2003 Years Ended August 31, (in thousands except per share amounts) 2001 2000 2002 1999 Revenues Costs and Expenses Income Taxes Net Income Average Number of Shares Outstanding Net Income per Share Cash Dividend Paid per Share Current Assets Total Assets Current Liabilities Ratio - Current Assets to Current Liabilities Working Capital Long-Term Obligations Total Liabilities Stockholders’ Equity $ 66,532 $ 63,545 $ 69,710 $ 62,540 $ 44,947 47,448 53,752 49,598 41,965 37,886 6,425 12,659 7,106 1.78 .35 2,258 7,535 7,070 1.07 1.00 4,046 6,464 16,066 14,111 7,033 7,028 2.29 1.00 2.01 .30 2,980 4,081 7,028 .58 .50 90,204 66,267 61,345 56,578 45,182 212,748 191,910 179,134 176,876 156,922 10,722 8.41:1 79,482 75,844 86,566 9,543 6.94:1 56,724 69,149 78,692 7,691 7.98:1 53,654 58,818 66,509 12,346 4.58:1 44,232 60,985 73,331 126,182 113,218 112,625 103,545 8,738 5.17:1 36,444 56,789 65,527 91,395 Common stock prices and other stockholder information The common stock of Alico, Inc. is traded over the counter on the NASDAQ National Market System under the symbol ALCO. The high and low sales prices, by fiscal quarter, during the years ended August 31, 2003 and 2002 are presented below: 2003 2002 High Low High Low First Quarter ......................... Second Quarter ..................... Third Quarter ........................ Fourth Quarter ...................... 28.80 28.04 27.30 28.70 22.25 21.15 21.00 22.72 30.21 32.17 29.70 29.54 24.90 28.50 28.20 28.01 The Company has 553 registered holders of record, but believes there are many more beneficial owners. Dividend information Only year end dividends have been paid and during the last three fiscal years were as follows: Record Date October 13, 2000 October 12, 2001 October 11, 2002 Payment Date October 27, 2000 October 26, 2001 October 25, 2002 Amount Paid Per Share $1.00 $1.00 $.35 The Company’s Board of directors, at its meeting on October 7, 2003, declared a dividend of $.60 per share payable on October 31, 2003 to shareholders of record on October 17, 2003. – 4 – Business Alico, Inc. is an agribusiness company, primarily engaged in the production of citrus, cattle, sugarcane, sod and forest products. Gross revenue derived from these combined sources ranged from 69 to 82 percent of total revenues during the last five years. Revenues from mining rock, sand and other road building and construction materials, by independent operators on Company lands, is another important source of income producing from 2 to 3 percent of total revenues during the last five years. The Company also engages in land rentals for farming, cattle grazing, recreational, oil exploration and miscellaneous uses. Gross income from these sources, during the last five years, ranged from 1 to 2 percent of total revenues. While the Company is not in the retail land development and sales business except through its wholly owned subsidiary, Saddlebag Lake Resorts, Inc., it does from time to time sell land which, in the opinion of management, is surplus to the Company’s primary operations. Additionally, the Company’s wholly owned subsidiary, Alico-Agri, Ltd., engages in bulk land sales in connection with the generation of underwriting capital. Gains from sales of real estate during the past five years has contributed from 10 to 23 percent of total revenues. Earnings from interest and investments has provided from 2 to 5 percent of total revenues for the past five years. Subsidiary Operations The Company has three wholly owned subsidiaries. Saddlebag Lake Resorts, Inc. is engaged exclusively in retail land sales and development. A small acreage subdivision, Blue Jordan Forest, covering approximately 1,100 acres and divided into 299 lots near Frostproof, Florida has been developed with sales commencing in the fall of 1986. Two other projects, Saddlebag Lake Recreational Campground and Tiger Creek Forest (a small acreage subdivision), both of which have been sold out, were also developed by the subsidiary. Agri-Insurance Company, Ltd., (“Agri”) newly formed during fiscal 2000, was created to write crop insurance against catastrophic losses due to weather and/or disease. During fiscal 2002 and 2003, the subsidiary wrote a limited amount of coverage for Ben Hill Griffin, Inc., and for all of the Alico, Inc. citrus groves. Alico-Agri, Ltd. was formed in fiscal 2003 to manage the real estate holdings of Agri. The financial results of the operations of these subsidiaries are consolidated with those of the parent Company. JACKSONVILLE Acreage by current primary use OCALA DAYTONA BEACH County Timber Land Native Pasture Improved Pasture Sod Citrus Land Sugar- cane Agri- culture Other Total ORLANDO • Polk 251 8,559 359 — 3,253 — — 1 12,423 TAMPA LAKELAND • Lee 2,792 1,086 — — — — 1,460 625 5,963 • Hendry 3,823 48,735 21,573 580 3,765 14,358 15,953 3,435 112,222 FORT MYERS LA BELLE WEST PALM BEACH • Collier 1,882 1,700 1,112 — 4,129 — — 2,333 11,156 NAPLES Totals 8,748 60,080 23,044 580 11,147 14,358 17,413 6,394 141,764 MIAMI – 5 – Selected quarterly financial data (Unaudited) Summarized quarterly financial data (in thousands except for per share amounts) for the years ended August 31, 2003 and August 31, 2002, is as follows: Quarters Ended November 30, February 28, May 31, August 31, 2002 2001 2003 2002 2003 2002 2003 2002 Revenue Citrus Sugarcane Ranch Property sales Interest Other revenues $ 1,621 $ 1,506 $ 9,774 $ 7,689 $ 9,247 $ 9,889 $ 3,465 $ 6,021 2,748 2,118 535 276 957 2,255 3,590 2,819 497 879 5,212 1,146 134 245 942 6,978 2,013 8,547 336 569 4,977 3,086 178 229 703 1,883 2,536 252 403 983 436 825 673 963 16,143 1,155 451 1,084 235 874 Total revenue 8,255 11,546 17,453 26,132 18,420 15,946 22,404 9,921 Costs and expenses Citrus Sugarcane Ranch Interest Other Total costs 1,580 2,224 2,214 541 1,485 1,855 3,010 514 9,405 4,062 1,025 483 7,348 5,497 1,857 531 7,385 3,476 2,658 518 7,605 1,864 2,434 682 1,736 4,983 426 893 539 241 1,214 694 1,347 1,401 1,398 5,888 1,436 1,341 4,102 3,308 and expenses 7,906 8,265 16,373 21,121 15,473 13,926 7,696 10,440 Income (loss) before income taxes 349 3,281 1,080 5,011 2,947 2,020 14,708 (519) Provision for income taxes 91 277 290 295 882 1,589 5,162 97 Net income (loss) $ 258 $ 3,004 $ 790 $ 4,716 $ 2,065 $ 431 $ 9,546 $ (616) Basic earnings (loss) per share $ .04 $ .43 $ .11 $ .66 $ .29 $ .06 $ 1.34 $ (.08) Weighted-average shares outstanding 7,097 7,056 7,108 7,065 7,110 7,073 7,111 7,076 – 6 – Management’s Discussion and Analysis of Financial Condition and Results of Operations Cautionary Statement Readers should note, in particular, that this document contains forward-looking Statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that involve substantial risks and uncertainties. When used in this document, or in the documents incorporated by reference herein, the words “anticipate”, “believe”, “estimate”, “may”, “intend”, “expect” and other words of similar meaning, are likely to address the Company’s growth strategy, financial results and/or product development programs. Actual results, perfor- mance or achievements could differ materially from those contemplated, expressed or implied by the forward-looking statements contained herein. The considerations listed herein represent certain important factors the Company be- lieves could cause such results to differ. These considerations are not intended to represent a complete list of the general or specific risks that may affect the Company. It should be recognized that other risks, including general economic factors and expansion strategies, may be significant, presently or in the future, and the risks set forth herein may affect the Company to a greater extent than indicated. The following discussion focuses on the results of operations and the financial condition of the Company. This section should be read in conjunction with the consolidated financial statements and notes. Liquidity and Capital Resources The Company had cash and marketable securities of $55.2 million at August 31, 2003, compared with $31.6 million at August 31, 2002. Working capital was $79.5 million and $56.7 million at August 31, 2003 and August 31, 2002 respectively. Cash outlay for land, equipment, buildings, and other improvements totaled $7.3 million during fiscal 2003, com- pared to $9.3 million during fiscal 2002 and $8.5 million during fiscal 2001, respectively. Land preparation for citrus development and capital maintenance continued, as did expenditures for replacement equipment and raising of breeding cattle. Management believes that the Company will be able to meet its working capital requirements for the foreseeable future with internally generated funds. In addition, the Company has credit commitments which provide for revolving credit of up to $54.0 million, of which $10.2 million was available for the Company’s general use at August 31, 2003 (see Note 6 of Notes to consolidated financial statements). – 7 – Results of Operations Summary of results (in thousands): Operating revenue Gross profit General & administrative expenses Income (loss) from operations Profit on sale of real estate Interest and investment income Interest expense Other income Provision for income taxes Effective income tax rate Net income Operating Revenue Operating revenues for fiscal 2003 decreased compared to fiscal 2002. A $60,000 decrease in revenues from agricultural $50,000 activities was the most significant factor in the decline. Operating revenues for fiscal 2002 decreased when compared to those of fiscal 2001. A decrease in revenues from agricul- tural activities was the most significant factor in the decline. ) s d n a s u o h t n i ( s r a l l o D $40,000 $30,000 $20,000 $10,000 0 Years Ended August 31, 2002 2003 2001 $48,285 $49,185 $51,533 11,022 6,319 4,703 14,994 1,201 2,081 267 6,425 9,678 10,806 (1,128) 11,641 1,471 2,421 230 2,258 11,921 5,471 6,450 11,354 2,124 3,029 3,213 4,046 33.7 % 23.1 % 20.1 % 12,659 7,535 16,066 Operating Revenue 2003 2002 2001 Fiscal Year (ended August 31,) Income (loss) from Operations Income from operations increased significantly during fiscal 2003 when compared to the prior year ( $ 4,703 in fiscal 2003 vs. $(1,128) in fiscal 2002). The improvement in earnings was largely impacted by the Company's fiscal 2002 commitment to donate $5.0 million to Florida Gulf Coast University (the University) in December 2001, for a new athletic complex, scholarships and athletic programs. In accordance with the Company’s agreement with the Univer- sity, $1.0 million was paid in fiscal 2002, $800 thousand was paid in fiscal 2003, and $800 thousand will be paid each year over the next four years. The entire donation was accrued and included in general and administrative expenses during fiscal 2002. The remaining increase in gross profits from operations was due to an increase in earnings from agricultural activities. Income from operations decreased 117% during fiscal 2002 when compared to fiscal 2001, due to increased general and administrative expenses resulting from the accrued University donation. – 8 – Interest & Investment Income vs. Expense Interest and Investment Income Interest and investment income is generated principally from investments in marketable equity securities, corporate and municipal bonds, mutual funds, U.S. Treasury securi- ties and mortgages held on real estate sold on the installment basis. Realized invest- ment earnings were reinvested throughout fiscal 2003, 2002 and 2001, increasing ) s d n a s u o h t n i ( s r a l l o D $4,000 $3,000 $2,000 $1,000 $0 Interest & Investment Income Interest Expense 2003 2002 2001 Fiscal Year (ended August 31,) investment levels during each year. The decrease in fiscal 2003, 2002 and 2001, interest and realized and unrealized investment income resulted from unfavorable conditions in the financial markets. Interest Expense Interest expense declined during fiscal 2003 when compared to fiscal 2002, as interest rates on borrowings have declined. Interest expense decreased during fiscal 2002, compared to fiscal 2001. This was due to a decline in interest rates on borrowings. Individual Operating Divisions Gross profits (in thousands) for the individual operating divisions, for fiscal 2003, 2002 and 2001, are presented in the following schedule and are discussed in subsequent sections: Citrus Revenues Sales Less harvesting & marketing Net sales Costs and expenses Direct production** Allocated cost* Total Gross profit, citrus 2003 Years Ended August 31, 2002 2001 $ 24,107 $ 25,105 $ 27,570 8,910 15,197 7,671 3,525 11,196 4,001 9,364 15,741 8,594 3,463 12,057 3,684 10,046 17,524 8,932 3,472 12,404 5,120 – 9 – 2003 Years Ended August 31, 2002 2001 13,373 2,915 10,458 3,844 3,429 7,273 3,185 11,789 2,239 9,550 3,965 3,253 7,218 2,332 12,450 2,516 9,934 4,094 3,018 7,112 2,822 7,175 9,102 8,788 4,937 1,853 6,790 385 7,571 2,154 973 292 – 267 3,686 882 5,437 6,319 (2,633) 4,938 1,201 2,081 (880) 6,087 2,428 8,515 587 6,603 1,999 721 355 – 230 3,305 735 10,071 10,806 (7,501) (898) 1,471 2,421 (950) 5,287 2,107 7,394 1,394 9,336 1,726 770 91 2,968 245 5,800 604 4,867 5,471 329 9,665 2,124 3,029 (905) Sugarcane Revenues Sales Less harvesting & hauling Net sales Costs and expenses Direct production Allocated cost* Total Gross profit, sugarcane Ranch Revenues Sales Costs and expenses Direct production Allocated cost* Total Gross profit, ranch Total gross profit, agriculture Other operations Revenues Rock products and sand Oil leases and land rentals Forest products Recovery of citrus eradication costs in excess of basis Other Total Costs and expenses Allocated cost* General and administrative, all operations Total Gross income (loss), other operations Total gross profit (loss) Interest & dividends Revenue Expense Interest & dividends, net – 10 – Real estate Revenue Sale of real estate Expenses Cost of sales Other Costs Total Gain on sale of real estate 2003 Years Ended August 31, 2002 2001 16,990 12,773 12,978 1,925 39 1,964 15,026 1,076 56 1,132 11,641 1,393 233 1,626 11,352 Income before income taxes $ 19,084 $ 9,793 $ 20,112 * Allocated cost includes ad valorem and payroll taxes, depreciation and insurance. ** Excludes capitalized maintenance cost of groves less than five years of age consisting of $2.3 million on 1,617 acres in 2003, $2.5 million on 1,326 acres in 2002, and $200 thousand on 570 acres in 2001. Citrus Gross profit was $4.0 million in fiscal 2003, $3.7 million in fiscal 2002, and $5.1 $10,000 million for fiscal 2001. Revenue from citrus sales decreased 4% during fiscal 2003, compared to fiscal 2002 ($24.1 million during fiscal 2003 vs. $25.1 million during fiscal 2002). Pounds of fruit solids per box decreased dur- ing fiscal 2003, compared to fiscal 2002, and was the primary cause of the decline. ) s d n a s u o h t n i ( s r a l l o D $8,000 $6,000 $4,000 $2,000 $0 Citrus Division Gross Profit 2003 2002 2001 Fiscal Year (ended August 31,) Harvesting and marketing costs decreased when compared to fiscal 2002 due to procedural efficiencies that resulted in a decrease in the per box rate during the year. Direct production and allocated costs decreased 7% due to a decrease in the costs of cultivation and irrigation caused by improved weather conditions. – 11 – Citrus acreage by variety and age 1-4 5-6 7-8 9-10 11-12 13-14 15-16 17+ Acres Variety Early Parson Brown Oranges — Hamlin Oranges 314 Red Grapefruit Tangelos Navel Oranges Mid Season Pineapple Oranges Honey Tangerines — — — — — — — — — — — — Midsweet Oranges 46 71 Late — 22 — — — — — — — — — — — 102 76 164 118 63 — — — — — — — — — — — — — — 30 — 148 159 2,934 3,492 73 335 408 — — — — — 38 38 138 138 518 620 143 219 — 281 Valencia Oranges 1,259 206 237 585 366 959 271 1,920 5,803 Totals 1,619 277 259 927 547 959 533 6,026 11,147 Revenue from citrus sales decreased 9% during fiscal 2002, compared to fiscal 2001 ($25.1 million during fiscal 2002 vs. $27.6 million during fiscal 2001). Production decreased during fiscal 2002, compared to fiscal 2001 and was the primary cause of the decline. Harvesting and marketing costs decreased in fiscal 2002 compared to fiscal 2001, corresponding to a decrease in boxes harvested. Direct production and allocated costs decreased 3% due to a decline in the number of producing acres. The final returns from citrus pools are not precisely determinable at year end. Returns are estimated each year based on the most current information available. Differences between the estimates and the final realization of revenues can be significant. Revenues collected in excess of prior year and year end estimates were $198 thousand, $568 thousand, and $617 thousand during fiscal 2003, 2002 and 2001, respectively. – 12 – Sugarcane Gross profit for fiscal 2003 was $3.2 million, compared to $2.3 million in fiscal 2002 and $2.8 million in fiscal 2001. Sales revenue from sugarcane increased 13% during fiscal 2003, compared to fiscal 2002 ($13.4 million vs. $11.8 million, respectively). The increase was the result of an improvement in the yield per acre brought about by favorable weather conditions during the growing season. Direct production costs Sugarcane Division Gross Profit $4,000 $3,000 $2,000 $1,000 ) s d n a s u o h t n i ( s r a l l o D $0 2003 2002 2001 Fiscal Year (ended August 31,) decreased 3% during fiscal 2003, compared to fiscal 2002. This was offset by a 5% rise in allocated costs, compared to 2002 levels, due to increases in insurance costs and ad valorem taxes. Sales revenues from sugarcane decreased 5% during fiscal 2002, compared to fiscal 2001 ($11.8 million vs. $12.5 million, respectively). The decrease in revenue and related costs was the result of lower yields resulting from a drought. Ranch Division Gross Profit Ranching The gross profit from ranch operations for fiscal 2003, 2002 and 2001 was $385 $2,000 thousand, $587 thousand, and $1.4 million, respectively. Revenues from cattle sales decreased 21% during fiscal 2003, compared to fiscal 2002 ($7.2 million in fiscal 2003 vs. $9.1 million in fiscal 2002). Direct and allocated produc- ) s d n a s u o h t n i ( s r a l l o D $1,000 $500 tion costs decreased by 20% during fiscal 0 2003, as compared to fiscal 2002 ($6.8 2003 2002 2001 Fiscal Year (ended August 31,) million in fiscal 2003 vs. $8.5 million in fiscal 2002). The decline in revenue and total production costs primarily resulted from a corresponding decrease in the total number of cattle sold during fiscal 2003 when compared to fiscal 2002. Revenues from cattle sales increased 3% during fiscal 2002, compared to fiscal 2001 ($9.1 million in fiscal 2002 vs. $8.8 million in fiscal 2001) due to increased sales of feeder cattle during the year. Direct and allocated costs increased 15% when compared to the prior year ($8.5 million during fiscal 2002 and $7.4 million during fiscal 2001) due to the increase in the number of animals sold from feedlots. The Company’s cattle marketing activities include retention of calves in western feedlots, contract and auction sales, and risk management contracts. – 13 – Other Operations Revenues from oil royalties and land rentals were $973 thousand in fiscal 2003 as compared to $721 thousand in fiscal 2002 and $770 thousand for fiscal 2001. The fiscal 2003 improvement is primarily due to an increase in the amount of land leased for farming. Returns from rock products and sand were $2.2 million for fiscal 2003, $2.0 million for 2002 and $1.7 million during 2001. Rock and sand supplies are sufficient to meet current demand, and no major price changes have occurred over the past 3 years. Profits from the sale of sabal palms and other horticultural items, for landscaping purposes, during fiscal 2003 were $292 thousand compared to $355 thousand and $91 thousand for fiscal years 2002 and 2001, respectively. Direct and allocated expenses charged to the “Other” operations category included general and administrative and other costs not charged directly to the citrus, ranching or sugarcane divisions. These expenses totaled $6.3 million during fiscal 2003, compared to $10.8 million during fiscal 2002 and to $5.5 million during fiscal 2001. In Decem- ber 2001, the Company agreed to donate $5.0 million to the Florida Gulf Coast University for a new athletic complex, scholarships and athletic programs. As per the agreement with the University, $1.0 million was paid in fiscal 2002, $800 thousand was paid in fiscal 2003 and $800 thousand will be paid each year over the next four years. The net present value of the total donation was accrued and included in general and administrative expenses in fiscal 2002 and was the primary cause for the increase in general and administrative expenses for that year. Profit on Sale of Real Estate Profit from retail land sales, made through Saddlebag, were $32 thousand in fiscal 2003, vs. breaking even during fiscal 2002. Profit from bulk land sales, increased from $11.6 million in fiscal 2002 to $15.0 million in fiscal 2003. Real estate profits increased from $11.4 million in fiscal 2001 to $11.6 million during fiscal 2002. Gains From Real Estate Sales ) s d n a s u o h t n i ( s r a l l o D $17,500 $15,000 $12,500 $10,000 $7,500 $5,000 $2,500 $0 2003 2002 2001 Fiscal Year (ended August 31,) General Corporate The Company is continuing its marketing and permitting activities for its land which surrounds Florida Gulf Coast University in Lee County, Florida. There are sales contracts in place for all this property, totaling $171.8 million. The agreements are at various stages in the due diligence process with closing dates expected over the next three years. During January 2002, the Company acquired 40 acres of Lee County, Florida property for $9.5 million. The property is located near one of the interstate highway access ramps to Florida Gulf Coast University and the Southwest Florida International Airport. During the third quarter of fiscal 2003, Agri announced a contract to sell the 40 acres to Halvorsen Development. The contract price is $13.1 million and the closing may occur by December 10, 2004. – 14 – During the second quarter of fiscal 2003, Agri contracted to sell an additional 53 acres in Lee County, Florida to the Ginn Company. The contract price is $10.6 million. Agri also announced an addition to the original Ginn Company contract, adding 555 acres for a price of $13.32 million. This amendment brought the total acreage of the contract to 5,060. During the third quarter of fiscal 2003, the Company entered into a limited partnership with its wholly owned subsid- iary, Agri-Insurance Company, Ltd. The partnership was created to manage Agri’s real estate holdings. Agri transferred all of the Lee County property and associated sales contracts to the limited partnership, Alico-Agri, Ltd. (Alico-Agri) in return for a 99% partnership interest. Alico, Inc. transferred $1.2 million cash for a 1% interest. The creation of the partnership allows Agri to concentrate solely on insurance matters while utilizing Alico’s knowledge of real estate management. The partnership will pay Alico a management fee for real estate management and administrative services. In the fourth quarter of fiscal 2003, the Company, through Alico-Agri, completed the sale of 313 acres in Lee County, Florida to Airport Interstate Associates, LLC. The sales price was $9.7 million and resulted in a gain of $8.7 million. Additionally, Alico-Agri completed the sale of 40 acres in Lee County, Florida to University Club Apartments/Gulf Coast, LLC. The sales price of the property was $5.5 million and generated a gain of $4.7 million. During the fourth quarter of fiscal 2003, the Company sold 358 acres in Hendry County, Florida for $669 thousand. The sale generated a gain of $335 thousand. Additionally, the Company sold 266 acres in Polk County, Florida for $617 thousand, generating a gain of $612 thousand. The Company announced the formation of Agri-Insurance Company, Ltd. (Agri) a wholly owned subsidiary, during July of 2000. The insurance company was initially capitalized by transferring cash and approximately 3,000 acres of the Lee County property. Through Agri, the Company has been able to underwrite previously uninsurable risk related to catastrophic crop and other losses. The coverages currently underwritten by Agri will indemnify insured’s for the loss of the revenue stream resulting from a catastrophic event that would cause a grove to be replanted. To expedite the creation of the capital liquidity necessary to underwrite the Company's exposure to catastrophic losses, another 5,600 acres was transferred during fiscal 2001. Agri underwrote a limited amount of coverage for Ben Hill Griffin, Inc. during fiscal 2003, 2002 and 2001 and in August 2002 began insuring the Alico, Inc., citrus groves. As Agri gains underwrit- ing experience and increases its liquidity, it will be able to increase its insurance programs. Agri is a recently created entity. It would be difficult, if not impossible, to speculate about the impact that Agri could have on the Company’s financial position, results of operations and liquidity in future periods. Since the coverages that have been written, as liquidity has been generated, are primarily for the benefit of Alico, the financial substance of this venture is to insure risk that is inherent in the Company's existing operations. Critical Accounting Policies and Estimates The preparation of the Company’s financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. On an on-going basis, management evaluates the estimates and assumptions based upon historical experi- ence and various other factors and circumstances. Management believes that the estimates and assumptions are reasonable in the circumstances; however, actual results may vary from these estimates and assumptions under different future circumstances. The following critical accounting policies have been identified that affect the more significant judgments and estimates used in the preparation of the consolidated financial statements. – 15 – The Company records inventory at the lower of cost or market. Management regularly assesses estimated inventory valuations based on current and forecasted usage of the related commodity and any other relevant factors that affect the net realizable value. Based on fruit buyers’ and processors’ advances to growers, stated cash and futures markets combined experience in the industry, management reviews the reasonableness of the citrus revenue accrual. Adjustments are made throughout the year to these estimates as relevant information regarding the citrus market becomes available. Fluctuation in the market prices for citrus fruit has caused the Company to recognize additional revenue from prior years’ crop totaling $198 thousand, $568 thousand, and $617 thousand during fiscal 2003, 2002, and 2001, respectively. In accordance with Statement of Position 85-3 “Accounting by Agricultural Producers and Agricultural Cooperatives”, the cost of growing crops (citrus and sugarcane) are capitalized into inventory until the time of harvest. Once a given crop is harvested, the related inventoried costs are recognized as a cost of sale to provide an appropriate matching of costs incurred with the related revenue earned. Alico formed a wholly owned insurance subsidiary, Agri Insurance Company, Ltd. (Bermuda) (“Agri”) in June of 2000. Agri was formed in response to the lack of insurance availability, both in the traditional commercial insurance markets and governmental sponsored insurance programs, suitable to provide coverages for the increasing number and poten- tial severity of agricultural related events. Such events include citrus canker, crop diseases, livestock related maladies and weather. Alico’s goal included not only prefunding its potential exposures related to the aforementioned events, but also to attempt to attract new underwriting capital if it is successful in profitably underwriting its own potential risks as well as similar risks of its historic business partners. Alico primarily utilized its inventory of land and additional contributed capital to bolster the underwriting capacity of Agri. As Agri has converted certain of the assets contributed by Alico to cash, book and tax differences have arisen resulting from differing viewpoints related to the tax treatment of insurance companies for federal and state tax purposes. Due to the historic nature of the primary assets contributed as capital to Agri and the timing of the sales of certain of those assets by Agri, management has decided to record a contingent liability, providing for potential differences in the tax treatment of sales of Agri’s assets. Management’s decision has been influenced by perceived changes in the regulatory environment. – 16 – Independent Auditor’s Report The Stockholders and Board of Directors Alico, Inc.: We have audited the consolidated balance sheets of Alico, Inc. and subsidiaries as of August 31, 2003 and 2002, and the related consolidated statements of operations, stockholders’ equity and comprehensive income (loss), and cash flows for each of the years in the three-year period ended August 31, 2003. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Alico, Inc. and subsidiaries at August 31, 2003 and 2002, and the results of their operations and their cash flows for each of the years in the three-year period ended August 31, 2003 in conformity with accounting principles generally accepted in the United States of America. Orlando, Florida October 10, 2003 – 17 – Consolidated balance sheets (in thousands) Years Ended August 31, 2003 2002 Assets Current assets: Cash, including time deposits and other cash investments of $16,303 in 2003 and $10,028 in 2002 $ 16,352 $ 10,140 Marketable securities available for sale, at estimated fair value in 2003 and in 2002 (note 2) 38,820 21,417 Accounts receivable ($6,470 in 2003 and $6,457 in 2002 due from affiliate (note 12) ) Mortgages and notes receivable, current portion (note 3) Inventories (note 4) Income tax refund receivable Other current assets Total current assets Other assets: Land inventories Mortgages and notes receivable, net of current portion (note 3) Investments Total other assets Property, buildings and equipment (note 5) Less accumulated depreciation 9,680 2,534 9,461 2,451 21,845 21,672 229 744 271 855 90,204 66,267 16,587 16,787 234 886 2,693 908 17,707 20,388 144,578 142,355 (39,741) (37,100) Net property, buildings and equipment 104,837 105,255 Total assets $212,748 $191,910 – 18 – Liabilities and stockholders’ equity Current liabilities: Accounts payable Due to profit sharing plan (note 10) Accrued ad valorem taxes Current portion of notes payable (note 6) Accrued expenses Deferred income taxes (note 11) Donation payable Total current liabilities Deferred revenue Notes payable (note 6) Deferred income taxes (note 11) Deferred retirement benefits (note 10) Other noncurrent liabilities (note 8) Donation payable Total liabilities Stockholders’ equity: Preferred stock, no par value. Authorized 1,000,000 shares; issued, none Common stock, $1 par value. Authorized 15,000,000 shares; issued and outstanding 7,116,070 in 2003 and 7,080,344 in 2002 Additional Paid in Capital Accumulated other comprehensive income (loss) Retained earnings Total stockholders’ equity Years Ended August 31, 2003 2002 $ 2,110 $ 1,438 350 1,519 3,321 988 1,680 754 285 1,524 3,318 1,169 1,038 771 10,722 9,543 91 113 54,127 52,658 9,668 120 9,609 2,229 9,728 119 3,641 2,890 86,566 78,692 – – 7,116 3,074 961 7,080 1,716 (432) 115,031 104,854 126,182 113,218 Total liabilities and stockholders’ equity $212,748 $191,910 See accompanying notes to consolidated financial statements. – 19 – Consolidated statements of operations (in thousands except per share amounts) Revenue Citrus (including revenues from affiliate (Note 12)) Sugarcane Ranch Forest products Rock and sand royalties Oil lease and land rentals Retail land sales Years Ended August 31, 2002 2001 2003 $ 24,107 13,373 7,175 292 2,154 973 211 $ 25,105 11,789 9,102 355 1,999 721 114 $ 27,570 12,450 8,788 91 1,726 770 138 Operating revenue 48,285 49,185 51,533 Costs of sales Citrus production, harvesting and marketing (including charges from affiliate (Note 12)) Sugarcane production, harvesting and hauling Ranch Retail land sales Total costs of sales Gross profit General and administrative expenses Income (loss) from operations Other income (expenses) Profit on sales of real estate: Sales Cost of sales Profit on sales of real estate, net Interest and investment income Recovery of citrus eradication costs in excess of basis (Note 14) Interest expense (Note 6) Other Total other income, net Income before income taxes Provision for income taxes (Note 11) 20,106 10,188 6,790 179 37,263 11,022 6,319 4,703 16,779 1,785 14,994 1,201 – (2,081) 267 14,381 19,084 6,425 21,421 9,457 8,515 114 39,507 9,678 10,806 (1,128) 12,659 1,018 11,641 1,471 – (2,421) 230 10,921 9,793 2,258 22,450 9,628 7,394 140 39,612 11,921 5,471 6,450 12,840 1,486 11,354 2,124 2,968 (3,029) 245 13,662 20,112 4,046 Net Income $ 12,659 $ 7,535 $ 16,066 Weighted-average number of shares outstanding Weighted-average number of dilutive shares outstanding Per share amounts Basic Diluted Dividends See accompanying Notes to Consolidated Financial Statements. 7,106 7,256 $1.78 $1.74 $1.35 7,070 7,188 $1.07 $1.05 $1.00 7,033 7,057 $2.29 $2.28 $1.00 – 20 – Consolidated statements of stockholders’ equity and other comprehensive income (loss) (in thousands) Balances, August 31, 2000 Comprehensive income: Net income for the year ended August 31, 2001 Unrealized losses on securities, net of taxes of $(174) and reclassification adjustment Total comprehensive income: Dividends paid Stock options exercised Stock based compensation Balances, August 31, 2001 Comprehensive income: Net income for the year ended August 31, 2002 Unrealized losses on securities, net of taxes of $(622) and reclassification adjustment Total comprehensive income: Dividends paid Stock options exercised Stock based compensation Balances, August 31, 2002 Comprehensive income: Net income for the year ended August 31, 2003 Unrealized gains on securities, net of taxes of $552 and reclassification adjustment Total comprehensive income: Dividends paid Stock options exercised Stock based compensation Common Stock Shares Issued Amount Additional Paid-In-Capital Accumulated Other Comprehensive Income (Loss) Retained Earnings Total 7,028 $ 7,028 $ 18 $ 1,159 $ 95,340 $ 103,545 – – – – 17 – – – – – – – 17 227 86 7,045 $ 7,045 $ 331 $ – – – – 35 – – – – – – – 35 494 891 7,080 $ 7,080 $ 1,716 $ – – – – 36 – – – – – – – 36 519 839 – – – – – 16,066 16,066 (288) – (7,028) – – (288) 15,778 (7,028) 244 86 871 $ 104,378 $ 112,625 7,535 7,535 (1,303) – (1,303) 6,232 (7,059) 529 891 (7,059) – – (432) $ 104,854 $ 113,218 12,659 12,659 – – – – 1,393 – – – – (2,482) – – 1,393 14,052 (2,482) 555 839 Balances, August 31, 2003 7,116 $ 7,116 $ 3,074 $ 961 $ 115,031 $ 126,182 Disclosure of reclassification amount: Unrealized holding gains (losses) arising during the period Less: reclassification adjustment for gains (losses) included in net income Net unrealized gains (losses) on securities See accompanying notes to consolidated financial statements. 2003 2002 2001 2,651 $ (1,774) $1, (207) 1,258 (471) 81 1,393 $ (1,303) $ 1,(288) $ $ – 21 – Consolidated statements of cash flows (in thousands) Increase (Decrease) in Cash and Cash Investments Cash flows from operating activities Net Income Adjustments to reconcile net income to cash provided by operating activities: Depreciation and amortization (Gain) Loss on breeding herd sales Deferred income tax expense, net Deferred retirement benefits Net (gain) loss on sale of marketable securities (Gain) Loss on disposal of property and equipment Years Ended August 31, 2002 2001 2003 $ 12,659 $ 7,535 $ 16,066 6,723 (16) 582 1 (691) 606 6,982 (84) 1,263 (31) 381 (150) 6,946 (77) 1,179 (102) (160) 1,642 Gain on real estate sales (15,026) (11,758) (11,586) Stock options granted below fair market value 839 891 86 Cash provided by (used for) changes in: Accounts receivable Inventories Other assets Accounts payable and accrued expenses Income taxes payable Deferred revenues (218) (173) 111 5,840 42 (23) 692 1,059 57 2,944 (294) 48 1,847 (1,702) (600) (112) (4,147) 53 Net cash provided by operating activities 11,256 9,535 9,333 Cash flows from investing activities Increase in land inventories Purchases of property and equipment Proceeds from disposals of property and equipment Proceeds from sale of real estate Purchases of other investments Purchases of marketable securities Proceeds from sales of marketable securities Issuances of mortgages and notes receivable Collection of mortgages and notes receivable (684) (7,325) 431 15,911 – (20,257) 4,958 – 2,377 (9,785) (9,270) 1,257 12,789 (126) (8,047) 3,673 (79) 2,528 (925) (8,502) 959 2,880 (212) (3,013) 2,039 (381) 2,630 Net cash used for investing activities (4,589) (7,060) (4,525) – 22 – Cash flows from financing activities Proceeds from exercising stock options Proceeds of bank loans Repayment of bank loans Dividends paid Years Ended August 31, 2002 2001 2003 555 33,169 (31,697) (2,482) 529 43,597 244 43,194 (35,627) (36,789) (7,059) (7,028) Net cash provided by (used for) financing activities (455) 1,440 (379) Net increase in cash and cash investments 6,212 3,915 4,429 Cash and cash investments At beginning of year 10,140 6,225 1,796 At end of year $ 16,352 $ 10,140 $ 6,225 Supplemental disclosures of cash flow information Cash paid for interest, net of amount capitalized $ 1,767 $ 2,124 $ 3,102 Cash paid for income taxes, including related interest (note 11) $ 1,060 $ 943 $ 3,116 Noncash investing activities Fair value adjustments to securities available for sale $ 1,945 $ (1,925) 552 $ (622) $ $ (462) (174) 700 $ 515 $ 370 Income tax effect related to fair value adjustment Reclassification of breeding herd to property and equipment $ $ See accompanying notes to consolidated financial statements. – 23 – Notes to consolidated financial statements Years Ended August 31, 2003, 2002 and 2001 Note 1. Summary of Significant Accounting Policies Basis of Consolidated Financial Statement Presentation. The consolidated financial statements include the accounts of Alico, Inc. (the Company) and its wholly owned subsidiaries, Saddlebag Lake Resorts, Inc. (Saddlebag), Agri-Insurance Company, Ltd. (Agri), and Alico-Agri, Ltd. after elimination of all significant intercompany balances and transactions. Revenue Recognition. Income from the sale of citrus is recognized at the time the crop is harvested. Based on fruit buyers’ and processors’ advances to growers, stated cash and futures markets, management reviews the reasonable- ness of the citrus revenue accrual. Adjustments are made throughout the year to these estimates as relevant informa- tion regarding the citrus market becomes available. Fluctuation in the market prices for citrus fruit has caused the Company to recognize additional revenue from the prior year’s crop totaling $198 thousand, $568 thousand, and $617 thousand during fiscal years 2003, 2002 and 2001, respectively. Income from sugarcane under a pooled agreement is recognized at the time the crop is harvested. Based on the processor’s advance payment, management reviews the reasonableness of the sugarcane revenue accrual. Adjustments are made as additional relevant information regarding the sugar market becomes available. Market price increases to the sugar pool have caused the Company to recognize additional revenue from the prior year’s crop totaling $356 thousand, $318 thousand and $49 thousand during the fiscal year’s 2003, 2002, and 2001, respectively. The Company recognizes revenue from cattle sales at the time the cattle are sold at auction. Real Estate. Real estate sales are recorded under the accrual method of accounting. Residential retail land sales made through Saddlebag are not recognized until the buyer’s initial investment or cumulative payments of principal and interest equal or exceed 10 percent of the contract sales price. Commercial or bulk land sales, made mostly through Alico-Agri, Ltd. are not recognized until payments received for property to be developed within two years after the sale equal 20%, or property to be developed after two years equal 25%, of the contract sales price. At August 31, 2000, the Company did not recognize gross profit totaling $9,540,000 related to commercial real estate which was sold subject to a mortgage note receivable (note 3). The terms of the sale called for 10% of the contract price of $10,600,000 to be paid at closing. The $1,060,000 less the land basis and closing costs was recognized as a gain on the sale of real estate totaling $287,880 during the year ended August 31, 2000. During the year ended August 31, 2001, the purchaser made the first of four equal annual installments, required in the mortgage, totaling $2,385,000, plus interest. The deferred profit on the sale was then recognized as 32.5 percent of the contract price was received and the buyer’s continuing investment became adequate to demonstrate its commit- ment to pay for the property. Profits from commercial real estate sales are discounted to reflect the market rate of interest where the stated rate is less than the market rate. The recorded valuation discounts are realized as the balances due are collected. In the event of early liquidation, interest is recognized on the simple interest method. Tangible assets that are purchased during the period to aid in the sale of the project as well as costs for services performed to obtain regulatory approval of the sales are capitalized as land and land improvements to the extent they are estimated to be recoverable from the sale of the property. Land and land improvement costs are allocated to individual parcels on a per lot basis using the relative sales value method. – 24 – The Company has entered into an agreement with a real estate consultant to assist in obtaining the necessary regulatory approvals for the development and marketing of a tract of raw land. The marketing costs under this agreement are being expensed as incurred. The costs incurred to obtain the necessary regulatory approvals are capitalized into land costs when paid. These costs will be expensed as cost of sales when the underlying real estate is sold. Marketable Securities Available for Sale. Marketable securities available for sale are carried at their estimated fair value. Net unrealized investment gains and losses are recorded net of related deferred taxes in accumulated other comprehensive income within stockholders’ equity until realized. Fair value for debt and equity investments is based on quoted market prices at the reporting date for those or similar investments. The cost of all marketable securities available for sale are determined on the specific identification method. Inventories. The costs of growing crops are capitalized into inventory until the time of harvest. Once a given crop is harvested, the related inventoried costs are recognized as a cost of sale to provide an appropriate matching of costs incurred with the related revenue earned. Beef cattle inventories are stated at the lower of cost or market. The cost of the beef cattle inventory is based on the accumulated cost of developing such animals for sale. Unharvested crops are stated at the lower of cost or market. The cost for unharvested crops is based on accumulated production costs incurred during the eight month period from January 1 through August 31. Property, Buildings and Equipment. Property, buildings and equipment are stated at cost. Properties acquired from the Company’s predecessor corporation in exchange for common stock issued in 1960, at the inception of the Company, are stated on the basis of cost to the predecessor corporation. Property acquired as part of a land exchange trust is valued at the carrying value of the property transferred to the trust. All costs related to the development of citrus groves, through planting, are capitalized. Such costs include land clearing, excavation and construction of ditches, dikes, roads, and reservoirs, etc. After the planting, caretaking costs or pre-productive maintenance costs are capitalized for four years. After four years, a grove is considered to have reached maturity and the accumulated costs, except for land excavation become the depreciable basis of a grove and are written off over 25 years. Development costs for sugarcane are capitalized the same as citrus. However, sugarcane matures in one year and the Company is able to harvest an average of 3 crops (1 per year) from one planting. As a result, cultivation/caretaking costs are expensed as the crop is harvested, while the appropriate development and planting costs are depreciated over 3 years. The breeding herd consists of purchased animals and animals raised on the ranch. Purchased animals are stated at cost. The cost of animals raised on the ranch is based on the accumulated cost of developing such animals for productive use. Depreciation for financial reporting purposes is computed on straight-line or accelerated methods over the estimated useful lives of the various classes of depreciable assets. The Company accounts for long-lived assets in accordance with the provisions of SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”. This Statement requires the long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount – 25 – of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net cash flows expected to be generated by the asset. If such are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell. Land Inventories. Land inventories are carried at cost and consists of property located in Lee County, Florida and owned by Alico-Agri, Ltd., and residential lots in Polk County, Florida and owned by Saddlebag. The Lee County property is held for sale as commercial real estate. Other Investments. Other investments are carried at cost which primarily includes stock owned in agricultural coopera- tives. The Company uses cooperatives to process and sell sugarcane and citrus. Cooperatives typically require members to acquire ownership as a term of use of its services. Income Taxes. The Company accounts for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Net Earnings Per Share. Outstanding stock options issued by the Company represent the only dilutive effect reflected in the computation of weighted average shares outstanding assuming dilution. Options do not impact the numerator of the earnings per share computation. There were no stock options that could potentially dilute basic earnings per share in the future that were not included in the computation of earnings per share assuming dilution. Cash Flows. For purposes of the cash flows, cash and cash investments include cash on hand and amounts due from financial institutions with an original maturity of less than three months. Use of Estimates. In preparing the consolidated financial statements, management is required to make estimates and assumptions that effect the reported amounts of assets and liabilities. Actual results could differ significantly from those estimates. Although some variability is inherent in these estimates, management believes that the amounts provided are adequate. The valuation of the Company’s inventories and the recognition of citrus and sugarcane rev- enues are two of the more significant estimates made by Management. Financial Instruments and Accruals. The carrying amounts in the consolidated balance sheets for accounts receivable, mortgage and notes receivable, accounts payable and accrued expenses approximate fair value, because of the imme- diate or short term maturity of these items. The carrying amounts reported for the Company’s long-term debts approxi- mate fair value, because they are arms length transactions with commercial lenders at market interest rates. Derivative and Hedging Instruments. The Company engages in cattle futures trading activities for the purpose of economically hedging against price fluctuations. The Company records gains and losses related to economic hedges in costs of goods sold. At August 31, 2003 and 2002, the Company had no open positions. Accumulated Other Comprehensive Income. Comprehensive income is defined as the change in equity of a business enterprise during a period from transactions and other events and circumstances from non-owner sources. It includes both net income and other comprehensive income. Items included in other comprehensive income are classified based – 26 – on their nature. The total of other comprehensive income for a period has been transferred to an equity account and displayed as “accumulated other comprehensive income”. Stock-Based Compensation. The Company applies Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25) for stock options and other stock-based awards while disclosing pro forma net income and net income per share as if the fair value method had been applied in accordance with Statement of Financial Accounting Standards No. 123,”Accounting for Stock-based Compensation” (SFAS 123), and amended by Statement of Financial Accounting Standards No. 148 “Accounting for Stock-Based Compensation - Transition and Disclosure”. Reportable Segments. The Company has three reportable segments: citrus, sugarcane, and ranch. The citrus segment produces fruit for both the fresh fruit and processed juice markets. The sugarcane segment produces sugarcane for processing. The ranch segment raises beef cattle to be sold in the wholesale market. The Company’s reportable segments are strategic business units that offer different products. They are managed separately because each business requires different operating strategies. Reclassifications. Certain amounts from 2002 have been reclassified to conform to the 2003 presentation. Note 2. Marketable Securities Available for Sale The Company has classified 100% of its investments in marketable securities as available for sale and, as such, the securities are carried at estimated fair value. Any unrealized gains and losses, net of related deferred taxes, are recorded as a net amount in a separate component of stockholders’ equity until realized. The cost and estimated fair values of marketable securities available for sale at August 31, 2003 and 2002 (in thousands) were as follows: Cost 2003 2002 Gross Gross Unrealized Unrealized Losses Gains Estimated Fair Value Cost Gross Gross Unrealized Unrealized Losses Gains Estimated Fair Value Equity securities: Preferred stocks Common stocks Mutual funds* Total equity securities $ 2,504 $ 1,893 10,181 85 221 1,801 $ (65) $ 2,524 1,808 11,982 (306) - $ 3,160 $ 1,734 9,908 65 135 479 $ (79) $ 3,146 1,627 10,240 (242) (147) 14,578 2,107 (371) 16,314 14,802 679 (468) 15,013 Debt securities: 515 Municipal bonds 8,435 Mutual funds Fixed maturity funds 11,146 2,762 Corporate bonds Total debt securities 22,858 28 421 - 22 471 - (609) (31) (183) 543 8,247 11,115 2,601 (823) 22,506 559 5,418 282 882 7,141 36 232 15 14 297 - (882) (1) (151) (1,034) 595 4,768 296 745 6,404 Marketable securities available for sale 37,436 2,578 (1,194) 38,820 21,943 976 (1,502) 21,417 * Includes shares held by regulated investment companies as well as a limited partnership hedge fund primarily investing in marketable equity securities. At August 31, 2003, debt instruments (net of mutual funds of $8,435) are collectible as follows: $8,115 within one year, $4,454 between one and five years, $1,335 between five and ten years, and $519 there after. – 27 – Note 3. Mortgage and Notes Receivable Mortgage and notes receivable arose from real estate sales. The balances (in thousands) are as follows: Mortgage notes receivable on retail land sales Mortgage notes receivable on bulk land sales Other notes receivable Total mortgage and notes receivable Less current portion Non-current portion August 31, 2003 $ 235 2002 $ 193 2,420 113 2,768 2,534 4,926 25 5,144 2,451 $ 2,234 $ 2,693 In July 2000, the Company received a mortgage note in exchange for land sold. The note totaled $9,540,000 and principal payments of $2,385,000 are due annually on July 14, bearing interest at LIBOR, over four years. Note 4. Inventories A summary of the Company’s inventories (in thousands) at August 31, 2003 and 2002 is shown below: Unharvested fruit crop on trees Unharvested sugarcane Beef cattle Sod Total inventories 2003 2002 $ 8,135 $ 8,599 5,159 7,892 659 5,274 7,507 292 $ 21,845 $ 21,672 Note 5. Property, Buildings and Equipment A summary of the Company’s property, buildings and equipment (in thousands) at August 31, 2003 and 2002 is shown below: Breeding herd Buildings Citrus trees Sugarcane Equipment and other facilities Total depreciable properties Less accumulated depreciation Net depreciable properties Land and land improvements 2003 2002 Useful Lives Estimated 5-7 years 5-40 years 22-40 years 4-15 years 3-40 years $ 12,711 $ 12,618 3,875 31,109 8,350 29,526 85,571 39,741 45,830 59,007 3,945 28,555 8,360 29,996 83,474 37,100 46,374 58,881 Net property, buildings and equipment $104,837 $105,255 The Company’s unharvested sugarcane and cattle are partially uninsured. – 28 – Note 6. Indebtedness The Company has financial agreements with commercial banks that permit the Company to borrow up to $54 million. The financing agreements allow the Company to borrow up to $41 million which is due in 2005 and up to $3 million which is due on demand. In December 2001, the Company entered into an additional financing agreement to borrow $10 million to be paid in equal principal installments over five years with interest to be paid quarterly. The outstanding debt under these agreements was $43.8 million and $41.0 million at August 31, 2003 and 2002, respectively. In March 1999, the Company mortgaged 7,680 acres for $19 million in connection with a $22.5 million acquisition of producing citrus and sugarcane operations. The outstanding debt under the mortgage was $13.4 million and $14.7 million as of August 31, 2003 and 2002, respectively. The total long-term portion of the Company’s indebtedness at August 31, 2003 and 2002 was $54.1 million and $52.7 million, respectively. Maturities of the indebtedness of the Company over the next five years (in thousands) are as follows: 2004- $3,321; 2005- $36,264; 2006-$3,312; 2007- $3,315; 2008- $1,318 and $9,918 thereafter. Interest cost expensed and capitalized (in thousands) during the three years ended August 31, 2003, 2002 and 2001 was as follows: Interest expense Interest capitalized Total interest cost 2003 $ 2,081 267 2002 $ 2,421 322 2001 $ 3,029 175 $ 2,348 $ 2,743 $ 3,204 Note 7. Commitments and Contingencies The Company is involved in various claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company’s consolidated financial position, results of operation or liquidity. Note 8. Other non-current liability Alico formed a wholly owned insurance subsidiary, Agri Insurance Company, Ltd. (Bermuda) (“Agri”) in June of 2000. Agri was formed in response to the lack of insurance availability, both in the traditional commercial insurance markets and governmental sponsored insurance programs, suitable to provide coverages for the increasing number and poten- tial severity of agricultural related events. Such events include citrus canker, crop diseases, livestock related maladies and weather. Alico’s goal included not only prefunding its potential exposures related to the aforementioned events, but also to attempt to attract new underwriting capital if it is successful in profitably underwriting its own potential risks as well as similar risks of its historic business partners. Alico primarily utilized its inventory of land and additional contributed capital to bolster the underwriting capacity of Agri. As Agri has converted certain of the assets contributed by Alico to cash, book and tax differences have arisen resulting from differing viewpoints related to the tax treatment of insurance companies for federal and state tax purposes. Due to the historic nature of the primary assets contributed as capital to Agri and the timing of the sales of certain of those assets by Agri, management has decided to record a contingent liability, providing for potential differences in the tax treatment of sales of Agri’s assets operation. Management’s decision has been influenced by perceived changes in the regulatory environment. – 29 – Note 9. Stock Option Plan On November 3, 1998, the Company adopted the Alico, Inc., Incentive Equity Plan (“The Plan”) pursuant to which the Board of Directors of the Company may grant options, stock appreciation rights, and/or restricted stock to certain directors and employees. The Plan authorizes grants of shares or options to purchase up to 650,000 shares of autho- rized but unissued common stock. Stock options have vesting schedules which are at the discretion of the Board of Directors and determined on the effective date of the grant. Balance outstanding, August 31, 2001 Granted Exercised Balance outstanding, August 31, 2002 Granted Exercised Shares under option 84,080 69,598 35,831 117,847 67,280 35,726 Weighted average exercise price 14.62 15.68 14.76 15.20 15.68 15.53 Balance outstanding, August 31, 2003 149,401 $15.34 Weighted average remaining contractual life (in years) 7 7 9 On August 31, 2003 and 2002, there were 412,356 and 479,636 shares available for grant, respectively. The fair value of stock options granted was $845 thousand in 2003 and $819 thousand in 2002 on the date of the grant using the Black Scholes option-pricing model with the following weighted average assumptions: Volatility Dividend paid Risk-free interest rate Expected life in years 2003 8.39% 2.23% 4.75% 1 2002 8.39% 6.38% 4.75% 1 All stock options granted, except as noted in the paragraph below, have been granted to directors or employees with an exercise price equal to the fair value of the common stock at the date of the grant and a vesting period of one year. The Company applies APB Opinion No. 25 for issuances to directors and employees in accounting for its Plan. No compen- sation cost was recognized in the consolidated financial statements through August 31, 2001, as options were issued at or above fair value. On September 9, 1999, the Company granted 14,992 stock options with an exercise price of $14.62 and a fair value of $15.813. The Company recorded $18 thousand of unearned compensation at the date of the grant. On September 12, 2000, the Company granted an additional 51,074 stock options with an exercise price of $14.62 and a fair value of $16.313. The Company recorded $86 thousand of unearned compensation at the date of the grant. On September 11, 2001, the Company granted an additional 69,598 stock options with an exercise price of $15.68 and a fair value of $28.48. The Company recorded $891 thousand of unearned compensation at the date of the grant. On September 10, 2002, the Company granted an additional 67,280 stock options with an exercise price of $15.68 and a fair value of $28.15. The Company recorded $839 thousand of unearned compensation at the date of the grant. – 30 – Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Company’s net income would have changed to the pro forma amounts indicated below (in thousands): Net income as reported Pro forma net income Basic earning per share, as reported Pro forma basic earning per share Note 10. Employee Benefit Plans 2003 $ 12,659 $ 12,653 $1.78 $1.78 2002 $ 7,535 $ 7,607 $1.07 $1.08 The Company has a profit sharing plan covering substantially all employees. The plan was established under Internal Revenue Code section 401(k). Contributions made to the profit sharing plan (in thousands) were $350, $285 and $444 for the years ended August 31, 2003, 2002, and 2001, respectively. Additionally, the Company has a nonqualified defined benefit retirement plan covering the officers and other key management personnel of the Company. Details concerning this plan are as follows: Change in benefit obligation Beginning benefit obligation Service cost Interest cost Benefits paid Actuarial losses Other Ending benefit obligation Changes in plan assets Beginning plan assets Return on plan assets Employer contributions Plan participant contributions Benefits paid Ending plan assets Net pension liability Less: currently payable Long term portion Components of net pension cost Service cost, net of participant contributions Interest cost Expected return on plan assets Prior service cost amortization Net pension cost for defined benefit plan The net benefit obligation was computed using a discount rate of 6.25%. – 31 – August 31, 2003 2002 $ 3,785 $ 2,446 626 234 (132) – 2 714 185 (79) 517 2 4,515 3,785 3,666 109 39 115 (132) 3,797 718 (598) 120 511 234 – 2 747 2,299 834 545 67 (79) 3,666 119 - 119 301 185 - 2 488 Note 11. Income Taxes The provision for income taxes (in thousands) for the years ended August 31, 2003, 2002 and 2001 is summarized as follows: Current: Federal income tax State income tax Deferred: Federal income tax State income tax 2003 2002 2001 $ 5,872 $ 3,713 $ 2,428 628 6,500 (68) (7) (75) 396 4,109 (1,673) (178) (1,851) 439 2,867 1,058 121 1,179 Total provision for income taxes $ 6,425 $ 2,258 $ 4,046 Following is a reconciliation of the expected income tax expense computed at the U.S. Federal statutory rate of 34% and the actual income tax provision (in thousands) for the years ended August 31, 2003, 2002 and 2001: Expected income tax Increase (decrease) resulting from: State income taxes, net of federal benefit Nontaxable interest and dividends Internal Revenue Service examinations Income from Agri-Insurance Company, Ltd. Other reconciling items, net 2003 $ 6,489 2002 $ 3,330 2001 $ 6,838 410 (97) 14 (752) 361 144 (102) 11 (1,156) 31 328 (113) 479 (3,829) 343 Total provision for income taxes $ 6,425 $ 2,258 $ 4,046 Some items of revenue and expense included in the statement of operations may not be currently taxable or deductible on the income tax returns. Therefore, income tax assets and liabilities are divided into a current portion, which is the amount attributable to the current year’s tax return, and a deferred portion, which is the amount attributable to another year’s tax return. The revenue and expense items not currently taxable or deductible are called temporary differences. The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are presented below (in thousands): Deferred Tax Assets: Contribution carry forward Pension Prepaid sales commissions Land inventories Deferred retirement benefits Other Total gross deferred tax assets – 32 – 2003 2002 $ (1,632) $ (1,698) (183) (802) (488) (749) (1,256) (5,110) (168) (789) (480) (502) (1,380) (5,017) Deferred Tax Liabilities: Revenue recognized from citrus and sugarcane Property and equipment (principally due to depreciation and soil and water deductions) Mortgage notes receivable Inventories Deferred real estate gains Other Total gross deferred tax liabilities 2003 2002 607 458 12,981 12,645 11 1,205 1,625 29 16,458 10 886 1,600 184 15,783 Net deferred income tax liabilities $11,348 $10,766 Based on the Company’s history of taxable earnings and its expectations for the future, management has determined that its taxable income will more likely than not be sufficient to fully recognize all deferred tax assets. Agri Insurance Company, Ltd. (Agri), a wholly owned insurance company subsidiary of Alico, is treated as a U.S. taxpayer, pursuant to an election under Internal Revenue Code Section 953 (d), for all purposes except for consolidat- ing an operating loss by virtue of the dual consolidated loss rules. (Dual consolidated losses prevent operating losses (not capital losses) from occurring in insurance companies domiciled outside of the United States from offsetting operating income irrespective of the fact that the insurance company is a member of the consolidated return group.) Agri was established to provide agricultural insurance that falls outside of the Federal Crop Insurance Program, for catastrophic perils. Agri was domiciled in Bermuda because it offers easy access to reinsurance markets. Agri issued its initial policy in August 2000 to a third party. Agri’s ability to underwrite insurance risks has been limited to its operational liquidity, by the Registrar of Companies in Bermuda. Agri will be able to underwrite additional insurance as its liquidity is increased from additional asset sales and as payments are received on prior sales. For Federal income tax purposes, only premiums received by Agri from policies of insurance issued to parties other than its parent, Alico, are considered insurance premiums. The preceding limiting factors resulted in Agri not incurring a tax liability on underwriting profits or investment income. Agri’s tax status resulted in it filing its Federal tax return on a stand alone basis for the calendar year periods ending December 31, 2002, 2001 and 2000. The Internal Revenue Service has notified the Company of its intent to examine the Company tax returns for the years ended August 31, 2001 and 2002. Any adjustments resulting from the examination will be currently due and payable. No adjustments have been proposed to date. Note 12. Related Party Transactions Citrus. Citrus revenues of $17.7 million, $19.1 million and $19.9 million were recognized for a portion of citrus crops sold under a marketing agreement with Ben Hill Griffin, Inc. (Griffin) for the years ended August 31, 2003, 2002 and 2001, respectively. Griffin and its subsidiaries is the owner of approximately 49.85 percent of the Company’s common stock. Accounts receivable, resulting from citrus sales, include amounts due from Griffin totaling $6.5 million at both August 31, 2003 and 2002. These amounts represent estimated revenues to be received periodically under pooling agreements as sale of pooled products is completed. – 33 – Harvesting, marketing, and processing costs, related to the citrus sales noted above, totaled $6.6 million, $7.1 million, and $7.6 million for the years ended August 31, 2003, 2002 and 2001, respectively. In addition, Griffin provided the harvesting services for citrus sold to unrelated processors. The aggregate cost of these services was $2.1 million, $2.0 million and $2.2 million for the years ended August 31, 2003, 2002 and 2001, respectively. The accompanying consolidated balance sheets include accounts payable to Griffin for citrus production, harvesting and processing costs in the amount of $435 thousand and $594 thousand at August 31, 2003 and 2002, respectively. Other Transactions. The Company purchased fertilizer and other miscellaneous supplies, services, and operating equipment from Griffin, on a competitive bid basis, for use in its cattle, sugarcane, sod and citrus operations. Such purchases totaled $6.4 million, $6.2 million and $6.0 million during the years ended August 31, 2003, 2002 and 2001, respectively. Griffin purchased catastrophic business interruption coverage from Agri during fiscal 2003, 2002 and 2001. The total coverage under the policy was $3.5 million, $3.2 million and $3.2 million for the fiscal years 2003, 2002 and 2001, respectively. The policy renews annually in December for a one year term. The premiums charged under this policy were $138 thousand, $110 thousand and $104 thousand for 2003, 2002 and 2001, respectively. Note 13. Future Application of Accounting Standards In May 2003 the FASB issued SFAS 150 “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity” This Statement establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). The remaining provisions of this Statement are consistent with the Board’s proposal to revise that definition to encompass certain obligations that a reporting entity can or must settle by issuing its own equity shares, depending on the nature of the relationship established between the holder and the issuer. This Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatorily redeemable financial instruments of nonpublic entities. It is to be implemented by reporting the cumula- tive effect of a change in an accounting principle for financial instruments created before the issuance date of the Statement and still existing at the beginning of the interim period of adoption. Restatement is not permitted. The adoption of this Statement is not expected to have a significant impact on the financial position or results of operations of the Company. In January 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, “Consolidation of Variable Interest Entities.” Interpretation No. 46 requires unconsolidated variable interest entities to be consolidated by their primary beneficiaries if the entities do not effectively disperse the risks and rewards of ownership among their owners and other parties involved. The provisions of interpretation No. 46 are applicable immediately to all variable interest entities created after January 31, 2003 and variable interest entities in which an enterprise obtains an interest after that date, and for variable interest entities created before that date, the provisions are effective July 1, 2003. The adoption of Interpretation No. 46 is not expected to have a material effect on the financial condition, results of operations, or liquidity of the Company. – 34 – Note 14. Recovery of Citrus Canker Eradication Costs in Excess of Basis The Company incurred losses during the year ended August 31, 2001 related to citrus canker eradication. The eradication program called for the removal of 507 acres of citrus trees from a grove in Hendry County, Florida. While the trees were insured under the Federal Crop Insurance Program, additional relief funding was available and secured by the Company from both Federal and State government sources. A summary of the recovery sources, related basis of the trees removed and the crop inventory losses are summarized (in thousands) as follows: Recovery Sources Federal State Insurance Total Recovery Loss Basis Net Book Value of Trees Fruit Inventory Total Basis 2003 2002 2001 $ – $ – $ 2,830 – – – – – – – – – – – – 157 219 3,206 238 – 238 Excess of Recovery over Basis $ – $ – $ 2,968 Note 15. Reportable Segment Information The Company is primarily engaged in agricultural operations, which are subject to risk, including market prices, weather conditions and environmental concerns. The Company is also engaged in retail land sales and, from time to time, sells real estate considered surplus to its operating needs. Information about the Company’s reportable segments (in thousands) for the years ended August 31, 2003, 2002 and 2001 is summarized as follows: 2003 2002 2001 Revenues Agriculture: Citrus Sugarcane Ranch Total revenues from external customers for reportable segments Other revenues from external customers $ 24,107 $ 25,105 $ 27,570 13,373 7,175 44,655 3,630 11,789 9,102 45,996 3,189 12,450 8,788 48,808 2,725 Total consolidated operating revenues $ 48,285 $ 49,185 $ 51,533 Costs of sales Citrus Sugarcane Ranch Total costs of sales for reportable segments Other costs of sales $ 20,106 $ 21,421 $ 22,450 10,188 6,790 37,084 179 9,457 8,515 39,393 114 9,628 7,394 39,472 140 Total consolidated costs of sales $ 37,263 $ 39,507 $ 39,612 – 35 – Gross profit Agriculture: Citrus Sugarcane Ranch Total profit for reportable segments Other gross profit Consolidated gross profit Unallocated amounts: Profit on sale of bulk real estate Other corporate expense Income before income taxes Capital expenditures Agriculture: Citrus Sugarcane Ranch Total agriculture capital expenditures for reportable segments Other capital expenditures Cattle transferred from inventory held for sale into breeding stock 2003 2002 2001 $ 4,001 3,185 385 7,571 3,451 11,022 14,994 (6,932) $ 3,684 2,332 587 6,603 3,075 9,678 11,641 (11,526) $ 5,120 2,822 1,394 9,336 2,585 11,921 11,354 (3,163) $ 19,084 $ 9,793 $ 20,112 $ 3,216 1,451 2,245 6,912 1,113 $ 4,704 1,293 3,240 9,237 548 $ 3,310 2,632 2,157 8,099 773 (700) (515) (370) Total consolidated capital expenditures $ 7,325 $ 9,270 $ 8,502 Depreciation and amortization Agriculture: Citrus Sugarcane Ranch Total depreciation and amortization for reportable segments Other depreciation and amortization $ 2,354 2,414 1,474 6,242 481 $ 2,394 2,527 1,573 6,494 488 $ 2,405 2,587 1,456 6,448 498 Total consolidated depreciation and amortization $ 6,723 $ 6,982 $ 6,946 Assets Agriculture: Citrus Sugarcane Ranch Total assets for reportable segments Other assets Total consolidated assets $ 54,549 $ 53,876 $ 53,266 52,283 22,430 129,262 83,486 52,015 21,920 127,811 64,099 51,678 22,205 127,149 51,985 $ 212,748 $ 191,910 $ 179,134 Identifiable assets represent assets on hand at year-end which are allocable to a particular segment either by their direct use or by allocation when used jointly by two or more segments. Other assets consist principally of cash, temporary investments, mortgage notes receivable, bulk land inventories, and property and equipment used in general corporate business. – 36 –