1

Diamond Foods, Inc.: A Comprehensive Case in Financial Analysis and Valuation1

Abstract

This real-world case provides an opportunity for students to apply several concepts in financial

analysis and valuation to a real-world M&A context. The case presents a platform to achieve

several learning objectives, including the development of research, critical thinking, and

problem-solving skills. By requiring students to apply the frameworks of strategy and financial

analysis, techniques of accounting and financial analysis, and by putting them in the role of a

financial analyst, the case allows students to understand the challenges involved in financial

analysis and valuation in a real-world context. The case analysis helps students to (a)

experience the power of using publicly available information to derive insights for firm

valuation and (b) appreciate the significance of accounting analyses in firm valuation.

Case

I think Diamond is still very interesting. This is a company that is growing rapidly.

It doesn’t look like any food company I’ve seen in 25 years of following the food

sector. The Pringles deal is going to provide tremendous revenue synergies and

some cost synergies as well.

- Tim Rammy on cnbc.com video, September 22, 2011

Diamond appears to be losing its dominant position in the walnut industry. As a

result, its business model is deteriorating. Company profitability also appears to

be overstated due to accounting treatment of “momentum” payments.

- Research report by Off Wall Street, September 25, 2011

It was the morning of Monday, September 26, 2011. Mark Jenkins was getting nervous. He had

just finished reading a report by Off Wall Street Consulting Group2 on Diamond Foods Inc.

(hereafter, Diamond, or the Company). The report changed the firm’s recommendation on

Diamond (Ticker: DMND) to ‘Sell’, and lowered the target price for Diamond from $90 on the

previous Friday (September 23, 2011) to $43. It had been almost two months since Mark had

joined Progressive Capital, a boutique Wall Street firm specializing in short-sale research. The first

1 This case is prepared by Professor Mahendra Gujarathi of Bentley University for the purpose of class discussion.

Please do not quote without permission. 2 The report can be accessed at https://www.offwallstreet.com/userfiles/files/ideas/NEW_DMND_9-25-11.pdf

2

few weeks fleeted by fast in training and induction activities but the last few weeks have been

unsettling for Mark. He was brought into Progressive at a senior level given his prior experience in

investment banking and recent MBA degree from a prestigious management school. Despite

working hard, he had yet to come up with a recommendation for short sale. Diamond Foods, he

thought, might be a good candidate for his maiden recommendation.

It was an unnerving experience, however. Recommending a short sale could be risky because the

stock seemed to be on a tear. Diamond’s stock price had more than doubled in the previous year

(see Exhibit 1, Panel A for monthly stock price movements of Diamond’s stock vis-à-vis S&P 500

index during the previous year). The Company had announced on September 15, 2011 an

impressive growth of 63 percent in Earnings per Share (EPS) in fiscal year ending July 31, 2011.

Within a week of the results announcement, Diamond’s stock price increased from $78 to $90 on

September 23, 2011 (see Exhibit 1, Panel B, for daily price movements of Diamond’s stock vis-à-vis

S&P 500 index in the few days following the date of results announcement).

- Insert Exhibit 1 about here -

The ‘Sell’ recommendation of Off Wall Street was striking because several analysts3 remained

comfortable with Diamond’s accounting for the “momentum” payments to walnut farmers

(explained later in a separate section) and had not changed their rating on the stock. Deutsche

Bank reiterated a ‘Hold’ rating on Diamond citing their belief in the strategic logic behind the

Pringles® acquisition and management’s entrepreneurial approach to the snack category.4 They set

a price target of $76 based on an equal weighting between traditional multiples and a DCF model

using 4 percent sales, 5 to 6 percent earnings before income tax, 8 to 10 percent earnings per share

growth, and a 9 percent WACC (weighted average cost of capital). Northland Securities had

recently upgraded Diamond and KeyBanc had raised the price target. Jim Cramer, an analyst at

streetinsider.com continued to be bullish on Diamond, noting that “its story is much bigger than

the company’s current market cap.”

In light of the optimistic view on Diamond by several firms, issuing a ‘Sell’ recommendation was a

risky move for Mark. At the same time, not making that recommendation could be a missed

opportunity. Based on his research, and using his expertise in financial reporting (Mark had earned

3 Diamond was followed by analysts from major brokerages including: Sun Trust Robinson Humphreys, BB&T

Capital Markets, Price Target Research, Keybanc Capital Markets, Sadif Investment Analytics, Craig Hallum Capital

Group LLC, Redchip Companies, Janney Capital Markets, Deutsche Bank, Datamonitor, Disclosure Insight, ICD

Research, New Constructs, LLC, Validea. Com, ValuEngine, Inc. and Wright Investors Services.

4 Source: http://www.newsystocks.com/News/4107690/Deutsche-Bank-Maintains-Hold-Rating-of-Diamond-Foods

3

an undergraduate degree with a major in accounting), he was convinced that the accounting of the

“momentum” payments indeed overstated Diamond’s profitability. Mark was also eager to apply

the concepts and tools in the courses such as corporate strategy, financial statement analysis and

stock valuation that he had taken in his MBA program to make a convincing case for ‘sell’

recommendation, if it was warranted.

Diamond: The Company and its Products

Diamond Foods - specializing in processing, marketing and distributing nuts and snack products

- is the largest walnut processor in the world. The Company’s annual reports indicate that its

products are distributed widely in over 60,000 retail locations in the United States and in over

100 countries. During 2011, sales outside the United States accounted for approximately 30

percent of the net sales of the Company. Diamond’s major processing and packaging plant is

located in Stockton, California, the state in which virtually the entire U.S. walnut commercial

production resides. Diamond had the following product lines in fiscal 2011 (source: Diamond

Foods, 2011 annual report):

Snack. The snack products are sold under the Emerald®, Pop Secret® and Kettle Brand®

brands. Emerald products include roasted, glazed and flavored nuts, trail mixes, seeds,

dried fruit and similar offerings packaged in innovative re-sealable containers.

Microwave popcorn products are offered in a variety of traditional flavors, as well as a

“better-for-you” product offering featuring 100-calorie packs.

Culinary and Retail In-shell. The culinary nuts are sold under the Diamond of California®

brand in grocery store baking aisles as well as produce aisles and through mass

merchandisers and club stores. Culinary nuts are targeted to individuals who prepare

meals or baked goods at home and who value fresh, high-quality products. The

Company also sells in-shell nuts under the Diamond of California® brand, primarily

during the winter holiday season.

Non-Retail. The non-retail nut business includes international markets and North

American ingredient customers such as the food processors, restaurants, bakeries and

food service companies and their suppliers. The institutional and industrial customers

use Diamond’s standard products to add flavor and enhance nutritional value and

texture in their product offerings.

4

Evolution of the Company

Diamond began in 1912 as a member-owned agricultural cooperative association. After almost a

century, it broke out of its shell with a 2005 initial public offering (IPO) in which it issued over eight

million shares to its grower-members and six million shares to the public.

Soon after incorporation, the Company began a series of acquisitions under the leadership of its

Chief Executive Officer Michael J. Mendes. In May 2006, Diamond acquired Harmony® Foods’ plant

in Fishers, Indiana that produced trail mixes, dried fruits and other snacks. In the annual report for

fiscal 2006, Diamond described its business as follows:

We are a branded food company specializing in processing, marketing and

distributing culinary, in-shell and ingredient nuts and snack products. We intend to

expand our existing business, and to continue to introduce new higher-value

branded products in our culinary and snack businesses, including snack products

marketed under our Emerald® and Harmony® brand names.

In fiscal 2007, Diamond’s sales and profits grew, thanks to the expansive and integrated marketing

campaign to extend brand awareness of Emerald. The campaign featured a Super Bowl ad

conveying the message that nuts are an excellent source of natural energy during the time of day in

the office when people need it most. Although profits were up in fiscal 2007, the operating cash

flows were adversely affected by acceleration in the timing of payments to growers.

In September 2008, Diamond acquired Pop Secret®, a brand of microwave popcorn products, for

$190 million cash from General Mills. This was Diamond’s foray into broader and more profitable

snack market. Pop Secret® was the second largest brand of microwave popcorn, behind ConAgra’s

Orville Redenbacher®. A larger footprint in the snack aisle provided opportunities to Diamond for

cross promotions and for leveraging with grocery buyers because the same buyer would typically

handle both popcorn and nuts. The transition to favorable product mix, growth in sales from

international and ingredient segments, cost efficiency initiatives and favorable input costs resulted

in higher gross margins in fiscal 2009.

In February 2010, Diamond acquired Kettle Brand® Chips, a premium potato chip company, for

$615 million cash from Lion Capital LLP, U.K. Kettle Brand® chips were made with delicious blends

of all natural seasonings and were cooked in small batches in pure, healthy oils. Potato chips

offered distributional efficiency in that potato chips were bulky but light and they complimented

well with heavy, but less bulky nuts on the trucks that transported Diamond’s products to

supermarkets. Acquisition of Kettle Brand® Chips gave Diamond not only a solid footprint in the

5

snack market, but also helped to reduce its effective tax rate because of the income that Kettle

generated in foreign jurisdictions with tax rates lower than in the U.S.

The acquisitions were financed largely by long-term debt. In addition, Diamond issued 5.2 million

shares of common stock at $37 per share in March 2010 and replaced its credit facility on February

25, 2010 with a new five-year $600 million secured credit facility with a syndicate of lenders. The

debt covenants of Diamond required a minimum fixed-charge coverage ratio5 of 1.1 to 1 through

October 2012. The credit agreements also required Diamond to maintain a maximum consolidated

leverage ratio (defined as total long-term debt divided by EBITDA – Earnings Before Interest, Taxes,

Depreciation and Amortization) of 4.75:1 and that it decline annually to reach 3.25:1 by April 2014.

The acquisitions changed the nature of Diamond’s business over the years. In the annual report for

fiscal 2011 annual report, Diamond described its business as “innovative packaged food company

focused on building, acquiring and energizing brands.” The share of different products and

channels in Diamond’s sales for fiscal 2006-11 is presented below:

Source: Annual Reports, Diamond Foods

Although growth through acquisitions and increased focus on snacks was an important strategic

intent of Diamond, walnut processing remained a core part of its operations. Sales of walnuts, and

other nuts and snacks, as a percentage of net sales were as follows:

5 The fixed-charge coverage ratio is defined as EBITDA minus capital expenditures, interest charges and cash tax

payments, divided by the sum of interest expense, principal payments and dividends (Source: Diamond Foods, annual reports).

2011 2010 2009 2008 2007 2006

Snack 553.2 321.4 188.9 88.6 79.6 40.7

Culinary and retail In-Shell 262.9 249.0 276.2 335.4 297.2 286.5

Total retail 816.1 570.4 465.1 424.0 376.8 327.2

International non-retail 119.0 69.2 68.9 48.0 69.1 62.4

North American Ingredient/Food Service and other 30.8 40.6 36.9 59.5 76.6 87.6

Total Non-retail 149.8 109.8 105.8 107.5 145.7 150.0

Total net sales 965.9 680.2 570.9 531.5 522.5 477.2

Product/ChannelSales (in millions dollars) for Year ended July 31,

6

Source: Annual Reports, Diamond Foods

The acquisitions helped Diamond achieve impressive sales growth and profitability. Its sales more

than doubled during 2006 to 2011, and net income grew almost seven-fold during the same period.

The consensus estimates of fully diluted earnings per share (EPS) for Diamond for fiscal years 2007,

2008, 2009, 2010, 2011 were $0.508, $0.888, $1.36, $1.373, and $2.319, respectively (Bloomberg).

The reported EPS exceeded the consensus analyst estimate in most years. The balance sheets,

statements of operations and statements of cash flows of Diamond for fiscal years 2006 to 2011

are presented in Exhibits 2(A), 2(B) and 2(C), respectively.

- Insert Exhibits 2(A), 2(B) and 2(C) about here -

The price of Diamond’s common stock reflected the Company’s superior financial performance and

its promising growth prospects. It went up from $17 (IPO price in July 2005) to $90 in July 2011,

earning investors a compound annual return of 32 percent.

The Mavericks Behind Diamond’s Success – CEO Michael Mendes and CFO Steven Neil

Michael Mendes was the main force in converting Diamond from a cooperative into a corporation

and for making walnuts more mainstream as a healthy snack rather than just a baking ingredient.

He joined Diamond in 1991 as the Company’s Vice President of International Sales and Marketing.

In 1997, at the age of 33, he was promoted to be Diamond’s president and chief executive officer

(CEO). He served on Diamond’s Board of Directors beginning in 2005 and was chairman of the

Board from January 2011. Mendes worked hard to change Diamond into a more entrepreneurial

and performance-driven organization.

Steven Neil, who had served as an independent director on Diamond’s board since 2005, became

the Company’s Executive Vice President, Chief Financial and Administrative Officer in March 2008.

He was also responsible for operations, logistics, IT, treasury, grower relations, and purchasing.

For their contributions to Diamond’s success, the CEO and the CFO were handsomely rewarded.

Mendes’ compensation had more than tripled from $1.1 million in fiscal 2004 to $3.8 million in

2011 2010 2009 2008 2007 2006

Walnuts 47% 60% 60% 67%

Other nuts 53% 40% 40% 33%

Total retail 100% 100% 100% 100%

Product/ChannelSales (in millions dollars) for Year ended July 31,

Break-down not provided

Break-down not provided

7

2009. In the fiscal year 2011, it doubled again to approximately $7.3 million. The compensation

paid to Neil, who became CFO in March 2008, was approximately eight times that of his

predecessor CFO at the time of Diamond’s conversion from a cooperative.

Consistent with the goal of becoming a performance-driven organization, the compensation of

Diamond’s senior management was tied to the Company’s success. Regulatory filings indicate that

in fiscal 2009, 2010 and 2011, $2.6 million of Mendes' $4.1 million in annual bonus was paid

because Diamond beat its EPS goal. The proxy statements of fiscal 2010 specify that Diamond’s

annual bonus incentives “were determined by both a corporate financial objective, representing

60% of bonus potential, and individual objectives for each named executive officer, representing

40% of bonus potential.”

Plans for a More Prosperous Future: Diamond’s Attempts to Acquire Pringles ®

The acquisitions helped Diamond to increase its sales and improve its profitability. For instance,

Diamond gained over 350 basis points of market share to 26 percent in fiscal 2011. On the heels of

the fruitful acquisitions in the past, the Company embarked upon an even more ambitious target,

Pringles®. The largest potato crisp brand in the world with sales in over 140 countries and

manufacturing operations in the U.S., Europe and Asia, Pringles® had a combination of proprietary

products, unique package design and significant advertising investment. The acquisition of

Pringles® would enable Diamond to gain greater merchandising and distribution influence, leverage

its sales and distribution infrastructure, and obtain a broader global manufacturing and supply

chain platform with access into key growth markets including Asia, Latin America and Central

Europe. The Pringles® acquisition was a crown jewel that would make Diamond the second largest

snack food company in the world (only behind PepsiCo’s Frito-Lay®)6.

Beginning in May 2010, Diamond submitted several offers to Proctor and Gamble (P&G) to

purchase its Pringles® division. Although Proctor & Gamble initially rejected Diamond’s offers,

negotiations resumed in February 2011. On April 5, 2011, Diamond reached an agreement to

acquire Pringles®. In the conference call announcing the acquisition, Michael Mendes asserted that

“Pringles® is a great strategic fit. In the same conference call, CFO Steven Neil mentioned that

although Diamond would incur merger and integration related costs of approximately $100 million7

over the first two years, he agreed with Mendes that “the financial benefits of improved margins,

6 Frito-Lay®, with $13 billion in annual sales accounted for nearly 62% of U.S. salty snack sales in 2011.

(http://www.pepsico.com/Download/Frito-Lay_Quick_Facts.pdf) 7 On September 16, 2011, Diamond announced in its proxy statement an increase of $50 million in the estimated

transaction and integration costs of the Pringles® acquisition, raising the figure from $100 million to $150 million.

8

significant EPS accretion, and free cash flow will make Diamond an even stronger company in the

future, delivering exceptional value to Diamond and P&G shareholders.” The news of Pringles®

acquisition and prospects of resulting improvement in financial performance propelled Diamond’s

share price to $96.13 in September 2011.

In the form DEFM14A (definitive proxy statement relating to merger or acquisition) filed with the

SEC, Diamond provided the following details about the purchase consideration for Pringles®:

Diamond’s cost to purchase Pringles® will be allocated to the assets acquired and

the liabilities assumed based upon their respective fair values on the date the

Merger is completed. The total equity purchase price will be paid with 29,143,190

shares of Diamond common stock that will be issued in exchange for all outstanding

shares of Pringles® Company common stock. Additionally, Diamond will assume

newly issued Pringles® debt, in an amount that, when combined with the value of

the share issuance, aggregates $2.9 billion. Such additional debt to be issued by

Pringles® is currently estimated to approximate $700 million. The amount of debt

actually issued by Pringles® will be determined by a reference price range of

Diamond common stock prior to close of the Merger and could increase to a

maximum amount of $1.050 billion or be reduced to a minimum amount of $700

million.

Form DEFM14A also included selected audited financial statements for Pringles® (see Exhibit 3A

for income statements and Exhibit 3B for balance sheets). In addition, it presented a historical

combined balance sheet of Diamond and Pringles® (Exhibit 4), consolidated statement of

operations (Exhibit 5), and excerpts from a note on pro forma adjustments (Exhibit 6). The

combined unaudited financial statements assumed that the transferred assets and liabilities of

the Pringles® Business had been held by Pringles® for all of the periods presented.8

- Insert Exhibits 3, 4, 5 and 6 about here -

8 DEFM14A included the following caveat, commonly found in such proxy statements: The unaudited condensed

combined pro forma financial data of Diamond has been prepared by Diamond for illustrative purposes only and is

not necessarily indicative of the operating results or financial position of Diamond or Pringles® would have been

had the transactions been completed at the beginning of the periods or on the dates indicated, nor are they

necessarily indicative of any future operating results or financial position.

9

The unaudited combined pro forma statement of operations did not include any adjustments

related to restructuring, potential profit improvements, or potential cost savings which may result

from the merger. Diamond noted that the anticipated profit improvements generated from these

actions, as well as other potential synergies of approximately $25 million, were expected to be fully

realized by fiscal 2013. The synergies were expected to come from the efficiencies of combining

Diamond and Pringles®, and leveraging the current administrative, selling and marketing functions,

along with Diamond’s supply-chain and distribution network.

The Accounting Controversy: Recording of “Momentum” Payments9

The sell recommendation of Off Wall Street stated that the “momentum” payment paid to walnut

growers in September 2011 may have been in lieu of a retrospective payment. On the same day

that the Off Wall Street report came to his desk, Mark read an article in Reuters BreakingViews

stating that “Diamond’s long-term contracts gave it great leeway to determine a final price at the

end of the crop year. And while walnut prices have been rising thanks to Chinese demand, they are

among the most opaque in the agricultural world and can vary widely.”

Mark delved into historical financial statements of Diamond to understand the accounting of

payments to walnut growers. A footnote on inventories from Diamond’s annual report for the

fiscal year ending July 31, 2011 stated:

We have entered into long-term Walnut Purchase Agreements with growers,

under which they deliver their entire walnut crop to us during the Fall harvest

season and we determine the minimum price for this inventory by March 31, or

later, of the following calendar year. The final price is determined no later than

the end of the Company’s fiscal year. This purchase price will be a price

determined by us in good faith, taking into account market conditions, crop size,

quality, and nut varieties, among other relevant factors. Since the ultimate price

to be paid will be determined subsequent to receiving the walnut crop, we must

make an estimate of the price for interim financial statements. Those estimates

may subsequently change and the effect of the change could be significant.

When Mark woke up on the morning of 27th, the thought of issuing a “sell” recommendation on

Diamond started hovering over him again. Over a cup of morning coffee, he perused Wall Street

Journal and there was news on Diamond again. The WSJ story reminded investors to take a closer

look at Diamond’s historical business – Walnuts – and accounting thereof. Mark noted the

following excerpt from the news (Wall Street Journal, September 27, 2011):

9 A detailed description of the motives and mechanisms of earnings management is available in Gujarathi (2015).

10

As walnut prices surged for the 2010 crop, Diamond paid growers much less than

most buyers, according to several growers interviewed by the Wall Street Journal.

And yet on September 2, Diamond made an extra "momentum" payment to growers

they hadn't received in past years. The payment sizes varied, but averaged 25 cents

a pound or more, growers say.

The Company maintained, however, that the payment was for the current year rather than prior

period. In an e-mail response to the Wall Street Journal, Diamond said:

In an effort to optimize cash flow for growers, particularly in light of the delayed

harvest, we issued a “momentum” payment to growers that provide additional cash

flow in the fall consistent with the current market environment as we enter the 2011

harvest.

Materiality of the “momentum” payments

Mark wondered if the effect of “momentum” payments was material and what did the external

auditors have to say about Diamond’s accounting of them. As for the materiality, a story in the WSJ

alluded to that:

That payment is critical to investors because it would have made a big dent in

Diamond's earnings had it been made by July 31, when the company's fiscal year

ended. The company declined to specify the size of the payment, but it's possible to

make a decent estimate. According to the Department of Agriculture, one billion

pounds of California walnuts were sold in the 2010 crop. Diamond disclosed that in

2005 it bought 283 million pounds of walnuts, or about 40% of California's

production. So conservatively assuming it bought 20% of 2010's output, the

“momentum” payments would total $50 million. That compares with $93 million in

operating income for the entire fiscal year.

The estimate of $50 million was lower than that reported in Breakingnews.com on the previous day

(September 26, 2011). It noted:

Based on Diamond’s estimated market share, this makes the company’s costs

around $60 million lower than they would be had Diamond paid something closer to

rivals.

11

More than the impact on the past profitability, Mark was concerned about the effect of

underpayments on the future profitability of Diamond. The Wall Street Journal news item noted:

Even with the September payment, growers still look underpaid for the 2010 crop.

Independent grower Ryan Palm, for example, says he received about 70 cents a

pound before the momentum payment and less than $1 a pound if it's included.10

Pressure from growers could quickly become an issue for Diamond. After all,

growers can go elsewhere when contracts expire and exports to places like China

and Turkey have been surging.

Diamond’s independent auditors – Deloitte – who were also the auditors for P&G – did not raise

any red flags for Diamond’s accounting treatment of “momentum” payments. They provided an

unqualified audit opinion on Diamond’s financial statements stating that Diamond (a) complied

with GAAP and (b) maintained effective internal control over its financial reporting (Gujarathi,

forthcoming).

The Critical Moment

Mark reviewed the Off Wall Street research report again. He noted the conclusion therein and

took copious notes of the supporting explanations in the report (Exhibit 7).

- Insert Exhibit 7 about here -

The time to make a decision, whatever it may be, had arrived. Waiting any longer had

consequences that Mark was not comfortable living with.

10

United States Department of Agriculture, in its Walnut Raisin Prune Report (issued at different dates) reported the average walnut prices (cents per pound) as follows: 81.5 (2006), 114.5 (2007), 64 (2008), 85.5 (2009), 101.9 (2010) and 143.5 (2011).

16

References

Business Week, 12 January 2012, “Has Diamond Foods lost its luster?”

Diamond Foods, Annual Reports, accessed at

http://investor.diamondfoods.com/phoenix.zhtml?c=189398&p=irol-sec

Diamond Foods, Inc., Securities Litigation, 2012, Case No. 11-CV-05386-WHA. Available at:

http://securities.stanford.edu/filings-

documents/1048/DMND00_01/2012730_r01c_11CV05386.pdf

Huffington Post, 2012. “Diamond Foods Accounting Scandal Seeds Sown Years Ago.” 19th March.

Accessed at http://investor.diamondfoods.com/phoenix.zhtml?c=189398&p=irol-sec

Gujarathi, Mahendra R., 2015. “Diamond Foods, Inc.: Anatomy and Motivations of Earnings

Manipulation,” Issues in Accounting Education, Vol. 30, No. 1, February 2015, pp. 47-69.

Gujarathi, Mahendra R., 2015. “Diamond Foods, Inc.: A Comprehensive case in Financial

Statement Auditing,” Issues in Accounting Education, forthcoming.

Hambrick Donald C. and J. W. Fredrickson, 2005. “Are you Sure you have a Strategy,” Academy

of Management Executive, Vol 19, No. 4

Off Wall Street, Report on Diamond Foods, 2011, accessed at:

http://www.offwallstreet.com/reports/NEW_DMND_9-25-11.pdf

Porter, Michael, 1979. How Competitive Forces Shape Strategy. Harvard Business Review (March)

Reuters, Breakingviews. 26 September 2011. Mixed Nuts, by Jeffrey Goldfarb.

Reuters, 21 August 2013. “Diamond Foods to settle investor lawsuit for about $100 million”, by

Chris Peters.

San Francisco Business Times, 2012. “Diamond Foods ex-CEO resigns and will pay $2.7 m

clawback,” (November 21).

SEC v. Diamond Foods, Inc., case 3:14-cv-00123, January 9, 2014 accessed at:

http://www.sec.gov/litigation/complaints/2014/comp-pr2014-4-diamond.pdf

17

SEC v. Michael Mendes, Accounting and auditing enforcement release #3526, January 9, 2014,

accessed at: http://www.sec.gov/litigation/admin/2014/33-9508.pdf

SEC v. Steven Neil, case 3:14-cv-00122, January 9, 2014, accessed at:

http://www.sec.gov/litigation/complaints/2014/comp-pr2014-4-neil.pdf

Wall Street Journal, 27 September 2011, “Hidden Flaw in P&G’s Diamond Deal.”

18

Date DMND S&P 500 Index

9/1/2010 40.74 1141.20

10/1/2010 43.98 1183.26

11/1/2010 46.32 1180.55

12/1/2010 52.91 1257.64

1/3/2011 49.56 1286.12

2/1/2011 50.74 1327.22

3/1/2011 55.57 1325.83

4/1/2011 65.48 1363.61

5/2/2011 74.23 1345.20

6/1/2011 76.14 1320.64

7/1/2011 71.44 1292.28

8/1/2011 78.70 1218.89

9/1/2011 85.09 1204.42

Date DMND S&P 500 Index

9/14/2011 76.32 1188.68

9/15/2011 78.07 1209.11

9/16/2011 87.12 1216.01

9/19/2011 87.32 1204.09

9/20/2011 92.28 1202.09

9/21/2011 91.72 1166.76

9/22/2011 90.95 1129.56

9/23/2011 90.19 1136.43

9/26/2011 85.09 1162.95

Source: Yahoo Finance

Monthly Stock Price Movements: Diamond Foods (DMND) and S&P 500 Index

Exhibit 1

Panel A

Panel B

Daily Stock Price Movements: Diamond Foods (DMND) and S&P 500 Index

1000.00

1050.00

1100.00

1150.00

1200.00

1250.00

1300.00

1350.00

1400.00

0.00

10.00

20.00

30.00

40.00

50.00

60.00

70.00

80.00

90.00

DMND S&P 500 Index

1080.00

1100.00

1120.00

1140.00

1160.00

1180.00

1200.00

1220.00

1240.00

0.00

10.00

20.00

30.00

40.00

50.00

60.00

70.00

80.00

90.00

100.00

DMND S&P 500 Index

19

Exhibit 2(A)

Source: 10-K reports of Diamond Foods filed with the SEC

Note 1: Payable to growers was presented in Diamond’s balance sheet as a separate line item until July

31, 2010. In the balance sheet of July 31, 2011, however, the payable to growers of $15,186 were

combined with accounts payable and accrued liabilities of $128,874, for a total of $144,060.

2006 2007 2008 2009 2010 2011

ASSETS

Current assets:

Cash and cash equivalents 35,614 33,755 74,279 24,802 5,642 3,112

Trade receivables, net 49,536 50,662 46,256 33,492 65,553 98,218

Inventories 99,177 90,619 88,526 85,027 143,405 145,575

Deferred income taxes 4,578 4,805 7,387 13,109 10,497 13,249

Prepaid income taxes 3,147 1,854 - - 9,225 2,783

Property held for sale 1,728 - - - - -

Prepaid expenses and other current assets 4,182 2,417 4,261 3,594 5,767 13,102

Total current assets 197,962 184,112 220,709 160,024 240,089 276,039

Restricted cash - - - - 15,795

Property, plant and equipment, net 34,291 33,936 34,606 51,115 117,816 127,407

Deferred income taxes 4,812 4,922 5,802 6,230 13,625 3,870

Goodwill 5,077 5,432 5,432 76,076 396,788 407,587

Other intangible assets, net 3,941 3,707 3,473 97,883 449,018 450,855

Other long-term assets 6,949 4,294 3,245 3,564 8,536 6,842

Total assets 253,032 236,403 273,267 394,892 1,225,872 1,288,395

LIABILITIES AND STOCKHOLDERS EQUITY

Current liabilities:

Current portion of long-term debt - 162 - 15,000 40,000 41,700

Accounts payable and accrued liabilities 28,371 26,306 42,251 64,453 92,166 144,060

Payable to growers (Note 1) 81,902 57,117 56,942 29,149 35,755

Total current liabilities 110,273 83,585 99,193 108,602 167,921 185,760

Long-term obligations 20,000 20,345 20,204 100,085 516,100 490,001

Deferred income taxes - - - 1,221 144,755 131,870

Other liabilities 11,933 7,132 7,647 11,643 17,153 25,969

Stockholders equity:

Common stock, $0.001 par value 16 16 16 17 22 22

Treasury stock, at cost - (1,436) (3,203) (4,256) (5,050) (6,867)

Additional paid-in capital 93,962 101,106 112,550 122,817 307,032 318,083

Accumulated other comprehensive gain/(loss) (36) 2,233 1,584 (1,296) (869) 18,500

Retained earnings 16,884 23,422 35,276 56,059 78,808 125,057

Total stockholders equity 110,826 125,341 146,223 173,341 379,943 454,795

Total liabilities and stockholders equity 253,032 236,403 273,267 394,892 1,225,872 1,288,395

Balance Sheet, July 31 (Amounts in thousand dollars)

20

Exhibit 2 (B)

Source: 10-K reports of Diamond Foods filed with the SEC

2006 2007 2008 2009 2010 2011

Net sales 477,205 522,585 531,492 570,940 680,162 965,922

Cost of sales 411,809 443,945 443,490 435,344 519,161 714,775

Gross profit 65,396 78,640 88,002 135,596 161,001 251,147

Operating expenses:

Selling, general and administrative 37,046 42,541 43,613 60,971 64,301 96,960

Advertising 17,977 20,445 20,508 28,785 32,962 44,415

Restructuring and other costs, net 3,442 (15) - - - -

Loss on termination of defined benefit plan - 3,054 - - - -

Acquisition and integration related expenses - - - - 11,508 16,792

Total operating expenses 58,465 66,025 64,121 89,756 108,771 158,167

Income from operations 6,931 12,615 23,881 45,840 52,230 92,980

Interest expense, net 295 1,291 1,040 6,255 10,180 23,840

Other 310 98 - 898 1,849 -

Income before income taxes 6,326 11,226 22,841 38,687 40,201 69,140

Income taxes (tax benefit) (1,010) 2,793 8,085 14,944 13,990 18,929

Net income (loss) 7,336 8,433 14,756 23,743 26,211 50,211

Earnings per share:

Basic 0.47 0.53 0.92 1.45 1.40 2.28

Diluted 0.47 0.53 0.91 1.42 1.36 2.22

Shares used to compute earnings per share:

Basic 15,634 15,786 16,088 16,073 18,313 21,577

Diluted 15,653 15,786 16,152 16,391 18,843 22,242

Total dividends on common stock: 1,407 1895 2,902 2,960 3,462 3,962

Annual dividend per share: 0.09 0.12 0.18 0.18 0.18 0.18

Statements of Operations for the year ended July 31 (In thousand dollars, except per share amounts)

21

Exhibit 2 (C)

Source: 10-K reports of Diamond Foods filed with the SEC

2006 2007 2008 2009 2010 2011

CASH FLOWS FROM OPERATING ACTIVITIES

Net income 7,336 8,433 14,756 23,743 26,211 50,211

Adjustments:

Depreciation and amortization 5,532 7,561 6,420 11,362 17,154 29,465

Deferred income taxes (1,531) (1,874) (3,022) (2,800) 7,072 (7,534)

Loss termination of defined benefit plan - 2,575 - - - -

Tax benefit related to stock-based compensation plans - - - (1,067) (434) (2,274)

Stock-based compensation 3,992 5,859 6,893 3,901 3,231 6,974

Gain on sale of property held for sale - (1,193) - - - -

Other, net 395 56 4 858 1,109 1,055

Changes in assets and liabilities:

Trade receivables (4,805) (1,048) 4,406 12,764 (2,873) (32,665)

Inventories 17,278 8,077 2,093 10,316 (45,852) (2,170)

Prepaid expenses and income taxes and other current assets (1,957) 1,581 10 1,053 (6,437) (893)

Other assets 1,764 454 24 - - -

Accounts payable and accrued liabilities (4,419) (1,871) 15,475 (6,562) (5,462) 17,577

Other, net - - - (200) 4,693 5,921

Payable to growers 9,348 (24,785) (175) - - -

Other liabilities 1,027 (11) 192 - - -

Net cash provided by (used in) operating activities 33,960 3,814 47,076 53,368 (1,588) 65,667

CASH FLOWS FROM INVESTING ACTIVITIES:

Capital revolvement from CoBank 126 419 299 - - -

Net proceeds from sales of property, plant and equipment 49 2,941 12 - - -

Payment of Harmony acquisition costs (19,186) (197) - - - -

Purchases of property, plant and equipment (8,354) (6,790) (6,583) (7,994) (11,790) (27,703)

Net deposits of restricted cash - - - - - (15,795)

Acquisitions, net of cash acquired - - - (190,224) (615,389)

Other, net - - - 133 618 262

Net cash used in investing activities (27,365) (3,627) (6,272) (198,085) (626,561) (43,236)

CASH FLOWS FROM FINANCING ACTIVITIES:

Revolving line of credit borrowings - - - - 176,000 -

Repayment of revolving line of credit (2,119) (162) - (9,900) (4,800)

Net proceeds from issuance of long-term debt - - - 123,027 391,148 21,350

Payment to members of membership interest (17,329) - - - - -

Payment of long-term debt and notes payable - - - (30,141) (125,119) (40,884)

Gross proceeds from equity offering - - - - 179,737 -

Issuance of common stock under stock plans 802 1,204 3,972 - - -

Dividends paid (1,407) (1,895) (2,902) (2,960) (3,462) (3,962)

Excess tax benefit from stock option transactions 37 81 579 1,067 434 2,274

Other, net - - - 4,247 24 940

Purchase of treasury stock - (1,436) (1,767) - - -

Net cash (used in) provided by financing activities (20,016) (2,046) (280) 95,240 608,862 (25,082)

Effect of exchange rate changes on cash - - - - 127 121

Net increase (decrease) in cash and cash equivalents (13,421) (1,859) 40,524 (49,477) (19,160) (2,530)

Cash and cash equivalents:

Beginning of period 49,035 35,614 33,755 74,279 24,802 5,642

End of period 35,614 33,755 74,279 24,802 5,642 3,112

Statements of Cash Flows for the year ended July 31 (In thousand dollars)

22

Exhibit 3A

Pringles® Statements of Operations

Amounts in Million Dollars

Source: Form DEFM14A filed with SEC on 26th September 2011 by Diamond Foods

June 30, 2008 June 30, 2009 June 30, 2010 June 30, 2011

Net sales

Cost of products sold 1,077.90 1,049.30 886.90 924.00

Gross profit 456.50 347.10 480.50 531.70

Selling, general and administrative expense 334.00 279.80 314.10 333.50

Other operating expense (income) (0.20) 7.40 (0.50) 0.80

Operating income 121.80 59.90 166.90 197.40

Income taxes 36.80 19.60 40.00 44.60

Net income $85.00 $40.30 $126.90 $152.80

For the year ended

23

Exhibit 3 (B)

Pringles® Balance Sheets

Amounts in Million Dollars

Source: Form DEFM14A filed with SEC on 26th September 2011 by Diamond Foods

June 30, 2011 June 30, 2010 June 30, 2009

Current assets:

Accounts receivable, net $111.90 $94.00 $93.00

Inventories

Materials and supplies 28.70 18.70 25.40

Work in process 1.30 2.50 3.50

Finished goods 70.60 68.70 92.00

Total inventories 100.60 89.90 120.90

Prepaid and other current assets 13.10 11.80 15.40

Total current assets 225.60 195.70 229.30

Property, plant and equipment

Buildings 164.20 152.90 158.80

Machinery and equipment 873.70 790.00 811.70

Land 9.20 7.90 9.70

Gross property, plant and equipment 1,047.10 950.80 980.20

Accumulated depreciation (693.60) (615.40) (604.20)

Net property, plant and equipment 353.50 335.40 376.00

Other noncurrent assets 1.60 2.20 2.80

Total assets 580.70 533.30 608.10

Current liabilities:

Accounts payable $81.10 $66.40 $51.50

Accrued expenses and other liabilities 96.70 87.10 91.20

Total current liabilities 177.80 153.50 142.70

Noncurrent deferred income taxes 33.40 36.50 44.50

Other noncurrent liabilities 4.20 5.30 8.20

Total liabilities 215.40 195.30 195.40

Equity:

Accumulated other comprehensive income 44.40 19.90 35.90

Divisional equity 320.90 318.10 376.80

Total equity 365.30 338.00 412.70

Total liabilities and equity $580.70 $533.30 $608.10

24

Exhibit 4

Pro forma consolidated balance sheet of Diamond and Pringles®

Diamond

Foods Pringles

Pro Forma

Adjustments

Pro Forma

Consolidated

ASSETS

Current assets:

Cash and cash equivalents $ 3,112 $ — $ 3,700 (a) $ 6,812

Trade receivables, net 98,218 111,900 (111,900 ) (b)

98,218

Inventories 145,575 100,600 5,600 (c)

251,775

Deferred income taxes 13,249 — —

13,249

Prepaid income taxes 2,783 — —

2,783

Prepaid expenses and other current assets 13,102 13,100 —

26,202

Total current assets 276,039 225,600 (102,600 )

399,039

Restricted cash 15,795 — —

15,795

Property, plant and equipment, net 127,407 353,500 — (d)

480,907

Deferred income taxes 3,870 — —

3,870

Goodwill 407,587 — 1,962,571 (e)

2,370,158

Other intangible assets, net 450,855 — 1,175,000 (e)

1,625,855

Other long-term assets 6,842 1,600 15,000 (f)

18,095

(5,347 ) (j)

Total assets $ 1,288,395 $ 580,700 $ 3,044,624

$ 4,913,719

LIABILITIES AND STOCKHOLDERS’ EQUITY

Current liabilities:

Current portion of long-term debt $ 41,700 $ — $ 20,000 (g) $ 40,700

19,000 (g)

(40,000 ) (g)

Accounts payable and accrued liabilities 144,060 177,800 15,000 (f)

486,860

150,000 (n)

Total current liabilities 185,760 177,800 164,000

527,560

Long-term obligations 490,001 — 495,000 (g)

1,194,701

681,000 (g)

(471,300 ) (g)

Deferred income taxes 131,870 33,400 484,034 (i)

649,304

Other liabilities 25,969 4,200 —

30,169

Total stockholders’ equity 454,795 365,300 2,212,537 (h)

2,511,985

(5,347 ) (j)

(150,000 ) (n)

(365,300 ) (o)

Total liabilities and stockholder’s equity $ 1,288,395 $ 580,700 $ 3,044,624

$ 4,913,719

Source: Form DEFM14A filed with SEC on 26th September 2011 by Diamond Foods

25

Exhibit 5

Pro forma consolidated income statement of Diamond and Pringles®

Diamond

Foods

Pringles

Pro Forma

Adjustments

Pro Forma

Consolidated

Net sales $ 965,922 $ 1,455,700

$ —

$ 2,421,622

Cost of sales 714,775 924,000

— (d) 1,638,775

Gross profit 251,147 531,700

—

782,847

Operating expenses:

Selling, general and administrative 96,960 333,500

28,750 (k)(d) 459,210

Advertising 44,415 —

—

44,415

Acquisition and integration related expenses 16,792 —

—

16,792

Other operating expense — 800

—

800

Total operating expense 158,167 334,300

28,750

521,217

Income (loss) from operations 92,980 197,400

(28,750)

261,630

Interest expense, net 23,840 —

18,912 (l) 42,752

Income (loss) before income taxes 69,140 197,400

(47,662)

218,878

Income tax expense 18,929 44,600

7,808 (m) 71,337

Net income (loss) $ 50,211 $ 152,800

$ (55,470 ) $ 147,541

Earnings per share:

Basic $ 2.28

$ 2.89

Diluted $ 2.22

$ 2.85

Shares used to compute earnings per share:

Basic 21,577

29,100 (h) 50,677

Diluted 22,242

29,100 (h) 51,342

Source: Form DEFM14A filed with SEC on 26th September 2011 by Diamond Foods

26

Exhibit 6

Excerpts from the note to the combined financial statements of Diamond and Pringles®

(a) Adjustment reflects proceeds remaining from the issuance of debt described in (g) after

repaying historical debt, which will be used to supplement working capital.

(b) Under the terms of the Merger Agreement, Diamond is not acquiring Pringles’ trade

receivables.

(c) To record inventory at its estimated fair value.

(d) At this time there is insufficient information as to the specific nature, age and condition of

Pringles’ property, plant and equipment to make an estimation of fair value or the

corresponding adjustment to depreciation and amortization. Therefore, Diamond has

used Pringles’ carrying amount at the balance sheet date as the best estimate for the

unaudited condensed combined pro forma balance sheet.

(e) To recognize $1,963 million of Goodwill, $800 million of non-amortizable Brand

Intangibles, and $375 million of amortizable intellectual property, supplier agreements

and customer relationships.

(f) To record deferred financing charges incurred in connection with the issuance of the debt

financing discussed in (g).

(g) To recognize the repayment of the short-term and long-term portions of the historical

debt, $40 million and $471.3 million, respectively, funded through new debt financing.

(h) Diamond intends to exchange approximately 29.1 million shares of its common stock in

this offering to fund a portion of the purchase price of the Pringles® acquisition. The

purchase price is based on Diamond’s closing share price at September 8, 2011 of $75.92.

(i) Represents deferred tax liabilities related to intangible assets.

(j) The $5.3 million relates to the write-off of unamortized deferred financing costs from

Diamond’s existing debt that is a non-recurring expense in connection with the repayment

of Diamond’s existing debt.

(k) Represents the additional straight-line amortization of supplier agreements, customer

relationships and other intellectual property resulting from the Pringles® acquisition.

Diamond assumed a 20 year useful life for customer relationships, and a 10 year useful

life for supplier agreements and intellectual property.

(l) Interest expense will increase as a result of the expected financing transactions described

in (g). Adjustment to historical interest expense to reflect the incurrence of additional

borrowings, including amortization of deferred debt issuance costs relating to such

additional borrowings and the repayment of Diamond’s existing credit facility. The

weighted average interest rate used to compute the incremental interest expense was

3.3%. An increase of 0.125% in the interest rate would increase Diamond’s annual pro

forma interest expense by approximately $1.5 million.

27

(m) For purposes of these unaudited pro forma condensed combined financial statements,

Diamond used an effective tax rate of 32.6% for the year ended July 31, 2011. This rate is

an estimated effective rate for the global operations of the combined company.

(n) Diamond expects to incur transaction and integration costs of approximately $150 million

through fiscal 2013.

(o) The adjustment reflects the elimination of Pringles’ equity in connection with the

Pringles® acquisition.

Source: Form DEFM14A filed with SEC on 26th September 2011 by Diamond Foods

28

Exhibit 7

Excerpts from Off Wall Street Report on Diamond Foods

Conclusions:

1. Diamond appears to be losing its dominant position in the walnut industry. As a result,

its business model is deteriorating and its profitability is under pressure.

2. Company profitability also appears to be overstated due to accounting treatment of a

prospective “momentum payment” paid to walnut growers in September of 2011, which

may be in lieu of a retrospective payment.

3. As purchase agreement with walnut suppliers signed at the time of the IPO expire,

DMND risks losing suppliers due to its practice of paying discounted walnut prices, or its

cost of goods sold will rise.

4. Integration risks inherent in Pringles® acquisition.

5. Earnings estimates appear to be too high. We estimate the company will earn non-GAAP

EPS of $2.75 in FY 2012 and $3.18 in FY 2013, which compared unfavorably to the

“street’s” estimates of $3.14 for FY 2012 and $3.73 for FY 2013.

6. On a P/E and EV/EBITDA basis, we think the shares might trade at about $43.

Supporting Arguments/Explanations:

By our account, pro-forma revenue CAGR would have been only about 3.6% if Pop Secret and

Kettle Foods had been acquired at the beginning of FY 2006.

With the company trading at 29X FY 2012 consensus EPS and 24X FY 2013 consensus EPS, we

think even small earnings misses should mean major downside for the shares. If we are correct

in our assessment of these “momentum” payments, the company conceivably might even be

forced to restate its FY 2011 financial statements and possibly report a revised EPS of only

around $1.14.

With growing walnut demand, we hear that many buyers are now offering much quicker

payments, with some even paying up in advance of the harvest. Walnut demand is skyrocketing

due to increased consumption in the US, China, the Middle East, and Europe. Yet, Diamond

appears to have continued to treat its farmers as if they need Diamond more than Diamond

needs the farmers.

We think there are numerous risks to the Pringles® transaction. Most importantly, Diamond

investors have been paying up for growth. Yet, Pringles is not a growth company. Pringles®

29

revenue was up 6% for its recently reported fiscal year on a volume increase of 7%. However,

this was subsequent to easy comparisons from 2010, when Pringles® revenues were down by

2% and volumes were down by 5%. And although we do not have volume information for FY

2009, Pringles® revenue was down -9%, so volume was likely down materially too. Comps

should get more difficult and Pringles® annual revenue growth is likely return to its long-term

average of 2% to 3%.

Integrating the cultures of Diamond and Pringles® could be difficult, with Diamond’s

entrepreneurial environment possibly clashing with a more institutionalized Pringles’

management structure.

Based on our analyses, it appears both Diamond as it exists today and Pringles® are growing

revenues in just low single digits on a pro forma basis over the long term. As such, long term

earnings growth will likely be unimpressive as well, and we think the shares should trade at

about a market multiple of 13X our FY 2013 EPS estimate, suggesting a share value of about

$41.

Assuming the Pringles® deal closes, the consolidated company will have about $1.3 billion of

debt outstanding. The deal will result in Diamond having about 52 million shares outstanding,

putting the total value of the company at about $6 billion, based on Diamond’s current share

price. The company’s guidance for EBITDA is $300-$310 million for FY 2012, so the current

enterprise value is about 20X EBITDA. We estimate EBITDA of $367 million for FY 2013, the first

full year after Diamond acquires Pringles®, implying EV/EBITDA multiples of 16.3X. As the

company misses “street” earnings estimates, we think maintaining a 10X multiple might prove

very difficult. At 10X our estimated FY 2013 EBITDA, the shares should trade at about $45. We

recommend investors sell Diamond shares with a target of $43, the midpoint between our two

valuation methods.

Source: Off Wall Street Consulting Group, Inc. Report on Diamond Foods dated 9/25/2011

Available at: http://www.offwallstreet.com/reports/NEW_DMND_9-25-11.pdf