Delta Beverage Group, Inc. is an independent bottler of Pepsi products in the United States. These products include franchised brands like Pepsi, Mountain Dew, Dr. Pepper, 7-up and more. These drinks are sold in a variety of containers but PET bottles and aluminum cans are used the most. Delta has concentrated most of its business in the South Central United States, which includes parts of Tennessee, Arkansas, Louisiana,
and Mississippi. In 1993, Delta reached an agreement with its senior debt holders to avert defaulting on its debt. As a result, total debt decreased from 193 million to 140 million and the average maturity of the debt from 5.0 to 6.8 years. However, the sinking fund provision for this new debt meant that the debt repayment schedule started almost immediately. In the first half of 1994, aluminum cash prices on the London Metal Exchange (LME) had risen by 30. Because of this, John Bierbaum, CFO of Delta Beverage Group, Inc., wondered whether this increase in aluminum prices would affect the prices of the aluminum cans bought by Delta and therefore her profit margin. Bierbaum has to consider the financial implications this has regarding the company. Because of these, Delta needs to consider about having a new plan in order to deal with this challenge, one that includes new prices, new costs and maybe also further negotiations with the suppliers of the company.</p> <p style="text-align: justify;">Bierbaum has considered two options. The first one is an operational hedge. Under this option, Delta would try to alter its product mix, which is dominated by cans, to sell more drinks in PET bottles. Hereby, exposure to aluminum prices would be reduced. On top of that, PET bottles carried a higher profit margin compared to cans. However, Bierbaum concluded that this was no feasible option. The second option is a financial hedge on aluminum. Under this option, Delta would purchase futures contracts to try to fix the higher costs in advance. The question concerning this case is whether hedging is the solution to the problem of aluminum contracts for coming years or that Delta should prove a buyout We will examine both these options by making calculations based on the data that is given in the case. The financial risk of the company is also an important section that the company should be able to manage in the future as the history has shown that Delta Beverage Group, Inc. had financial leverage problems in the previous years, so it needs to take precautions for the years to come.</p> <p style="text-align: justify;">In Exhibit 5 we can see that Delta cant actually risk losing revenues and also that there are many restrictions that the company has to take under consideration. These restrictions are translated into ratios for senior leverage, interest coverage, debt service and also for total leverage. In the table on the next page (table 1), the numbers show us that the company wasnt eventually able to manage all these restrictions regarding the ratios. The total leverage ratio and the interest coverage ratio do not comply with the restrictions. The solution to this problem is to increase profit margins. In this way, funds from operations should increase which results in lowering the total leverage ratio and increase the interest coverage ratio. Ratio (Table 1)Value (1k)LimitSenior leverage ratio105,000 / 22,730 4.62Not in excess of 5.00Total leverage ratio166,572 / 22,730 7.33Not in excess of 6.25Interest coverage ratio22,730 / 16,861 1.35Not less than 2.0Debt service coverage ratio16,861 / 10,648 1.58Not less than 1.25 The data of the following tables show net revenues in year 1993 (table 2.2) and also the cost in (1k). In table 2.3, we notice that the share of aluminum is about 9,50 of CoGS. According to the Exhibit 12, which shows the aluminum cash and futures prices, the price goes up to 1461.</p> <p style="text-align: justify;">
Case 1 for Advanced Corporate Finance: Delta Beverage Group
This assignment considers the case of Delta Beverage Group (DBG), a large bottling company.CFO Bierbaum reflects on years past in which a recapitalization plan prevented the firm fromdefaulting on debt. Now, rising aluminum prices are posing a threat to the firm. DBG is afranchise of PepsiCo and has no influence on retail price. Therefore, higher costs of raw materialcannot be passed on to the consumer. Futures can be bought to hedge such risks, so the questionis whether the CFO should engage in buying aluminum futures.First, we will calculate some key financial ratios and assess the current financial situation of Delta. Then, we make assumptions and attempt to justify them. Finally, we will project the futureof the firm along multiple scenarios to come to a conclusion and give our advice to Mr.Bierbaum.
Current financial situation
Looking at the sales figures, we see that DBG is a large company showing little to moderategrowth. And the growth is mostly enabled by the acquisitions in recent years. Furthermore, thesoft drink beverages industry as a whole is clearly showing diminishing growth. Since thecompany is also highly leveraged, we can conclude that Delta Beverage Group is in the mature phase of the product life cycle. We can provide better i
nsight on the company’s well
-being whenkeeping this in mind while assessing the various financial ratios. After all, ratios can varysignificantly between stages of life cycle, capital-intensity, or size of the company.The D/E-ratio shows that the company is highly leveraged with a peak in 1992. This was the point at which the accumulated deficit reached its highest value and next year theRecapitalization Plan was performed. The ratio is in 1993 therefore much healthier according tofirm characteristics (firm size, capital intensity and stage of life cycle).
The debt ratio shows us how much of the firm’s assets are funded by debt. In this case, the ratio
appears to be excessive, even after the recapitalization. As the chance of default becomes bigger,the business risk increases as well. This makes Delta Beverage Group less attractive to investors.Additionally, the bigger financial risk makes borrowing additional funds virtually impossible.DBG experienced losses at the bottom line from 1989-1993, but ameliorated during the same period. The main improvement of net income was most notably the recapitalization; the debt for equity substitution resulted in lower interest expenses.
1989 1990 1991 1992 1993
Debt 165.751162.310164.264172.185141.149Equity 69.70257.05235.4747.37294.268Totalassets 223.334210.069203.999210.438213.705D/Eratio2,382,844,6323,361,50Debtratio 0,740,770,810,820,66