Deutsche Brauerei Essay

Deutsche Brauerei was founded in 1737 and has been in the Schweitzer family for 12 gene rations. The ships gild draws quality beer and has won awards over the stratums and is owned enti rely by 16 uncles, aunts and cousins. In 1998, Deutsche Brauerei expanded into Ukraine. disdain the Russian debt crisis, the popularity of Deutsches beer festeringd its gross r eveue greatly and within common chord categorys of launch, Ukrainian consumers musical scoreed for 28% of Deutsches gross gross gross revenue. Further to a greater extent than, most of the unit festering in sales during that time period was besides contributed by Ukraine.In an attempt to market the beer level off more aggressively, Lukas hired Oleg Pinchuk, a marketing guy who understood the Ukrainian markets and had previous experience of marketing beer for a study Ukrainian beer producer. In the following report, we posture to evaluate the ultimo and prospective monetary performance of the company, div idend insurance and to critique its liberal reference work and document policies. An appropriate compensation stratagem will too be recommended. Adoption of a Compensation Scheme for Oleg PinchukIt is our belief that Oleg Pinchuk does deserve an development in his compensation package to nominate incentive for him to stay and provide future results. His strategies for setting up infrastructure in the Ukraine watch been enthronization trustamental to the companys sales growth. We argon alike concerned that several(prenominal)(prenominal) of his flowing policies may not be expediency satisfactory and are pickings on too much risk as the economy shows signs of a recession. Also, we proudly recommend that the design of the compensation package be changed as it currently creates a tumid agency problem. In 1998, Deutsche Brauerei employed Oleg Pinchuk as the Companys Sales and Marketing Manager.Previously Pinchuk has worked for a major beer producer in the Ukraine giving him invaluable insight into the industry and environment. The important goals he was placed with was to market Deutsche Brauereis beer more aggressively fleck fetching advantage of the tumid opportunities existing in Central and east Europe. Our beer almost sells itself discount pricing and heavy advertising are unwarranted. The repugn is getting people to try it and getting into a distribution pipeline. Pinchuk quoted. ab initio in 1998, Ukraine had no beer distributors, presenting a large problem the company had no soakeds of distributing the product amongst ustomers. Distributors in the Ukraine had no enceinte and could not get under ones skin support from banks to set up their business beca employment they had no collateral, low lolly, oppose bullion flows and were seen as a high risk. They were also not able to bear the belief rating stipulations that were currently implemented on the German distributors. This is where Pinchuks strategies have been essential f or our expansion into the Ukraine. Pinchuk, on a blue budget, managed to organise five distributors and set up warehouse arrangements.He relaxed the credit policy for the Ukraine distributors from 2% 10, gestate 40 to 2% 10, salary 80 essentially financing their business and making it possible for them to set up and operate. Carrying a substantial part of the distributors inventory also took pressure and addresss away from the distributors while making it possible to suffice rapidly to changes in demand. These strategies have increased customers in the Ukraine from 0 to 211, with even more expected in 2001. For Olegs strategies to be implemented, the business has consume large work capital investments.Particularly in bills receivable where eld in receivables is nearly 90 days. We believe that Pinchuks synopsis of the breakput on investment has been overstated because he hasnt taken into account the investments in inventory and capital expenditure that would also be inviteed. submit 3 shows our adjusted epitome of the return that the business is receiving after taking into account changes in inventories and capital expenditure. We assumed that 85% of changes in inventory and 90% in capital expenditure were attributed to investment in the Ukraine. These assumptions are explained in the exhibit.Our results still produce a high return of 42% in the year 2000 which is much higher than the cost of financing semipermanent debt at 6. 5%. Notably, these investments are forged and the company necessitate to compare the return to their risk adjusted cost of capital for the Ukraine and not the cost of financing the debt to see if it is worthwhile. Exhibit 4 gives a good analysis of how these policies have affected the business performance and situation. Although sales growth has been consistently large, operational profit rim has go downd overall since his strategies were implemented.Return on equity and net assets have increased and in the year 2 000 were 10. 3% and 8. 4% respectively. This is a good result for the business and shows efficient wariness of assets. It seems that Pinchuks strategies were possibly harmful to the business by littleen the profit valuation account and taking on a lot of risk. It is our belief that the credit policy should not be relaxed and could even be tightened to less than 80 days. Unfortunately, cut risk by tightening the policy would be come with by a decrease in sales.Although Pinchuks strategies have been potentially damaging, we do believe that he deserves an increase in his salary for expanding the company despite facing thorny conditions. His current compensation package is a base salary of EUR40,000 plus an incentive palmment of 0. 5 % of sales growth. The current compensation package provides Pinchuk with an incentive to pursue projects that are risky to the company like extending large credit to distributors who are unable to gestate it back. This would increase sales, thus increasing his salary, but would have a invalidating effect on both profits and the company.His incentive earnings needs to be aimed more at collection and profits rather than sales growth. Our recommendation is to increase his base salary to EUR50,000 and have his incentive payment tied to annual profits (0. 6% of the annual increase in profits). However, in our recommended fiscal plan for 2001, there is a communicate net profit of EUR 2,712,000. This is a decrease in profits from the previous year and would imply that Pinchuk would receive no incentive payment for 2001. Hopefully this would impress him to increase the following years profits by rewriting his marketing and collection strategies. analytic thinking of Dividend Declaration Traditionally, DB pays out 75% from earnings as dividends each year to shareholders. At the moment, the company has a cash shortage as it is holding high levels of inventory and is highly relaxed in credit marges for their Ukrainian distributo rs. Paying out dividends at 75% would mean increasing debt in order for the company to fund their proposed investment in a new plant. This would add seam on the already huge short-term debt that they have taken on. The possibility of a fiscal downturn in 2001 adds to the uncertainty of an increase in profits as projected in the financial plan.Guaranteeing that the company will pay out EUR698,000 in dividends might be too risky. Rather than rely on more bank espousals, Deutsche Brauerei should retain more earnings to cover their bank acceptations and to also finance their future investments and projects. In addition, should there be a financial crisis, the maintained earnings would sponsor to cushion the continue from the crisis. As most of the shareholders are older members of the Schweitzer family, and are retirees who depend on the dividend payout, cut the dividend payout might cause some upset. However, paying out a dividend percentage of 75% is causing more harm to the com pany.By reducing this percentage to 60%, the company is able to retain 40% of their net profits for reinvestment and financing future projects. These retained earnings would also swear out ease the problem of their current cash shortage. Dividend Payout 50% 60% 75% 2001 2002 2001 2002 2001 2002 Net Income 2712 3439 2712 3439 2712 3439 Dividends 1356 1720 1627 2063 2034 2579 Retention of Earnings 1356 1720 1085 1376 678 860 The table above shows the changes in retained earnings according to the changes in dividend percentages the higher the dividend payout, the lower the retained earnings.It is recommended that, in the first quarter of 2001, the company should pay out the same sum up of dividends which the shareholders received in 2000 (EUR 546, 500). It should be explained that if the forecast for 2001 is correct, and there is no financial crisis, the shareholders can expect a larger dividend payout in the next quarter. From our recommended financial plan (i. e. net profi t is EUR 2,712,000), paying out dividends of 60% would mean that the shareholders can expect to receive a payout of EUR 406,800 in the second quarter.Analysis of Deutsche Brauereis 2001 Financial Budget One of the main concerns for Deutsche Brauereis financial budget for 2001 is its heavy reliance on short-term debt financing. This is mainly imputable to operating strategies, policies, large sales growth, dividends and capital expenditure being financed through with(predicate) working capital. These have all attributed in draining the companys cash and causing the business to finance the investment through working capital using short-term borrowing. The overall reliance on debt financing has stayed around 42% (debt/total capital ratio, Exhibit 4).The main borrowing used by Deutsche Brauerei has been short-term debt, so the company has incurred a large cash drain. Short-term debt requires fast repayments to be made and normally blame a higher interest rate than what is charged on s emipermanent debts. Short-term bank borrowings have increased dramatically from 1997 to 2000 and are projected to increase further in 2001 and 2002 (Exhibit 1). As for presbyopic-term debt, it has been steadily decreasing since 1997, further showing Deutsche Brauereis heavy reliance on short-term debt as their main source of financing.The 80-day credit policy given to Ukraine distributors has resulted in large increases in sales and accounts receivables. Exhibit 4 shows a large growth rate in sales and receivables mainly from the Ukraine. In 1998, accounts receivable in the Ukraine were EUR 424,000 and by 2000 have dramatically increased to EUR 6,168,000. In comparability with Germany, the Ukraine accounts receivable has grown at an extremely large rate. This is mainly due to the fact that most of the new Ukrainian sales are on credit. The credit policy gives distributors 80 days to pay, but in reality, in 1999 and 2000, the days in receivables was 85. and 87. 1 respectively. The fact that it is taking such long periods of time to receive cash from sales is forcing Deutsche Brauerei to finance working capital in other ways such as short-term borrowing. The company also holds a large amount of inventory for the Ukraine distributors. This requires extra investment in inventory and that this inventory is held for long-lived. This results in it taking even longer to receive cash from our investment, thus increasing the already stretched cash variation cycle. Exhibit 1C shows that Deutsche Brauereis inventories have been steady right up until 1999 and have approximately doubled.The large dividend payout ratio has also resulted in the increased use of short term financing. Although the business has substantial profits to pay out these dividends, the cash is already tied up and these payouts have required more short term financing. The business 25% plough back ratio is not sufficient for reinvestment, requiring even more future borrowing to pay for capital expend iture. Capital expenditure of EUR 7 million has been forecasted for both 2001 and 2002, requiring even more short-term borrowing. To prevent large cash drainage in the up advent years, Deutsche Brauerei needs to re-evaluate their debt financing choices.Long-term debt should be considered as an substitute(a) to short term debt. Not only will this decrease the strain on the companys cash, it will also allow for the investment in a new plant and equipment for 2001 because of the availability of funds. Long term debt can also be used in 2002 as a source of financing for the proposed new warehouse. Since the cost of the warehouse is easily high (EUR 6. 8 million), it would be unwise to finance it using short term debt, thus, long term debt would be the appropriate choice. Proposed Amendments to 2001 Financial BudgetTo produce more accurate predictions for the coming year, there are some amendments that need to be made to Pinchuks forecasts and assumptions. Firstly, in Pinchuks financia l plan, sales growth in Germany and Ukraine were projected to be 3% and 45% respectively. Germanys growth is believed to be a fair representation but the predicted sales growth for the Ukraine seems to be overestimated. New projects initially have large growths per year but they also decrease rapidly. In 1999, actual sales growth for the Ukraine was 312% but in 2001, Ukraines actual sales growth was 47%.Therefore, for the year 2001, it is believed that sales growth should decrease to a figure considerably less than 45%, for example, 30%. Also, the operating margins seem to be optimistically high at 7%. An average of the operating profit margin from the past 4 years is 6. 88%. This is possibly still too high in comparison to Germany and Ukraines operating margins of 6. 10% in 2000. Our recommendation is to use 6. 1% again for 2001 because you would not expect operating profit margin to increase if the predicted global recession occurs.We have also changed the dividend payout policy t o a recommended 60% as explained earlier in the dividend contract bridge section. Increasing the credit policy in the Ukraine to 90 days could be seen as a very risky strategy to pursue peculiarly with the current signs of a global financial crisis. Sales would increase in terms of accounts receivable but the company already stands to lose a lot of money if distributors start to default. A financial crisis would cripple the distributors in the Ukraine and they would be forced to default their accounts.It is suggested that the policy should be left at 80 days to prevent that potential loss. It is also suggested that earnings for tentative debts should be increased from 2% to 6% to account for the potential recession. As mentioned earlier, it would be wise to tighten the policy rather than let it increase to 90 days in 2001. A aesthesia analysis on security deposit and net profit was undertaken in Exhibit 2C, the purpose of this analysis is to determine how net profit would chang e given our assumption for the grant of doubtful debt. Pinchuk assumed in his projections that the allowance percentage for the year 2001 is leaving to be 2%.However, it is believed that this is a considerably low percentage and should be increased to 6% to account for the potential recession as mentioned above. Our predisposition analysis yielded the following results, in 2001 if the allowance percentage is set at 2%, then net profit would be EUR 3,083,000. On the contrary, if the allowance is set at 6%, net profit will decrease to EUR 2,712,000. We believe that this decrease will account for the potential recession that may strike in 2001. The company is also advised to take on some long-term borrowing as well as reducing their investment in working capital.This will reduce the reliance on short-term borrowing. It is believed that the firm should get a long-term loan of EUR 14 million because under our assumptions, it would reduce short term borrowings to EUR880,000 which is s ignificantly less than the firms forecasted cash of EUR12 million. This would get rid of the firms short-term borrowing reliance and greatly enhance the firms liquidity. Exhibit 2D shows a sensitivity analysis of the effect of changing the quantity of long-term debt and the effect dividend policy has on short-term borrowing required in 2001.Keeping the current dividend policy of 75% and under the assumption the firm borrowed EUR 14 million, short-term borrowing would be EUR 1,292,000. Reducing the payout to our recommended ratio of 60% would reduce short-term borrowing to EUR 881,000. Reducing the ratio to below 30% would eliminate the need for short-term borrowing in 2001. Though due to the large quantities of cash the firm has, eliminating short-term debt completely is redundant. Exhibit 1A shows our forecast of Deutsche Brauereis income and symmetry sheet for 2001.We believe that net income for 2001 will be just over EUR 2,712,000 which is about EUR 1 million less than Pinchuks forecast. We have corporal all our suggestions of policy changes including a long-term loan which will help finance the planned capital expenditure for 2001 as well as fix the current cash problem. Recommendations for Deutsche Brauerei Firstly, in regards to a compensation scheme for Oleg Pinchuk, it is recommended that his base salary of EUR 40,000 to EUR 50,000. Also, instead of having his incentive payment be 0. % of sales growth, it is suggested that the incentive payment be 0. 6% of annual growth in profits. This implies that Pinchuk might need to reconsider his marketing and collection strategies. However, it is believed that this would give him the indigence to increase profits every year and this is beneficial to both him and the company. after our analysis on dividend payouts, it is recommended that the company reduce the dividend payout ratio from 75% to 60%. This would enable the company to retain more earnings for future investments and also to cover their short-term bo rrowings.This also improves their current cash shortage situation. Lastly, it is recommended that several changes be made to Pinchuks proposed financial budget for 2001. Instead of a predicted growth rate of 45% for sales in the Ukraine, it is recommended that a more conservative figure of 30% is used. Also, instead of using an operating margin of 7% for both Germany and Ukraine, an operating margin of 6. 10% should be adopt for 2001. In addition, instead of relaxing credit terms from 80 days to 90 days, the company should keep it at 80 days and aim to reduce that in the future.It is also advised that the company take on a long-term loan of EUR 14 million for the building of the warehouse. Lastly, it is recommended that the allowance for doubtful debts be increased from 2% to 6%. These proposed changes take into account the possible recession that may take place in the coming year. Overall, Deutsche Brauerei has been successful in its expansion into the Ukrainian market despite dif ficult conditions. With slight changes to their current strategies, the company has the potential to achieve even greater success.