Deutsche Brauerei
...g Pinchuk decided to go through a network of independent distributors. Being early entrants in the market also meant that a new distribution pipeline needed to be set up which would require additional capital. These distributors unfortunately lacked the capital needed and therefore Pinchuk was forced to extend as well as relax credit terms offering twice as much time to collect payment from its Ukrainian distributors than it did in Germany. The effects were immediately recognized by substantial increases in their Accounts receivables from €424,000 in 1998 to €4,090,000 in 1999. In 1999, the receivable growth rate in Ukraine was 863.5%.These receivables continued to increase in 2000 and the projected future. Oleg decided to finance these receivables using short term bank loans that charged a 6.5% cost of debt. Truly, higher revenues were recognized as a direct result of these relaxed credit policies, however, the firm is now faced with a much higher credit risk. The 6.5% cost of debt does not adequately reflect that risk for financing the Ukraine receivables. It reflects Deutsche Brauerei’s risk of defaulting on payment. According to the sources and uses of funds, increases in accounts receivables in Ukraine were seven times that of Germany. Many concerns were raised about the company’s additional capital needs despite its high profitability. A major cause for their dependence on short term debt is the firm’s high dividend payout to its owners. By paying a dividend of €698,000 this quarter, fewer earnings are being retained. These retained earnings could be used to reinvest into the business or to finance the receivables account instead of relying on short term bank loans. It is not advisable to cut dividends for a firm whose shares are publicly traded, however, the implications for cutting dividends in a private equity firm are not as severe. Since the investors are the owners of the company, they wouldn’t mind receiving lower dividends now to see a realizable gain in the near future. Oleg’s break even analysis tells us that Deutsche Brauerei’s breakeven volume was 938,799 hectoliters for 2000. The analysis identifies that breakeven volume as the ratio of % change in EBIT to % change in Volume. However, the calculation does not take into account the interest that it pays for the debt used to finance the receivables. It also ignores taxes which if included would increase the actual break even volume. With no interest and taxes accounted for in the equation, figures can sometimes be misleading. These estimates also keep getting worse with time as projections are made further into the future. These calculations give overestimated future sales growth figures for the company. Looking at the sources and uses of funds, we see that an increase in inventory of €5,072,000 in 2000 was five times the increase in 1999. Part of Oleg’s policy was to help these fragile distributors by carrying a substantial part of the inventory on behalf of the investor. This resulted in sizable increases in inventory. A record high inventory to sales ratio of 14% in 2000 suggests that these increases could be a result of the Ukraine expansion. To calculate ROI, the benefit of an investment should be divided by all the costs associated with the investment. According to Oleg’s calculation for ROI, the only cost he recognizes is the cash outlay for the product underlying the receivables. He failed to recognize the cost of inventory that Deutsche Brauerei incurs for carrying the inventory on behalf of its distributors. The calculation also assumes that without the extension of credit, no sales growth would occur. Rather than extending credit, a safer and better option would be to maintain the same dividend. The calculation excludes fixed cost as it focuses primarily on marginal events. As mentioned earlier, it is true that Oleg’s credit and inventory policy have recognized tremendous sales growth. The high sales growth does not necessarily suggest that the company is doing better. In my opinion, his credit and inventory policies have done more harm than good. The sa...