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The Maharaja Dilemma

The Maharaja Dilemma. Presented by Sanjay Pamnani Heidi Pellerano Dhanusha Sivajee Vidhi Tambiah. Situation Overview. Maharaja Corporation. July, 1991 Exclusive Franchise Ole Spring Bottlers Joint Venture. May, 1995 Capital injection by Maharaja

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The Maharaja Dilemma

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  1. The Maharaja Dilemma Presented by Sanjay Pamnani Heidi Pellerano Dhanusha Sivajee Vidhi Tambiah

  2. Situation Overview Maharaja Corporation July, 1991 Exclusive Franchise Ole Spring Bottlers Joint Venture May, 1995 Capital injection by Maharaja $2 Million Capital Injection by Pepsi January, 1997 Road Show & Search for 3rd Party Investor One Offer Received What should Maharaja Do?

  3. Sri Lanka • Population: 18 million • Ethnic Make Up: - Singhalese (Buddhist majority) - Tamils (Hindu minority) • GDP: 13.6 bn ($US) • Main Industries • Agriculture • Manufacturing • Mining • Raging Ethnic Conflict • 11.5 % Inflation Rate • Inverted Term Structure • Exchange Rate: 56 Rupees to $US

  4. The Players • The Maharaja Corporation • Largest Privately-owned conglomerate in Sri Lanka • International JV Experience • Highly Diversified Business Units • PepsiCo International • Lagging behind Coca Cola in International Markets • Sri Lankan is a Natural Extension of the Indian Market • Olé Joint Venture • Exclusive Bottler & Marketer of the Pepsi, Miranda and 7-Up Brands • Bottling Plant in the Outskirts of Capital City, Colombo • Extensive Distributor Network

  5. Ole’s Performance to Date • Cumulative Losses of SL Rs. $268,979,408 (US $ 4.7 million) • Marginal Free Cash Flows • High Debt Burden – Debt Coverage of close to 2x EBITDA Capital Structure 1996 Capital Structure 1992 20% 35% 80% 65%

  6. Competition EH Profit (+) Coke Non-Carbonated Pepsi Carbonated Profit (-)

  7. Competition

  8. Decision Alternatives Status Quo Terminate JV Inject New Internal Capital Bring in New 3rd Party Investor

  9. Maharaja SWOT Analysisfrom Outside Investor Perspective

  10. Risk Analysis from Outside Investor Perspective

  11. Cost of Capital Calculation • Time varying • Harvey ICCRG (May 97) • Crisis Factor • Skew Result - 23%- 26% Spikes up to 36% - 40%

  12. DCF Valuation • DCF • APV approach as leverage changes • Cash Flows Forecast 10 years out 1997-2006 • PPP used to convert Cash Flows to USD • Cost of Capital arrived at using ICCRG • Riskiness addressed in the Cost of Capital • Historical Cost of Debt • Growth Rate close to Historic Inflation • Value per share in SLR And USD terms

  13. DCF Valuation Growth Rates Share Value

  14. Comparables Valuation • Comparables • Performance Metric: P/E (Two Year Leading) • Two comparables from the beverage industry chosen

  15. Proposed Deal Structure • New Investor Demands • Guaranteed $ Investment Returns • Convertible Preference Shares • Put Option that essentially a convertible bond • 10% return if option exercised • Optional 3 year or 4 year exercise period • Recourse: Pepsi & Maharaja guarantors • Should they accept the deal? • What risks have they ignored?

  16. Our Recommended Analysis • Value of the Put Option • Monte Carlo DCF including skew • Real Option

  17. Call Option 0.249 0.22.7 Bonds 0 0.227 0.249 Asset Price Payoff on the three year option exercise Payoff on the four year option exercise Value of Option Combination valued at $387k

  18. Monte Carlo DCF with Skew Compare with cost of Par value of Rs10. - Looks good BUT – When consider the dollar value of the share, - below the par value of $17.6

  19. Our Conclusion Value to Maharaja Org. Value to DLJ. N/A -$104k DCF Value Option Value -$387k $387k Net -$387k $283k BUT REAL OPTIONS ?

  20. What Happened • Maharaja Accepted the Deal • The Put Option was exercised • Olé is currently self-sufficient • Maharaja is planning to retain due to large capital investments • However, willing to sell if receive a good offer

  21. Key Lessons • Exchange rate and skew are key • Uncertainty involves time varying risks • Option value underpins deal structure

  22. Option Value – Detailed Calc.

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