Business Page –  On the Line 2004 Annual Report- Demerara Distillers Limited

Sunday, May 22nd, 2005

Introduction:

Demerara Distillers Limited, the country's most successful non-bank public company has reported a dramatic decline in foreign sales during the last financial year. In 2002, the company's Annual Report showed foreign revenue accounting for 42.7% of the group's total revenue and in 2003 a slight reduction to 40%. In 2004 however, the company reports foreign sales down to 27.2% of total, or $1,573M. According to the group's 2004 Annual Report, the decline in sales is reflected in both the company ($308Mn.) and its subsidiaries ($476M.) and follows on the heels of the re-assignment of the company's Managing Director to the newly created post of Executive Vice President for International Marketing. This Report comes up for consideration by shareholders at the company's Annual General Meeting on Friday May 27, 2005 at the Diamond Complex of the Company.

Despite the fall in revenues, Chairman Yesu Persaud reports an increase in pre-tax profit of 14% for the company but a decline of $79M. in pre-tax profits for the subsidiaries. After-tax profit of the company increased by $84M. while that of the subsidiaries declined by $57M. This severe set-back was explained by the Chairman as the result of the 'extremely difficult year' faced by BEV Processors, a company in which DDL acquired a 40% stake and which saw its fortune reversed from group's share of profit of $11.4M. in 2003 turn into a loss of $60Mn. in 2004. DDL is proposing a final dividend of $0.26 which will bring total dividends for the year to $0.36, compared with $0.33, an increase of 10% on the previous year.

The directors appear to have responded to criticisms last year about the 'unacceptable and indefensible' reduction of information on the performance of the companies in the group and there is now more information even though too much is left to the reader to figure out and there appear to be some inconsistencies. For example, the Chairman reports that 'there were increased sales of El Dorado and other brands developed for the international market', 'growth in branded export sales' and that 'in 2004, internationally branded El Dorado sales more than doubled and new markets were developed in Mexico, Russia and the Middle East'. Since El Dorado has a higher added value than the sale of bulk rum which is being de-emphasised, it is difficult to reconcile this with the dramatic reduction in foreign sales referred to above.

Only two local subsidiaries reported increased profits in 2004. These were Demerara Shipping ($6M.) and Dem-erara Contractors ($14M.). Distribution Services, a trading company reported a profit decline while Topco, on which hundreds of millions were expended two years ago, saw profits halved in 2004. Solutions 2000 saw a profit of $8.4M. in 2003 converted into a loss of $4.5M. in 2004 and Decipher International reporting a loss of $21.7Mn. in 2004. This column last year raised questions about the payback period of the Topco investment and has made the acquisition of Solutions 2000 from two of its directors a complaint to the accounting regulator, the Institute of Chartered Accountants of Guyana.

Diversification has its virtues but also has its limits and the best business strategy is still to stick with what you are best at. The company in 1993 had referred to a Strategic Plan of which precious little details were ever shared with its owners but it is unlikely that the results are as intended.

Last year we commented that 'conveniently and perhaps not surprisingly all the five year charts on page five of the Annual Report - Contribution to State, Operating Profits and Turnover - are those that have shown growth in nominal G$ terms'. Turnover which has fallen and Contribution to State which has increased by a mere $6Mn.have been replaced by Profit before Tax and Shareholders' Equity which have both increased! And even for the one constant, Operating Profits, the figures shown in the 2003 and 2004 for the year 2003 differ by $47M. Such inconsistency can lead to confusion, misunderstanding and uncertainty about the accuracy and reliability of the figures.

The Chairman reports that the Board's vision is that DDL will be an international company with 'global tentacles by 2012' but it must be conscious of the domestic threat posed by the possible loss of control of its very valuable access to Guysuco's molasses. This is a matter that is currently being addressed by the Court and seems to have attracted the attention of the President in a manner that does not appear to be sympathetic to the company.

The company must also be very concerned about the trend of key indicators over the past ten years. The fall in revenue and profitability on overseas sales at a time when the company should be benefiting from a very favourable exchange rate of the Euro must add to those concerns.

One consistent concern which this column has with the company is the performance of its subsidiaries. Last year it drew attention to the fact that in 2001, the subsidiaries and associated company with $864M. of total assets made $274M. profit before tax of which the local subsidiaries contributed $138M. In 2003, with a greater number of subsidiaries and three times as much in assets, the subsidiaries - local and foreign - provided only $162M. in pre-tax profits'. That trend has continued in 2004. It is time that the directors take stock of its portfolio of subsidiaries across the world. How well is it positioned to take advantage of the CSME and should it not get out of those businesses where its returns have at best been erratic?

Finance Cost:

The total assets of the group have increased by $794M. to $13.7Bn. of which the company accounted for $648M. and the rest of the group for the balance of $146M. These are partly financed by loans and overdraft which have increased by $88M. and $127M. respectively. Major loans taken during the year were $500M. by the parent and $215M. by Demerara Contractors Limited. Total finance cost for the year increased by $84M. the bulk of which was in respect of the parent company. In the 2001 Annual Report, the Chairman announced that the Company in 2002 would restructure the financing to minimise financing cost but just the opposite has taken place. Net interest expenditure increased from $97M in 2000 to $202M in 2001, $239M in 2002 and is now a staggering $$412M in 2003.

In 1999, interest was covered 9.97 times and in 2000 11.2 times and is now less than four times. In 2000 dividends as a percentage of interest was 178%, in 2001 - 114%, 2002- 97% and 2003 - 77% and in 2004 58%. Directors might of course argue that the borrowings are necessary to maintain the level of profitability to allow for the payment of dividend. In these circumstances however, would it not be useful, given the liquidity in the system, for the company go to its shareholders for additional funds?

Trademark and inventory:

These are major areas on which we have commented adversely in the past as all the evidence suggests that the costs for trade mark registration were in excess of the proper fees payable. Another $14M. was spent on additions to the Trademark following the $79 M. in 2003 and $200M. in 2002! Efforts to obtain explanations for these have been ignored by the company.

For years, this column has been concerned about the inventory figures revealed by the audited financial statements and last year expressed surprise "that a company whose flagship product is aged rum has more in 'spares, containers, goods-in-transit and miscellaneous stocks than it has in finished stocks and work-in-progress." Quietly and without any attention being drawn to the matter there is a major re-statement of the composition of the inventory figures. Despite this attempt to remedy a clear deficiency, it remains strange that the company has only $4M. in work-in-progress while none of the subsidiaries has any!

Conclusion:

There has been some attempt to correct some of the more glaring defects identified in earlier annual reports but there remains a number of significant issues and concerns. Last year in my capacity as a shareholder I had asked the Chairman of the Audit Committee to provide me with some basic information on the company's subsidiaries, all of which are private companies and may not be all subject to audit. At the AGM he denied receiving my letter but promised to respond if I sent him another copy. I kept my part of the bargain - he did not. That was not unusual. The company secretary has also failed to respond to letters seeking information while the directors have failed to honour a commitment to the Court with respect to mandatory disclosures. (See letter in the Stabroek News of August 5, 2004).

Most egregiously, the company has failed to give any explanation for its failure to account for a gain of US$1.1M. on a loan buy-back a couple of years ago. Not all shareholders are likely to forget.

There is no questioning the value of DDL to this country or the national stature of the directors. That does not however give them licence to ride rough shod over shareholders, show disregard for the law or ignore the need to demonstrate the same standard of governance, accountability and transparency which we demand from our Government.