The Delta Beverage Group Inc.

The Delta Beverage group is an independent bottler who has become one of the top five bottlers of
Pepsi product during the late 80s and early 90s. They have a very strong line up off customers during
this time including Pepsi, Mountain Dew, Slice, Mug, 7-up, Dr. Pepper etc. During the late 80s the Delta
Beverage group managed to accomplish growth by buying some competitive companies and joint
ventures with other bottling companies. This created growth in their operating cash flow and operating
profits. Despite these positive growth the Delta Beverage Group had to suffer with negative net income
due to high interest expenses what led to missing a its amortization payment to the bank what brought
them in technical default on their loans. In combination with a high leverage rate bring the Delta
Beverage Group in a bad financial situation.
The Delta Beverage group core business needs raw materials that are subjected to strong market
fluctuations; the products are PET, fructose and aluminum. Because of the strong fluctuation in the
market prices of these raw materials, the buying process is proven as very challenging considering the
strong increase in the price of aluminum of 30% during the first six months of 1994. This was
accompanied by the strong price increases of PET and Fructose.
The CFO of the Delta Beverage group, John Bierbaum, is very concerned about these strong fluctuations
in the prices of raw materials. The company has just been saved from bankruptcy in 1993 by a
recapitulation plan with the debt holders and the company cannot bear more price increases in raw
materials. The debt holders are not willing to do this recapitulation again. John Bierbaum is considering
to the possibility of hedging the aluminium by buying future contracts to prevent strong fluctuations in
the price of their main core material. This will keep the price of aluminium stable and prevent that the
Delta Beverage Group to be in distress due to the aluminium prices.
To be able to make a decision to hedge the aluminium contract we will analyse the debt position and
market position of the Delta Beverage Group. The whole market of soft drink consumption in the US is
showing diminishing growth rate. Because of this we assume that the soft drink industry is in their
maturity phase. If we look at the debt ratio (table 1) of the Delta Beverage Group we can conclude that
the company is highly leveraged and assume that the debt ratio is not healthy with a suffering debt
ceiling. The unhealthy debt ratio will scare investors away due to the high default risk, because of this
the option to bring in more loaned capital would be an expensive option.
To uncover whether Delta Beverage should hedge future contracts or not, certain computations need to
be made in terms of financial ratios, which will include debt/equity ratio, and the debt ratio.
Table 1.

Year
Debt
Equity
Total Assets
D/E Ratio
Debt Ratio

1989
165,751
69,702
223,335
2.38
0.74

1990
162,310
57,052
210,069
2.85
0.77

1991
164,264
35,474
203,999
4.63
0.81

1992
172,185
7,372
210438
23.36
0.82

1993
141,149
94,268
213,705
1.50
0.66

Note 1: Debt = Long term debt and other liabilities

Equity = Preferred stock + Common stock + Stockholders equity Accumulated deficit
D/E ratio = Debt/Equity
Debt ratio = Total liabilities/ Total assets.
John Bierbaum wants to overlook the option to hedge the aluminium prices by buying future contracts
on aluminium. If they go with this option this might secure the Delta Beverage Groups position on a long
term, however this will mean that the short-term financial position will suffer. The table below (table 2)
show the liquidity of the company, and from here we can conclude that the short term positions, the
current and the quick ratio) is high at the end of 1993. The current and quick ratios are both above 1
what indicates that the Delta Beverage Group is not likely to default on short-term obligations.
Hedging future contracts might secure the companys long-term financial position, however the shortterm financial position of the company needs to be assessed. If the short-term position is not strong
enough, it might lead to the company defaulting.
Table 2.

Year
Inventory
C.Assets
C. Liabilities
Acid Test
Ratio
Current
Ratio

1989
8,893
39,254
22,733
1.34

1990
6,726
33,196
19,233
1.38

1991
9,808
36,204
21,998
1.20

1992
10,607
41,349
27,291
1.13

1993
10,104
50,192
18,147
2.21

1.73

1.73

1.65

1.52

2.77

Note 2: Acid test ratio = (Current assets inventory)/ Current liabilities

Current ratio = Current Assets/ Current liabilities.
As we can see by examining the table above, the current ratio and the acid test ratio are above 1 from
1989 up to 1993; therefore Delta Beverage is unlikely to default on their short-term obligations. Since
the company is secure on the short-term front, we can now look into whether the Delta Beverage
should hedge future contracts of aluminium or not.

Hedging
Should the Delta Beverage Group hedge the aluminium prices or not? John Bierbaum is looking for a
financial hedge, as operational hedge is not an option due to the production mix, which is not a market
segmentation strategy. The only core material that is available for financial hedge is aluminium as there
are no future contracts for the other materials. Therefore we will look at whether the 15-month or the
27-month future contract is the most appropriate for the company. Since the company expects the
prices for aluminium to be on a rise and volatile, the company will not be able to keep up with the
interest payments if the interest coverage ratio falls below 2. Since the prices between a 15-month and
a 27-month future contract are quite similar, the most feasible option for Delta Beverage is to purchase
the 27-month future contract option.

Price Aluminum
22.50%
17.50%
22.50%
Future 15M
Future 27M

1993
2.12
2.12
2.12
2.12
2.12

1994
2.30
2.30
2.30
2.30
2.30

1995
1.84
2.05
2.26
2.52
2.42

1996
1.91
2.14
2.38
2.18
3.10

Note 3: The table above shows the interest coverage ratios for cash payment, 15 month and 27 month
future contracts on aluminium.