On the Line: Demerara Distillers Limited Annual Report 2008

In what Dr Yesu Persaud, Chairman of the beverage giant described as one of its most difficult and challenging years the group has experienced in recent times, the Demerara Distillers Limited (DDL) group reports a decline in pre-tax profit of 8.8% over 2007. For the parent company itself, the decline in pre-tax profit was 8.98% and is a measure of how significant its alcohol and soft drinks operations are to the group. In addition to the parent, the group comprises a mix of operating companies in Guyana, the Caribbean, Europe and India. It also has a 30% stake in BEV Enterprises Limited, 33.33% in National Rums of Jamaica Limited and 19.5% in Diamond Fire and General Insurance Company Limited. The parent company accounted for 73% of the group sales but 87% of profit after tax. Correspondingly, the subsidiaries accounted for 27% of revenue and together with the applicable share of profits of associated companies accounted for 13% of after tax profits.

The Chairman attributed the performance of the company and group to the problems facing the global economy and the impact on consumers “burdened by the Value-Added Tax introduced in 2007.” The directors of the company are however confident about the future and in June last year announced a $4.5Bn expansion programme extending into the first quarter of 2010, which has already caused a significant increase in the long-term debt of the company. In fact with the total debt for the company increasing during the year from $4.2Bn to $7.3Bn, its debt to equity ratio, a measure of a company’s ability to borrow and repay money, has jumped from 0.48:1 to 0.82:1. Capital expenditure in 2008 was $1.8Bn and much of the increased borrowings by the company went into financing a 17% build-up in inventory and a 75% increase in receivables. Such borrowings have come at a cost, and finance cost increased during the year from $490Mn to $561Mn. This equates to one out of every three dollars earned before interest and tax being used to pay interest. A further $56Mn of interest paid was not charged to the income statement but was capitalised as a cost of the related asset.

Falling returns
The further expansion in plant and machinery will of course lead to additional interest cost which has increased since 2002 when the Chairman announced a financial restructuring including a share issue to minimise financing cost. That has not materialized, and financing cost has continued to rise. In fact interest cover which measures the number of times interest is covered by profit before interest and tax is now 3, when at the time of the announced financial restructuring it was 5.6 times.

While the gross assets employed by the group have more than trebled in the past ten years, the return on those assets has fallen from 29.1% in 1999 to 9.4% in 2008 – the lowest it has ever been. Despite the decline in after-tax profits by 10.9% the directors are proposing to maintain a dividend of $0.40 per share, jarringly referred to as cents per share, which of course went out of existence in 1998. The total dividend payout for the year is approximately 39%.

‘What if’ reporting
An interesting and innovative inclusion in the Chairman’s report was what may be described as a ‘what if’ statement, in which the company suggested that had it not been for some global factors affecting fuel, net exchange loss movement and increase in provision for impairments the company’s profits would have been $903Mn higher, and that profit before tax would have been an implausible $2,585Mn, an increase of 14% on decreased sales of 10.38%. These are however real costs, and reflect the challenges which directors are expected to confront and mitigate.

The composition of the net exchange loss reflected in note 6 to the financial statements is itself interesting, as it is made up of Exchange losses of $488Mn and Exchange gain of $296Mn. This emphasises the inevitable risk of dealing in international currencies such as the euro and the pound sterling, which often move one way and then the other, the negative impact of which may be avoided by what is referred to as hedging.

Liquidity strains
The company and the group have also seen a substantial reduction in cash with the company’s cash resources reduced to $79Mn from $235Mn at the beginning of the year, and for the group from $298Mn to $107Mn. Current liabilities on the other hand, skyrocketed from $3.7Bn in 2007 to $6.7Bn in 2008, partly due to two major short-term loans taken as bridging finance for the capital expenditure in 2008. The position will abate in 2009 with the conversion of those loans into long-term facilities, but will continue to remain high with trade payables and bank overdraft exceeding $6Bn. Included also in Trade and other payables for the company is a huge amount of $2.242Bn, bringing total interest bearing borrowings to $8.354Bn. If this trend continues without compensating returns on investments, they will become a real drag on the company’s development.

One continuing concern about this company is the high level of its inventory and receivables. The company’s sales for the year declined by 11%, but its level of inventory which includes finished goods, raw materials and spares increased by 17%. And for the group the position was only slightly better. Revenue increased by 2.3%, but its inventory increased by 20%. Expressed another way, the company and the group have in stock at their written down value the equivalent of sales value of 14 months and 20 months respectively! Intuitively one would expect the company to have had a high level of inventory because of the aging of alcohol, but these numbers lead one to wonder seriously about the quality of the inventory held by the subsidiaries.

Sales too have come with hidden financing cost. While sales for the company show a decline of 10.4%, trade receivables went up by 46%, and for the subsidiaries the increase in sales of 67% was accompanied by an increase in their trade receivables by 34%. This latter position appears better than it really is because a major subsidiary – Distribution Services Limited – operates on a cash and carry basis.

The performance of the subsidiaries and associates was mixed, with Tropical Orchards Products Company Limited reporting after tax losses increasing from $6Mn to $50Mn. When the group announced a $500Mn investment in TOPCO in 2004 Business Page pointed out that based on a standard measure of investment appraisal such a level could not be justified. Regrettably that fear is being more than vindicated and since then TOPCO has returned a net loss to the group.

Another concern is the investment in India which continues to show losses, and it takes a certain level of faith to persist with this investment in the face of annual losses having to be carried by the rest of the group. China and South America with which the company flirted for a couple of years appear to have gone off the radar and already the company is learning what a difficult environment Jamaica is with its share of pre-tax profits in the Jamaican company declining from $56Mn in 2007 to less than $4Mn in 2008. On the other hand, bright spots are Demerara Shipping and Distribution Services locally, and the European, St Kitts and US operations.

Belatedly, the directors appear to have accepted that the purchase by the company of the controlling shares in Solutions 2000 was not a good investment after all. The company has lost its entire investment in annual losses and given the performance and outlook for Solutions, the company must consider itself lucky that it did not suffer a bigger capital loss. Interestingly it is only in the year of disposal that the company discloses that the controlling interest in the company was acquired from DDL directors Messrs Komal Samaroo and David Spence in 2000. The identity of the purchaser has not been disclosed.

One difficulty I have with some of the numbers presented for the subsidiaries is that all the subsidiaries are private companies subject to minimal statutory and governance obligations. In fact some of them operate in jurisdictions which do not require an audit and even locally the subsidiaries do not comply with the law requiring them to file annual returns and financial statements. It is unlawful and unacceptable that the local subsidiaries have not been filing their annual returns and financial statements, and the only financial statements seen in any of the files at the Deeds Registry are the annual reports of the group.

In preparing for the column I sent a note to fellow accountant Mr Loris Nathoo, General Manager, asking for the turnover and the names of the auditors of the subsidiaries. Since it relates to the subsidiaries of a public company this information should not be a matter of secrecy. However, the reply took the form of a letter from the company’s in-house attorney that did not respond to my request, but boasted of the “Company’s 2008 Report [being] incomparable to any other published accounts in Guyana and, indeed, in the region.” One has to wonder whether the writer is familiar with the annual reports of Neal and Massy or RBTT of Trinidad and Tobago or Grace Kennedy of Jamaica.

One might have expected awareness on the part of the directors that their note 22 on Segment reporting is not in compliance with paragraph 69 (a) of IAS 14, which requires that where a company chooses business segments as its primary reporting format it must disclose revenue by geographical location of the customers. That is where the risk lies and that is what segment reporting is designed to highlight.

One change in the financial statements is the inclusion of the insurance arm Diamond Fire and General Insurance Inc as an associated company in the results of the company. Dr Persaud claims that this change was based on the advice of the auditors and the Institute of Chartered Accountants of Guyana. Of course that does not reflect the fact that it was a ruling resulting from a formal complaint lodged by this columnist.

New Director
A related issue is that on the last day of 2008 the board appointed Mr Chandradat Chintamani, Chartered Accountant, as a director of the company. This appointment is considered coincidentally unfortunate since a committee of the ICAG headed by Mr Chintamani had very shortly before exonerated certain directors and the company’s auditors from my formal complaint that they had failed to account for a US$1.1Mn discount on a loan buyback from Hamilton Bank, which had gone into liquidation.

Apart from the announcement about the new investment the Chairman’s report is largely retrospective, and nothing is said about the outlook for the company and the group for the current year and beyond. Like with all the companies whose shares are traded on the local stock exchange, the company’s share price has remained steady, and with the recession in the developed economies appearing to have slowed, the group must be hopeful that it will return to growth in 2009.

Clico and the related crisis: Confusion continues

It has been an incredibly hot week in Guyana. In fact so hot that the President who was directly or indirectly involved with every single financial decision made in the public sector for the past sixteen years decided it was just too hot and took off for a change of climate engagement. He asked his Finance Minister Dr Ashni Singh who has carried statutory responsibility for the operation of the Insurance Act and therefore supervision of Clico for more than two years as well as of the National Insurance Scheme, the biggest single potential loser in the Clico debacle, to make a statement to the National Assembly.

Clearly stung by the revelations of what may prove to be a major loss to the country there has been heightened activity by the government. Even as lower-level letter writers were at work, the government called into their corner big guns like Messrs Yesu Persaud and Clifford Reis for a panel discussion with the Minister of Finance. We heard again from the Bank of Guyana not on whether it has continued to track and assess “every bit of information being provided on the issue as it develops” but to “dispel the misrepresentations” by persons whom the Bank did not name. We heard as well from Ms Maria Van Beek, the Commissioner of Insurance/Judicial Manager of Clico, witnessed a press conference by the directors and management of Hand-in-Hand Trust, TV interviews with economist Ramon Gaskin and TUC President Gillian Burton and disturbing but not surprising fears expressed by insurance broker Mr Bishwa Panday and leaders of the teachers’ union. By the end of the week it was clear that there was little confidence in everything said by the government and the regulator in relation to Clico. Having done next to little so far, the Minister of Finance rather than the Judicial Manager is impressively rushing papers to The Bahamas to prove our debt. We all hope it is not too late.

Red herring
The Bank of Guyana and the big guns were called out mainly to speak about the strength of the banking system, as if that was the issue. There are currently many questions about the banking system but not about its strength. Yes, different persons in varying degrees and sometimes with varying justification question many things, such as the role of the non-bank cambios in the underground economy, the absence of any meaningful interest or effective efforts to stamp out money laundering, the interest rate policies and the conservative approach inherent in banking, and the increasingly troubling failure of the Bank of Guyana and the government to bring the New Building Society under the Financial Institutions Act. But the strength of the banking system has not been an issue to academics or depositors who place increasing sums with the sector, which must surely be a big test. Raising it was a pure red herring.

Experience has taught that the public is more sensible than it is given credit for. It knows that failures do not arise only in weak systems, with Globe Trust being a good case in point. It knows how toxic assets can contaminate good ones akin to Gresham’s law and money. It is concerned that the NBS has just invested some $1.5 B in the Berbice Bridge, hardly on the grounds of an investment but more as a bail-out using poor people’s money. It would still be sceptical about the optimism of the Board of HIHT to withstand a near billion dollar loss in Stanford and wonder whether the Bank of Guyana was too soft in allowing such a concentration of assets. None of these issues was raised by the moderator of the panel or by the Bank of Guyana. It is wrong to believe that because the public does not have access and opportunities it is voiceless or does not understand.

Much of what was said by our men of learning had little impact. What really had the country and the Minister of Finance going was a statement by the Prime Minister of The Bahamas that “there appears to be no record available at this time” of Clico (Guyana)’s investment in Clico (Bahamas). That is contrary to everything accepted by all including the company’s auditors Deloitte and Touche and the Commissioner of Insurance. In fact the Minister of Finance confidently told the press that there was “a plethora of correspondence, including wire transfers of substantial amounts, dating as far back as 2004” supporting the investment.

I have looked at the 2006 and 2007 financial statements of Clico (Bahamas) and these seem to support the qualified statement by the PM. In the books of the Bahamian company, note 12 (2007) and note 10 (2006) show the following (in Bahamian dollars which is equivalent to US dollars):


And note 22 (2007) shows that the figure of $212,723 at December 31, 2007 is made up of amounts owing to Barbados, Suriname and CL Financial Limited which is the parent company. Nothing is shown as owing to Guyana. Over the three years 2005-2007 the only year shown with a balance with Guyana is 2006 where the amount was stated at $275,317.

Transactions with Guyana over the same years are shown as follows:


The Guyana books showed investments at 31 December 2007 in Clico Bahamas of $5.95B and accrued investment income of $329M. Can it be that the balance owed by the Bahamas company to the Guyana company is shown somewhere else in the accounts? That is possible, but given that the accounts are both audited and in both cases by the same auditing firm − but by different offices − it is hard to understand why the Minister chose the route of the plethora of documentation rather than having the Judicial Manager call in the auditors for an explanation, to be followed by the paperwork. After all, the auditors would respond quickly, bringing their audit working papers files, anxious to avoid the implications of what seems on the face of the financial statements to be a major discrepancy which routine audit procedures should have revealed. Yes the paperwork is necessary, but surely the persons who have given their stamp of approval on the accounts would be a good place to start.

Different strokes…
One of the very striking features of the still far-from-over saga is how the two countries have treated the matter at the regulatory and more so at the political level. The Prime Minister of The Bahamas made an early and clear statement to their Parliament on the whole issue including offering advice to affected persons. Our President has chosen to make several statements including one before he departed these shores repeating his assurances about meeting all valid claims against Clico. From reports of a meeting Mr Panday had with Ms Van Beek and the information conveyed to the teachers, it does not appear that Clico is relying on those assurances.

There is also some discrepancy about the timing of Mr Jagdeo’s contacts with his counterpart in The Bahamas with the latter saying that it was after the announcement of the move to liquidate the Bahamas company that President Jagdeo called him. But what is more significant is Mr Jagdeo’s revelation that he had proposed as (part) settlement of the debt by Clico (Bahamas) to Clico (Guyana) to take over the Florida real estate in which the Bahamian funds were invested through one of its subsidiaries. It is not clear whether his intention is that our politically-controlled Privatisation Unit would then sell the asset, but surely our President, who is never hesitant to pronounce on matters legal, ought to have realised that that was not possible as a potentially fraudulent preference. The suggestion by a columnist in another newspaper that our President say nothing further in this matter has a lot of merit and was reflected in the call by the Finance Minister to “ensure that the court appointed process is allowed time to exhaust all avenues to protect the assets of CLICO Guyana.” Regrettably there is too much at stake for the public to wait on the necessarily cautious and deliberate court process.

Huge costs
Liquidation costs are enormous and are a first call on the proceeds of any sale of company assets. Many of the assets of the Bahamas company are pledged to secure debts other than deposits, and we therefore need to prepare ourselves for a substantial loss by Clico (Guyana) of its investment in the Bahamian company, assuming that there is such an investment. This then raises the question about Mr Jagdeo’s assurances which the Commissioner of Insurance through GINA initially reaffirmed, ie that all polices held in CLICO (Guyana) will be protected. This of course, whatever form it takes, will have to come from the taxpayers.

The Commissioner as Judicial Manager has to act independently and professionally. She has been instructed by the court to return promptly to them with a plan and no court will accept such vague assurances as those given by President Jagdeo and later repeated by her. She should not be unmindful that medical service providers have refused to extend further credit to the company while holders of short-term policies are already looking elsewhere for their coverage. In repeating the President’s assurance about guarantee, Ms Van Beek will recognise that this cannot be open-ended. If we care about our constitution and the Fiscal Management and Accountability Act, any such guarantee has to be given by Parliament.

In this regard, it seems a fair assessment that the President has not been sufficiently informed of the liabilities which his assurances that “all claims” will be met are interpreted to guarantee. The motion submitted by the PNCR calls on the government to take all necessary steps “to guarantee the savings, pensions and investments of all CLICO (Guyana) investors including the National Insurance Scheme (NIS), depositors, policyholders and contributors.” That would cost the government billions of dollars even if Clico’s actual and contingent assets are taken over. In Trinidad and Tobago Mr Lawrence Duprey had to give up huge chunks of assets in exchange for the government’s assumption of liabilities. Assuming we take over the liabilities, what do we get in return and how? It seems that Clico (Guyana)’s main assets – other than the Bahamas investment, are the loan to Caribbean Resources Limited ($1B), shares in the Berbice Bridge Company with a book value of less than $80M and any remaining bonds in the Berbice Bridge Company.

The President in his typical style has threatened prosecution against the directors and management of Clico if fraud were found. The President may not be aware, as disclosed by Business Page of February 8, that there is only one Guyanese director who is also the CEO who less than ten weeks ago he lavishly praised and made a director of his revamped GuySuCo Board. We are now paying the price for our failure to take governance seriously, not only in what I have referred to as public interest companies but in all public and state-owned companies.

Next week I will continue looking at the implications of this debacle but for now, please if we are thinking of selling off any of the policies to other companies, remember that there will have to be actuarial valuations done. From what I have seen we have not even begun to deal with this problem.