Financing in a developing business and managing risk

Claus Lykke

SIMI 10th class

March 12th, 2004

Food for thought in three stages

Settingthe scene Business

proposal Recommendation& Implementation

Introduction

What are the market potentials and business opportunities?

How to acquire the capital needed to meet market needs?

Within the current core business (LTH) the income equals the cost of the product. Whereas the increasing market for STH will only contribute with an income equal to part of the cost associate with the product.

General market conditions

Versatile application

Fixed application

Dairy container

Flowercontainer

Laundry container

Ordinary container

Low quality

High quality

Pallets- wood, metal, plast

Dollies- ¼ and ½ pallet size

Crates

Dairy container

Product adjusted RTI

Standard RTI

Source: A.T Kearney report on Efficient Consumer Load

Research and experiences shows that RTI’s eliminates the costs associated withthe collection and disposal of one trip packaging…

Scope:

Europe

Geography

EquipmentPooling

Cu

stom

ers

Pro

du

cts

Technology

Horticultural,Food GroceryRetailing

Dollies, Crates,FlowerTrolleys

The margin potential - volume and segment sales

Year Volume(in mio. units)

Value(in mio. €)

1992 0,3 24,0

1999 1,1 88,0

2000 1,4 112,0

2005 2,7 216,0

Projected use of crates by category:

… and the key to efficient use of RTI is to keep the equipment moving in a poolsystem – one of the fastest growing support services in the segments.

Development STH and LTH (Index 1998/99 = 100)

100125150175200225250275300325350375400425450

1998-1999

1999-2000

2000-2001

2001-2002

2002-2003

2003-2004

2004-2005

2005-2006

2006-2007

Year

Ind

ex

LTH/Sales

STH

Year Volume(in mio. units)

Value(in mio. €)

1992 36,0 90,0

1999 88,5 221,5

2000 108,0 270,0

2005 171,6 429,0

Current and projected market for flower trolleys:

Brewery; 30%

Supermarkets; 27%Bakery; 3%

Dairy; 3%

Soft Drinks; 38%

Source: CC Market views and The European Guide to RTI’s, Packaging Management Group 2000

Competition and substitution potential

Competitive force

Importance0-100%

Score1-5

Key notes

Threat of new entrants

10% 1 Rather large financial resources is required, replacement sales requires a buy-back solution

Bargaining power of buyers

30% 3 Negotiation power of large key accounts (retail chains, food manufactures, wholesalers etc.) is relatively strong

Threat of substitution

5% 1 Inconceivable because it will influence the entire sector, one way packaging is “out” and hence switching cost will be high

Bargaining power of suppliers

15% 2 Limited negotiation power due to a high degree of competition.

Competitors (rivalry)

40% 4 Tough competition and server financial problems for a number of the competitors. Besides that still no real consensus in terms of agreement on an industrial standard for all RTI’s

Total substitution potential

100% 11 Relatively low

The market for equipment pooling is determined by a relatively low substitution potentialwhereas competitive differences occurs at the product level.

CC75%

Other25%

EPS29%

IFCO27%

CHEP20%

CC17%

Hays7%

Flower trolleys

Reusable plastic crates

Source: The European Guide to RTI’s, Packaging Management Group 2000

The business system analysis

In delivering the products/services to the final customer the generic business system for equipment pooling consist of four main activities with each their cost and profit characteristics.

End user price

ProductProcurement

ContractManagement

Cost/Profit: 60%/2,0%

• Procurement and provision

• Supplier negotiation

• Availability management

• Product quality inspection

LogisticsServices

Sales & Marketing

100%

• Optimized storage across national borders

• Repair and maintenance of damaged containers

• Transport and distribution• RTI asset management• Sorting, inspection, removing

labels, cleaning of the used containers as needed

• Depot network/infrastructure• EDI/RFID technology

• Contractadministration

• Rental contracts• Service contracts• Issue and

registration of RTI’s• Accounting &

Financial management

• Price structure & conditions

• Financing alternatives

• Account management

• Networking & partnerships

• Branding

Cost/Profit: 2,2%/3,0%

Cost/Profit: 1,8%/5,0%

Cost/Profit: 36%/90%

BPC UUC

Rental systems

Standardization Machine handlingIn-store handling

Commercial considerations

Temp. control,Product damage

Collection system

Reduce cost Load utilisation,Temp. control

Environmental concerns

But also a variety of reasons why companies decide to use pool management instead managing the RTI’s themselves occurs.

Settingthe scene Recommendation

& ImplementationBusinessProposal

Business proposals

Within the boundaries of the generic business system, the buyers purchasing criteria and users usage criteria, three business proposals and their respective key success factors have been formulated.

Business proposal 1: Focus on core business

Key success factors: Procurement and provision Rental contracts Price structure & conditions Repair and maintenance of damaged containers

Business proposal 2: Expand short term hire

Key success factors: Availability management Rental contracts Financing alternatives Optimized storage across national borders

Business proposal 3: Move into pool management

Key success factors: Availability management Service contracts Networking & Partnerships Transport/Distribution, RTI Asset management, Sorting/Inspection/Cleaning, Depot

network/infrastructure

Key success factors and underlying investment requirements

What are the required investments in assets, capabilities and systems to meet the key success factors?Business proposal 1: Focus on core business

Key success factors: Assets: Capabilities: Systems:

Procurement and provisionRental contractsPrice structure and conditionsRepair and maintenance of damaged containers

ContractsPricesRepair shopsReplacement buffer (RTI)

PeopleSkillsNetwork/relations

ERP systemContract management system

Business proposal 2: Expand short term hire

Key success factors: Assets: Capabilities: Systems:

Availability managementRental contractsFinancing alternativesOptimized storage across national borders

RTI’s in stockContractsDepot facilitiesAccess to capital

PeopleSkillsEducation

ERP systemContract management systemStrategic partners

Business proposal 3: Move into pool management

Key success factors: Assets: Capabilities: Systems:

Availability managementService contractsNetworking and partnershipsTransport/Distribution, RTI asset management, Sorting/Inspection/Cleaning, Depot network/infrastructure

RTI’s in stockContractsBrandsDepot facilitiesAccess to capital

PeopleLogistic skillsEducated peoplePool management experience

ERP systemContract management systemStrategic partners

Gap analysis and relative positioning

Turnover in segment

KSF addressed: 0 - 16Substitution potential:

0 - 25

CHEPCC EPS IFCO Hays

SubstitutionPotential

Low

High

Low KSF addressed High

Low KSF addressed High

Low KSF addressed High

Business proposal 1 Business proposal 2 Business proposal 3

The gap-analysis shows that CC is relatively well positioned within its core business compared to the competitors. However, the situation as regard the two other business proposals is less comfortable.

Financial justification

ROIC Tree for 2008 (business proposal 2) Using average capital

The free cash flow will reach its peak in 2008 and hence become positive in 2011 (all else equal)

ROIC at the lowest level in 2008

Positive ROIC in 2014

ROIC 28% in 2019

COGS/rev80%

SG&A/rev4,9%

Depre/rev27,6%

Work. cap./rev4,4%

Net PP&E/rev146,3%

Other assets/rev-13,3%

EBITA/rev-16,6%

Rev/invest. cap.0,7%

Pretax ROIC-12,9%

Cash tax rate onEBITA, -1,3%

ROIC-13,1% X

X

1-

From a financial point of view business proposal 1 seem to be a beneficial route to choose. However, long term perspectives are predicted less positive if the STH option isn’t part of the market proposition.

Business proposal 2 though is very attractive but is suffering from the fact that only part of the investment will be covered on an annual basis .

Financial justification

To distinguish short term debt into NWC and investments an addition of €10 mio. in capital will be needed on an annual basis to cover the expansion in the STH pool.

STH expansion

Short term debt

€/Mio.

Year2004 2005 2006 2007 2008

10

20

30

* Banc overdraft € 15 Mio. as per 30.09.2004

Settingthe scene Recommendation

& ImplementationBusinessproposal

Recommendation

Business proposal 2 is the one to recommend (expand STH activities)

The reason for not choosing business proposal 1 is due to the fact that CC is already relatively well positioned within its core business (long term hire)

Internal forecast scenarios and concluded market demands predict a faster growth in the market for short term hire business.

It is regarded as important for the CC pool system to sustain its position and therefore take an active part in the increasing short term hire business instead of leaving it entirely to the competitors.

In order to reduce the risk of loosing the current strong position within core business it is recommended that CC complement its market propositions with more emphasis on short term hire

What is required to meet the recommendation?

Financing the expansion in the STH pool.

Financing of the current STH pool

A financial solution supporting customers needs for financing of Sales and LTH contracts

The capital needed to support the business expansion will require a feasible financial construction that meet the following objectives:

Through the financial flexibility of leasing both funding, cash flow, accounting, and equipment benefits can be obtained.

How to close gaps

Sub-leasing arrangements differ from traditional leasing arrangements in the way that the Lessee (CC) in this arrangement achieve the right to sub-lease the equipment leased to a third part – the CC customer.

Through sub-leasing CC is allowed to make sub-leasing on leased equipment for a short or long period of time.

Sub-leasing

Denunciation

Equipment sales Leasing

agreement

Supplier

Lessee (CC)

End user

(CC Customer)

Lessor

(Capital provider)

Sub-leasing arrangements is a feasible way to finance expansion in the STH pool…

How to close gaps

CC will have access to the international network of the capital provider and through that mediate the contact between the parties.

CC will receive the full payment from the capital provider who then will have to settle with the customer.

The agreement will cover the LTH contract only hence no pool fee will be included.

… whereas the current STH pool can be financed through sales-and-lease back arrangements. To further support customers needs for financing of LTH and sales contracts the following options are suggested:

Considerations

The lessor maintain both ownership and the right to depreciate the products.

For the lessee the leasing payment may be offset against tax.

For all new products the depreciation will be 5 years (no scrap value).

The current situation with deferred tax payment will have to be changed.

Current STH pool income must partly cover leasing cost for new products due to current price structure (CC Container only).

CC must require an exclusive right of repurchase at the end of leasing contract.

However, there will be some consequences to consider….

Implementation requirements

Step Activity Required resources Deadline Responsible

1 Presentation for CEO and the Board of Directors

CC management group March 2004 CL

2 Acceptance and commitment Shareholder agreement April 2004 CEO

3 Select the right lender Prerequisite, demands and set priorities May 2004 CC MG

4 Negotiation (price, terms, conditions) Prerequisite, demands and set priorities May 2004 CC MG

5 Credit evaluation Financial information available May 2004 CC/capital provider

6 Contract signing CC Executive committee or Board of Directors May 2004 CEO

7 Small scale test A relevant business case and negotiations Nov 2004 CL

8 Test evaluation and adjustment Feed back and experience Dec 2004 CL

9 Integration into internal procedures Adjust contracts, IT system etc. Dec 2004 UF

10 Internal communication and information Internal sales organization and CC area managers

Dec 2004 CL

11 Market penetration All CC area managers Onwards CL

To ensure a proper implementation of the above financing alternatives in the CC organisation a number of subsequent steps must be completed. First and foremost the acceptance and the commitment from the CEO and the Board of Directors are needed.

Implementation requirements

March2004

April2004

May2004

June2004

July2004

Aug2004

Sept2004

Oct2004

Nov2004

Dec2004

Jan2005

Step 1

Step 2

Step 3

Step 4

Step 5

Step 6

Step 7

Step 8

Step 9

Step 10

A summary of all mentioned activities inclusive of a time schedule as illustrated.

Questions?

Claus Lykke

SIMI 10th class

March 12th, 2004