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8-233-100February 28, 2004

The Maharaja Dilemma:Can Pepsi Thrive in Sri Lanka?

On January 1st, 1997, Mano Wikramanayake, Group Director of the Maharaja Corporation, relaxed in his “planter’s chair” having finally arrived home in Colombo, Sri Lanka. His butler brought him a tambali and handed him a fax on Donaldson Lufkin & Jenrette (DLJ) letterhead. Mano asked “is that all?” His butler wiggled his head in affirmation, adjusted his sarong and shuffled away to prepare supper. After his non-stop road show in New York City, Mano had expected a pile of faxes from interested groups looking to enter as 3rd party investors to the existing Olé joint venture between Maharaja and Pepsi. “How could they be the only takers?” he thought to himself. The Sri Lankan economy was on the rise; Pepsi’s brand awareness was growing; and the Maharaja Organization had a strong track record of marketing and distributing a variety of products in the country.

With only one fax in hand, Mano wondered about the fate of the joint venture. He knew the joint venture was highly undercapitalized and that Pepsi was not going to invest any more equity in the project. Feeling the heavy burden of all the high-interest rate domestic loans that had helped the Maharaja’s support operations for the last two years, Mano pondered his alternatives. After large capital investments in bottling equipment, distribution trucks, and warehouses, did it make sense for the Maharaja’s to abandon the joint venture? If not, could they turn things around without the help of a third party investor? What if the DLJ offer is the best they can get given the political instability in Sri Lanka? These questions began to overwhelm Mano, so he decided to call his Finance and Marketing VPs to discuss the DLJ offer.

Joint Venture Inception: Pepsi & Olé Spring Bottlers

In 1985, PepsiCo International became interested in distributing their carbonated products in Sri Lanka and entered into a franchise agreement with Ceylon Cold Stores (CCS). Despite the successful launch, frustration quickly settled in as Pepsi saw itself “white in the market”1 for three straight years. Further complications arose from a labor dispute in 1988 which ultimately 1. “White in the Market” refers to containers in the market with no product.

Sanjay Pamnani, Heidi Pellerano, Dhanusha Sivajee and Vidhi Tambiah, MBAs 2004, prepared this case for class discussion rather than to illustrate effective or ineffective handling of an administrative situation.

Copyright © 2004 by Duke University, The Fuqua School of Business.

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233-100 The Maharaja Dilemma

forced the government to take over the management of the company under emergency regulations. In 1990, Pepsi terminated the franchise agreement. At this time, Les Ham, President of PepsiCo Asia, realized he needed to find a new franchise partner, otherwise, he would be left with no other option but to pull out of the Sri Lankan market completely.

Ham turned to The Maharaja Corporation. As Sri Lanka’s largest privately-held corporation, Maharaja was looking to expand its portfolio of international brands. In 1991, after lengthy negotiations, Pepsi awarded the franchise to the Maharaja Corporation. Under the agreement (Exhibit 1), Maharaja would serve as the exclusive Pepsi franchisee in Sri Lanka and would begin by bottling and marketing 300ml glass bottles of the ‘Pepsi’, ‘Mirinda’, and ‘7-Up’ brands for a term of five years. The joint venture was named after Maharaja’s existing “Olé Springs” manufacturing facility which in 1992 was retrofitted into a bottling plant. The plant was located on a 19.5 acre property, in the Eastern outskirts of Colombo. Initially, the plant employed 265 employees and had a capacity level of 480 bottles per minute (bpm)

In 1992, Pepsi was officially re-launched in Sri Lanka under the wardship of a PepsiCo regional office in Pakistan. The Pakistani office supported the launch with an ad campaign featuring model Claudia Schiffer drinking out of a can of Pepsi (Exhibit 2). The launch date which is usually a day of celebration quickly became a day of concern for the Maharaja Corporation. They sat in their offices wondering why the advertisement provided by Pepsi featured a can when only bottles were sold in Sri Lanka. Additionally, the entire Pakistani team did not turn up for the launch on account of a religious festival. Could this be a sign of things to come? Unfortunately, the answer was “yes,” as the Pakistani team continued to demonstrate little commitment to the joint venture. As a result, the venture struggled during the first three years of operation reporting loses of SL Rupees 4.9 million, 0.9 million and 78 million. The operation was highly undercapitalized, but the Maharaja Corporation was not willing to invest further unless Pepsi was willing to do the same.

In 1995, Roger Enrico took over the reigns of PepsiCo Inc. Mr. Enrico was a brilliant marketer who understood the importance of building truly global brands. In May, he infused the project with a $2 million equity investment and moved wardship to PepsiCo India (Exhibit 3). With PepsiCo’s renewed commitment to the venture and positive outlooks for the Sri Lankan economy, the Maharaja Corporation saw an opportunity to turn this venture around. However, the capital infusions didn’t prove to be sufficient. The Maharaja’s were saddled with high-interest debt and Pepsi’s market share had not grown as projected. Since Pepsi was not willing to make any additional investments in the venture, it became clear that a third party investor was the answer to their financial woes.

In December1996 as the Sri Lankan economy began to recover, Mano Wikramanayake, Group Director of the Maharaja Corporation, flew to New York to pitch Olé to a group of potential investors. He was looking to invoke interest in a private placement in Olé and received favorable reviews from investors who were extremely bullish on Asian economies at that time. Further he disclosed to investors, Olé’s plans to go public after two years first on the local stock exchange and then in the US via an ADR offering which would allows investors an exit and an opportunity to make an attractive return on their initial investment. After two weeks of

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meetings, Mano returned to Sri Lanka hopeful that Olé was going to receive the necessary capital to restructure operations and begin to rival Pure Beverages and CCS for market share.

To Mano’s dismay, only one investor, Donaldson Lufkin & Jenrette (DLJ), a publicly held U.S.-based investment bank and financial services provider, submitted a proposal. Highlights of DLJ’s offer are shown in Exhibit 4. It was obvious from the offer that DLJ was concerned about the various risks that could plague a project in an emerging market like Sri Lanka and wanted substantial downside protection for its investment. However, were they asking for too much? Where there other ways for the Maharaja’s to mitigate DLJ’s concerns?

Sri Lanka

Sri Lanka, (Exhibit 5), is an island off the southeast coast of India. It is approximately the size of Ireland but with a population the size of Australia (19m). There are two main ethnic groups, the Singhalese (Buddhist majority) and Tamils (Hindu minority). There are a number of other important minorities such as Muslims, Chettiahs, Sindhis and Eurasian “Burghers”. Sri Lanka is rich in natural resources. Its main industries include agriculture, mining and tourism. Unfortunately, the island has never been able to fully exploit its resources because of the devastating ethnic conflict that has raged since 1983. (Exhibit 6)

Ethnic Conflict

Sri Lanka was colonized in turn by the Portuguese, Dutch and the British. The British employed their “divide and conquer” approach to administering the island. They found a minority of Tamils and Singhalese open to Christian conversion. They gave the top administrative posts to this Christian “elite” who enjoyed power and privilege over the Buddhist majority. After independence in 1948, a Singhalese Christian government came to power and upheld rights for all minorities. However, on the wave of a Buddhist backlash, a leading Christian Singhalese, S.W.R.D Bandaranaike, converted to Buddhism and came to power promising to end non-Buddhist policies. A Buddhist monk later assassinated him because he was yielding too much to his erstwhile Christian colleagues. Thus, consequent governments introduced even more policies favoring the Buddhist majority at the expense of other minorities.

The Tamils started a peaceful struggle for their rights which lasted from the early 50’s to late 70’s. A new pro-Buddhist government in 1978 sidelined Tamil and other minority rights further and introduced a new “executive presidency” that had the rights to dissolve parliament and effect military control without recourse to the parliament. This government instigated yet more policies to favour the majority. The Tamils reacted violently in the North of the country, killing policemen and military personnel. Ethnic tensions rose to a peak in 1983 when an alleged government-led riot was directed towards Tamils in Colombo and several other towns. Tamil businesses and homes were razed. Tamils who could afford to flee the country sought refuge in the UK, US, Canada and Australia. Others risked life and limb crammed on boats headed towards India. Those Tamils left behind waged a guerilla style war led by Vellupillai Prabakaran - “the Fox”. The Tamil Tigers as they became known soon became a highly disciplined and effective guerilla group. Their “suicide bombings” quickly became a trademark. Assassinations

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attributed to them include Rajiv Gandhi (former Indian Prime Minister – for his decision to send in the Indian Peacekeeping Force) and Ranasinghe Premadasa (President of Sri Lanka). The government responded by incurring curfews and a high military presence in Colombo.

Exchange Rate and GDP

The Sri Lankan Rupee (SLR) is allowed to float against a basket of currencies with the US$ as the intervention currency. The Central Bank maintains a 2% margin between daily buying and selling rates, to guide commercial banks in quoting their rates. The value of the Rupee has fluctuated since 1978, but the overall trend has been downwards, (Exhibit 7), reflecting the persistent current-account deficit and relatively high inflation rates. (Exhibit 8)

In 1989, a rigorous liberalization program was introduced by Mr. Premadasa’s UNP government. The economic reform programme was supported by an IMF Enhanced Structural Adjustment Facility (ESAF). Stabilization measures included a devaluation of the Rupee and the abolition of major subsidies. These were complemented by an ambitious privatization drive. Tax, tariff and trade reforms were also instituted and the current account was freed of exchange controls. GDP growth rose from 2.3% in 1989 to 6.9% in 1993. The People’s Alliance (PA) government pledged itself to continue with the economic reform programme.

Since 1991, the share of industry (manufacturing, construction and utilities) has increased from 25.7% to 28.8% of real GDP. (Exhibit 9) In particular, manufacturing has emerged as the lead sector underpinning economic growth. Progressive privatization of state enterprises has enabled the private sector to dominate manufacturing. Small and medium enterprises account for nearly 90% of private industrial units. The services sector accounted for 48.7% of GDP in 1995 and is principally composed of wholesale and retail trade, financial services, transport and communications, public administration and defense and tourism. (Exhibit 10)

Monetary Policy

In recent years, monetary policy has focused principally on the control of inflation with the Central Bank relying on indirect policy instruments including open market operations in Treasury bills and Central Bank securities to influence the growth of monetary aggregates. In 1992-93 monetary growth was fuelled to a great extent by a large increase in foreign capital inflows and an expansion in private-sector credit which necessitated the operation of a tight monetary policy. (Exhibit 11) In 1993-95, an even stronger emphasis on controlling inflation led to a tightening of monetary policy to compensate for high defense spending and a widening fiscal deficit.

High inflation has been a persistent problem in Sri Lanka over the past decade. (Exhibit 8) Cost-push factors such as wage adjustments, increases in indirect taxes, high interest rates and exchange rate depreciation have contributed to increases in the price level. (Exhibit 12) Seasonal scarcities of agricultural commodities and inefficient agricultural production have also been responsible. In recent years, the principal causes of demand-induced inflationary pressures have been the high level of government spending and the rapid rate of monetary expansion. In 1988-

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93 annual average inflation was 13.6%. It was suppressed artificially to 8.4% in 1993 and to 7.7% in 1994 by a combination of subsidies and reductions in key administered prices.

Persistently high inflation has prevented any real increase in incomes since wage increases have generally not kept pace with the rise in prices. There are no reliable statistics for income distribution, but anecdotal evidence suggests a marked deterioration in income disparities. Thus, many industries have been adversely affected by strikes initiated by labor/trade union forces seeking to remedy this malady. (Exhibit 13) Rising food prices have also prevented any significant rise in discretionary spending with more than 85% of incomes being spent on basic necessities.

Since the average rate of inflation in Sri Lanka has tended to be higher than those of its competitors, the country’s export price competitiveness has suffered. This problem has been exacerbated by high interest rates and the lack of sources of concessionary financing to the export sector. Since exchange rate depreciation also fuels inflation, the government has been reluctant to devalue the currency to the extent exporters are demanding.

Maharaja Corporation

The Maharaja Group is Sri Lanka’s largest conglomerate in terms of sales with an annual turnover of US $ 175 million for the year ended March 31, 1996. The two founding members Mr. S Mahadevan and Mr. S Rajandram had worked for an American firm called Dodge & Seymore Ltd which held agencies in Sri Lanka for prominent companies such as Union Carbide Limited, Colgate Palmolive Limited, Yale & Towne Limited, Champion Spark Plugs Limited, Parker Pen Limited and Cheeseborough-Pond’s Inc. At the time of World War II, Dodge & Seymore closed their office in Sri Lanka (then known as Ceylon) and handed over the agencies to Messrs S Mahadevan and S Rajandram.

At the inception, the agencies were serviced on an indirect basis however gradually through time the distribution reach extended beyond the capital city of Colombo to other parts of the country. This effectively laid the foundations for a formidable sales network that was leveraged in later years to introduce products from other agencies and joint ventures.

The Maharaja Organization was incorporated in 1967 though a merger between the various subsidiaries – Rajadrams Limited, Maharaja Distributors Limited and A.F. Jones & Co. Limited. Since 1967 the Maharaja Group has been run by Messrs R Maharaja and R Rajamahendran jointly as Managing Directors

In 1997, the Group’s operations remained highly diversified with interests in imports, local manufacturing, distribution and marketing, export commodity trading, tourism, clearing and forwarding, project development, computer services, soft drink bottling, television and radio broadcasting, satellite communications, beauty care, a flying school and a domestic air service. One of the Group’s most successful joint ventures was with the New Zealand Dairy Board that manufactures and markets milk and milk products in Sri Lanka under the ‘Anchor’ Brand name. The Maharaja Group’s excellent distribution network has made it a household name in a

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predominantly rural country and its marketing track record made the company the top choice of partners in joint ventures in the Sri Lankan market. Furthermore, the Group was also able to utilize its ownership and presence in media operations to promote its joint venture and marketing operations.

PepsiCo International (Exhibit 14)

The carbonated soft drink market had, in recent years become increasingly competitive as Western markets matured and multinational firms began increasing global operations as a means of continued growth. Historically, the early mover into a “white market” (an area with no previous distribution of Coke or Pepsi) continued to hold the majority market share as the market matured. Thus, it was seen as critical to enter new markets as soon as they became politically and economically accessible.

Instead of going head-to-head with Coke in almost every market in the world, Pepsi had focused its efforts on high-potential emerging markets such as China, India, Russia and Vietnam. These countries had high populations and low soft drink consumption rates, which translated into tremendous growth prospects. (Exhibit 15) Pepsi’s strategy was to capitalize on this growth by leveraging its already strong market position (at least 20% market share) in these markets. (Exhibit 16)

By 1997, PepsiCo was selling about three billion 8-oz cases of soft drinks outside North America under a different set of brands that included Seven-Up, Mirinda (orange soda) and Pepsi Max (no calorie cola). About 60% of Pepsi’s international volume was sold by independent bottlers, while the remaining 40% was handled by bottlers in which PepsiCo either controlled or had some equity stake.

In evaluating the merits of entering a new market or making a major investment in reviving an old one, PepsiCo looked for a 14% internal rate of return, after adjusting for expected inflation and country risk, over a 12-year horizon. PepsiCo also measured the success of an investment against a 7% corporate ROA target. These criteria where then supplemented with a fivefold characterization of investment opportunities:

Big developed soft drink markets; Smaller or riskier markets; Opportunities to invest in jump-starting channels or segments within the first two

categories; 21st century markets; and Turnaround opportunities as the bottler of last resort.

PepsiCo had categorized Sri Lanka in the second of these five categories. It looked at Sri Lanka as a natural extension of its investment in India, which it categorized as a twenty-first century market. However, they could not ignore the inherent limits on size of population and growth plus the risks that Sri Lanka bore as a country engaged in civil war. From Pepsi’s perspective, it was critically important for Olé to capture market share. Revenue from the sale of bottles was a

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secondary concern for Pepsi, especially as its returns would be largely generated by the sales of concentrate to Olé.

The Soft Drink Industry

The soft drink industry is composed of four key players: franchise companies, bottlers, retailers and consumers. Franchise companies are the owners of the brands. They manufacture the soft drink concentrate and market the brands. The franchisers business enjoys high gross margins of close to 80%. Their biggest expenses come from marketing, advertising, promotion, market research and managing their network of bottlers. The bottlers purchase the concentrate, mix it with sweeteners, and carbonated water, package and distribute the finished product and promote the products locally. (Exhibit 17) The bottler’s business is very capital intensive needing specialized-high speed equipment, distribution trucks, warehouses and info management systems. The bottler’s gross margins are much lower, typically in the 15-45% range. Bottlers ultimately have the choice on how the product is presented to the market. In emerging markets like Sri Lanka, bottlers prefer to package their products in glass bottles because with the lower price points, the reusable package format is more affordable as opposed to the disposable aluminum cans.

The Sri Lankan Soft Drink Market

Although accurate information about the Sri Lankan carbonated soft drink market is difficult to obtain due to the absence of a tracking agency, total consumption is estimated to be at around 16.5 million cases per year and projected to grow to approximately 20 million cases per year by 2004. Sri Lanka’s per capita soft drink consumption is one of the highest in the region (22 servings) beating out India (5) and Pakistan (13). However, soft drink consumption is only one-third of the beverage market as non-carbonated drinks like lemon/lime and orange continue to be the big sellers. The market is highly seasonal with a 30%-40% drop in sales during winter and summer monsoon months and highly dependent on tourism. Industry experts project that the carbonated soft drink market will grow at 7% annually in the foreseeable future.

The carbonated soft drinks market is dominated by three major players – the local Elephant House brand owned by John Keells and managed by Ceylon Cold Stores, Coke distributed and marketed by Pure Beverages, and Pepsi distributed and marketed by the Maharaja Group. The Elephant House brand leads with a market share estimated to be 45% followed by Coke and Pepsi with 42% and 15% share respectively. (Exhibit 18)

In the early 1980’s, the Sri Lanka soft drink market was controlled by the government under a “competent authority” arrangement. However, despite the lack of competition and a captive market, the business was poorly run. In 1982, the government-run agency was restructured and renamed Ceylon Cold Stores (CCS). CCS was later purchased by the John Keells Holdings (JKH) Group in 1991. CCS number one asset is - the “Elephant House Brand” of soft drinks which has been around since the 19th century. CCS has predominantly focused on product

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segments where its competitors are relatively weak or do not have a comparable drink like fruit flavored soft drinks sold under the Elephant House Brand. Currently, there are five different fruit flavors, which account for 65% of revenues. Its plum flavored soft drink ‘Necto’ enjoys strong consumer preference - especially since there is no comparable product in the market. CCS has traditionally placed greater emphasis on pricing and offers the CCS 400ml bottle for the same price as 300ml bottles of Pepsi and Coke. This large size allows the drink to be shared by two consumers effectively halving the price per consumer in a highly price conscious market. The Elephant House brand has great recall, the Singhalese words “Aliya Beanna” (meaning Elephant Brand) are the colloquial term for a soft drink. Furthermore, the brand commands a high premium among distributors and retailers who willingly pay in cash for all purchases. Thus, John Keells has had zero defaults while its competitors have suffered from substantial bad debt problems.

Coke entered Sri Lanka in the early 1960s by granting a bottling franchise to the Pure Beverage Company, a local Sri Lankan bottler. Pure Beverage was authorized to distribute and market Coca Cola, Sprite and Fanta. Coke could not make much headway in the market until the late 1970s. At that time, the Elephant House was having severe management problems and the economy had begun to open up. With the introduction of television, Coke was able to capture the imagination of the Sri Lankan consumers through attractive advertising campaigns. Behind a strong advertising push, Coke was able to overtake Elephant House in the early 80’s. By 1991, prior to John Keells taking over CCS, Coke had captured nearly 70% of the market. In response to Coke’s advertising, CCS moved into more aggressive advertising aimed at specific market niches which placed more emphasis on the taste preferences of consumers. In December 1996, Pure Beverage’s Kaduwela plant was shut down for almost four months due to labor problems. This resulted in severe supply problems leading to an 8% fall in Coke’s market share to 42%. CCS capitalized on Coke’s problems and increased its market share by 6% to 46%. Although it has been present in the market for more than three decades, Coke has never been able to sustain a sizable market share like it has in other international markets. The main reason for this disparity was the step-motherly treatment towards the Sri Lankan market from Coke’s South Asian headquarters which oversaw operations in Sri Lanka.

Olé Performance

Olé had shown poor results from its inception and was yet to make a profit. Exhibit 19 shows the capital infusion schedule which was required to keep the business reasonably capitalized. A lot of the initial demands arose from the need to put an effective distribution system in place that could not only distribute the product but also collect the empty glass bottles for re-use. Additionally the initial production of glass bottles, purchase of distribution equipment and acquisition of coolers (given free of charge to retailers) necessitated heavy capital expenditure. However the main contributor to the negative bottom line was the high operating cost which was being gradually reeled in. After the initial years where the Maharaja’s had learnt the ins and outs of the soft drinks business, the manufacturing and distribution operations had started to run more efficiently. Just then that a series of militant attacks bought a crisis in Sri Lanka resulting in

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tourists, substantial consumers of cold drinks in Sri Lanka, stayed away from the country. This largely contributed to another loss making year, the fourth in a row, at Olé.

The next year a peace was restored and Olé’s prospects once again looked bright. The Sri Lanka economy was once on the upswing and the Maharajas got ready for a massive campaign to win market share from their competitors. They realized this would require a fresh dose of capital injection into the venture. Already saddled with a heavy and expensive debt load, the only viable alternative was equity infusion. Although the firm’s projections looked very attractive (Exhibit 20 & 21), both the Maharajas and Pepsi were hesitant to add to their sizeable equity stake. Both sides however felt that given the buoyant market conditions, there would be plenty of thirsty investors who would be willing to “guzzle down” the risk.

Maharaja Dilemma

Given the competitive landscape and the current political and economic environment in Sri Lanka, it was evident that Mano was facing a tough decision in terms of securing an outside investor in the Olé joint venture. He was fast running out of time and capital but remained unclear as to the attractiveness and feasibility of the DLJ proposal. Could he negotiate a better deal or was he at the mercy of DLJ offer and the ambigious put option clause?

As Mano finished up his tambali, he pondered the best approach to resolving Maharaja’s dilemma. An NPV valuation from the perspective of a third-party investor seemed liked an interesting analysis but how would he estimate cash flows and the all important discount rate? Mano put down his glass and started to call his trusted Marketing and Finance VP’s.

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Exhibit 1: Summary of Agreement between PepsiCo International and The Maharaja Corporation

PepsiCo, Inc. entered into three agreements with the Company (Olé) in 1992 allowing to exclusively market ‘Pepsi’, ‘Mirinda’ and ‘7-Up’ soft drinks. These agreements are valid for a term of five years (1997) and can be automatically extended for one additional period of five years (2002) so long as the Company is not in default of any of its obligations.

These agreements also provide for: (i) the allocation of advertising expenses and (ii) the cost of the concentrate that the Company purchases from PepsiCo, Inc.

As part of the exclusive bottling agreements between the Company and PepsiCo, Inc. in respect of ‘Pepsi’, ‘Mirinda’, and ‘7-Up’ brands, PepsiCo, Inc. has agreed, subject to the terms and conditions contained therein, to pay 100% of the marketing costs in 1993, 80% in 1994, 60% in 1995, 45% in 1996 and 30% in 1997 with the balance paid by the Company. Thereafter, the 30% continues to be paid by PepsiCo.

In line with policy, PepsiCo, Inc appoints a Country Manager in Sri Lanka who is responsible for the marketing of the PepsiCo, Inc. brands. Additionally, he is in charge of developing and maintaining all operating procedures to ensure that the Company meets PepsiCo, Inc.’s standards

Exhibit 2: Pepsi Re-Launch Supporting Advertising

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Exhibit 3: Olé Capital Structure

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80%

20%

65%

35%

1992

1996


Exhibit 4: DLJ’s Proposal

DLJ’s proposal was to invest US $3 million in exchange for 17,460,000 convertible preference shares of Ole Spring Bottlers at par value of SL Rupees 10 each. In addition to the shares, DLJ would also receive a Put Option that was guaranteed for execution by both the Maharaja Group and Pepsi. The Put Option when exercised allowed for a 10% annually compounded US Dollar return on DLJ’s initial investment and had two exercise periods – the first at the end of three years and second at the end of four years from the share purchase agreement. DLJ purpose of investing in Ole was to finance it intermittently before its stake could be liquidated either through another private placement or sale after an IPO. As an investment bank DLJ was well connected to offer its stake to other investors in a private placement sale or help take the Ole public if market conditions were suitable. However in case Ole’s performance was below expectations due to any reason, DLJ had put into place a safety net for itself in the form of the put option agreement.

Exhibit 5: Sri Lanka

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Exhibit 6: Impact of Ethnic Conflict in Market Performance

Source: Sri Lanka Strategy: Bargain Buy, Sri Lanka Research December 1997

Exhibit 7: Rupee Exchange Rate


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Exhibit 8: Sri Lanka’s Inflation Rate


14


Exhibit 9: Sri Lanka’s Economic Indicators


15


Exhibit 10: Tourism


Exhibit 11: Foreign Investment


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Exhibit 12: Interest Rates



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Exhibit 13: Impact of Strikes on Productivity


Exhibit 14: PepsiCo International

MORGAN STANLEY DEAN WITTER, August 4, 1997, PepsiCo (PEP):The Face of PepsiCo Is Changing

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Exhibit 15: Per-Capita Soft Drink Consumption

MORGAN STANLEY DEAN WITTER, August 4, 1997, Global Soft Drink Bottling Review and Outlook: Consolidating the Way to a Stronger Bottling Network

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Exhibit 16: PepsiCo Market Share Advantage

MORGAN STANLEY DEAN WITTER, August 4, 1997, Global Soft Drink Bottling Review and Outlook: Consolidating the Way to a Stronger Bottling Network

Exhibit 17: Olé’s Cost Breakdown

The major ingredients used in the production of the Company’s (Olé) soft drink products include water which comes from the plant’s own wells; sugar which is supplied from several suppliers in Sri Lanka; concentrates which are supplied by PepsiCo, Inc. under license and Bush, Boake Allen; carbon dioxide which is supplied from Ceylon Oxygen under contract in Sri Lanka; bottle washing and water treatment chemicals such as caustic soda, the majority of which are sourced within Sri Lanka from several suppliers; crowns which are supplied from two suppliers in Sri Lanka; glass bottles which are currently sourced from three suppliers in India.

Cost breakdown per unit of soft drinks is as follows:Direct Cost 49.9%Manufacturing Cost 2.9%Excise Duty 4.3%Sales & Distribution 20.0%General & Administration 2.5%Administration & Marketing 5.9%Operating Margin 15.4%

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Exhibit 18: Market Shares by Competitor

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0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1950,s 1960 to 1978 1978 to 1985 1985 to 1987 1987 to 1991 1992-1995 1995-1997

CCS (Elephant House) Pure Beverages (Coke) The Maharaja (Pepsi)


Exhibit 19: Share Capital Schedule

SHARE CAPITAL SCHEDULE FOR OLE SPRING BOTTLERS Figures in SL Rupees

Equity Infusion 1991-92 Equity Infusion 1994-95Company Date 1991-92 Company Date 1994-95Beverage Holdings Limited J an-92 2,146,300 Beverage Holdings Limited Apr-94 2,436,880Stadebroke Investments Private Limited Aug-91 3,000,000 Beverage Holdings Limited Nov-94 125,022,980J ones Overseas Limited Aug-91 24,000,000 Dawson Capital Limited Nov-94 27,161,130The Maharaja Organisation Limited J ul-91 2,062,130 Stadebroke Investments Private Limited Nov-94 32,935,750The Maharaja Organisation Limited Aug-91 2,400,000 J ones Overseas Limited Nov-94 50,157,390

The Maharaja Organisation Limited Nov-94 20,236,7101991 Total 33,608,430

Equity Infusion 1992-93 1994 Total 257,950,840Company Date 1992-93 Equity Infusion 1995-96The Maharaja Organisation Limited Mar-93 5,222,800 Company Date 1995-96

Seven Up Nederlands BV J un-95 99,179,7401992 Total 5,222,800

Equity Infusion 1993-94 1995 Total 99,179,740Company Date 1993-94 Equity Infusion 1996-97Beverage Holdings Limited J an-00 16,641,410 Company Date 1996-97Beverage Holdings Limited J an-00 14,280,000 Beverage Holdings Limited Dec-96 199,134,000Beverage Holdings Limited Nov-93 24,324,920Stadebroke Investments Private Limited J an-94 12,760,000 1996 Total 199,134,000Dawson Capital Limited J an-93 13,000,000

1993 Total 81,006,330

Total Equity Infusion 1991-96 676,102,140

Maharaja Group owned entities PepsiCo Inc. owned entitiesBeverage Holdings Limited Stadebroke Investments Private LimitedThe Maharaja Organisation Limited J ones Overseas LimitedDawson Capital Limited Seven Up Nederlands BV

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Exhibit 19: Ole Pro forma Income Statement

OLE SPRINGS PROFORMA INCOME STATEMENT figures in 000's SL Rupees

Revenue Calculation 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006Total CSD Market - 8oz cases 14,500 15,660 16,874 18,139 19,454 20,816 22,221 23,666 25,145 26,653Market share growth 8.0% 7.8% 7.5% 7.3% 7.0% 6.8% 6.5% 6.3% 6.0%OLE Springs share 18.0% 19.2% 20.4% 21.6% 22.8% 24.0% 25.2% 26.4% 27.6% 28.8%

Total 8 oz cases sold 2,610 3,007 3,442 3,918 4,436 4,996 5,600 6,248 6,940 7,676

Pepsi flavour share 93.0% 90.8% 88.5% 86.3% 84.0% 81.8% 79.5% 77.3% 75.0% 72.8%PCI flavours 8 oz cases 2,427 2,729 3,046 3,379 3,726 4,084 4,452 4,826 5,205 5,584

OLE flavour share 7.0% 9.2% 11.5% 13.8% 16.0% 18.3% 20.5% 22.8% 25.0% 27.3%OLE flavours 8 oz cases 183 278 396 539 710 912 1,148 1,421 1,735 2,092

PCI average net price 158 170 183 196 211 227 244 262 282 303OLE average net price 146 155 166 176 188 200 213 227 242 257

INCOME STATEMENT 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006PCI - Net Sales 383,513 463,452 556,233 663,304 786,176 926,397 1,085,530 1,265,129 1,466,696 1,691,647OLE - Net Sales 26,674 43,245 65,552 95,011 133,297 182,378 244,552 322,479 419,222 538,281Total Sales 410,188 506,698 621,785 758,316 919,473 1,108,775 1,330,083 1,587,608 1,885,918 2,229,928

PCI - Contribution 176,416 220,140 272,554 333,310 402,915 484,042 578,045 673,681 781,016 900,802OLE - Contribution 14,404 24,304 38,152 56,722 80,911 111,616 149,666 197,357 256,564 329,428Total Contribution 190,820 244,444 310,706 390,032 483,827 595,658 727,711 871,038 1,037,579 1,230,230

Other ExpensesManufacturing 61,528 70,938 80,832 90,998 110,337 133,053 159,610 190,513 226,310 267,591Administrative 11,485 14,188 17,410 21,233 25,745 31,046 37,242 44,453 52,806 62,438Selling & Distribution 32,815 38,002 43,525 49,291 59,766 72,070 86,455 103,195 122,585 144,945Advertising - PCI brands 28,713 36,736 46,634 54,978 64,363 77,614 93,106 111,133 132,014 156,095Trade schemes - PCI brands 6,153 6,334 6,218 7,583 9,195 11,088 13,301 15,876 18,859 22,299Total Expenses 140,694 166,197 194,619 224,082 269,406 324,871 389,714 465,169 552,574 653,369

Earnings before Interest & Tax 50,126 78,247 116,087 165,950 214,421 270,787 337,997 405,869 485,005 576,861EBITDA 105,126 143,147 191,997 253,979 315,641 386,194 468,458 552,064 647,355 755,445

Less Interest 42,000 49,660 58,213 67,670 78,019 89,220 101,196 113,827 126,945 140,323 Less Tax (after NOLs) 87,613 107,418 130,961 Net Profit 8,126 28,587 57,874 98,280 136,402 181,567 236,801 204,429 250,642 305,576 Net Profit US $ $143 $464 $865 $1,354 $1,732 $2,125 $2,554 $2,032 $2,296 $2,580

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Exhibit 20 cont’d: Ole Pro forma Income Statement

PROFORMA INCOME STATEMENT - KEY DRIVERS AND ASSUMPTIONS

Growth Rates 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Change in PCI Contribution ratio 1.50% 1.50% 1.25% 1.00% 1.00% 1.00% 0.00% 0.00% 0.00%PCI - Contribution ratio 46.00% 47.50% 49.00% 50.25% 51.25% 52.25% 53.25% 53.25% 53.25% 53.25%Change in OLE Contribution ratio 2.20% 2.00% 1.50% 1.00% 0.50% 0.00% 0.00% 0.00% 0.00%OLE - Contribution ratio 54.00% 56.20% 58.20% 59.70% 60.70% 61.20% 61.20% 61.20% 61.20% 61.20%

Other Expense as % of revenuesChange in manufacturing exp -1.00% -1.00% -1.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%Manufacturing 15.00% 14.00% 13.00% 12.00% 12.00% 12.00% 12.00% 12.00% 12.00% 12.00%Administrative 2.80% 2.80% 2.80% 2.80% 2.80% 2.80% 2.80% 2.80% 2.80% 2.80%Change in selling & Distribution exp -0.50% -0.50% -0.50% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%Selling & Distribution 8.00% 7.50% 7.00% 6.50% 6.50% 6.50% 6.50% 6.50% 6.50% 6.50%Change in Advertising 0.25% 0.25% -0.25% -0.25% 0.00% 0.00% 0.00% 0.00% 0.00%Advertising - PCI brands 7.00% 7.25% 7.50% 7.25% 7.00% 7.00% 7.00% 7.00% 7.00% 7.00%Change in trade schemes 0.25% 0.25% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%Trade schemes - PCI brands 1.50% 1.25% 1.00% 1.00% 1.00% 1.00% 1.00% 1.00% 1.00% 1.00%

Debt Service Coverage 2.5x 2.88x 3.3x 3.75x 4.05x 4.33x 4.63x 4.85x 5.1x 5.38x

Debt Schedule 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

LONG-TERM DEBTBeginning Balance 112,825 191,563 226,500 265,510 308,644 355,847 406,934 461,555 519,167 579,000Increase during the year 78,738 34,937 39,010 43,134 47,204 51,087 54,621 57,612 59,833 61,017Ending Balance 191,563 226,500 265,510 308,644 355,847 406,934 461,555 519,167 579,000 640,016

Interest payment 42,000 49,660 58,213 67,670 78,019 89,220 101,196 113,827 126,945 140,323Interest rate 22% 22% 22% 22% 22% 22% 22% 22% 22% 22%Long-term Debt as a % of Revenues 46.7% 44.7% 42.7% 40.7% 38.7% 36.7% 34.7% 32.7% 30.7% 28.7%

Tax Rate 30%

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Exhibit 21: Ole Pro forma Free Cash Flow Projections

OLE SPRINGS PROJECTED FREE CASH FLOW STATEMENT figures in 000's SL Rupees

APV Method 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006Cash Flow from Operations 146,818 78,247 116,087 165,950 214,421 270,787 337,997 405,869 485,005 576,861Add Cash Interest paid 42,000 49,660 58,213 67,670 78,019 89,220 101,196 113,827 126,945 140,323Less Interest Tax Shield (12,600) (14,898) (17,464) (20,301) (23,406) (26,766) (30,359) (34,148) (38,084) (42,097)Capex (67,000) (78,710) (91,614) (105,664) (120,764) (136,756) (153,412) (170,414) (187,347) (203,681)

1 2 3 4 5 6 7 8 9 10Free Cash Flows 109,218 34,299 65,222 107,655 148,271 196,485 255,422 315,135 386,520 471,406Free Cash Flows (US $) $1,922 $556 $975 $1,483 $1,883 $2,299 $2,755 $3,132 $3,541 $3,980

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References

Conway, Andrew J., Massot, Sylvain, Serra, Lore, Dormer Jim, and Mayo, Scott, “Global Soft Drink Bottling Review and Outlook: Consolidating the Way to a stronger Bottling Network,” Morgan Stanley Dean Witter, August 4, 1998.

Conway, Andrew J., “PepsiCo: The Face of PepsiCo is Changing,” Morgan Stanley Dean Witter, August 7, 1997.

Ghemawat, Pankaj “Pepsi: The Indian Challenge,” Harvard Business School, Case # 9-793-060, March 28, 1995.

“PepsiCo,” Brown Brothers Harriman & Co., May 22, 1997.

“Private Invitation to Subscribe for 40,000,000 Ordinary A Shares of Rs. 10.00 each at a price of Rs. 10.00 per share,” Olé Springs Bottlers Limited Private Placement.

“Put Option Agreement,” July 30, 1997.

“Share Holders’ Agreement,” July 30, 1997.

“Share Purchase Agreement,” July 30, 1997.

Solomon, Jennifer F., “PepsiCo — Preparing to Visit Roger’s Neighborhood,” Salomon Brothers, May 29, 1997.

“Sri Lanka Country Report,” Economic Intelligence Unit, May 1996

“Sri Lanka Country Report,” Economic Intelligence Unit, October 1996

“Sri Lanka Food & Beverage Sector: Ceylon Cold Stores,” Indosuez W.I. Carr Securities, February 11, 1998.

“Sri Lanka Strategy Bargain Buy,” Indosuez W.I. Carr Securities, December 1997.

“Sri Lanka Weekly No. 21,” Indosuez W.I. Carr Securities, May 1997.

“Subsidiary Guaranty,” July 30, 1997.

Yuan, Peter and Crum, Geoff “PepsiCo Changchun Joint Venture: Capital Expenditure Analysis,” Richard Ivey School of Business, Case# 900N16, January 19, 2001.

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Interviews:

1. Srilal Ahangama, Finance Director, The Maharaja Company

2. Mano Wikramanayake, Group Director, The Maharaja Corporation

3. Nadija Tambiah, John Keells Holdings Group

4. Laksiri Wickramage, John Keells Holdings Group

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