Diageo Secure Despite Profits Warning

Analysts remain confident in Diageo despite profits warning yesterday, due to the company's secure competitive advantage and diverse revenue streams

Thomas Mullarkey, CFA 31 January, 2014 | 8:58AM
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Diageo (DGE) has built an enviable business empire. We believe the firm's unmatched portfolio of spirits, combined with its vast distribution network including thousands of dedicated sales people in the United States, would be very difficult and expensive for any competitor to duplicate and results in a wide moat (competitive advantage).

Longer term, the company is making investments to grow its book of business in emerging markets such as Africa, India, and China. We expect these seeds of growth will benefit investors in the long term as Diageo gains additional distribution scale in these fast-growing regions, and as the company continues to shift additional global consumers into more premium and higher-margin brands. In our opinion, these competitive advantages and growth prospects justify an earnings valuation above the market average.

Diageo is the world's largest maker of spirits, and the scale and scope of its portfolio is unmatched. Brands such as Johnnie Walker, Smirnoff, Bailey's Irish Cream, and Crown Royal are No. 1 in the world in their respective categories. Additionally, Diageo's portfolio includes other top brands such as Guinness, Tanqueray, and Captain Morgan.

The company's position in North America is particularly strong, where it has developed a sustainable competitive advantage in its distribution network. Diageo, where allowed, has consolidated its distribution base to just one exclusive agent per state. Currently, these distributor relationships, which cover 80% of Diageo's U.S. volume, have more than 2,800 dedicated salespeople focused on Diageo's brands. This army of exclusive salespeople is highly profitable, resulting in operating margins in North America of nearly 40%, well above the firm's consolidated margin in the high-20s, and higher than most of its competitors.

Although Diageo spent a decade spinning off noncore operating business in order to focus on the spirits industry, we note that Diageo's beer portfolio including Guinness is also important to the company, as its beer brands can serve as a gateway to spirits. This is particularly notable in driving the company's growth aspirations in Africa.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Diageo PLC2,611.00 GBX0.64Rating

About Author

Thomas Mullarkey, CFA  is an equity analyst at Morningstar.

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