Stock in Focus: Diageo

The crackdown on bribery within government circles in China is continuing to have a negative effect on Diageo's sales of scotch, but on the whole the pricing power remains intact

Philip Gorham 16 October, 2014 | 3:40PM

When stripping out the noise from currency, the United Spirits acquisition, and trade inventory movements from Diageo's (DGE) first quarter trading update, we believe fourth-quarter trends remain intact. Volumes appears to be stabilising in many markets, while Diageo continues to work through more structural challenges in China and Europe. Beyond those regions, many of Diageo's current struggles appear to be cyclical in nature and do not impact our wide economic moat rating or our £19.50 fair value estimate for the leading global producer of distilled spirits.

Organic first-quarter net sales fell 1.5%, with volumes down 3.5%. This was a sequential slowdown from the 0.8% increase in sales in the fourth quarter of fiscal 2014, but the waters were muddied by several non-recurring factors. North America had appeared to have turned the corner by the end of last year, but organic sales slowed to just 0.1% growth in the first quarter. However, the firm was cycling 5.1% organic growth from the previous year, and we believe the growth rate of around 2.5% per year implied by the two-year stacked growth rate is a fair reflection of the state of the North American industry. We think there is medium term upside to the volume performance in North America, as consumers tend to trade up into the spirits category in times of economic prosperity at the expense of beer and wine.

Europe remained weak, with organic sales down 1.4%. This was in line with recent trends, as fiscal year 2014 sales were down 1.5%. We believe those economies most affected by the macro crisis are significantly underperforming some of the stronger economies. Weak volumes in Europe can partly be attributed to cyclical factors, but we do not expect markets such as Spain and Greece to recover to their former levels, and we believe a growth level in line with GDP is appropriate for the Western Europe segment going forward.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
Diageo PLC2,570.00 GBX0.08

About Author

Philip Gorham  

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