As one of the world’s largest producers and distributors of spirits, Diageo [DGE] commands a prominent role in its industry, holding a 15.2% market share.
And to stay ahead of market competition from rivals like Anheuser-Busch InBev [ABI] and Heineken Holdings [HEIO], Diageo has been expanding into alcoholic-free spirits in a bid to benefit from the wider trend in health and wellbeing.
The owner of Gordons and Tanqueray is also said to be eyeing up the cannabidiol (CBD) infused beverages market, as a decline in liquor sales looks to directly correlate with a rise in marijuana use in some parts of the US and Canada.
The company as a whole has strong fundamentals. While it is highly profitable, Diageo is conservatively run – management enforces strict rules for leverage and dividend payments – but because of this, it has a history of long-term outperformance, while it boasts a market cap of £73.6bn.
Diageo is by no means a cheap stock though. The share price has risen by 26% year-to-date – outperforming the beverage industry’s average 19.9% return – and currently trades 3.5% and 9.2% above its 50-day and 200-day moving averages respectively.Diageo 1-year share price performance, CMC Markets, as at 20 March 2019
Diageo has an average target price of 3067p amongst 22 firms with Goldman Sachs recently reiterating a buy rating, setting a price target of 3500p, which implies a potential upside of 14.8%.
Robust brand portfolio supports strong sales
The global alcohol industry is massive. It was measured at $1.2tn in 2017 and despite reports of slowing consumption, it is projected to reach $1.6tn by 2024, and Diageo is in a strong position to benefit from the industry’s expected growth.
The drinks company has done well over the years to spread its market dominance too. It either owns or has partial shares in the top 12 sold alcoholic brands in the world, and has continued to broaden its portfolio with the acquisitions of Belsazar vermouth in 2018 and Casamigos tequila in 2017.
Projected value of the global alcohol industry by 2024
It’s also considering raising its 60% stake in the Chinese drinks brand Shui Jing Fang baiju by a further 10% through its wholly owned subsidiary Grand Metropolitan International.
Sales reached £6.9bn in 2018, climbing 5.8% compared to the previous year, driven by volume growth and a strong price mix. The firm forecasts operating margins to reach 175 basis points in 2019.
Following the announcement of its 2018 results, CEO Ivan Menezes said: “At £1.3bn, we delivered another period of strong free cash flow. As a result, the board approved an incremental share buyback of £660m, bringing the total programme up to £3bn for the year ending 30 June 2019.”
Scotch – by far the company’s biggest category – accounted for 25% of its net sales, with beer following close behind at 16%.
Scotch sales as a percentage of total net sales
While Diageo has spent the majority of its £584m capital expenditure on development rather than products, it still launched a few products in 2018 including a Rockshore apple cider and a vodka line called Ketel One Botanicals.
High valuations in earnings multiples
Extending its reach with shareholders, Diageo announced a 5% increase to its dividend payout, bringing it to 26.1p per share. And while it has a strong EPS ratio, its long-term earnings have grown between 6-8%; a relatively small but consistent level.
|PE ratio (TTM)||25.98|
|Return on equity (TTM)||27.02%|
Diageo stock vitals, Yahoo finance, as at 20 March 2019
However, this strategy “can leave investors vulnerable to P/E compression if the stock is purchased at an irrational multiple”, writes Australian firm Wealth Management on Seeking Alpha.
Looking forward, CEO Menezes hopes to be more consumer focused, as Diageo continues to move swiftly on trends and insights to make it “better placed to capture opportunities and deliver sustained growth”.
Overall, with more than 200 brands of alcohol, sold in 180 countries, Diageo is a clear brand winner that offers its shareholders strong potential long-term growth.