The coronavirus crisis is dealing a serious blow to the alcoholic beverages industry. To stem the spread of infection, pubs and restaurants have been closed, while global sports tournaments have been postponed or cancelled.
Multiple leading drinks brands
Strong financial track record
Room for growth
Hard short-term hit from coronavirus
No update since February
But, once the world gets through this worrying period, it seems highly likely that the impact of such shutdowns will be temporary. While there will be a significant short-term hit to revenues, earnings and cash flows, this should not belie the long-term promise of drinks behemoth Diageo (DGE) – whose leading brand portfolio, strong financial track record and defensive characteristics leave it well placed to weather the storm over the coming months.
Diageo’s last update on Covid-19 landed on 26 February. At the time, the group focused predominantly on the effects of the outbreak in China and other countries in the Asia Pacific region – noting that it expected the virus to slash organic net sales by £225m-£325m, and operating profits by £140m-£200m. Since then, other governments across the globe have had to bring in far more stringent social-distancing measures – meaning that we should be prepared for the overall hit to performance to be greater.
A good thing is that Diageo’s diversified product range acts as a natural hedge. And the group is a dominant player in each of the categories in which it operates. To the former point, the group sells into more than 180 countries, meaning that it is not overly reliant on any particular market – albeit the US does constitute more than a third of revenues. To the latter point, it boasts two of the world’s five largest spirits brands by value – Johnnie Walker and Smirnoff – and 23 of the world’s top 100. It also owns Guinness, the fourth-largest premium beer brand by value.
In the longer term, the group should continue to benefit from the sustained ‘premiumisation’ of the market, a growing preference for spirits and population growth. On the latter point, 550m new legal-purchase-age consumers are expected to enter the market by 2030. Over the same time frame, 750m more consumers are expected to be able to afford international spirit brands.
Leading up to the current period of disruption, the group had reported positive, improving numbers – a pattern that we expect to resume after the corona shock. For the three years to June 2019, Diageo’s net sales achieved a compound annual growth rate (CAGR) of 7 per cent, reaching £12.9bn. Operating profits enjoyed a CAGR of 12 per cent, reaching £4bn.
For the six months to December, net sales rose by 4.2 per cent to £2.4bn. Organic operating profits edged up by 4.6 per cent – helped by cost savings and a good price-to-mix ratio. Meanwhile, Diageo lifted its half-year dividend by 5 per cent to 27.41p.
The group aims for earnings per share to cover dividend payments by 1.8 to 2.2 times. Cover for FY2019 was 1.9 times – prior to the crisis, the group had planned to make mid-single-digit increases thenceforth, until it was more comfortably within its targeted range. It is feasible that the group could cut its payouts, though.
|ORD PRICE:||2,512.5p||MARKET VALUE:||£59bn|
|FORWARD DIVIDEND YIELD:||3.1%||FORWARD PE RATIO:||20|
|NET ASSET VALUE:||319p*||NET DEBT:||140%|
|Year to 30 Jun||Turnover (£bn)||Pre-tax profit (£bn)**||Earnings per share (p)**||Dividend per share (p)|
|Normal market size:||500|
|*Includes intangible assets of £12bn, or 511p a share|
|**Berenberg forecasts, adjusted PTP and EPS figures|