How Will Diageo Ensure Growth From Africa Despite Macroeconomic Uncertainty?

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International liquor companies are heavily expanding in Africa as the continent presents a lucrative opportunity for growth, and represents a vast market that is largely untapped. One such company is Diageo (NYSE:DEO), which currently gets roughly 13% of its sales from the region. To better compete with the large illicit liquor industry in the continent, the company has resorted to selling low-priced products. Besides this, the company has also focused on reducing its expenditure, as part of its productivity program, in order to ensure a focus on value brands does not impact its profitability. There are a number of factors we feel that will ensure significant growth for Diageo in the region, some of which have been highlighted below:

1. Attractive Opportunity: Despite macroeconomic pressure in the short term, the medium and long term opportunity in the region is massive given the fact that it has been forecast to be the fastest growing total beverage alcohol region over 2016-2021. This is expected to be as a result of an increase in the LPA (Legal Purchase Age) population, higher incomes, current low per capita consumption, and consumers moving toward formal, safer drinks from the informal sector. Beer forms the largest portion of the total alcohol consumed, at almost 65%, and capturing this segment is essential as Africa is expected to be the fastest growing beer region in the world. Spirits, meanwhile, form 25% of the TBA (Total Beverage Alcohol) consumption, and present another key growth opportunity, as mainstream spirits growth is projected to outpace that of beer.

2. Value Brands: Given the low level of affordability, Diageo has ensured its brands are available at various price points, in both beer and spirits. This will enable Diageo to capture those consumers that are unable to afford its core products, as well as those wishing to trade up. Furthermore, such a strategy is beneficial in times of macroeconomic uncertainty, such as the case currently, when relying on middle class growth may not be suitable. In Beer, besides its premium brand Guinness, and other mainstream brands, the company has also introduced value beers such as Senator and Satzenbrau. While this strategy may pressure the margins in the short term, the productivity measures undertaken (detailed below) should help to overcome this.

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3. Focus On Spirits: The contribution of mainstream spirits to net sales in the region has increased from less than 11% in FY 2016 (year ended June 2016)  to over 14% in the first half of FY 2018. Diageo’s strategy is to offer “Aspirational, Affordable, and Accessible products” to consumers. In the case of the first, Diageo has launched locally manufactured Smirnoff X1, McDowell’s No. 1, and a new flavor of Gordon’s Gin in Nigeria. It is also premiumizing local drinks, such as in the bitters category with Orijin Bitters. Accessibility is done by providing brands across different price points, categories, and formats. When it comes to Affordable, the company has brands such as Black & White, which is an entry point in Scotch.

4. Productivity Program: Diageo has focused on increasing the efficiency of its breweries, right-sizing its brewery workforce, improving the input procurement process, and delivering logistics efficiencies. These efforts resulted in its organic COGS/eu (equivalent units) growing at less than half the pace of inflation in both FY 2017 and the first half of FY 2018. Moreover, despite the inflationary headwinds and a negative mix, the company was able to expand its margins by 60 basis points. The liquor giant is also benefiting from marketing efficiencies and has implemented Zero Based Budgeting (ZBB), which has resulted in the decline of overheads as a percent of sales.

We have a price estimate of $159 for Diageo, which is higher than the current market price. The charts have been made using our new, interactive platform. You can click here for our interactive dashboard to modify the various drivers, to analyze their impact on Diageo’s revenues, earnings, and price estimate.

See Our Complete Analysis For Diageo Here

 

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