Will Latin America Leave Diageo’s Glass Half Full?

Diageo (NYSE:DEO) is the world leader in alcoholic beverages, with iconic brands such as Johnnie Walker, Smirnoff, Baileys, and Guinness in its portfolio. Between 2009 and 2013, the company saw revenues grow at about 4-5% and profits grow at around 9%, leading the stock value to almost double over the same period. However, things turned around in 2014 for the company, when revenues declined almost 8% against a slower U.S. spirits market, “anti-extravagance” in China, and unfavorable currency movements in other key markets. In general, the company’s performance can broadly be classified into markets that were challenged, markets that are stable, and markets that are growing. In the first half of fiscal 2015, while the challenged markets saw sales declines of close to £94 million (or $143 million), markets that are growing, which essentially comprise  emerging markets, saw sales increases of close to  £87 million (or 132 million). ((Diageo’s (DEO) CEO Ivan Menezes on Q2 2015 Results – Earnings Call Transcript)) Since close to 40% of Diageo’s business comes from emerging markets, the company anticipates these to be instrumental in driving the business in the longer term. While we have discussed the potential present in Africa among the developing markets, this article focuses entirely on what opportunities Latin America presents for the company.

Sales Increases Expected Against Better Reach

After undergoing years of unprecedented volume growth, Diageo in Latin America witnessed a 5.7% fall in 2014, against currency headwinds and weaker economies in oil-exporting countries. In spite of this, we expect the region to hold tremendous potential going forward for many reasons. For one, Diageo has taken a number of steps to reinforce their presence in the region and improve their outreach. For instance, in Brazil, one of their top markets in the region, Diageo added close to 12,000 outlets in the first half of the year. Furthermore, they have initiated a new distribution partnership, which will give them access to close to 10,000 more outlets. ^[1] Given that alcohol purchase is an impulsive buy, Diageo could see further sales increases in the region by improving it’s presence. Furthermore, the acquisition of Ypioca has given Diageo yet another route to bring other brands to consumers, further consolidating their reach. This could go on to be advantageous to pull up sales of Diageo’s international offerings in the region. In spite of a weaker economy, Brazil continues to remain a leader in international spirits and the new routes to consumers could only go on to further strengthen Diageo’s international brand presence here. According to Nielsen data, the most premium parts of all spirit categories have been witnessing growth in Paraguay, Uruguay, and Brazil (PUB), with scotch sales expected to grow by almost 28% over the full fiscal year. ^[2]

Other than Brazil, Diageo has taken a number of steps to ensure success even in other Latin American countries. Late last year, the company took full control of Don Julio in exchange for Bushmills Irish whiskey. Don Julio is well positioned in the tequila category and is the clear market leader in terms of value. Last year, the brands sales increased almost 27% in Diageo’s markets. The alcohol beverage maker expects the brand to go on to strengthen their presence, especially in Mexico, where the brand is currently number 11 in terms of volumes. ^[3] Furthermore, Diageo continued to gain even as a weaker economy in Mexico left consumer sentiments hurt. This was because of the diverse brands that the company has in its portfolio that spans across various price points. Last year, the company gained from higher sales of standard scotch and from campaigns such as ‘Keep Walking Mexico,’ which contributed to higher sales of Johnnie Walker Red. The company has also introduced new brands in the standard segment, which could also contribute to higher sales going forward. This includes the launch of Black & White, which has managed to gain considerable share from competition in the segment. Further, Mexico also presents opportunity in the premium and above-premium categories, due to the growth of a more aware and conscious middle class population. In this respect, brands such as Buchanan’s 12 year old Deluxe, Johnnie Walker Platinum, and Gold Reserve also saw 8-9% increases in sales in the first half of fiscal 2015, and could hold promise even going forward. ((Diageo’s (DEO) CEO Ivan Menezes on Q2 2015 Results – Earnings Call Transcript))

Favorable Economic And Demographic Fundamentals Bode Well For Diageo

Apart from the company’s internal strategies, the region also innately presents economic and demographic advantages that could bode well for alcohol sales. GDP in the region has almost doubled in the past decade leading to the emergence of a strong middle class population, which has expanded by almost 50% over the last 10 years. In its latest working paper, the World Bank anticipates the size of the middle class population to grow another 43% by 2030. ^[4] A growth in the middle class population in the region could lead to higher sales of premium and above-premium spirits for Diageo. According to Euromonitor International, the average age of consumers in Latin America is lower than that of other countries such as in North America and Western Europe. ^[5] Demographic projections by CEPAL suggests that individuals between the ages of 15 and 65 are expected to increase steadily going forward with older individuals expected to overtake younger ones only by 2050. ^[6] We expect the demographic landscape in Latin America to prove advantageous for the sale of premium spirits, with younger individuals developing more sophisticated tastes as a by-product of the development process. Moreover, the Labor Force Participation Rate of women in Latin American countries has increased significantly in the past decade with an addition of almost 70 million women to the work force. ^[7] Increased exposure and changes in social dynamics associated with working, can also be expected to contribute to higher alcohol consumption among women.

Given these factors, we anticipate volumes from the region to increase at 3-4% year-over-year, contributing to revenue increases of about 4% going forward.

Trefis has a $116 price estimate for Diageo, which is slightly above the current market price.

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1. Diageo’s (DEO) CEO Ivan Menezes on Q2 2015 Results – Earnings Call Transcript [↩]
2. Demand rises for premium spirits in Latin America [↩]
3. Diageo Gets Full Control of Don Julio in Swap for Bushmills [↩]
4. The long-awaited rise of the middle class in Latin America is finally happening [↩]
5. Soft Drinks in Latin America: Keeping a Global Bright Spot Bright [↩]
6. Demographic Trends in Latin America [↩]
7. Latin America: 70 Million Additional Women Have Jobs Following Gender Reform [↩]