Is Diageo plc Dependent On Debt?

Are debt levels at Diageo plc (LON: DGE) becoming unaffordable and detrimental to the company’s future prospects?

| More on:

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than you put in.

Read More

The content of this article is provided for information purposes only and is not intended to be, nor does it constitute, any form of personal advice. Investments in a currency other than sterling are exposed to currency exchange risk. Currency exchange rates are constantly changing, which may affect the value of the investment in sterling terms. You could lose money in sterling even if the stock price rises in the currency of origin. Stocks listed on overseas exchanges may be subject to additional dealing and exchange rate charges, and may have other tax implications, and may not provide the same, or any, regulatory protection as in the UK.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

diageo

2014 has proved to be a disappointing year for shareholders in Diageo (LSE: DGE) (NYSE: DEO.US). Indeed, shares in the global alcoholic beverage company are currently down 6%, while the FTSE 100 is up around 1% (at the time of writing).

The reason for this appears to be Diageo’s exposure to emerging markets, with the company ‘looking east’ for much of its future growth and focusing resources and capital on emerging economies, such as China. Therefore, with the FTSE 100 having had a ‘wobble’ in the last two months concerning the sustainability of the emerging market growth story, it seems understandable that Diageo may have been hit harder than the average listed company.

However, the reason for Diageo’s underperformance could be an aspect of the company itself. Indeed, with high levels of financial gearing, is the market beginning to question the finances of Diageo? In other words, is it dependent on debt?

Excessive debt?

With a debt to equity ratio of 125%, Diageo lives with a very high level of financial gearing. Certainly, there is a benefit to this, in the form of increased returns to shareholders (since being financed by debt means less equity is required, in theory). However, due to the relatively stable revenue stream that Diageo enjoys, debt levels may not be as excessive as they first appear.

That’s because people tend to drink alcohol in the good and bad times, meaning that Diageo’s revenues are very defensive. Therefore, it can afford to accommodate higher amounts of debt than if it were a cyclical company, whose revenue fluctuated depending on economic circumstances, for instance.

In addition, Diageo remains highly profitable and can easily afford its debts. With an interest coverage ratio of 8, Diageo should also be in a comfortable position (with adequate headroom) when interest rates do eventually increase.

Looking ahead

Although Diageo’s exposure to the developing world may have held its shares back of late, it should prove to be highly beneficial in the long run. With a population that is growing in wealth and demanding more luxury goods, Diageo’s stable of high-end brands should prove popular in future. With a comfortable debt position and the potential for impressive growth rates in emerging markets, 2014 could yet prove to be a strong year for Diageo.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Peter does not own shares in Diageo.

More on Investing Articles

Businessman use electronic pen writing rising colorful graph from 2023 to 2024 year of business planning and stock investment growth concept.
Investing Articles

Buying 8,617 Legal & General shares would give me a stunning income of £1,840 a year

Legal & General shares offer one of the highest dividend yields on the entire FTSE 100. Harvey Jones wants to…

Read more »

Man writing 'now' having crossed out 'later', 'tomorrow' and 'next week'
Investing Articles

£25k to invest? Here’s how I’d try to turn that into a second income of £12,578 a year!

If Harvey Jones had a lump sum to invest today he'd go flat out buying top FTSE 100 second income…

Read more »

Union Jack flag in a castle shaped sandcastle on a beautiful beach in brilliant sunshine
Investing Articles

2 lesser-known dividend stocks to consider this summer

Summer is here and global markets could be heading for a period of subdued trading. But our writer thinks there…

Read more »

pensive bearded business man sitting on chair looking out of the window
Investing Articles

Here’s how I’d aim to build a £50K SIPP into a £250K retirement fund

Our writer outlines the approach he would take to try and increase the value of his SIPP multiple times in…

Read more »

Investing Articles

9.4%+ yields! 3 proven FTSE 100 dividend payers I’d buy for my Stocks and Shares ISA

Our writer highlights a trio of FTSE 100 shares with yields close to 10%. He'd happily pop them into his…

Read more »

Mixed-race female couple enjoying themselves on a walk
Investing Articles

Are Raspberry Pi shares a once-in-a-lifetime chance to get rich?

With Raspberry Pi shares surging after a successful IPO, could this UK tech startup offer a long-term wealth creation opportunity…

Read more »

Newspaper and direction sign with investment options
Investing Articles

Huge gains and 9% yields: why now’s an amazing time to be a stock market investor

The stock market’s generating fantastic returns in 2024. Whether you're looking for gains or income, it’s a great time to…

Read more »

Hand of person putting wood cube block with word VALUE on wooden table
Investing Articles

This steady dividend payer looks like one of the best bargain stocks in the FTSE 100

A yield of 4.7% and a consistent dividend record make this FTSE 100 company look like good value in an…

Read more »