Diageo (LSE: DGE) is a stock that has fallen out of favour somewhat with investors. Proof of that can been in the share price of the FTSE 100 beverages giant — which is the same today as it was in May 2019.
Yet the company’s long-term prospects don’t appear to be dimming. Quite the opposite, in fact. So I think there’s an opportunity here for patient investors with a long-term mindset.
A true British export giant
By its own estimates, Diageo accounts for 10% of the UK’s total food and drinks exports. I found that figure surprising until I considered the company’s massive portfolio of world-leading brands.
- Johnnie Walker has long been the world’s best-selling Scotch whisky brand
- Guinness is now the UK’s most popular draft beer
- Smirnoff is the world’s best-selling premium distilled vodka
- Baileys remains the world’s most popular cream liqueur
It owns over 200 brands, with sales in more than 180 countries. This includes a market-leading position in the huge US spirits market, as well as fast-growing businesses in India and China.
The sheer diversity of the company’s offerings gives it a very strong competitive advantage. And the ongoing global growth of Scotch, tequila, gin, and Chinese white spirits more than offsets slowing sales in other segments.
For example, Diageo’s tequila sales grew by 79% in FY21 and 55% in FY22. But if sales in that category significantly weaken this year, then the blow could be softened by the accelerating popularity of premium Scotch in markets like India.
Dividend aristocrat
I think an underappreciated aspect in this investment is the dividend.
Yes, the stock is only yielding 2.4%, but Diageo has increased its payout every year since it was formed in late 1997 via the merger of the Guinness Group and Grand Metropolitan. This makes it a Dividend Aristocrat.
Nearly 60% of the company’s sales now come from either premium or super-premium drinks categories. These products are more profitable, meaning the dividend is now strongly supported by earnings, with cover of just over two times. That’s up from coverage of 1.6 in FY18.
Dividends are never guaranteed, of course, but the payout could be set to grow by more than its 4% multi-year average.
US market slowdown
Today, the US accounts for almost 40% of Diageo’s global sales. But in its most recent H1 results, spirits growth in North America slowed to just 3%. And analysts appear to be laser-focused on whether that slowdown continued into H2.
Diageo is set to announce its FY23 earnings on 1 August. So investors should bear in mind that this issue could send the shares up or down, depending on the numbers.
Either way though, I think it’s important to remember that the company’s net sales value is still 36% larger than it was pre-pandemic. I find that impressive, regardless of a potential softening of the US economy.
Looking forward, the firm estimates that an additional 600m consumers will be of drinking age by 2032. Plus, the continued growth of the global middle class could bring tens of millions more consumers to its premium brands.
The stock has a price-to-earnings (P/E) ratio of 21 today. I don’t think that’s outrageous for such a high-quality company. And if I didn’t already own shares, I’d buy them to hold for the next decade.
