Measured over decades, Diageo (LSE: DGE) shares have been a multi-bagger. During the pandemic, off the back of soaring alcohol sales, the stock skyrocketed to 4,000p. But since 2022, its fortunes have swung into reverse and it now faces the most sustained crisis in its history. With the stock trading at levels last seen in 2017, I’m wondering if this makes a great entry point to add the shares to my portfolio.
Q3 results
On the face of it, the latest trading update was promising. Reported net sales were up 2.9% to $4.4bn. Organic net sales were up 5.9%, driven in equal measure by positive price mix and organic volume growth.
However, the company estimated that two-thirds of organic growth (4%) was driven by a pull-forward of imports as North American distributors rushed to replenish inventories ahead of tariffs. The company expects this trend to unwind by the time it reports full-year results in August.
It was a similar story in other key markets, too. Latin America saw organic sales growth of 29%. But a great deal of this was attributable to lapping significant inventory destocking. In other words, it’s extremely difficult to draw any meaningful comparison in terms of whether that market is stabilising. Remember, last year, in the midst of consumer downtrading, the company issued a major profit warning for that region.
Transformation programme
In the midst of a crisis, the company has turned to the obligatory transformation programme. This it has codenamed the ‘Accelerate’ programme. The aim is to create a more agile operating model and to deliver $3bn in free cash flow per year from financial year 2026 (which commences in August).
We will have to wait for details, but like all such programmes the million dollar question is will it work? Debra Crew, the CEO, stated: “We view the near-term industry pressure as largely macro-economic driven, with continued uncertainty impacting both the timing and pace of recovery.”
To me, this is a very vague statement and only partially true. The macro-economic factors she talks about really come down to a cost-of-living crisis caused by elevated inflation. In such an environment, consumers have had no qualms over buying cheaper alternative brands.
As for the effects of tariffs, it estimates an unmitigated impact of $150m per year. This assumes that tariffs remain at 10%. When faced with tariffs before, it pushed through higher prices. Whether it could do so this time remains to be seen.
Longer term
My biggest concern for the long-term growth of the company is the emergence of a number of societal trends. This includes alcohol moderation among the Gen Z cohort and the GLP-1 weight loss drug that reduces alcohol cravings.
At the moment, its just far too early to assess the likely impact of these trends on future sales. However, the company is trying to front-run these emerging trends. This is most evident in the growth of Guiness 0.0%.
Diageo has an enviable portfolio of top brands, which isn’t going to just disappear. A forward price-to-earnings ratio of 17 is well below its long-term average. The risks look more than priced in, and as they say no one calls the bottom on a stock. But I’m still not tempted to buy as I see little evidence that a turnaround is imminent.
