Shares of global spirits group Diageo (LSE: DGE) rose by nearly 5% this morning after the firm’s interim profits beat analysts’ expectations.
As a shareholder, I was keen to take a look at the figures. Should I buy more, or are the shares too expensive to offer much upside at current levels?
A genuine performance
Diageo’s reported operating profit rose by 28% to £2,065m during the six months to 31 December. Sales were 14.5% higher at £6,421m.
These figures were given a big boost by the collapse of the pound after the EU referendum. Excluding currency effects, Diageo’s organic operating profit rose by 4.4% during the last six months. However, that’s still a strong performance, and is double the 2.2% gain expected by analysts.
Ivan Menezes, Diageo’s chief executive, said that the “highlights” of the group’s strong performance during the first half were its US spirits business, and its portfolio of Scotch whisky companies.
Mr Menezes believes that the company is “identifying consumer trends faster”. He confirmed previous guidance for “consistent mid-single-digit” sales growth and a 1% increase in operating margin over the three years to June 2019.
Buy, sell or hold?
I won’t be selling my shares in Diageo after today’s news. But it’s not necessarily obvious whether I should be buying more, or just holding onto the stock I’ve got. Although first-half performance exceeded expectations, Diageo didn’t increase its full-year guidance today.
The shares now trade on a forecast P/E of 21 with a prospective yield of 2.9%. That’s not especially cheap. It’s worth remembering that much of Diageo’s share price growth in recent years has been the result of a rising P/E ratio, not underlying profit growth.
Diageo may continue to outperform the FTSE 100, but I’d prefer to wait for the next market slump before buying. For now, I’d rate the stock as a hold.
A fizzy opportunity?
One alternative to Diageo is Coca-Cola HBC (LSE: CCH). This FTSE 100 firm bottles and distributes Coca-Cola branded drinks throughout most of eastern and western Europe. The firm’s share price slumped in 2014, but has performed strongly since, gaining 68% over the last two years.
The appeal of this business is that it sells some of the world’s best-known brands. Product development is taken care of by the US parent company. All Coca-Cola HBC needs to do is to make its bottling and distribution operations as efficient as possible, and maintain a sensible level of marketing spend.
The market certainly views this as an attractive business with safe, defensive profits. Coca-Cola HBC shares currently trade on 23 times forecast earnings with a prospective dividend yield of 2%.
Are profits rising?
The group’s performance has been pretty flat over the last year. Total group sales fell by 0.3% during the first nine months of last year. However, revenue per case rose by 3.8% during the third quarter, as a result of exchange rate differences and pricing changes.
Analysts expect earnings per share to rise by 4.5% to €0.93 this year, and by 14% to €1.06 per share in 2017. I can see the appeal here, but as with Diageo I’d rather have a bigger margin of safety when buying, so I rate Coca-Cola HBC as a hold.
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Roland Head owns shares of Diageo. The Motley Fool UK has recommended Diageo. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.