Diageo boosted by ‘North American innovation machine’

“God bless America” might have been the underlying theme when Paul Walsh, Diageo’s chief executive, unveiled the results for the second half of last year.

Paul Walsh

He said that the world’s biggest premium alcohol drinks group was “exactly on track” at the half-way point of its three-year medium-term strategy, but also agreed that “the US is recovering a bit quicker than we thought” – the implication is that he might have been marginally behind target had trade in the US not been comparatively buoyant.

North America, which accounts for about one-third of Diageo’s £6 billion-plus sales excluding taxes, generated 30% of the group’s extra revenues in the half year and almost 40% of the profits, underlining its key role in Diageo’s business. What Walsh called “the North American innovation machine” improved its operating margin by more than a percentage point. Vodka sales were 9% ahead and whisky achieved “double-digit growth”.

Walsh was in confident mood, stressing Diageo’s “top line growth and marketing improvements” which generated an additional 9% operating profits in the half year, 9% growth in earnings per share and an extra £125m free cash flow. The interim dividend was raised by 9% – “the third consecutive dividend upgrade since we launched our three-year medium-term guidance” (of average annual organic growth of 6%).

“We are a strong business, getting stronger,“ he said. And Diageo would concentrate on a three-pronged strategy of “improving net sales growth, delivering margin expansion and targeted acquisitions to create access to new growth”.

Diageo has been on a spending spree over the past couple of years, and it is not over yet. Although Walsh walked away from Jose Cuervo – he wanted to own the tequila brand rather than just distribute it – he is on the verge of landing India’s United Spirits in a complicated deal that will give him control for about £1.3 billion.

There have been rumours that the Indian stock market authorities are unhappy with how the takeover is structured, but their doubts are not thought to be insurmountable. Walsh says that he has to “respect the confidentiality of the process” but it is a matter of “when” the deal is consummated not “if”. Indeed, Delhi sources say that the Indian government would be unhappy if any undue obstacles were put in Diageo’s way.

And 2013 could be a year of double success for Diageo, the biggest producer of scotch, in the Subcontinent. For many years Indian duties on imported spirits, especially scotch, have been a bone of contention, but Walsh is cautiously optimistic. “We are closer than ever”, he says about concluding a trade agreement between the EU and India. “It could even come later this year.”

Indeed, Walsh is keen for the EU to conclude more trade agreements round the world. “I want the EU to cut back on restrictive Working Time Directives and other unhelpful regulations,” he says. “We want a cut in the number of staff we have to contend with in Brussels. Asia is much less bureaucratic and we are being outcompeted.”

But while he would like the influence of Brussels reined back, as a free trader he supports Britain’s membership of the EU. He fears that the in/out debate will become a matter of pure politics and obscure the economic facts.

“It is right to give people choice,” he says of the promised referendum, “but business has to articulate why we should stay in.”

Walsh is very clear about where he stands on the controversy about taxation of international companies. Underlining that Diageo is a major collector of taxes for many governments around the world, he said: “Tax is a matter of law. If you have clear laws, then you pay the right tax. If you have ambiguous laws, then change them. Only 7% of our revenues come from the UK. We pay what we should pay and the law tells us to pay.”

Walsh has held Diageo’s helm for almost 13 years and is well aware of the growing expectation that he will step down in 2014 in favour of the recently appointed chief operating officer, Ivan Menezes. Diplomatically, he says that any multinational must have a plan of succession but that no decisions have been taken.

But all the signals suggest that Walsh is entering his final 18 months at Diageo. By summer 2014 the present three-year strategy will be complete and several more pieces of the corporate jigsaw will be in place. Diageo will have control of United Spirits in India and it will have cemented further routes to emerging markets by strategic local takeovers (Walsh has about £2 billion in his back pocket unspent on the abortive Jose Cuervo deal).

On the brand front, Walsh is very bullish about continuing harmony with the Nolet family over the future of the super premium vodka Ketel One. The present compact expires at the end of June, but “both sides are very happy”, he says.

In fact, he sees no significant holes in the spirits portfolio, especially as Don Julio is being ramped up as a premium replacement for Jose Cuervo in the tequila sector.

So it could be “mission accomplished” in 18 months’ time.