US is ‘the linchpin’ for Diageo

God Bless America. That could have been the theme tune accompanying the announcement of Diageo’s annual results for the year to the end of June.

Two years ago Diageo announced a set of three-year goals, prime among which was organic growth of an average 6% a year. In the past 12 months, however, Diageo slightly missed that target with net sales coming in at 5% ahead. New chief executive Ivan Menezes is, however, confident that the long-term goal will be met, implying a more robust performance in the year that has just started.

But with growth in China slowing due to the air of austerity being promoted by Beijing, problems in South Korea, Turkey and Brazil and the continued depression in Western Europe, the foundation of Diageo’s continued operating profits growth of 8% was Uncle Sam.

Emerging markets now account for 42% of Diageo’s sales, but North America is the prime driver of profits growth. At £3.7bn, the region accounts for a third of all Diageo’s sales but 40% of the operating profit because of buoyant margins not yet achieved elsewhere. In the past year Diageo’s prime “Strategic “ brands enjoyed 4% extra case sales as the economy further recovered, at the same time as prices were increased by between 3% and 9%.

Sales of Johnnie Walker were up 13%, Buchanan’s by 19% and Crown Royal by 17%. What Menezes called a “very strong year” in the region was underpinned by 150 points of gross margin improvement (partly based on rigid cost control) and operating margins 120 basis points ahead. In anybody’s terms, that is a solid result.

Part of that was achieved by an 11% increase on marketing spend, a trend that will increase this autumn. Menezes believes “there is still a lot of growth to go for in America” and he is determined to grab more than his fair share as the biggest player in the US spirits market. Expect a significant push behind Don Julio, Diageo’s premium tequila, in the drive to replace the £300m of sales, largely in America, lost by the ending of the Jose Cuervo distribution deal.

There will also be further product innovation such as Crown Royal Maple, which the most successful launch last year. Globally Menezes reckons that lines launched by Diageo over the past five years (as opposed to acquired brands) are worth £500m in additional sales, equivalent to a new Captain Morgan rum.

Diageo’s other “traditional” market, Western Europe, continues to struggle in overall terms. Net sales last year fell by 11%. But it remains “a £2bn business with 30% margins”, Menezes says. However, those figures mask wide differences. While the troubles of Spain, Italy and Greece are well documented, their importance to Diageo has been diminished. Although significant for brands such as J&B, those three countries now account for just 3% of the group’s sales compared with 10% only a few years ago. That figure also partially reflects the greater penetration of emerging markets.

However, in the more buoyant northern parts of Europe, Diageo achieved double-digit growth last year, especially in Germany, Austria and the Benelux countries, based on the scotch and rum portfolios. While the ordered decline of southern Europe is being managed, northern Europe will get the lion’s share of this year’s marketing budget. “We are not through the worst in the region but we can improve our performance,” he says.

That reflects a theme that Menezes is keen to emphasise. While North America is the linchpin, no new market is worth more than 4% of Diageo’s business (India will soon change that, however). They will not develop at the same rate. Every economy is different and subject to varying pressures, so it is vital to be flexible and adapt to conditions as they occur. The introduction of new licensing laws in Turkey is a case in point. Menezes says it is critical for Diageo to be influential about how they are adopted and to work with the authorities to best effect. But as the leading supplier of spirits in the market, his measure of success is by how much beats his competitors there.

He is also keen to continue and enhance Diageo’s global reputation as a “responsible citizen”, not only offering consumers “great value” but also acute social awareness in how it goes about its business.