Market Cap (USD Mil) 80,862
52-Week High (USD) 134.08
52-Week Low (USD) 111.87
52-Week Total Return % 10.7
YTD Total Return % -1.8
Last Fiscal Year End 30 Jun 2013
5-Yr Forward Revenue CAGR % 4.7
5-Yr Forward EPS CAGR % 6.0
Price/Fair Value 1.01
2012 2013
2014(E) 2015(E)Price/Earnings 16.7 16.8 18.3 17.7
EV/EBITDA 13.8 14.6 13.6 12.6
EV/EBIT 15.4 16.2 15.2 14.1
Free Cash Flow Yield % 3.6 2.5 5.1 5.0
Dividend Yield % 2.3 2.2 2.9 2.9
2012 2013
2014(E) 2015(E)Revenue 10,762 11,433 11,467 12,066
Revenue YoY % 8.3 6.2 0.3 5.2
EBIT 3,411 3,729 3,742 4,032
EBIT YoY % 11.5 9.3 0.3 7.8
Net Income, Adjusted 2,350 2,612 2,652 2,685
Net Income YoY % 12.8 11.1 1.5 1.2
Diluted EPS 6.18 6.85 7.02 7.26
Diluted EPS YoY % 12.7 10.8 2.5 3.5
Free Cash Flow 397 1,001 2,444 2,700
Free Cash Flow YoY % -79.1 151.9 144.2 10.5
Slowdown in Emerging Markets for Diageo, but Wide Moat Intact
See Page 2 for the full Analyst Note from 17 Apr 2014
R.J. Hottovy, CFA Director
rj.hottovy@morningstar.com +1 (312) 244-7060
Research as of 17 Apr 2014 Estimates as of 30 Jan 2014 Pricing data through 03 Jun 2014 Rating updated as of 03 Jun 2014
Investment Thesis 30 Jan 2014
Diageo has built an enviable business empire. We believe that the firm's unmatched portfolio of spirits, combined with its vast distribution network including thousands of dedicated sales people in the United States, would be very difficult and expensive for any competitor to duplicate and results in a wide moat. Longer term, the company is making investments to grow its book of business in emerging markets such as Africa, India, and China. We expect these seeds of growth will benefit investors in the long term as Diageo gains additional distribution scale in these fast-growing regions, and as the company continues to shift additional global consumers into more premium (and higher-margin) brands. In our opinion, these competitive advantages and growth prospects justify an earnings valuation above the market average.
Diageo is the world's largest maker of spirits, and the scale and scope of its portfolio is unmatched. Brands such as Johnnie Walker, Smirnoff, Bailey's Irish Cream, and Crown Royal are No. 1 in the world in their respective categories. Additionally, Diageo's portfolio includes other top brands such as Guinness, Tanqueray, and Captain Morgan.
The company's position in North America is particularly strong, where it has developed a sustainable competitive advantage in its distribution network. Diageo, where allowed, has consolidated its distribution base to just one exclusive agent per state. Currently, these distributor relationships, which cover 80% of Diageo's U.S.
volume, have more than 2,800 dedicated salespeople focused on Diageo's brands. This army of exclusive salespeople is highly profitable, resulting in operating margins in North America of nearly 40%, well above the firm's consolidated margin in the high-20s, and higher than most of its competitors.
Although Diageo spent a decade spinning off noncore operating business in order to focus on the spirits industry, we note that Diageo's beer portfolio (including Guinness) is also important to the company, as its beer brands can serve as a gateway to spirits.
This is particularly notable in driving the company's growth aspirations in Africa.
The product of a merger between Grand Metropolitan and Guinness in 1997, Diageo is the world's leading producer of branded premium spirits. It also produces and markets beer and wine. Brands include Johnnie Walker scotch, Crown Royal Canadian whiskey, Smirnoff vodka, Captain Morgan rum, Bailey's Irish Cream, and Guinness stout. Diageo also owns 34% of premium champagne and cognac maker Moet Hennessy, a subsidiary of French luxury-goods maker LVMH Moet Hennessy-Louis Vuitton SA.
Profile Vital Statistics
Valuation Summary and Forecasts
Financial Summary and Forecasts
The primary analyst covering this company does not own its stock.
Currency amounts expressed with "$" are in U.S. dollars (USD) unless otherwise denoted.
Historical/forecast data sources are Morningstar Estimates and may reflect adjustments.
(GBP Mil)
Contents
Investment Thesis Morningstar Analysis
Analyst Note
Valuation, Growth and Profitability Scenario Analysis
Economic Moat Moat Trend Bulls Say/Bears Say Credit Analysis
Financial Health Capital Structure Enterprise Risk Management & Ownership Analyst Note Archive Additional Information Morningstar Analyst Forecasts Comparable Company Analysis Methodology for Valuing Companies
Fiscal Year:
Fiscal Year:
1
2 2 2 2 3 4
5 5 5 7 8 - 9 13 15
Morningstar Analysis
Slowdown in Emerging Markets for Diageo, but Wide Moat Intact 17 Apr 2014
Diageo reported a nine-month sales number that reflected the slowdown in emerging markets, and the stock was trading down around 4% Thursday morning. However, we regard most of the current challenges as cyclical, and we do not intend to change our GBX 1,950 fair value estimate or our wide moat rating.
Net sales for the three quarters to March 31 grew just 0.3%, exactly in line with our forecast for the full year. Notably, the Asia segment declined a staggering 19% in the third quarter, primarily as a result of the crackdown on gift-giving in China. We expect white spirit sales to be reset at a lower level, and while this is damaging to Diageo's scale and cost advantages, its product portfolio and geographic footprint are so broad that we think its wide moat is firmly intact. The slowing emerging-markets macro picture also had an effect on sales in Asia, although India delivered double-digit growth in the third quarter. Diageo's tender offer for United Spirits comes at a good time, as spirits are growing fast in the country and Indian whiskey is experiencing a resurgence.
Encouragingly, sales in Western Europe turned positive in the third quarter (up 1.2%) and are down just 0.4% year to date. As macro visibility improves in Europe, we expect Diageo to leverage its wide economic moat by raising prices and delivering steady low-single-digit growth in Europe in the long term.
Valuation, Growth and Profitability 30 Jan 2014 Following the company's first-half results we are raising our fair value estimate for Diageo's U.S.-listed ADRs to $128 from $125, primarily because of the strengthening British pound. Our fair value estimate values the company at an implied 18.2 times its fiscal 2014 earnings, 13.5 times EV/EBITDA, and 5% free cash flow yield. We anticipate the
company will earn GBX 107 per share ($7.05 per U.S.-listed ADS) in fiscal 2014, and during the next five years we expect Diageo to organically grow revenue by about 5% per year and earnings per share by roughly 6% per year. We do not include acquisitions, which could change our fair value estimate depending on the timing, size, and price paid for such deals.
Scenario Analysis
Volume and pricing are the key drivers of our valuation, and both can be significantly affected by the macroeconomic environment. In our bull-case scenario, we factor in robust emerging-market growth, which helps to drive more premium spirit sales. Additionally, the mature markets of Europe and North America avoid another recession, allowing spirit makers to drive through price increases beyond inflationary levels. These trends could help drive operating margins about 200 basis points higher than our base scenario to 30% and average annual revenue growth of 7%, and result in a bull-case fair value estimate of $157 per U.S.-listed ADS.
On the other hand, Diageo's U.S.-listed ADSes are valued at $103 if North America and Western Europe enter into another recession and if Diageo's emerging markets experience lower-than-expected growth. In this downside scenario, consumers decrease their tendency to trade up to more premium spirits and get more cautious in their spending. In this scenario, we model top-line growth of just 4% and operating margins of around 28.5%.
Economic Moat
Diageo has built a wide economic moat thanks to its
unmatched distribution scale, bevy of strong brands, and
impressive distribution network in the U.S.--the most
profitable spirits market in the world. These competitive
advantages would be outrageously difficult for a new
entrant to duplicate. Despite the goodwill assumed during
a throng of acquisitions, such as Seagram in 2002, the spirits
brands of Allied Domecq in 2005, and Mey Icki in 2011, we forecast Diageo to generate returns on invested capital in the mid- to high teens for the next decade--well in excess of our 8% estimate for the firm's cost of capital--supporting our take that Diageo maintains an economic moat.
Moat Trend
We believe that Diageo's moat trend is stable. Although the
European debt crisis has cooled sales growth in Southern
Europe, the company's market share remains stable, and
the firm continues to generate strong cash flows. Diageo is
able to maintain its wide economic moat because of its
entrenched distribution system in the U.S. and its strong
collection of brands.
Bulls Say/Bears Say
Bulls Say Bears Say
3 Diageo is the word's largest maker of spirits, with eight of the world's top 25 premium spirits brands and a distribution network that spans 180 countries.
3 The firm plans to rapidly grow in emerging markets, expanding its mix of revenues resulting from these geographies to about one half by 2015, up from one- third in 2011.
3 Across the U.S., Diageo's distributors have more than 2,800 dedicated sales people focused solely on the company's products. This sizable support base has contributed to above-average operating margins in this highly profitable region.
3 Diageo's premium positioning could make near-term top-line growth more difficult if economic weakness results in soft consumer spending.
3 Because alcohol products are highly regulated and taxed, governments may take actions that either increase Diageo's costs or limit its business activities.
3 An economic slowdown across Southern Europe could
result in lower volumes and profits from that region.
2014(E) 2015(E) 2016(E) 2017(E) 2018(E)
Cash and Equivalents (beginning of period) 1,772 1,308 1,187 1,065 941
Adjusted Available Cash Flow 1,089 1,330 1,496 1,638 1,756
Total Cash Available before Debt Service 2,861 2,638 2,683 2,703 2,697
Principal Payments -2,436 -775 -372 -600 -600
Interest Payments -406 -406 -406 -406 -449
Other Cash Obligations and Commitments — — — — —
Total Cash Obligations and Commitments -2,842 -1,181 -778 -1,006 -1,049
GBP Millions
% of Commitments
Beginning Cash Balance 1,772 25.9
Sum of 5-Year Adjusted Free Cash Flow 7,309 106.6
Sum of Cash and 5-Year Cash Generation 9,081 132.5
Revolver Availability — —
Asset Adjusted Borrowings (Repayment) — —
Sum of Cash, 5-Year Cash Generation, Revolver and Adjustments 9,081 132.5
Sum of 5-Year Cash Commitments -6,856 —
DEO Sector Universe
Business Risk 3 4.1 5.0
Cash Flow Cushion 6 6.7 6.1
Solvency Score 4 4.9 4.8
Distance to Default 3 2.9 3.8
Credit Rating A- A- BBB+
Five Year Adjusted Cash Flow Forecast (GBP Mil)
Credit Analysis
Cumulative Annual Cash Flow Cushion
Cash Flow Cushion Possible Liquidity Need
Adjusted Cash Flow Summary
Credit Rating Pillars Peer Group Comparison
Source: Morningstar Estimates
Note: Scoring is on a scale 1-10, 1 being Best, 10 being Worst
Financial Health & Capital Structure
Diageo is financially healthy. At the end of fiscal 2013, net debt was GBP 8.9 billion and net debt/EBITDA was a respectable 2.2 times. Diageo is capable of turning roughly 20% of its revenue into free cash flow; some of that cash flow can be used for either reducing its outstanding debt or closing the funding gap in its pension plans. Our credit rating for the firm is A-, and in the unlikely event of a liquidity crisis, Diageo could suspend share repurchases and cut its dividend.
Although Diageo ended fiscal 2013 with a very manageable amount of debt, we note that the company could meaningfully increase its leverage were it to acquire another large spirits company (such as Beam). Although net debt/EBITDA was 2.2 times in fiscal 2013, we expect that (excluding any acquisitions) ratio could drop to 1.7 times by 2018. We forecast EBITDA to cover interest an average of more than 10 times during our 10-year forecast period.
Diageo's debt maturities are nicely spaced out over the next five years, and we expect the company to comfortably manage to refinance or pay off its debt maturities.
Enterprise Risk
Spirits companies are subject to heavy regulation and taxation. Governments around the world may enact policies that place restrictions on Diageo's business activities or increase liquor taxes, resulting in a demand headwind.
Recently, the Chinese government's crackdown on
extravagant gifts has led to drastic drops in demand and
price in the ultra-high-end baijiu segment. Additionally, as
a result of operating in 180 countries, foreign exchange rate
fluctuations can cause large swings in Diageo's financial
results. Furthermore, the company's acquisition strategy is
inherently risky--the firm could destroy shareholder value if
it overpays for acquisitions. Also, most of Diageo's maturing
inventory is stored in Scotland. If this maturing inventory
suffers a catastrophic loss due to contamination, fire, or
Credit Analysis
other natural disaster, Diageo may not be able to satisfy
consumer demand, and insurance may not fully cover the
replacement value of the lost inventory.
Name Position Shares Held Report Date* InsiderActivity MR. PAUL STEPHEN
WALSH Director 784,829 19 Sep 2013 —
IVAN M. MENEZES Chief Executive Officer,Director 634,809 01 May 2014 — DR. FRANZ BERNARD
HUMER Director 52,757 12 May 2014 —
BETSY D HOLDEN Director 17,400 13 Aug 2013 —
PHILIP G. SCOTT Director 10,000 13 Aug 2013 —
MR. HOWARD TODD
STITZER Director 8,319 19 Sep 2013 —
LAURENCE DANON Director 5,000 13 Aug 2013 —
MS. PEGGY BRUZELIUS Director 5,000 13 Aug 2013 —
Top Owners % of Shares
Held % of Fund Assets Change
(k) Portfolio Date
Vanguard Windsor™ II Fund 0.84 1.35 — 31 Mar 2014
Harris Assoc. Equity & Income Strategy 0.62 2.36 759 31 Mar 2014
Oakmark Equity and Income Fund 0.62 2.36 759 31 Mar 2014
Oakmark Fund 0.31 1.83 1,950 31 Mar 2014
BBH Core Select Fund 0.20 2.62 — 31 May 2014
Concentrated Holders
BNMEURV 0.01 6.23 7 30 Apr 2014
WHV International Equity Fund 0.02 4.77 — 31 Dec 2013
American Growth Fund Series Two Fund — 4.21 — 30 Apr 2014
Madison NorthRoad International Fund — 3.88 — 30 Apr 2014
Platinum Global Managed Fund — 3.72 — 30 Apr 2014
Top 5 Buyers % of Shares
Held % of Fund Assets
Shares Bought/
Sold (k) Portfolio Date
Harris Associates L.P. 1.06 1.49 2,778 31 Mar 2014
Wellington Management Company, LLP 0.92 0.20 1,882 31 Mar 2014
Brown Brothers Harriman & Co 0.72 2.39 467 31 Mar 2014
HS Management Partners, LLC 0.15 5.12 253 31 Mar 2014
Mawer Investment Management Ltd. 0.09 1.05 251 31 Mar 2014
Top 5 Sellers
Metropolitan West Capital Management LLC 0.12 0.78 -449 31 Mar 2014
Davis Selected Advisers 0.21 0.46 -308 31 Mar 2014
WHV Investment Management 0.32 3.65 -244 31 Mar 2014
Howe & Rusling Inc 0.01 2.25 -198 31 Mar 2014
Sit Investment Associates, Inc. 0.03 0.43 -118 31 Mar 2014
Management 30 Jan 2014
Management & Ownership
Management Activity
Fund Ownership
Institutional Transactions
*Represents the date on which the owner’s name, position, and common shares held were reported by the holder or issuer.
We believe that Diageo is well managed and hold its
management team in high regard. Diageo's acquisition of
Mey Icki at less than 10 times EV/EBITDA shows Diageo's
disciplined approach to acquisitions. Additionally,
management's willingness to walk away from the Cuervo
deal shows that it is an Exemplary steward of shareholder
capital and consistently seeks to generate excess economic
returns. Diageo's management appears to be adept at
allocating capital for both internal growth projects, as well
as acquisitions and joint ventures.
Analyst Notes
Diageo's First-Half Results Disappointing, but Global Scale and Strong Brands Fortify Its Moat 30 Jan 2014 Dismal emerging-market performance and falling volumes throughout most of Diageo's markets were meaningful headwinds to Diageo's first-half financial results. However, despite an organic volume decline of around 3%, Diageo's strong brands were bolstered by 4 points of price/mix helping increase sales in the period by 1.8%. Overall, Diageo's adjusted EPS grew 4% to 62.6 pence. As we update our valuation models for Diageo to account for near-term challenges in emerging markets, we are slightly lowering our fair value estimate for Diageo's shares that trade in London to GBX 1,950, and also updating our fair value estimate for Diageo's U.S.-based shares to $128 based upon today's exchange rates. Our valuation implies a fiscal 2014 P/E ratio of around 18 times, and given that the market price of the company's shares are priced at around 17 times earnings, we view the shares as reasonably priced.
In China, the government crackdown on extravagant gifts and entertaining led to a 66% decline in Diageo's baijiu sales. Baijiu volumes were down 1%, so most of the sales decline came from drastic price cuts. While we believe that for the next several years, ultra-high-end spirit sales in China (less than $100 a bottle) will stagnate, longer term we believe that Diageo has plenty of growth opportunity for expanding their Scotch and Rum sales by supplying the market with a more affordable spirit.
The Nigerian beer market fell at mid-single-digit pace as high inflation led consumers to flock to value priced beers instead of Diageo's Guinness and Harp brands. Overall Diageo's sales in Nigeria fell 10% as volumes plunged 13%.
Diageo's beer sales in East Africa were also down as an excise tax increase in October led to a 67% price increase in the company's Senator keg brand, likely forcing many drinkers back into the informal alcohol market. Longer term, we believe that African drinkers will gradually migrate from
homemade booze and start drinking more Diageo and SABMiller drinks.
In an effort to better structure the organization for future
growth, CEO Ivan Menezes laid out a plan to de-layer the
organization and to simplify several processes. Overall, this
reorganization is expected to deliver GBP 200 million of cost
savings by fiscal 2017. Additionally, the company remains
focused on strengthening and accelerating the growth of
Diageo's premium core brands. By focusing on its higher-
margin reserve brands, we believe that Diageo can
successfully premiumize much of the global spirits
marketplace over the coming decade. As a result of this
trend, we believe that over the next five years, Diageo's
operating margins will climb more than 200 basis points to
more than 34%.
Growth (% YoY)
3-Year
Hist. CAGR 2011 2012 2013
2014 20155-Year Proj. CAGR
Revenue 5.3 1.6 8.3 6.2 0.3 5.2 4.7
EBIT 8.8 5.8 11.5 9.3 0.3 7.8 5.6
EBITDA 8.2 4.5 12.0 8.1 1.7 7.5 6.0
Net Income 13.4 16.4 12.8 11.1 1.5 1.2 3.9
Diluted EPS 13.2 16.1 12.7 10.8 2.5 3.5 6.0
Earnings Before Interest, after Tax 8.3 11.9 10.3 3.0 23.8 2.4 8.3
Free Cash Flow -22.1 -10.2 -79.1 151.9 144.2 10.5 27.5
Profitability
3-Year
Hist. Avg 2011 2012 2013
2014 20155-Year Proj. Avg
Operating Margin % 31.7 30.8 31.7 32.6 32.6 33.4 33.6
EBITDA Margin % 35.3 34.3 35.5 36.1 36.6 37.4 37.8
Net Margin % 21.9 21.0 21.8 22.9 23.1 22.3 22.3
Free Cash Flow Margin % 10.5 19.1 3.7 8.8 21.3 22.4 22.7
ROIC % 14.5 14.9 15.2 13.4 16.6 16.7 17.7
Adjusted ROIC % 14.5 14.9 15.2 13.4 16.9 17.1 18.1
Return on Assets % 10.5 10.6 10.3 10.5 10.1 10.3 10.9
Return on Equity % 41.4 44.9 40.0 39.4 35.8 36.4 38.2
Leverage
3-Year
Hist. Avg 2011 2012 2013
2014 20155-Year Proj. Avg
Debt/Capital 0.61 0.62 0.62 0.60 0.60 0.59 0.59
Total Debt/EBITDA 2.49 2.47 2.41 2.59 2.54 2.37 2.21
EBITDA/Interest Expense 9.87 9.25 10.01 10.36 10.34 11.12 11.74
2012 2013
2014(E) 2015(E)Price/Fair Value 1.13 1.05 — —
Price/Earnings 16.7 16.8 18.3 17.7
EV/EBITDA 13.8 14.6 13.6 12.6
EV/EBIT 15.4 16.2 15.2 14.1
Free Cash Flow Yield % 3.6 2.5 5.1 5.0
Dividend Yield % 2.3 2.2 2.9 2.9
Cost of Equity % 10.0
Pre-Tax Cost of Debt % 4.5
Weighted Average Cost of Capital % 8.0
Long-Run Tax Rate % 23.0
Stage II EBI Growth Rate % 4.0
Stage II Investment Rate % 16.0
Perpetuity Year 20
GBP Mil Firm Value (%) Per Share
Value
Present Value Stage I 22,134 39.7 9.04
Present Value Stage II 14,712 26.4 6.01
Present Value Stage III 18,972 34.0 7.75
Total Firm Value 55,818 100.0 22.80
Cash and Equivalents 1,837 — 0.75
Debt -10,686 — -4.37
Preferred Stock — — —
Other Adjustments -1,091 — -0.45
Equity Value 45,879 — 18.74
Projected Diluted Shares 2,448
Fair Value per Share —
Morningstar Analyst Forecasts
Forecast Fiscal Year Ends in June
Financial Summary and Forecasts
Valuation Summary and Forecasts
Key Valuation Drivers
Discounted Cash Flow Valuation
Additional estimates and scenarios available for download at http://select.morningstar.com.
The data in the table above represent base-case forecasts in the company’s reporting currency as of the beginning of the current year. Our fair value estimate may differ from the equity value per share shown above due to our time value of money adjustment and in cases where probability-weighted scenario analysis is performed.
(USD)
2011 2012 2013
2014 2015Revenue 9,936 10,762 11,433 11,467 12,066
Cost of Goods Sold 4,010 4,259 4,470 4,587 4,827
Gross Profit 5,926 6,503 6,963 6,880 7,240
Selling, General & Administrative Expenses 1,538 1,691 1,787 1,823 1,919
Other Operating Expense (Income) 1,504 1,614 1,646 1,545 1,538
Income from Equity Investments -176 -213 -199 -230 -249
Depreciation & Amortization (if reported separately) — — — — —
Operating Income (ex charges) 3,060 3,411 3,729 3,742 4,032
Restructuring & Other Cash Charges 289 40 99 80 80
Impairment Charges (if reported separately) — — — — —
Other Non-Cash (Income)/Charges — — — — —
Operating Income (incl charges) 2,771 3,371 3,630 3,662 3,952
Interest Expense 369 382 399 406 406
Interest Income 134 345 -108 -113 -119
Pre-Tax Income 2,536 3,334 3,123 3,142 3,427
Income Tax Expense 343 1,038 529 490 685
Other After-Tax Cash Gains (Losses) — — — — —
Other After-Tax Non-Cash Gains (Losses) — — — — —
(Minority Interest) -117 -130 -109 -120 -121
(Preferred Dividends) — — — — —
Net Income 2,076 2,166 2,485 2,532 2,621
Weighted Average Diluted Shares Outstanding 2,493 2,495 2,502 2,479 2,424
Diluted Earnings Per Share 0.83 0.87 0.99 1.02 1.08
Adjusted Net Income 2,084 2,350 2,612 2,652 2,685
Diluted Earnings Per Share (Adjusted) 0.84 0.94 1.04 1.07 1.11
Dividends Per Common Share 2.56 2.72 2.95 3.65 3.78
EBITDA 3,123 3,782 4,033 4,120 4,435
Adjusted EBITDA 3,412 3,822 4,132 4,200 4,515
Morningstar Analyst Forecasts
Income Statement (GBP Mil)
Fiscal Year Ends in June Forecast
2011 2012 2013
2014 2015Cash and Equivalents 1,584 1,076 1,772 1,308 1,187
Investments 89 42 65 65 65
Accounts Receivable 1,977 2,103 2,484 2,491 2,622
Inventory 3,473 3,955 4,222 4,332 4,559
Deferred Tax Assets (Current) — — — — —
Other Short Term Assets 38 77 51 51 51
Current Assets 7,161 7,253 8,594 8,248 8,483
Net Property Plant, and Equipment 2,552 2,972 3,468 3,617 3,774
Goodwill — — — 344 344
Other Intangibles 6,545 8,821 9,048 9,048 9,048
Deferred Tax Assets (Long-Term) 516 329 243 243 243
Other Long-Term Operating Assets 2,638 2,448 3,019 3,019 3,019
Long-Term Non-Operating Assets 365 527 705 705 705
Total Assets 19,777 22,350 25,077 25,224 25,616
Accounts Payable 2,838 2,997 3,230 3,314 3,488
Short-Term Debt 1,537 1,343 1,980 1,980 1,980
Deferred Tax Liabilities (Current) 381 317 225 225 225
Other Short-Term Liabilities 159 127 109 109 109
Current Liabilities 4,915 4,784 5,544 5,628 5,802
Long-Term Debt 6,895 7,865 8,706 8,706 8,706
Deferred Tax Liabilities (Long-Term) 777 1,424 1,482 1,482 1,482
Other Long-Term Operating Liabilities 307 359 374 374 374
Long-Term Non-Operating Liabilities 898 1,107 864 864 864
Total Liabilities 13,792 15,539 16,970 17,054 17,228
Preferred Stock — — — — —
Common Stock 5,440 5,354 5,295 5,295 5,295
Additional Paid-in Capital — — — — —
Retained Earnings (Deficit) -195 234 1,741 2,894 4,119
(Treasury Stock) — — — -1,091 -2,096
Other Equity — — — — —
Shareholder's Equity 5,245 5,588 7,036 7,098 7,318
Minority Interest 740 1,223 1,071 1,071 1,071
Total Equity 5,985 6,811 8,107 8,169 8,389
Morningstar Analyst Forecasts
Balance Sheet (GBP Mil)
Fiscal Year Ends in June Forecast
2011 2012 2013
2014 2015Net Income 2,017 2,072 2,594 2,652 2,742
Depreciation 352 411 403 459 483
Amortization — — — — —
Stock-Based Compensation — — — — —
Impairment of Goodwill — — — — —
Impairment of Other Intangibles — — — — —
Deferred Taxes — — — — —
Other Non-Cash Adjustments -166 139 -507 — —
(Increase) Decrease in Accounts Receivable 62 -218 -360 -7 -130
(Increase) Decrease in Inventory -204 -338 -266 -110 -227
Change in Other Short-Term Assets — — — — —
Increase (Decrease) in Accounts Payable 30 27 73 84 173
Change in Other Short-Term Liabilities — — — — —
Cash From Operations 2,091 2,093 1,937 3,077 3,041
(Capital Expenditures) -419 -484 -643 -608 -640
Net (Acquisitions), Asset Sales, and Disposals -35 -1,331 -605 -344 —
Net Sales (Purchases) of Investments — — — — —
Other Investing Cash Flows — — — — —
Cash From Investing -454 -1,815 -1,248 -952 -640
Common Stock Issuance (or Repurchase) -8 1 -11 -1,091 -1,005
Common Stock (Dividends) -973 -1,036 -1,125 -1,379 -1,396
Short-Term Debt Issuance (or Retirement) — — — — —
Long-Term Debt Issuance (or Retirement) -414 512 1,234 — —
Other Financing Cash Flows — -262 -311 -120 -121
Cash From Financing -1,395 -785 -213 -2,590 -2,522
Exchange Rates, Discontinued Ops, etc. (net) -68 -27 36 — —
Net Change in Cash 174 -534 512 -464 -121
Morningstar Analyst Forecasts
Cash Flow (GBP Mil)
Fiscal Year Ends in June Forecast
Company/Ticker Price/Fair
Value 2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)Pernod Ricard NV RI FRA 1.07 18.4 19.0 16.2 12.2 12.6 11.4 28.7 18.3 22.7 2.0 2.2 2.0 2.6 2.8 2.6
Brown-Forman Corp BF.B USA 1.39 26.0 31.2 28.7 16.7 19.7 18.3 34.2 37.5 33.7 9.3 10.4 9.8 4.0 4.9 4.6
Constellation Brands Inc STZ USA 1.29 19.7 — 21.8 24.7 — 13.8 31.4 — 21.0 5.4 — 2.9 5.5 — 2.7
Average 21.4 25.1 22.2 17.9 16.2 14.5 31.4 27.9 25.8 5.6 6.3 4.9 4.0 3.9 3.3
Diageo PLC DEO US 1.01 16.8 18.3 17.7 14.6 13.6 12.6 40.3 19.5 20.1 7.4 6.8 6.6 4.6 4.2 4.0
Company/Ticker Total Assets
(Mil) 2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)Pernod Ricard NV RI FRA — EUR 12.8 8.4 9.1 17.4 11.4 12.3 10.5 11.1 12.5 4.2 4.4 5.0 1.9 1.9 2.2
Brown-Forman Corp BF.B USA — USD 22.5 20.7 21.8 28.7 25.7 26.8 32.0 35.4 34.8 16.6 16.6 17.1 7.1 1.2 1.3
Constellation Brands Inc STZ USA — USD 10.9 6.5 9.5 20.5 17.8 27.2 14.5 50.6 14.7 5.4 18.1 5.4 — — —
Average 15.4 11.9 13.5 22.2 18.3 22.1 19.0 32.4 20.7 8.7 13.0 9.2 4.5 1.6 1.8
Diageo PLC DEO US — GBP 13.4 16.6 16.7 13.4 16.9 17.1 39.4 35.8 36.4 10.5 10.1 10.3 2.2 2.9 2.9
Company/Ticker Revenue
(Mil) 2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)Pernod Ricard NV RI FRA 8,575 EUR 4.4 -3.3 8.4 5.5 -0.8 10.9 2.3 1.7 17.3 -10.4 36.6 -15.9 5.8 6.3 17.3
Brown-Forman Corp BF.B USA 3,784 USD 4.7 6.2 6.7 13.9 7.3 8.2 14.0 9.9 8.6 -1.5 19.8 11.0 456.5 -77.1 8.6
Constellation Brands Inc STZ USA 2,796 USD 5.3 76.3 22.2 2.9 51.5 22.7 -3.7 41.0 21.8 -33.6 -896.9 -108.7 — — —
Average 4.8 26.4 12.4 7.4 19.3 13.9 4.2 17.5 15.9 -15.2 -280.2 -37.9 231.2 -35.4 13.0
Diageo PLC DEO US 11,433 GBP 6.2 0.3 5.2 9.3 0.3 7.8 10.8 2.5 3.5 151.9 144.2 10.5 8.3 23.7 3.5
Comparable Company Analysis
These companies are chosen by the analyst and the data are shown by nearest calendar year in descending market capitalization order.
Valuation Analysis
Returns Analysis
Growth Analysis
Price/Earnings EV/EBITDA Price/Free Cash Flow Price/Book Price/Sales
ROIC % Adjusted ROIC % Return on Equity % Return on Assets % Dividend Yield %
Revenue Growth % EBIT Growth % EPS Growth % Free Cash Flow Growth % Dividend/Share Growth %
Last Historical Year
Last Historical Year
Company/Ticker Net Income
(Mil) 2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)Pernod Ricard NV RI FRA 1,229 EUR 62.4 61.6 61.5 28.2 29.0 29.6 26.0 26.7 27.3 14.3 14.7 15.5 9.1 15.6 11.6
Brown-Forman Corp BF.B USA 582 USD 51.7 52.2 52.2 25.1 25.9 26.2 23.7 24.0 24.3 15.4 15.9 16.0 11.7 13.2 13.7
Constellation Brands Inc STZ USA 428 USD 39.9 43.2 48.0 32.6 27.1 27.8 28.3 24.3 24.4 15.3 12.8 12.8 17.7 11.8 12.7
Average 51.3 52.3 53.9 28.6 27.3 27.9 26.0 25.0 25.3 15.0 14.5 14.8 12.8 13.5 12.7
Diageo PLC DEO US 2,612 GBP 60.9 60.0 60.0 36.1 36.6 37.4 32.6 32.6 33.4 22.9 23.1 22.3 11.3 21.5 19.9
Company/Ticker Total Debt
(Mil) 2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)Pernod Ricard NV RI FRA 7,950 EUR 71.1 78.1 69.2 41.6 43.9 40.9 4.3 4.7 5.2 3.3 3.5 3.0 2.5 2.6 2.4
Brown-Forman Corp BF.B USA 1,002 USD 61.6 52.6 49.5 38.1 34.5 33.1 26.4 27.4 29.6 1.1 1.0 0.9 2.2 2.1 2.0
Constellation Brands Inc STZ USA 3,305 USD 115.6 152.2 128.7 53.6 60.4 56.3 4.0 4.1 4.8 3.6 5.5 4.3 2.7 2.9 2.6
Average 82.8 94.3 82.5 44.4 46.3 43.4 11.6 12.1 13.2 2.7 3.3 2.7 2.5 2.5 2.3
Diageo PLC DEO US 10,686 GBP 151.9 150.5 146.0 60.3 60.1 59.4 10.4 10.3 11.1 2.6 2.5 2.4 3.6 3.6 3.5
Company/Ticker Market Cap
(Mil) 2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)2013
2014(E) 2015(E)Pernod Ricard NV RI FRA 23,549 EUR 2.25 2.45 2.53 1.47 1.47 1.53 0.46 0.46 0.47 0.60 0.63 0.64 37.6 37.0 37.0
Brown-Forman Corp BF.B USA 19,814 USD 0.95 1.78 1.85 3.85 4.18 4.13 2.10 2.43 2.38 40.80 76.28 78.18 179.9 38.8 38.0
Constellation Brands Inc STZ USA 16,109 USD 1.74 0.76 0.53 3.65 1.82 1.80 1.46 0.71 0.69 12.01 0.30 0.23 — — —
Average 1.65 1.66 1.64 2.99 2.49 2.49 1.34 1.20 1.18 17.80 25.74 26.35 108.8 37.9 37.5
Diageo PLC DEO US 80,862 USD 0.71 0.53 0.49 1.55 1.47 1.46 0.79 0.70 0.68 0.89 0.66 0.60 45.3 54.5 53.3
Comparable Company Analysis
These companies are chosen by the analyst and the data are shown by nearest calendar year in descending market capitalization order.
Profitability Analysis
Leverage Analysis
Liquidity Analysis
Gross Margin % EBITDA Margin % Operating Margin % Net Margin % Free Cash Flow Margin %
Debt/Equity % Debt/Total Cap % EBITDA/Interest Exp. Total Debt/EBITDA Assets/Equity
Cash per Share Current Ratio Quick Ratio Cash/Short-Term Debt Payout Ratio %
Last Historical Year
Last Historical Year
3 Moat Valuation 3 Three-Stage Discounted Cash Flow 3 Weighted Average Cost of Capital 3 Fair Value Estimate 3 Scenario Analysis 3 Uncertainty Ratings 3 Margin of Safety 3 Consider Buying/Selling 3 Stewardship Rating
their fair value. A number of components drive this rating: (1) our assessment of the firm’s economic moat, (2) our estimate of the stock’s intrinsic value based on a discounted cash-flow model, (3) the margin of safety bands we apply to our Fair Value Estimate, and (4) the current stock price relative to our fair value estimate.
The concept of the Morningstar Economic Moat™ Rating plays a vital role not only in our qualitative assessment of a firm’s investment potential, but also in our valuation process.
We assign three moat ratings—none, narrow, or wide—as well as the Morningstar Moat Trend™ Rating—positive, stable, or negative—to each company we cover. There are two major requirements for firms to earn either a narrow or wide moat rating: (1) the prospect of earning above-average returns on capital; and (2) some competitive edge that pre- vents these returns from quickly eroding. The assumptions we make about a firm’s moat determine the length of “eco- nomic outperformance” that we assume in the latter stages
enterprise value and the value of the firm if no future net in- vestment were to occur. Said differently, moat value identi- fies the value generated by the firm as a result of any future net new investment. Our Moat Trend Rating reflects our as- sessment of whether each firm’s competitive advantage is either getting stronger or weaker, since we think of moats as dynamic, rather than static.
At the heart of our valuation system is a detailed projection of a company’s future cash flows. The first stage of our three- stage discounted cash flow model can last from 5 to 10 years and contains numerous detailed assumptions about various financial and operating items. The second stage of our mod- el—where a firm’s return on new invested capital (RONIC) and earnings growth rate implicitly fade until the perpetuity year—can last anywhere from 0 years (for no-moat firms) to 20 years (for wide-moat companies). In our third stage, we assume the firm’s RONIC equals its weighted average cost of capital, and we calculate a continuing value using a standard Morningstar Research Methodology for Valuing Companies
Analyst conducts company and industry research:
Financial statement analysis Channel checks Trade-show visits Industry and company reports and journals Conference calls Management and site visits 3 3
3 3
3 3
Strength of competitive advantage is rated:
None, Narrow, or Wide Advantages that confer an economic moat:
High Switching Costs (Microsoft)
Cost advantage (Wal-Mart) Intangible assets (Johnson & Johnson) Network Effect (Mastercard) Efficient Scale (Lockheed Martin)
Analyst considers past financial results and focuses on competitive position and future prospects to forecast future cash flows.
Assumptions are entered into Morningstar’s proprietary discounted cash-flow model.
The analyst then eval- uates the range of potential intrinsic values for the company and assigns an Uncertainty Rating: Low, Medium, High, Very High, or Extreme.
The Uncertainty Rating determines the margin of safety required before we would rec- ommend the stock.
The higher the uncer- tainty, the wider the margin of safety.
Analyst uses a discounted cash-flow model to develop a Fair Value Estimate, which serves as the foundation for the Morningstar Rating for stocks.
The current stock price relative to Morningstar’s Fair Value Estimate, adjusted for uncertainty, determines the Morningstar Rating for stocks.
The Morningstar Rating for stocks is updated each evening after the market closes.
QQQQQ QQQQ QQQ QQ Q
Fundamental Analysis
Economic Moat
TMRating
Company Valuation
Fair Value Estimate
Uncertainty
Assessment
3 Uncertainty Methodology 3 Cost of Equity Methodology 3 Morningstar DCF Valuation Model 3 Stewardship Rating Methodology
* Please contact a sales representative for more information.
Instead, we rely on a system that measures the estimated volatility of a firm’s underlying future free cash flows, tak- ing into account fundamental factors such as the diversity of revenue sources and the firm’s fixed cost structure.
We also employ a number of other tools to augment our valu- ation process, including scenario analysis, where we assess the likelihood and performance of a business under different economic and firm-specific conditions. Our analysts typically model three to five scenarios for each company we cover, stress-testing the model and examining the distribution of resulting fair values.
The Morningstar Uncertainty Rating captures the range of these potential fair values, based on an assessment of a company’s future sales range, the firm’s operating and fi- nancial leverage, and any other contingent events that may impact the business. Our analysts use this range to assign an appropriate margin of safety—or the discount/premium
prices receive our highest rating of five stars, whereas firms trading above our consider-selling prices receive our lowest rating of one star.
Morningstar Margin of Safety and Star Rating Bands
Price/Fair Value 2.75
2.50 2.25 2.00 1.75 1.50 1.25 1.00 0.75 0.50 0.25
Low Medium High Very High*
* Occasionally a stock’s uncertainty will be too high for us to estimate, in which case we label it Extreme.
• 5 Star
• 4 Star
• 3 Star
• 2 Star
• 1 Star
Uncertainty Rating
— 125%
105% — 80% —
— 95%
— 135%
110% —
70% —
— 90%
— 155%
115% —
60% —
— 85%
— 175%
125% —
50% —
— 80%
New Morningstar Margin of Safety and Star Rating Bands as of August 18th, 2011
Our corporate Stewardship Rating represents our assess- ment of management's stewardship of shareholder capital, with particular emphasis on capital allocation decisions.
Analysts consider companies' investment strategy and
valuation, financial leverage, dividend and share buyback
policies, execution, compensation, related party transac-
tions, and accounting practices. Corporate governance
practices are only considered if they've had a demonstrated
impact on shareholder value. Analysts assign one of three
ratings: "Exemplary," "Standard," and "Poor." Analysts judge
stewardship from an equity holder's perspective. Ratings
are determined on an absolute basis. Most companies will
receive a Standard rating, and this is the default rating in
the absence of evidence that managers have made
exceptionally strong or poor capital allocation decisions.
coverage list.
3 Encapsulates our in-depth modeling and quantitative work in one letter grade.
3 Allows investors to rank companies by each of the four underlying com- ponents of our credit ratings, including both analyst-driven and quantitative measures.
3 Provides access to all the underlying forecasts that go into the rating, available through our insti- tutional service.
different lenses—qualitative and quantitative, as well as fundamental and market-driven. We therefore evaluate each company in four broad categories.
Business Risk
Business Risk captures the fundamental uncertainty around a firm’s business operations and the cash flow generated by those operations. Key components of the Business Risk rating include the Morningstar Economic Moat
™Rating and the Morningstar Uncertainty Rating.
Cash Flow Cushion
™Morningstar’s proprietary Cash Flow Cushion
™ratio is a fundamental indicator of a firm’s future financial health The measure reveals how many times a company’s internal cash generation plus total excess liquid cash will cover its debt-like contractual commitments over the next five years. The Cash Flow Cushion acts as a predictor of financial distress, bringing to light potential refinancing, operational, and liquidity risks inherent to the firm.
3 3 3 3 3
3
The higher the rating, the less likely we think the company is to default on these obligations.
The Morningstar Corporate Credit Rating builds on the modeling expertise of our securities research team. For each company, we publish:
Five years of detailed pro-forma financial statements Annual estimates of free cash flow
Annual forecasts of return on invested capital
Scenario analyses, including upside and downside cases Forecasts of leverage, coverage, and liquidity ratios for five years
Estimates of off balance sheet liabilities
These forecasts are key inputs into the Morningstar Corporate Credit Rating and are available to subscribers at select.morningstar.com.
Morningstar Research Methodology for Determining Corporate Credit Ratings
Competitive Analysis
Cash-Flow Forecasts
Scenario Analysis
Quantitative Checks
Rating Committee
A AA
BBB
C
D
