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Diageo Case Study

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Category: Business

Autor: reviewessays 27 March 2011

Words: 2394 | Pages: 10

Executive Summary

This is a strategic options case regarding Diageo, PLC. Diageo is a conglomerate focusing on premium alcoholic beverages.

The firm originated in 1997 with the merger of Guinness and GrandMet. The company began with the mission to be the strongest premium alcoholic beverage producer worldwide. To that end, they have acquired a majority of premium brands in the spirits industry and a large portfolio of premium wines, while at the same time divesting itself of those companies not in line with its new goals. The major satellites in the food industry were Burger King and Pillsbury, which Diageo managed to sell in 2002 and 2001 respectively. Today they are the controlling producer of spirits in the US and UK, and compete globally in both wine and spirits.

Major issues facing the firm include an inability to completely divest itself of the food industry, and the reliance on a poor long-term growth strategy. Diageo must find a way to better utilize its synergistic resources in order to develop lasting competitive advantages.

Page

I. General Industry and Competitor Environments 3

II. 5-Forces Model 4

III. Key Factors for Success 5

IV. Corporate Strategy 5

V. Business Strategy 6

VI. Functional Strategies: 6

VII. Tangible and Intangible Resources 7

VIII. SWOT Chart 7

IX. Financial Ratio Analysis 9

X. Conclusions and Recommendations 10

Bibliography 11

I. General Industry and Competitor Environments

a. Economic: Moderate impact. Diageo is placed in the premium end of the wine/spirits industry. Considered a luxury, consumption of these products decreases as the economy declines and there is less cash to splurge.

b. Sociocultural: Strong impact. Alcohol consumption varies significantly in type and quantity depending on the cultural segment considered. The types of alcohol consumed varies widely from culture to culture. Also, there is a strong lobby of anti-alcohol groups due to the effects of alcohol on health and public safety.

c. Global: Moderate impact. The world market is leaning towards worldwide normalization due to the effects of globalization. However, the industry is still in the early stages of said normalization. Shipment is cost prohibitive though, so companies must establish production facilities in foreign countries.

d. Technological: Moderate impact. Wine is largely an agricultural product, and any increases in production technology would have small impact on the quality of the wine. Spirits however, do benefit from increases in production quality.

e. Political/Legal: High impact. Alcohol is a highly regulated industry, with many permits and licenses involved in sales, production and transportation.

f. Demographic: High impact. There is a minimum age in most countries for one to consume alcohol. In addition, the types of alcohol consumed vary widely between age categories. The majority of wine is consumed by adults between 35 and 60, an attractive demographic.

Conclusions

The sociocultural and legal aspects of the industry make it a tricky prospect. That said, there are strong possibilities for growth. Productivity improvements and high industry-wide capacity utilization in the spirits sector allow for increased operating profits. With a recovering economy and attractive demographics, prospects are good for wine producers as well. In America, the wine industry was largely domestic in the mid 90s. Today, the US is able to export nearly 20% of its wine production.

II. Industry Environment Analysis – The 5-forces Model

a. Threat of new entrants: Low. Startup is capital intensive and governmental regulations limit new entrants. However, in the wine industry, there is still opportunity for small brands to do well in certain niche markets.

b. Bargaining power of buyers: Moderate. There are many competitors offering similar products, both domestically and from imports. Plus, due to the regulation of the industry, wine and spirits must pass through wholesalers, who have a strong hold over their producers.

c. Bargaining power of suppliers: Low. Grapes and other agricultural products are the main supplies needed in the production of wines and spirits. These items are commodities which are easily attainable from a variety of sources, lessening the power of suppliers.

d. Threat of substitute Products: Moderate. Wine and spirits are beverages, of which there are many substitutes. However, alcohol could be considered its own category, due to the nature of its consumption in relation to other beverages.

e. Rivalry among competing firms: High. The market is mature, so any gains in market share must come from competitors. Wine has traditionally been strongly imported, but the vineyards in California and the north west have created a strong domestic presence. Globalization has only intensified the rivalry between competing firms.

Conclusions

This is a highly competitive industry, where any gains in market share are coming at the expense of other firms. There are more producers of wine than any other beverage product, and increasingly, producers all over the world are able to compete in the US and European markets. For a company to succeed consistently, they will need strong competitive advantages. There is a strong trend in the industry towards consolidation, with companies like Allied Domecq and Diageo acquiring buying up independent wineries and premium spirit brands from other conglomerates, while at the same time divesting satellite businesses that diverted resources from their core beverage businesses. While Diageo is on the forefront of this trend, others are following suit quickly.

III. Key Factors for Successfully Competing in the Firm’s Industry

a. High quality vineyards and distilleries are required to create the best wines and spirits.

b. Strong supply chain management is needed to connect the producers, the wholesalers and local retail businesses. It is also important in order to take advantage of economies of scale present in consolidating most of the premium spirit brands.

c. A solid marketing division is needed to get the best use out of all the acquired brands of spirits, as well as to establish a name in the premium wines sector.

d. With so many producers, differentiation is an absolute necessity.

IV. Corporate Strategy of the Firm

Diageo is employing a Multi-Domestic Growth strategy focusing on premium wines and spirits.

a. Nature of diversification: Related constrained diversification. Diageo has acquired a number of wine and distilled brands, including 9 of the top 20 premium distilled brands4.

b. Scope of market operations: Diageo is focused on the premium spirit and wine markets.

c. Acquisitions: Recent acquisitions include much of Seagram’s portfolio of rum and wine assets.

d. Divestures: Diageo sold Pillsbury to General Mills in 20014, and more recently sold Burger King as well3. It is now almost completely out of the food and restaurant business.

V. Business Strategy of the Firm

a. Focused differentiation

VI. Functional strategies

a. Focus on awareness of concerns due to the controversial nature of alcohol, and is committed to keeping high standards in responsible marketing1.

b. Continued investment in premium drinks, including new acquisitions of premium brands and stronger efforts to divest themselves from General Mills and Burger King.

c. Diageo has set up new dedicated distributor resources in the US that are able to distribute nearly 85% of their wine and spirits volume1.

d. They have several “global priority brands” which are pushed globally, as well as a number of local brands for each market4.

e. Marketing is done per region, as the tastes differ so greatly from place to place1.

VII. Tangible and Intangible Resources

a. Tangible resources: physical resources of plant, property and equipment totaling $3,716 million, including distilleries and wineries in the US and Europe1.

b. Intangible resources: $7,544 million in brands and goodwill1.

VIII. SWOT Chart 2

Strengths

Impressive array of top selling brands

Leading positions in US and UK markets

Portfolio additions/divestures

Weaknesses

Difficult trading areas

Slowdown of US ready-to-drink (RTD) category

Excessive reliance on pricing and mix

Opportunities

Acquisition of key brands

US market has the potential to grow larger

Favorable demographics

Threats

Sharp economic slowdown

Declining consumer confidence

Negative public/governmental views towards alcohol

a. Strengths: Diageo’s brand portfolio includes 7 of the top 20 and 17 of the top 100 brands, worldwide, including Cuervo, Smirnoff, and Baileys, all #1 in their respective types1. This portfolio makes Diageo the leader in the US and UK’s drink markets. In addition, Diageo has succeeded in divesting itself (mostly) from the food market, and has acquired the majority of Seagram’s wine and spirits businesses, further increasing their beverage portfolio.

b. Weaknesses: Diageo recent focus on the ready-to-drink category has been hit hard in the US, with a decline of 17% by volume in 20032. Established RTD brands declined, and expected new growth never happened with the failure of the new product, Captain Morgan Gold. In addition, some global expansion has backfired, with difficult political and economic conditions in Brazil, Venezuela and Ireland. A more profound weakness is the reliance on pricing and mix to achieve competitive advantages. With 96% of the growth from emerging markets coming from pricing and mix strategies2, Diageo will need to focus on its brand synergies to maintain its competitive advantages.

c. Opportunities: The divesture of its food businesses has opened up new opportunities and capital for further improvement of its beverage portfolio. In addition, both the US wine and spirits markets should experience continued growth for the foreseeable future. The growth should be acerbated by the growth of 20-29 year olds as a percentage of the total population in the current decade2.

d. Threats: The economic downturn occurring recently has begun to swing back up in the US and Europe, but economies in developing countries are lagging behind. In addition, there is always the threat of consumer backlash due to the controversial nature of alcohol.

IX. Financial Ratio Analysis - 5-year period, from 1998-2002

a. Profitability Ratios: Diageo has been profitable since 1998, consistently outperforming competitors. Net profit margins, ROE’s and ROA’s have all been above average since 1999, and have widened the gap significantly since 2000.

b. Liquidity Ratios: Diageo’s liquidity position has remained relatively constant, but significantly below that of competitors, which have also been steady in all years but 1998, where they dropped significantly.

c. Leverage Ratios: The industry’s leverage ratios rose slightly and have settled back to where they were over the 5-year period. Diageo has followed this trend, although maintaining more short-term debt than its competitors.

d. Activity Ratios: Diageo trends to stay with the industry, but utilizes its inventory and fixed assets significantly better than the average. In 2002, however, the was a decline in the efficiency of the company, causing a smaller receivable turnover, longer collection periods and a smaller total asset turnover. If this decline continues, it demonstrates a decline in Diageo’s competitive advantages that needs attention.

Conclusions

Diageo has been effective in leveraging itself in order to generate above average returns. The differences in liquidity and leverage between Diageo and its competitors originate from the vestiges of its original inception in 1997 as well as the inability to fully pull out of the food industries. The company has been performing well overall, but the decline in efficiency demonstrated in 2002 could be indicative of their over-reliance on pricing and mix to generate growth.

X. Conclusions and Recommendations

Diageo is a successful conglomerate, controlling the majority of premium brands in the spirits industry, as well as a healthy portfolio of wines. The alcoholic beverages industry is very strong worldwide. It is also a highly controversial product, causing a different set of regulations in every country that Diageo operates in. There is the possibility for growth, as the demographics are improving, but the growth is highly reliant on an economic upswing. If the economy declines, so will the beverage industry.

The industry is fairly mature, and as such, rivalry is fierce. In the wine market, the US has increased both imports and exports in the last 5 years, and even small companies can compete based on quality due to the agricultural nature of wine. The spirits market has seen an increase in popularity of RTD’s in the last two years, which Diageo took great advantage of. However, the failure of Captain Morgan’s Gold and decline of some of the other RTD brands has tempered Diageo’s success in the last year. Diageo has achieved success through a reliance on pricing and mix to generate a competitive advantage. This advantage is short-lived however, and Diageo is already showing some decline in its competitive position.

Since its formation in 1997, Diageo has made a consistent attempt to divest itself of its food industry companies, mainly Pillsbury and Burger King. In 2002, they succeeded in selling off both companies, but the terms of the respective deals left them with many resources still tied up with those companies. Part of the sale of Pillsbury to General Mills was a 35% minority stake in General Mills, which they have yet to liquidate due to anti-trust laws. In addition, to finally sell Burger King, Diageo had to commit to $750 million in loans to the buyers and a $100 million revolving-credit facility3.

Diageo has achieved domination in the US and UK spirits industries, as well as a significant market share in wines and spirits elsewhere, by utilizing a multi-domestic growth corporate strategy with focused differentiation on the business end. Not only have they gotten rid of their food businesses, but their “jug” wine brands as well. They have created a name for high quality, premium brands.

It seems that Diageo’s current strategy is probably the best approach for them. If they can continue to focus on premium beverages while freeing up capital that remains tied up in the food business sales, the emphasis on their core competencies should pay off. The new distribution system in the US is a step towards better resource management, which will help take some of the reliance off pricing and mix for growth. The wine industry is another place Diageo should be looking at for increased revenues. By increasing their wine holdings, Diageo can take advantage of the growth that premium wines are anticipated to experience.

Bibliography

1 Diageo Annual Report 2004. www.diageo.com. March 30, 2005.

2 Diageo, PLC Company Analysis. DataMonitor. Business Source Premier. April 2004. www.ebsco.com March 30, 2005.

3 Gogoi, Pallavi. Diageo Still Has a Hand in the Pantry. Business Week Online, 10/7/2004. www.ebsco.com March 30, 2005.

4 Hitt, Michael; Ireland, R. Duane; Hoskisson, Robert. Stragetic Management. Thompson South-Western 2005.