UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 20-F
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended: 30 June 2015
Commission file number 1-10691
DIAGEO plc
(Exact name of Registrant as specified in its charter)
England and Wales
(Jurisdiction of incorporation or organisation)
Lakeside Drive, Park Royal, London NW10 7HQ, England
(Address of principal executive offices)
Paul Tunnacliffe, Company Secretary
Tel: +44 20 8978 6000
E-mail: the.cosec@diageo.com
Lakeside Drive, Park Royal, London NW10 7HQ, England
(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)
Securities registered or to be registered pursuant to Section 12(b) of the Act:
Title of each class |
Name of each exchange on which registered | |
American Depositary Shares Ordinary shares of 28 101⁄108 pence each |
New York Stock Exchange New York Stock Exchange(i) | |
5.300% Guaranteed Notes due 2015 0.625% Guaranteed Notes due 2016 5.500% Guaranteed Notes due 2016 1.500% Guaranteed Notes due 2017 5.750% Guaranteed Notes due 2017 1.125% Guaranteed Notes due 2018 4.850% Guaranteed Notes due 2018 4.828% Guaranteed Notes due 2020 2.875% Guaranteed Notes due 2022 8.000% Guaranteed Notes due 2022 2.625% Guaranteed Notes due 2023 7.450% Guaranteed Notes due 2035 5.875% Guaranteed Notes due 2036 4.250% Guaranteed Notes due 2042 3.875% Guaranteed Notes due 2043 |
New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange New York Stock Exchange |
(i) Not for trading, but only in connection with the registration of American Depositary Shares representing such ordinary shares, pursuant to the requirements of the Securities and Exchange Commission.
Securities registered or to be registered pursuant to Section 12(g) of the Act: None
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None
Indicate the number of outstanding shares of each of the issuers classes of capital or common stock as of the close of the period covered by the Annual Report: 2,754,308,400 ordinary shares of 28101/108 pence each.
Indicate by check mark if each registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes x No ¨
If this report is an annual or transition report, indicate by check mark if each registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. Yes ¨ No x
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨
Indicate by check mark whether each registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):
Large Accelerated Filer x Accelerated Filer ¨ Non-Accelerated Filer ¨ |
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
U.S. GAAP ¨ | International Financial Reporting Standards as issued by the International Accounting Standards Board x |
Other ¨ |
If Other has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow. Item 17 ¨ Item 18 ¨
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
This document comprises the annual report on Form 20-F and the annual report to shareholders for the year ended 30 June 2015 of Diageo plc (the 2015 Form 20-F).
Contents
5 |
Introduction | |
7 |
Recent trends | |
8 |
Historical information | |
12 |
Strategic report | |
12 |
Business description | |
12 |
Our business | |
17 |
Our global reach | |
18 |
Our brands | |
19 |
Outstanding breadth and depth across price points | |
20 |
Our Performance Ambition | |
21 |
Our business model | |
22 |
Chairmans statement | |
25 |
Chief Executives statement | |
28 |
How we measure performance: key performance indicators | |
32 |
Market dynamics | |
35 |
How we will deliver our Performance Ambition | |
36 |
Risk factors | |
42 |
Cautionary statement concerning forward-looking statements | |
44 |
Business review | |
44 |
Operating results 2015 compared with 2014 | |
75 |
Operating results 2014 compared with 2013 | |
99 |
Liquidity and capital resources | |
101 |
Contractual obligations and commitments | |
102 |
Off-balance sheet arrangements | |
102 |
Risk management | |
102 |
Critical accounting policies | |
102 |
New accounting standards | |
103 |
Sustainability & Responsibility review | |
120 |
Definitions and reconciliations of non-GAAP measures to GAAP measures | |
134 |
Governance | |
134 |
Board of Directors and Company Secretary | |
137 |
Executive Committee | |
139 |
Corporate governance report | |
147 |
Report of the Audit Committee | |
151 |
Directors remuneration report | |
178 |
Directors report |
3
Contents (continued)
180 |
Financial statements | |
180 |
Reports of independent registered public accounting firms | |
182 |
Consolidated income statement | |
183 |
Consolidated statement of comprehensive income | |
184 |
Consolidated balance sheet | |
185 |
Consolidated statement of changes in equity | |
186 |
Consolidated statement of cash flows | |
Notes to the consolidated financial statements | ||
187 |
Accounting information and policies | |
190 |
Results for the year | |
206 |
Operating assets and liabilities | |
225 |
Risk management and capital structure | |
240 |
Other financial information | |
247 |
Report of independent registered public accounting firm - internal controls | |
248 |
Unaudited computation of ratio of earnings to fixed charges | |
249 |
Additional information for shareholders | |
249 |
Legal proceedings | |
249 |
Related party transactions | |
249 |
Share capital | |
250 |
American depositary shares | |
251 |
Articles of association | |
255 |
Exchange controls | |
255 |
Documents on display | |
256 |
Taxation | |
259 |
Warning to shareholders - share fraud | |
260 |
Signature | |
261 |
Exhibits | |
263 |
Cross reference to Form 20-F | |
265 |
Glossary of terms and US equivalents |
4
Introduction
Diageo is the worlds leading premium drinks business. Its geographic breadth and range of industry leading brands across categories and price points is unparalleled.
Diageo plc is incorporated as a public limited company in England and Wales. Diageo was incorporated as Arthur Guinness Son and Company Limited on 21 October 1886. The group was formed by the merger of Grand Metropolitan Public Limited Company (GrandMet) and Guinness PLC (the Guinness Group) in December 1997. Diageo plcs principal executive office is located at Lakeside Drive, Park Royal, London NW10 7HQ and its telephone number is +44 (0) 20 8978 6000. Diageo plcs agent for service of process in the United States is General Counsel, Diageo North America, Inc., 801 Main Avenue (6078-06), Norwalk, CT 06851.
This is the Annual Report on Form 20-F of Diageo plc for the year ended 30 June 2015. The information set out in this Form 20-F does not constitute Diageo plcs statutory accounts under the UK Companies Acts for the years ended 30 June 2015, 2014 or 2013. KPMG LLP has reported on the accounts for the year ended 30 June 2015 and 2014 and KPMG Audit Plc has reported on the accounts for the year ended 30 June 2013; their audit reports were (i) unqualified, (ii) did not include a reference to any matters to which the auditors drew attention by way of emphasis without qualifying their report and (iii) did not contain a statement under section 498 (2) or (3) of the Companies Act 2006 in respect of the accounts for the years ended 30 June 2015, 2014 or 2013. The accounts for 2014 and 2013 have been delivered to the registrar of companies and those for 2015 will be delivered in due course.
This document contains forward-looking statements that involve risk and uncertainty. There are a number of factors that could cause actual results and developments to differ materially from those expressed or implied by these forward-looking statements, including factors beyond Diageos control. For more details, please refer to the cautionary statement concerning forward-looking statements on pages 42-43.
The content of the companys website (www.diageo.com) should not be considered to form a part of or be incorporated into this report. This report includes names of Diageos products, which constitute trademarks or trade names which Diageo owns or which others own and license to Diageo for use. In this report, the term company refers to Diageo plc and terms group and Diageo refer to the company and its consolidated subsidiaries, except as the context otherwise requires. A glossary of terms used in this report is included at the end of the report.
Diageos consolidated financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as endorsed and adopted for use in the European Union (EU) and IFRS as issued by the International Accounting Standards Board (IASB). References to IFRS hereafter should be construed as references to both IFRS as adopted by the EU and IFRS as issued by the IASB. Unless otherwise indicated, all financial information contained in this document has been prepared in accordance with IFRS.
Information presented
Unless otherwise stated in this document, percentage movements are organic movements. These movements and operating margins are before exceptional items. Commentary, unless otherwise stated, refers to organic movements. Share, unless otherwise stated, refers to value share. See the Definitions and reconciliations of non-GAAP measures to GAAP measures for an explanation of organic movement calculations on page 120.
The brand ranking information presented in this report, when comparing information with competitors, reflects data published by source such as IWSR, Impact Databank, Nielsen, Beverage Information Group and Plato Logic. Market data information and competitive set classifications are taken from independent industry sources in the markets in which Diageo operates.
Disclosures not incorporated by reference
The following pages and sections of the Annual Report of Diageo plc for the year ended 30 June 2015, are not incorporated by reference into this report on Form 20-F and are furnished to United States Securities and Exchange Commission (SEC) for information only:
| Disclosures under the headings Doing business the right way, We produce, We market, We innovate, and We sell in the section Strategic Report Our business on page 12. |
| Disclosures included under the titles Number of responsible drinking programs (%), Water withdrawals and Carbon emissions in the section Strategic Report Our Global Reach Diageo reports as five region on page 17. |
| Disclosures under the heading Sustainability and responsibility in the Chairmans Statement on page 23. |
5
Introduction (continued)
| Disclosures under the heading Sustainability and responsibility in the Chief Executives statement on page 26. |
| Disclosures on pages 29 and 31 in the section Strategic Report How we measure performance: key performance indicators of non-financial key performance indicators. |
| Disclosures included under the title Leadership in alcohol in society in the section Strategic Report How we will deliver our Performance Ambition our three Sustainability and Responsibility imperatives on page 35. |
| Disclosures included under the titles Increasing expectations of businesses and brands, Creating a positive role for alcohol in society, Factors affecting the operational environment, Climate change and water scarcity, and Local communities and supply chains in the section Strategic report Market dynamics on pages 33 and 34. |
| Disclosures included under the titles Sustainability and responsibility on pages 55, 59, 63, 66, and 69 in relation to each reporting segment in the Business Review. |
| Disclosures in the section Strategic report Sustainability & Responsibility review on pages 103 to 119. |
6
Recent trends
The following comments were made by Ivan Menezes, Chief Executive of Diageo, in Diageos preliminary announcement on 30 July 2015:
Our F15 performance reflects the challenges we have seen on top line growth. However, it does not diminish my confidence in what we can achieve in F16 and even more so beyond that. Diageo has an enviable position, by geography, by brand and by category range, in an attractive consumer market place with strong long term growth drivers. This year we made further changes to build strong, sustained performance including embedding our sell out discipline, improving cash conversion and strengthening our route to consumer. We have consistently applied a long term perspective in making these changes, despite the short term challenges we have faced from an external environment where currency volatility continues to impact the emerging market consumer.
We acquired control of United Spirits in the year giving Diageo unparalleled access to one of the worlds most attractive spirits markets. We have enhanced our position in tequila by acquiring the remaining 50% of Don Julio, a brand that is already growing net sales double digit and for which I see significant potential now we have full control. Our participation strategy is clear by market and category. We are focused on our core and have a more proactive approach to our portfolio. We sold Gleneagles in the year, and since the year end, have sold the shares USL owned in United Breweries and we restructured our South African operations to focus on spirits and monetise investments worth £125 million.
We are delivering the change which will further strengthen this business and deliver our performance ambition. In F16 we believe stronger volume growth will deliver an improved top line performance. As we achieve our productivity gains from F17 we expect to deliver mid single digit organic top line growth on a sustained basis and operating margin expansion of 100 basis points over 3 years. Our brands, our global footprint and our people give me confidence that Diageo can deliver strong and sustained performance.
7
Historical information
The following tables present selected consolidated financial data for Diageo for the five years ended 30 June 2015 and as at the respective year ends. The data presented below for the four years ended 30 June 2015 and the respective year ends has been derived from Diageos consolidated financial statements, audited by Diageos independent auditor. The financial information for the year ended 30 June 2011 has been derived from Diageos financial statements, audited by Diageos independent auditor, and restated in the year 30 June 2014 to reflect the adjustments resulting from the adoption of IFRS 11 and the amendment to IAS 19.
Income statement data
Year ended 30 June | ||||||||||||||||||||
2015 £ million |
2014 £ million |
2013 £ million |
2012 £ million |
2011 £ million |
||||||||||||||||
Sales |
15,966 | 13,980 | 15,276 | 14,392 | 13,043 | |||||||||||||||
Excise duties |
(5,153 | ) | (3,722 | ) | (3,973 | ) | (3,753 | ) | (3,224 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Net sales |
10,813 | 10,258 | 11,303 | 10,639 | 9,819 | |||||||||||||||
Cost of sales |
(4,610 | ) | (4,029 | ) | (4,416 | ) | (4,208 | ) | (3,958 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Gross profit |
6,203 | 6,229 | 6,887 | 6,431 | 5,861 | |||||||||||||||
Marketing |
(1,629 | ) | (1,620 | ) | (1,769 | ) | (1,671 | ) | (1,520 | ) | ||||||||||
Other operating expenses |
(1,777 | ) | (1,902 | ) | (1,738 | ) | (1,652 | ) | (1,789 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Operating profit |
2,797 | 2,707 | 3,380 | 3,108 | 2,552 | |||||||||||||||
Non-operating items |
373 | 140 | (83 | ) | 147 | (14 | ) | |||||||||||||
Net interest and other finance charges |
(412 | ) | (388 | ) | (457 | ) | (441 | ) | (449 | ) | ||||||||||
Share of after tax results of associates and joint ventures |
175 | 252 | 217 | 229 | 192 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Profit before taxation |
2,933 | 2,711 | 3,057 | 3,043 | 2,281 | |||||||||||||||
Taxation |
(466 | ) | (447 | ) | (507 | ) | (1,011 | ) | (321 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Profit from continuing operations |
2,467 | 2,264 | 2,550 | 2,032 | 1,960 | |||||||||||||||
Discontinued operations |
| (83 | ) | | (11 | ) | | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Profit for the year |
2,467 | 2,181 | 2,550 | 2,021 | 1,960 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Per share data |
pence | pence | pence | pence | pence | |||||||||||||||
Dividend per share |
56.4 | 51.7 | 47.4 | 43.5 | 40.4 | |||||||||||||||
Earnings per share |
||||||||||||||||||||
Basic |
||||||||||||||||||||
Continuing operations |
95.0 | 93.0 | 98.0 | 76.6 | 74.3 | |||||||||||||||
Discontinued operations |
| (3.3 | ) | | (0.4 | ) | | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Basic earnings per share |
95.0 | 89.7 | 98.0 | 76.2 | 74.3 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Diluted |
||||||||||||||||||||
Continuing operations |
94.6 | 92.6 | 97.4 | 76.2 | 74.1 | |||||||||||||||
Discontinued operations |
| (3.3 | ) | | (0.4 | ) | | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Diluted earnings per share |
94.6 | 89.3 | 97.4 | 75.8 | 74.1 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
million | million | million | million | million | ||||||||||||||||
Weighted average number of shares |
2,505 | 2,506 | 2,502 | 2,495 | 2,493 |
8
Historical information (continued)
Balance sheet data
As at 30 June | ||||||||||||||||||||
2015 £ million |
2014 £ million |
2013 £ million |
2012 £ million |
2011 £ million |
||||||||||||||||
Non-current assets |
18,134 | 15,495 | 16,481 | 15,098 | 12,633 | |||||||||||||||
Current assets |
7,670 | 7,469 | 8,510 | 7,171 | 7,087 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total assets |
25,804 | 22,964 | 24,991 | 22,269 | 19,720 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Current liabilities |
(5,290 | ) | (4,851 | ) | (5,519 | ) | (4,762 | ) | (4,903 | ) | ||||||||||
Non-current liabilities |
(11,258 | ) | (10,523 | ) | (11,384 | ) | (10,715 | ) | (8,858 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total liabilities |
(16,548 | ) | (15,374 | ) | (16,903 | ) | (15,477 | ) | (13,761 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Net assets |
9,256 | 7,590 | 8,088 | 6,792 | 5,959 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Share capital |
797 | 797 | 797 | 797 | 797 | |||||||||||||||
Share premium |
1,346 | 1,345 | 1,344 | 1,344 | 1,343 | |||||||||||||||
Other reserves |
1,994 | 2,243 | 3,154 | 3,213 | 3,300 | |||||||||||||||
Retained earnings/(deficit) |
3,634 | 2,438 | 1,741 | 234 | (195 | ) | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Equity attributable of equity shareholders of the parent company |
7,771 | 6,823 | 7,036 | 5,588 | 5,245 | |||||||||||||||
Non-controlling interests |
1,485 | 767 | 1,052 | 1,204 | 714 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total equity |
9,256 | 7,590 | 8,088 | 6,792 | 5,959 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Net borrowings |
(9,527 | ) | (8,850 | ) | (8,403 | ) | (7,573 | ) | (6,480 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
Notes to the historical information
1. Accounting policies The consolidated financial statements for the five years ended 30 June 2015 have been prepared in accordance with IFRS. The IFRS accounting policies applied by the group to prepare the financial information in this document are disclosed in the notes to the consolidated financial statements.
2. Exceptional items Exceptional items are those that in managements judgement need to be disclosed by virtue of their size or nature. Such items are included within the income statement caption to which they relate, and are separately disclosed in the notes to the consolidated financial statements. An analysis of exceptional items is as follows:
Year ended 30 June | ||||||||||||||||||||
2015 £ million |
2014 £ million |
2013 £ million |
2012 £ million |
2011 £ million |
||||||||||||||||
Items included in operating profit |
||||||||||||||||||||
Restructuring programmes |
(82 | ) | (163 | ) | (69 | ) | (96 | ) | (111 | ) | ||||||||||
Duty settlements |
(146 | ) | | | | (127 | ) | |||||||||||||
Associate impairment |
(41 | ) | | | | | ||||||||||||||
Brand and tangible asset impairment |
| (264 | ) | (50 | ) | (59 | ) | (39 | ) | |||||||||||
Pension changes past service credits |
| | 20 | 115 | | |||||||||||||||
SEC settlement |
| | | | (12 | ) | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
(269 | ) | (427 | ) | (99 | ) | (40 | ) | (289 | ) | |||||||||||
Non-operating items |
373 | 140 | (83 | ) | 147 | (14 | ) | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Items included in taxation |
||||||||||||||||||||
Tax on exceptional operating items |
51 | 99 | 27 | 19 | 51 | |||||||||||||||
Tax on sale of businesses |
| | 28 | | 3 | |||||||||||||||
Loss of future tax amortisation |
| | | (524 | ) | | ||||||||||||||
Settlements with tax authorities |
| | | | 66 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
51 | 99 | 55 | (505 | ) | 120 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Exceptional items in continuing operations |
155 | (188 | ) | (127 | ) | (398 | ) | (183 | ) | |||||||||||
Discontinued operations net of taxation (note 3) |
| (83 | ) | | (11 | ) | | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Exceptional items |
155 | (271 | ) | (127 | ) | (409 | ) | (183 | ) | |||||||||||
|
|
|
|
|
|
|
|
|
|
9
Historical information (continued)
3. Discontinued operations in the year ended 30 June 2014 comprised a charge after taxation of £83 million (£91 million less tax of £8 million) in respect of the settlement of thalidomide litigation in Australia and New Zealand and anticipated future payments to thalidomide organisations.
4. Dividends The Board expects that Diageo will pay an interim dividend in April and a final dividend in October of each year. Approximately 40% of the total dividend in respect of any financial year is expected to be paid as an interim dividend and approximately 60% as a final dividend. The payment of any future dividends, subject to shareholder approval, will depend upon Diageos earnings, financial condition and such other factors as the Board deems relevant. Proposed dividends are not considered to be a liability until they are approved by the Board for the interim dividend and by the shareholders at the annual general meeting for the final dividend.
The table below sets out the amounts of interim, final and total cash dividends paid by the company on each ordinary share. The dividends are translated into US dollars per ADS (each ADS representing four ordinary shares) at the actual rate on each of the respective dividend payment dates.
Year ended 30 June | ||||||||||||||||||||||||
2015 pence |
2014 pence |
2013 pence |
2012 pence |
2011 pence |
||||||||||||||||||||
Per ordinary share |
Interim | 21.50 | 19.70 | 18.10 | 16.60 | 15.50 | ||||||||||||||||||
Final | 34.90 | 32.00 | 29.30 | 26.90 | 24.90 | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
Total | 56.40 | 51.70 | 47.40 | 43.50 | 40.40 | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
$ | $ | $ | $ | $ | ||||||||||||||||||||
Per ADS |
Interim | 1.28 | 1.31 | 1.10 | 1.05 | 1.01 | ||||||||||||||||||
Final | 2.18 | 2.06 | 1.89 | 1.72 | 1.59 | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
Total | 3.46 | 3.37 | 2.99 | 2.77 | 2.60 | |||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
Note: Subject to shareholders approval the final dividend for the year ended 30 June 2015 will be paid on 8 October 2015, and payment to US ADR holders will be made on 14 October 2015. In the table above, an exchange rate of £1 = $1.56 has been assumed for this dividend, but the exact amount of the payment to US ADR holders will be determined by the rate of exchange on 8 October 2015.
5. Net borrowings Net borrowings are defined as gross borrowings (short term borrowings and long term borrowings plus finance lease liabilities plus interest rate hedging instruments, cross currency interest rate swaps and funding foreign currency forwards and swaps used to manage borrowings) less cash and cash equivalents.
6. Share capital There were 2,754 million ordinary shares of 28 101⁄108 pence each in issue with a nominal value of £797 million throughout the five year period ended 30 June 2015.
7. Exchange rates A substantial portion of the groups assets, liabilities, revenues and expenses are denominated in currencies other than sterling. For a discussion of the impact of exchange rate fluctuations on the groups financial position and results of operations, see note 15 to the consolidated financial statements.
The following table shows year end and average US dollar/pound sterling noon buying exchange rates, for the periods indicated, expressed in US dollars per £1.
Year ended 30 June | ||||||||||||||||||||
2015 $ |
2014 $ |
2013 $ |
2012 $ |
2011 $ |
||||||||||||||||
Year end |
1.57 | 1.71 | 1.52 | 1.57 | 1.61 | |||||||||||||||
Average rate (i) |
1.57 | 1.64 | 1.57 | 1.59 | 1.59 |
(i) | The average of the noon buying rates on the last business day of each month during the year ended 30 June. |
10
Historical information (continued)
The following table shows period end, high, low and average US dollar/pound sterling noon buying exchange rates by month, for the six month period to 31 July 2015, expressed in US dollars per £1. The information in respect of the month of July is for the period up to and including 31 July 2015.
2015 | ||||||||||||||||||||||||
July $ |
June $ |
May $ |
April $ |
March $ |
February $ |
|||||||||||||||||||
Month end |
1.56 | 1.57 | 1.53 | 1.53 | 1.49 | 1.54 | ||||||||||||||||||
Month high |
1.56 | 1.59 | 1.58 | 1.55 | 1.54 | 1.55 | ||||||||||||||||||
Month low |
1.54 | 1.52 | 1.51 | 1.46 | 1.47 | 1.50 | ||||||||||||||||||
Average rate (i) |
1.56 | 1.56 | 1.55 | 1.50 | 1.50 | 1.53 |
(i) | The average of the noon buying rates on each business day of the month. |
The noon buying exchange rate as at 31 July 2015 was £1 = $1.56.
These rates have been provided for information only. They are not necessarily the rates that have been used in this document for currency translations or in the preparation of the consolidated financial statements. See note 1 to the consolidated financial statements for the actual rates used in the preparation of the consolidated financial statements.
11
Strategic report
Business description
OUR BUSINESS
Diageo is a global leader in beverage alcohol with iconic brands in spirits, beer and wine. We provide consumers with choice and quality across categories and price points.
Diageo has built a strong platform for growth through investing in our brands and route to consumer. Over the last five years we have made acquisitions in brands and local distribution while doubling the size of our luxury business. We have also made changes to our operating model and culture aligning Diageo behind the need for greater agility and responsiveness, creating a business that is closer to the consumer.
Our 21 market model(i) has established strong local business units, well positioned to win in increasingly competitive and fast paced operating environments.
We know that we must earn the trust and respect of everyone that comes into contact with our company. We must be transparent and authentic, demonstrating good citizenship every day, everywhere.
STRENGTH IN GLOBAL REACH AND ICONIC BRANDS
We have outstanding breadth and depth in our portfolio, with brands across price points and categories to meet consumer demand now and in the future.
DOING BUSINESS THE RIGHT WAY
For us, standards are everything, from how we produce and market our brands, to how we innovate and sell, and in governance and ethics as codified in our Code of Business Conduct.
WE PRODUCE |
WE MARKET |
WE INNOVATE |
WE SELL | |||
We produce our brands from more than 200 sites in over 30 countries. We are committed to efficient, sustainable production to the highest quality standards. Our export-led International Supply Centre (ISC) employs over 4,000 people across more than 55 sites in Scotland, England, Ireland, Italy and the Netherlands. | We invest in world-class marketing to build our brands, focusing on connecting with existing and new consumers. For decades our brands have been at the forefront of marketing innovation and the same remains true today. We take seriously our obligations to market responsibly and help consumers make informed decisions. | Innovation is critical to our continued growth. We are committed to finding breakthrough innovations to serve customers and consumers. We identify emerging trends, and boldly innovate at scale. Innovation is a permanent engine of growth for our business and we are restless in our search for new products. | Everyone at Diageo sells or understands how they can help sell. This is just one expression of the sales-led organisation we are building. In each of our 21 markets, we are passionate about ensuring our products are available where consumers want them. We work to deliver amazing consumer experiences and to extend our sales reach. |
CREATING SHARED VALUE
Our distilleries, breweries and wineries are at the heart of the communities where we work. We have a responsibility to create shared value for our shareholders, our people, and for the societies that enable our business to grow. Within the community, we are proud of our work to address development challenges, including skills, social enterprise and access to clean water, and to encourage responsible drinking.
Our values underpin our business and guide us. We are passionate about our customers and consumers and want to be the best. We give our people the freedom to do the best work of their careers and value everyones contribution. We are proud of what we do, and how we do it.
Our purpose, celebrating life, every day, everywhere, is to make the most of life to be the best at work, at home, with friends, in the community, and for the community. For our brands to be part of celebrations big and small.
(i) | Throughout this Form 20-F for the year ended 30 June 2015, reference to Diageos 21 geographically based markets will be stated as 21 markets. |
12
Business description (continued)
Production
Diageo owns manufacturing production facilities across the globe, including maltings, distilleries, breweries, packaging plants, maturation warehouses, cooperages, vineyards, wineries and distribution warehouses. Diageos brands are also produced at plants owned and operated by third parties and joint ventures at a number of locations internationally.
Diageo has been investing in restructuring programmes that increase the efficiency of its supply operations. The most significant programmes are referred to in note 4 to the consolidated financial statements.
The locations, principal activities, products, packaging production capacity and packaging production volume of Diageos principal production centres in the year ended 30 June 2015 are as follows:
Location |
Principal products |
Production capacity in millions of equivalents units (i) |
Production volume in 2015 in millions of equivalent units |
|||||||
United Kingdom (Spirits) |
Scotch whisky, Irish whiskey, gin, vodka, rum, ready to drink | 91 | 51 | |||||||
UK, Ireland (Guinness) |
Beer | 8 | 7 | |||||||
Ireland (Baileys) |
Irish cream liqueur | 12 | 7 | |||||||
Italy (Santa Vittoria) |
Vodka, wine, rum, ready to drink | 11 | 5 | |||||||
Turkey |
Raki, vodka, gin, liqueur, wine | 8 | 6 | |||||||
United States, Canada, US Virgin Islands | Vodka, gin, tequila, rum, wine, Canadian whisky, American whiskey, progressive adult beverages, ready to drink | 44 | 33 | |||||||
United States |
Wine | 2 | 1 | |||||||
Brazil |
Cachaça, vodka | 9 | 7 | |||||||
Jamaica |
Beer | 1 | 1 | |||||||
Mexico |
Tequila | 1 | 1 | |||||||
Australia |
Rum, vodka, ready to drink | 4 | 2 | |||||||
Singapore |
Finishing centre | 4 | 1 | |||||||
India |
Rum, vodka, whisky, scotch, brandy, gin, wine | 161 | 117 | |||||||
Nigeria |
Beer | 7 | 5 | |||||||
South Africa (ii) |
Beer and spirits | 4 | 3 | |||||||
East Africa (Uganda, Kenya, Tanzania) |
Beer and spirits | 13 | 8 | |||||||
Africa Regional Markets (Ethiopia, Cameroon, Ghana, Seychelles) |
Beer | 5 | 4 |
(i) | Capacity represents ongoing production capacity. The production capacities quoted in the table are based on actual production levels for the year ended 30 June 2015 adjusted for the elimination of unplanned losses and inefficiencies. |
(ii) | In South Africa Diageo has agreed to dispose of its 25% equity interest in Sedibeng Limited. |
Spirits
Spirits are produced in distilleries located worldwide. The group owns 29 Scotch whisky distilleries in Scotland, two whisky distilleries in Canada and a whiskey distillery in the United States. Diageo produces Smirnoff internationally. Ketel One and Cîroc vodkas are purchased as finished product from The Nolet Group and Eurowinegate, respectively. Gin distilleries are located in both the United Kingdom and the United States. Baileys is produced in the Republic of Ireland and Northern Ireland. Rum is blended and bottled in the United States, Canada, Italy and the United Kingdom, and is distilled and blended in the US Virgin Islands and in Australia, Venezuela and Guatemala. Raki is produced in Turkey, Chinese spirits are produced in Chengdu, in the Sichuan province of China and cachaça is produced in Ceará State in Brazil. Diageos maturing Scotch whisky is located in warehouses in Scotland (the largest at Blackgrange holding approximately 50% of the groups maturing Scotch whisky), its maturing Canadian whisky in La Salle and Gimli in Canada and its maturing American whiskey in Kentucky and Tennessee in the United States. In May 2014 the company announced its intention to invest approximately $115 million (£73 million) over three years to build a distillery and six barrel storage warehouses in Shelby County, Kentucky. The new distillery is expected to be in operation by the end of 2016. In February 2015 Diageo sold its Bushmills distillery in Northern Ireland to the Cuervo Group.
13
Business description (continued)
From 2 July 2014 the group accounted for United Spirits Limited (USL) as a subsidiary with a 54.78% equity interest. USL is the leading alcoholic beverage company in India selling over 90 million equivalent cases of Indian Made Foreign Liquor (IMFL). It has a significant market presence across India and presently has 30 owned, 15 leased and 43 third party manufacturing facilities in India and Nepal. USL also operates spirit distillation plants for neutral alcohol, malt spirit, grape spirit and rum spirit with accompanying maturation facilities. USL has many leading Indian brands such as McDowells (Indian whisky, rum and brandy), Black Dog (scotch), Signature (Indian whisky), Antiquity (Indian whisky) and Bagpiper (Indian whisky).
On 27 February 2015, Diageo acquired the 50% of Don Julio B.V. that it did not already own. Don Julio owns a distillery (located near Guadalajara, Mexico), maturing tequila inventory, bulk storage and bottling assets, as well as 6 million agave plants. Diageos intent is to invest in the short term in house bottling capacity and agricultural operations and in the medium and long term in expanding distillation capacity.
In June 2012, the company announced a multi-year investment plan in Scotch whisky production and inventory. To date the spend is approximately £0.8billion and the programme is expected to be completed by 30 June 2017.
During the year to 30 June 2015, the company completed major expansions in Scotland at Glen Ord and Teaninich distilleries doubling the capacity at both sites as well as completing the second phase of seven warehouse builds at the new warehousing facility at Cluny near Kirkcaldy. On Speyside, the new bioenergy plant at Glendullan which treats by-products and generates biogas to be used as renewable energy by the distillery was completed.
Current maturing whisky inventory levels have allowed the commencement of the announced expansions at Clynelish and Mortlach distilleries to be delayed, however work has commenced on upgrading both distilleries.
Beer
Diageos principal brewing facility is at the St Jamess Gate brewery in Dublin where the capacity was recently expanded to brew all beers sold in Western Europe and for global exports in particular to the United States. The Dundalk, Kilkenny and Waterford operations were closed in 2013. Diageo has breweries in a number of African countries; Nigeria, Kenya, Ghana, Cameroon, Ethiopia, Tanzania, Uganda, Seychelles, and brews Red Stripe in Jamaica. In the last six years Diageo has invested heavily in order to increase brewing capacity in Nigeria, Ghana, Cameroon, Kenya and in Ethiopia. The African businesses have also been investing in launching mainstream spirits in Africa, and have utilised a number of revolutionary portable spirits production units.
In addition, Diageo owns a 25.5% effective interest in Guinness Anchor Berhard which operates a brewery in Malaysia, and a 25% equity interest in Sedibeng brewery in South Africa. On 28 July 2015 it was announced that the company agreed to dispose of its 25% interest in Sedibeng to Heineken.
Guinness is also brewed by over 50 third parties around the world under licence arrangements. Guinness flavour extract is shipped from Ireland to all overseas Guinness brewing operations which use the flavour extract to brew Guinness locally. Guinness Draught in cans and bottles is packaged at Runcorn and Belfast in the United Kingdom. The Runcorn facility performs the kegging of Guinness Draught which is transported to Great Britain in bulk.
Wine
Diageos principal wineries are in the United States but the group also has operations in Argentina, Turkey and India. For European markets, wines are mainly bottled in Diageos facilities in Italy. Wines are sold both in their local markets and overseas.
Ready to drink
Diageo produces a range of ready to drink products mainly in the United Kingdom, Italy, South Africa, Australia, the United States and Canada.
Property, plant and equipment
Diageo owns approximately 93% of the manufacturing, distilling, brewing, bottling and administration facilities it uses across the groups worldwide operations. It holds approximately 2% of properties on leases in excess of 50 years. The principal production facilities are described above. As at 30 June 2015, Diageos land and buildings are included in the groups consolidated balance sheet
14
Business description (continued)
at a net book value of £1,044 million. Diageos two largest individual facilities, in terms of book value, are the Leven bottling, blending and warehousing facility in Scotland and St Jamess Gate brewery in Dublin. Approximately 38% of the net book value of Diageos land and buildings are properties located in Great Britain, 14% in Ireland, 13% in the United States and 8% in India.
Raw materials and supply agreements
The group has a number of long term contracts in place for the purchase of raw materials including glass, other packaging, spirit, cream, rum and grapes. Forward contracts are in place for the purchase of cereals to minimise the effects of short term price fluctuations.
Cream is the principal raw material used in the production of Irish cream liqueur and is sourced from Ireland. Grapes are used in the production of wine and raki and are sourced from suppliers in the United States, Argentina and Turkey. Other raw materials purchased in significant quantities for the production of spirits and beer are molasses, cereals, sugar and a number of flavours (such as juniper berries, agave, aniseed, chocolate and herbs). These are sourced from suppliers around the world.
The majority of products are supplied to customers in glass bottles. Glass is purchased from a variety of multinational and local suppliers; the largest suppliers are Ardagh Packaging in the United Kingdom and Owens Illinois in the United States.
Competition
Diageos brands compete on the basis of consumer loyalty, quality and price.
In spirits, Diageos major global competitors are Pernod Ricard, Beam Suntory, Bacardi and Brown-Forman, each of which has several brands that compete directly with Diageos brands. In addition, Diageo faces competition from local and regional companies in the countries in which it operates.
In beer, Diageo competes globally as well as on a regional and local basis (with the profile varying between regions) with several competitors, including AB InBev, Heineken, SABMiller, Molson Coors and Carlsberg.
In wine, the market is fragmented with many producers and distributors.
Research and development
Innovation forms an important part of Diageos growth strategy, playing a key role in positioning its brands for continued growth in both the developed and emerging markets. The strength and depth of Diageos brand range provides a solid platform from which to drive innovation. Diageo continuously invests to deepen its understanding of shopper trends and changing consumer habits to inform product and packaging development. Supporting this, the group has ongoing programmes to develop new products across beverage alcohol categories which are managed internally by the innovation and research and development function, which also takes advantage of a substantial open innovation network.
In the year ended 30 June 2015, the groups research and development expenditure amounted to £26 million (2014 £24 million; 2013 £21 million), representing principally the cost of developing new products, from idea generation through to full product development. Research and development expenditure is generally written off in the year in which it is incurred.
Trademarks
Diageo produces, sells and distributes branded goods and is therefore substantially dependent on the maintenance and protection of its trademarks. All brand names mentioned in this document are trademarks. The group also holds numerous licences and trade secrets, as well as having substantial trade knowledge related to its products. The group believes that its significant trademarks are registered and/or otherwise protected (insofar as legal protection is available) in all material respects in its most important markets. Diageo also owns valuable patents and trade secrets for technology and takes all reasonable steps to protect these rights.
Regulations and taxes
Diageos worldwide operations are subject to extensive regulatory requirements regarding production, product liability, distribution, importation, marketing, promotion, sales, pricing, labelling, packaging, advertising, labour, pensions, compliance and control systems and environmental issues. In the United States, the beverage alcohol industry is subject to strict federal and state government regulations covering virtually every aspect of its operations, including production, distribution, marketing, promotion, sales, pricing, labelling, packaging and advertising.
15
Business description (continued)
Spirits, beer and wine are subject to national import and excise duties in many markets around the world. Most countries impose excise duties on beverage alcohol products, although the form of such taxation varies significantly from a simple application to units of alcohol by volume, to advanced systems based on imported or wholesale value of the product. Several countries impose additional import duty on distilled spirits, often discriminating between categories (such as Scotch whisky or bourbon) in the rate of such tariffs. Within the European Union, such products are subject to different rates of excise duty in each country, but within an overall European Union framework, there are minimum rates of excise duties that can be applied.
Import and excise duties can have a significant impact on the final pricing of Diageos products to consumers. These duties have an impact on the competitive position as compared to other brands. The group devotes resources to encouraging the equitable taxation treatment of all beverage alcohol categories and to reducing government-imposed barriers to fair trading.
Advertising, marketing and sales of alcohol are subject to various restrictions in markets around the world. These range from a complete prohibition of alcohol in certain countries and cultures, through the prohibition of the import of spirits, wine and beer, to restrictions on the advertising style, media and messages used. In a number of countries, television is a prohibited medium for spirits brands and in other countries, television advertising, while permitted, is carefully regulated. Many countries also regulate the use of internet-based advertising and social media in connection with alcohol sales.
Spirits, beer and wine are also regulated in distribution. In many countries, alcohol may only be sold through licensed outlets, both on and off trade, varying from government or state operated monopoly outlets (for example, Canada, Norway and certain US states) to the common system of licensed on trade outlets (for example, licensed bars and restaurants) which prevails in much of the Western world (for example, most US states and the European Union). In about one-third of the states in the United States, price changes must be filed or published 30 days to three months, depending on the state, before they become effective.
Labelling of beverage alcohol products is also regulated in many markets, varying from health warning labels to importer identification, alcohol strength and other consumer information. As well as producer, importer or bottler identification, specific warning statements related to the risks of drinking beverage alcohol products are required to be included on all beverage alcohol products sold in the United States and in other countries where Diageo operates. Expressions of political concern signify the uncertain future of beverage alcohol products advertising on network television in the United States. Any prohibitions on advertising or marketing could have an adverse impact on sales of the group.
Regulatory decisions and changes in the legal and regulatory environment could increase Diageos costs and liabilities or impact on its business activities.
Acquisitions and disposals
Diageo has made a number of acquisitions of brands, distribution rights and equity interests and disposals in premium drinks businesses. For a description of principal acquisitions and disposals since 1 July 2012, see note 9 to the consolidated financial statements.
16
Business description (continued)
OUR GLOBAL REACH
One of Diageos key strengths is its geographic reach. We operate as 21 geographically based markets around the world and have a presence in over 180 countries. We employ more than 33,000 talented people across our global business. 43% of Diageos business is in the emerging markets in Latin America, Asia, Africa, Eastern Europe and Turkey. This presence is balanced through our strong businesses in the worlds most profitable beverage alcohol market, the United States, and an integrated Western European business.
% SHARE OF NET SALES BY OUR 21 MARKETS
EACH OF OUR 21 MARKETS IS ACCOUNTABLE FOR ITS FOR DRIVING GROWTH |
North America |
Europe |
Africa |
Latin America |
Asia Pacific | |||||
>15% | US Spirits and Wines | Western Europe(i) |
||||||||
6-10% | India | |||||||||
3-6% | Diageo Guinness USA (DGUSA) | Turkey | Nigeria, East Africa | West LAC | Global Travel, Asia and Middle East | |||||
2-3% | Canada | Africa Regional Markets | Paraguay, Uruguay and Brazil | Australia North Asia Greater China | ||||||
<2% | Russia and Eastern Europe(i) | South Africa | Mexico, Venezuela, Colombia | South East Asia |
Based on reported net sales for the year ended 30 June 2015.
(i) On 1 July 2015, Russia became a standalone market and Eastern Europe was merged with Western Europe to create a Diageo Europe market.
DIAGEO REPORTS AS FIVE REGIONS
North America | Europe | Africa | Latin America and Caribbean |
Asia Pacific | ||||||||||||||||
% SHARE BY REGION | ||||||||||||||||||||
Volume (%) | 19.2 | 17.9 | 10.6 | 8.8 | 43.5 | |||||||||||||||
Net sales(i) (%) | 32.2 | 24.4 | 13.2 | 9.6 | 20.6 | |||||||||||||||
Operating profit(ii) (%) | 45.4 | 25.2 | 10.0 | 8.2 | 11.2 | |||||||||||||||
Number of responsible drinking programmes(iii) (%) |
21.1 | 24.5 | 14.1 | 19.8 | 20.5 | |||||||||||||||
Water withdrawals(iii) (%) | 11.1 | 45.3 | 37.2 | 4.5 | 1.9 | |||||||||||||||
Carbon emissions(iii) (%) | 8.5 | 51.8 | 35.0 | 3.2 | 1.5 | |||||||||||||||
Number of employees(iv) (%) | 9.8 | 33.0 | 16.5 | 8.8 | 31.9 |
(i) | Excluding corporate net sales of £80 million. (ii) Excluding exceptional operating charges of £269 million and corporate costs of £123 million. (iii) Excludes United Spirits Limited. See further details on pages 103-119. (iv) Employees have been allocated to the region in which they reside. |
17
Business description (continued)
OUR BRANDS
Our 21 market model affords each market the flexibility to select the right portfolio of brands to capture the unique consumer opportunities that exist in that market and place resources directly against our biggest growth opportunities.
Our 21 market structure means we now look at our brands through the lens of global giants and local stars, alongside our leading reserve brands. Our in-market local star brands can be individual to any one market, and provide a platform to accelerate the growth of our international premium spirits. A selection of these brands are included in the table below.
Global giants(i) | ||||||||||
Johnnie Walker | Smirnoff | Captain Morgan | Baileys | Tanqueray | Guinness | |||||
Local stars(ii) |
Reserve(iii) | |||||||||
Crown Royal | Yenì Raki | JeB | Johnnie Walker Extra Rare | John Walker & Sons Odyssey | Johnnie Walker King George V | |||||
Buchanans | Windsor | Grand Old Parr | Johnnie Walker Blue Label | Johnnie Walker Gold Label Reserve | The Singleton of Glen Ord | |||||
Bundaberg | Bells | McDowells No. 1 | Cîroc | Ketel One vodka | Tanqueray No. TEN | |||||
Ypióca | Cacique | Shui Jing Fang | Ron Zacapa Centenario XO | Tequila Reserva de Don Juilo | Bulleit Bourbon |
(i) | Global giants represent 39% of Diageo net sales. (ii) Local stars represent 16% of Diageo net sales. (iii) Reserve brands represent 13% of Diageo net sales. |
18
Business description (continued)
OUTSTANDING BREADTH AND DEPTH ACROSS PRICE POINTS
In our portfolio we have brands at almost every price tier of every category. The range of our price points means we are able to capture consumption shifts across the price spectrum. The breadth and depth of our business provide resilience, and enable us to sustain our performance over time.
Ultra premium(i) |
Super premium |
Premium |
Standard |
Value | ||||||
Scotch whisky | Johnnie Walker Blue Label | The Singleton of Glen Ord | Johnnie Walker Black Label | JeB | VAT 69 | |||||
Other whisk(e)y | Crown Royal Extra Rare | Bulleit Bourbon | Crown Royal | Seagrams 7 Crown | ||||||
Vodka | Cîroc | Ketel One vodka | Smirnoff Iced Cake Flavoured Vodka | Smirnoff | Istanblue | |||||
Rum | Ron Zacapa Centenario XO | Pampero Aniversario Ron Extra Añejo | Captain Morgan Private Stock | Captain Morgan | ||||||
Liqueur | Grand Marnier Cuvée du Cent Cinquantenaire | Grand Marnier Cuvée Louis Alexandre | Sheridans Original Layered Liqueur | Baileys | Emmets | |||||
Tequila | DeLeón tequila | Tequila Reserva de Don Juilo | ||||||||
Gin | Tanqueray No. TEN | Tanqueray | Gordons | Gilbeys | ||||||
Local spirits | Shui Jing Fang | Yenì Raki | Ypióca | McDowells No. 1 | ||||||
Beer | Kilkenny | Guinness | Meta Beer | Dubic Extra Lager |
(i) | Ultra premium includes prestige. |
19
Business description (continued)
OUR PERFORMANCE AMBITION
Diageos Performance Ambition is to create one of the best performing, most trusted and respected consumer products companies in the world.
DIAGEOS STRATEGY AIMS TO DELIVER OUR PERFORMANCE AMBITION THROUGH: | ||||||||
1. Prioritised investment in: |
2. Targeted investment in: | |||||||
a. Premium core spirits(i) (Read more on page 35.) | b. Reserve (Read more on page 35.) |
a. Other spirits(i) | b. Beer | c. Wine |
(i) Spirits include ready to drink (RTDs).
We measure progress against our Performance Ambition using the following financial and non-financial indicators: | ||||||
#1 Efficient growth Organic net sales Operating margin Earnings per share Free cash flow |
#2 Consistent value creation Return on average invested capital Total shareholder return |
#3 Credibility and trust Responsible drinking programmes Water efficiency Carbon emissions |
#4 Motivated people Health and safety Employee engagement |
See our key performance indicators (KPIs) on pages 2831.
20
Business description (continued)
OUR BUSINESS MODEL
Diageo has grown through investment in our brands and route to consumer, and by acquisitions to broaden our geographical footprint and our category depth and range. Our business model is designed to drive returns for shareholders, while creating value for our customers, employees and the communities in which we operate.
1. STRONG PLATFORM | 2. AGILE OPERATING MODEL | 3. FOCUSED INVESTMENT | ||
Broad portfolio: Diageo has world-leading brands across categories and price points. | 21 markets | Performance drivers: Diageo has identified six performance drivers which are key to achieving our aims. Each market focuses on the priorities that will drive performance in that market: premium core brands; reserve; innovation; route to consumer; cost; and talent. | ||
Geographic reach: we have geographic reach through the breadth and depth of our global and local brands. | Participation strategy: our participation strategy is to invest behind the biggest growth opportunities, by category and channel, for our brands in our 21 markets. | Sustainability & Responsibility imperatives: Alcohol in society we aim to create a positive role for alcohol in society through partnerships and programmes that reduce harmful drinking. Thriving communities we must equip people in our business, our supply chain and our communities, particularly women, with the skills and resources they need to build a better future for themselves. | ||
Financial strength: our competitive advantage is reflected by our strong financial returns and consistent financial performance. | Supply management: our 21 markets are designated as import markets, import and third party production markets, or import and local production markets. | Environmental impact we will make our products and business operations more environmentally sustainable, targeting water use, carbon emissions and waste, reducing the volume of packaging we use and sourcing paper and board from sustainable forests.
Our performance drivers and Sustainability & Responsibility imperatives are underpinned by our commitment to the highest standards of governance and ethics. | ||
Efficient supply and procurement: across the world we have efficiency in supply and procurement, with our manufacturing operations working to high quality and environmental standards. | Consumer insights: our deep consumer insights help us to anticipate and respond to rapidly changing dynamics across all markets, and continue to nurture and grow some of the worlds best-loved brands. | |||
Leading capabilities: Diageos focus is on brilliant execution including breakthrough marketing, scalable innovation, and winning relationships with our customers and consumers through distribution and sales. | ||||
Global functions: Diageos 21 markets are supported by a global structure and shared services designed to share best practice, impart knowledge and help build capability at a local level, as well as apply governance of controls, compliance and ethics. | ||||
Values: at the heart of everything we do are our company values: passionate about customers and consumers; be the best; freedom to succeed; proud of what we do; valuing each other. | ||||
4. Value creation: shareholder value; investment in the business; customer, employee and social value |
21
Business description (continued)
CHAIRMANS STATEMENT:
WE ARE CREATING ONE OF THE BEST PERFORMING, MOST TRUSTED AND RESPECTED CONSUMER PRODUCTS COMPANIES.
Over the last two years we have taken the necessary steps to strengthen Diageo, to position our company to drive sustainable growth and value for you, our shareholders, and to ensure we are a trusted and respected partner to all our stakeholders around the world.
Interim dividend per share |
21.5p (h9%) |
31 December 2013: 19.7p |
Final recommended dividend per share |
34.9p (h9%) |
30 June 2014: 32.0p |
Total dividend per share(i) |
56.4p (h9%) |
Full year 2014: 51.7p |
(i) | Includes recommended final dividend. |
6% 26% 17% 35% 10% 6% Global volume share of premium spirits (%) Diageo Pernod Ricard Bacardi Brown-Forman Beam Santony Others Source: Impact Databank, February 2015
Diageo is a leader in beverage alcohol, one of the most attractive growth sectors in consumer products. With our portfolio of global and local brands, and the presence we have built in developed and emerging markets, we are well positioned to capture this growth.
Performance and dividend
In a volatile global environment, our commitment to being one of the best performing, most trusted and respected consumer products companies is as strong as ever. Ivan and the Executive Committee have taken actions to strengthen the business to deliver operational and cultural change, greater agility and responsiveness. Performance this year reflects these actions and continued tough conditions in some markets. In addition, currency volatility affected trading, especially in some of our scotch markets where currency devaluation impacted the price of imported goods for local consumers.
We are more focused than ever on managing cost and delivering cash, and I am pleased that we achieved strong cash conversion, over 100%, during the year. This, together with the actions we are taking to realise our full potential, has enabled the Board to recommend a final dividend of 34.9 pence per share. This would bring the total dividend for the year to 56.4 pence per share, an increase of 9% over the prior year. The final dividend will be paid to shareholders on 8 October 2015. Earnings per share to dividend cover at 1.6 times is now outside our cover ratio, and we will look to rebuild cover over time, maintaining dividend increases at a mid-single digit rate until we are back in range.
Strategic progress
Diageos strategy is delivered through a market focus. In individual markets, we compete with our iconic global brands and local stars while building strong routes to consumer. Our in-market teams are accountable for delivering holistic performance and are empowered to act with speed and agility, supported by the scale and expertise of our global business.
22
Business description (continued)
As a business we have been focused on organic growth while capturing inorganic opportunities. For example, we have been capitalising on North American whisk(e)y trends with the launch of Crown Royal Regal Apple and the continuing success of Bulleit and our other craft bourbons. We have also been broadening our participation in new categories and across price points, with the Orijin brand in Nigeria and Haig Club, a single grain Scotch whisky.
Diageo acquired a majority stake in United Spirits Limited (USL) in India in July 2014, consolidating Diageos position as a local leader in spirits in this exciting growth market. We are now moving into the next phase of integration, prioritising brand investment, driving efficiencies and continuing the implementation of Diageos operational and governance standards across the business, while putting in place a route to consumer team to further develop USLs already impressive market coverage.
In February 2015, we completed the acquisition of the remaining 50% of tequila brand, Don Julio. In gaining full global ownership and management control of the brand and its supply assets, we enhance our position in the high growth segments of super and ultra premium tequila. With this deal we also repatriated the Smirnoff brand into our in-market company in Mexico which will allow us to extend our leading position in spirits in this attractive market.
We remain committed to reviewing our portfolio to ensure that we are the best owners of our assets. We realised full management control of Don Julio through the sale of Bushmills. While Bushmills is a good brand, this was the right strategic decision for Diageo as we invest behind the biggest growth opportunities. The sale of Gleneagles Hotels Limited is another example of Diageos decision to focus on key priorities. Following the success of the Ryder Cup we felt it was an appropriate time to realise value through this sale. We are pleased that the new owner of Gleneagles has committed to be a significant inward investor in Scottish tourism and will work closely with the local community to make a positive contribution to the visitor industry and the Scottish economy.
Sustainability and responsibility
Diageo has a long history of working within the communities where our products are enjoyed, and we understand that the role and impact of alcohol within society must be our primary focus. Our work to promote responsible drinking and reduce alcohol-related harm remains central to our purpose of celebrating life every day, everywhere, and we share the goal of the World Health Organization (WHO) to reduce the harmful use of alcohol by 10% by 2025. In line with the industrys commitments, during the year progress was made on underage drinking, reducing drink driving and strengthening marketing codes.
We are proud of the broad contribution we are making to society, through our economic contribution and through our three community programmes: Learning for Life, Water of Life and Plan W. These programmes have: provided training and skills to more than 100,000 people in the Americas and Britain to help them secure new jobs; delivered access to clean water and sanitation to more than ten million people in Africa supporting better health; and empowered around 100,000 women across Asia. And within Diageo, we continue to champion diversity and inclusivity. One example of this is the level of female representation at Board and Executive Committee level, at 45% and 40% respectively.
Business environment
With our strong portfolio of Scotch whisky brands, we have a deep commitment to Scotland built on the heritage of some of the industrys greatest entrepreneurs. The current debate over the United Kingdoms role within the European Union is one in which Diageo is actively engaged. We want our Scotch whisky business, which makes a considerable contribution to the British economy, to remain competitive in the global marketplace and believe that the best interests of the whole industry are served by the United Kingdom remaining within a strong, reformed European Union.
Board changes
Having been on the Board for nine years, Laurence Danon will step down at the upcoming Annual General Meeting. On your behalf I would like to thank Laurence for her contribution over a period of progress and growth for Diageo. In July 2015, we announced that Emma Walmsley will join the Board as a Non-Executive Director effective 1 January 2016. Emma is currently Chief Executive Officer of GSK Consumer Healthcare.
Our people
Diageos success is in the hands of our 33,000 employees around the world. I would like to thank them all for their dedication and hard work during the year. We must create an environment that stretches and challenges our people and enables them to do their best work, living our values each and every day. I am committed to continuing to build such an environment, and look forward to working with my colleagues on the Board and throughout the business to make sure that we do.
23
Business description (continued)
Looking ahead
Your Board is confident that Diageo will deliver its Performance Ambition. Over the last two years we have taken the necessary steps to strengthen Diageo, to position our company to drive sustainable growth and value for you, our shareholders, and to ensure we are a trusted and respected partner to all our stakeholders around the world.
Dr Franz B Humer
Chairman
24
Business description (continued)
CHIEF EXECUTIVES STATEMENT:
WE HAVE DELIVERED CHANGES WHICH WILL BUILD STRONG, SUSTAINED PERFORMANCE.
The fundamentals for future growth remain strong: Diageo will benefit from the increasing penetration of spirits in emerging markets, innovation and the growing appetite for luxury spirits around the world.
In the next decade one billion new consumers will be able to afford our brands and an additional 800 million consumers will reach levels of income where luxury brands are affordable. Diageo has the leading position in the United States, an integrated Western Europe business, a strong beer platform in Africa from which to build spirits, the leading spirits business in India, and a strong presence in the growth markets of Latin America and Asia.
This year we improved cash conversion, strengthened our route to consumer, delivered industry leading innovation at scale, extended our leadership in reserve and accelerated delivery of our programmed cost savings. We have further sharpened our marketing to better navigate changing consumer trends. So, while some markets have been challenging, we remain confident in the long term global demographics and our ability to deliver growth through the business transformation we are effecting.
Driving operational and cultural change
In the past year we have implemented some important changes to strengthen our business. These changes are aimed at providing greater visibility and will allow us to react more quickly to changes in the marketplace, consumer sentiment and demand.
| We have completed our shift to a market-led model, enabling greater speed in the way we execute and local accountability. |
| We have shifted our focus to the consumer, allowing us to make better decisions on how we use our marketing spend and run our supply chains. |
| We have embedded a productivity discipline, in order to create more opportunity to invest behind growth in our brands. |
| We continue to ensure we have the right people with the right capabilities to deliver our plans across our business. |
Results
Organic net sales were flat. Volume declined 1% reflecting a destock in South East Asia, lower shipments in the United States and improving price/mix led by the growth of reserve brands.
Organic operating margin was up 24 basis points delivered by cost savings and efficiencies, which more than offset the impact of cost inflation and negative market mix. Our global efficiency programme identified £200 million of cost savings to be delivered by the end of fiscal 2017. We delivered £127 million this year, and as planned reinvested £30 million of the savings.
Free cash flow was up over £700 million this year, to almost £2 billion, as I made cash a clear priority for improvement. To deliver this, incentive programmes were changed and we set clear targets for each market. This focus has led to many examples across markets where we have improved processes and ways of working to reduce our working capital. The sales of the Bushmills brand and the Gleneagles Hotel also generated cash in the year.
25
Business description (continued)
Earnings per share before exceptionals fell 7% to 88.8 pence largely as a result of adverse exchange movements and lower income from associates and joint ventures, offset by underlying improvements.
2015 net sales by category (%)7% 18% 24% 12% 5% 4% 1% 8% 5% 6% 3% 7% Scotch NAM Whisk(e)y Vodka Rum Liqueur Tequila Gin Beer Wine Ready to drink IMFL Other
Sustainability and responsibility
In December 2014 we launched our 2020 Sustainability & Responsibility targets. Stretching and industry leading, our 2020 targets address our most material issues: leadership in alcohol in society; building thriving communities; and reducing our environmental impact. The 2020 targets draw on our achievements to date and are aligned with the new, emerging United Nations Sustainable Development Goals.
With these targets, we are going beyond the establishment of programmes on responsible drinking, community development and environmental performance, to focus on measuring their impact, challenging ourselves to strengthen their value, impact and scale. In doing so, we will work in partnership with governments, civil society, individuals, NGOs and other companies to put in place programmes with quantifiable outcomes. We continue to support fully the Global Producers Commitments, a co-ordinated industry response to support the World Health Organizations (WHO) Global Strategy to Reduce the Harmful Use of Alcohol.
In April this year we announced an ambitious strategy for water stewardship. With water a pressing business and global issue, our Water Blueprint recognises the responsibilities of operating in water-stressed areas and explains how we will support the sustainability of the water resources on which we and those around us rely. Our Water Blueprint and our progress towards all of our targets are essential parts of our long term plan, not just in enabling sustainable operations but also in creating opportunities for growth.
Our people
It is a privilege to work with Diageo teams across the world. I feel honoured to lead a company where purpose and values are deeply ingrained. The commitment of our people to get behind the decisions taken during the year is encouraging. This was demonstrated in the results of our annual employee Values Survey, with employee engagement improving through a tough performance period. This evidence of the passion and commitment all of us hold for Diageo is the perfect fuel to drive future growth, and I look forward to working with our teams across the business, implementing the exciting plans we have for the year ahead.
Larry Schwartz, President Diageo North America, will retire at the end of this calendar year. Larry has many achievements in a 40-year career in the industry, not least his commitment to deliver growth for Diageo and build our strong North American platform. Deirdre Mahlan, currently Chief Financial Officer and the incoming leader of this business, will have this platform to build on as she drives the next stage of Diageo North Americas growth.
Productivity
At the end of July 2015, we announced our intention to deliver productivity gains of a further £500 million over three years from fiscal 2017 to invest in growth and improve margin. As we achieve our productivity gains we expect to deliver mid-single digit organic top line growth on a sustained basis and operating margin expansion of 100 basis points over the same three year period.
26
Business description (continued)
Outlook
The fundamentals for future growth remain strong: Diageo will benefit from the increasing penetration of spirits in emerging markets, innovation and the growing appetite for luxury spirits around the world.
We have taken some tough decisions over the last couple of years to set Diageo up to deliver strong, sustained performance. Today we are closer to the consumer, more agile, and focused on productivity, with the people, skills and capabilities to deliver on the opportunity. We are at an exciting point on our journey. In 2016, we believe stronger volume growth will deliver an improved top line performance.
Ivan Menezes
Chief Executive
27
Business description (continued)
HOW WE MEASURE PERFORMANCE: KEY PERFORMANCE INDICATORS
We use the following 11 key performance indicators (KPIs) to measure our financial and non-financial performance.
Their relevance to our strategy and our performance against these measures are explained below:
Relevance to strategy
#1 | Efficient growth |
#2 | Consistent value creation |
#3 | Credibility and trust |
#4 | Motivated people |
FINANCIAL | FINANCIAL | FINANCIAL | ||
ORGANIC NET SALES GROWTH (%) ® #1 |
ORGANIC OPERATING MARGIN IMPROVEMENT (BPS) ® #1 | EARNINGS PER SHARE BEFORE EXCEPTIONAL ITEMS (PENCE)(i) ® #1 | ||
|
|
| ||
FINANCIAL ORGANIC NET SALES GROWTH (%) 0.0% 5 2013 0.4 0.0 2014 2015 | FINANCIAL ORGANIC OPERATING MARGIN IMPROVEMENT (BPS) +24bps 78 77 24 2013 2014 2015 | FINANCIAL EARNINGS PER SHARE BEFORE EXCEPTIONAL ITEMS (PENCE)(i) 88.8p 103.1 95.5 88.8 2013 2014 2015 | ||
Definition | Definition | Definition | ||
Sales growth after deducting excise duties, excluding the impact of exchange rate movements, acquisitions and disposals. | The percentage point movement in operating profit before exceptional items, divided by net sales after excluding the impact of exchange rate movements and acquisitions and disposals. | Profit before exceptional items attributable to equity shareholders of the parent company, divided by the weighted average number of shares in issue. | ||
Why we measure This measure reflects our performance as the result of the choices made in terms of category and market participation, and Diageos ability to build brand equity, increase prices and grow market share. |
Why we measure The movement in operating margin measures the efficiency of the business. Consistent operating margin improvement is a business imperative, driven by investment choices, our focus on driving out costs across the business and improving mix. |
Why we measure Earnings per share reflects the profitability of the business and how effectively we finance our balance sheet. It is a key measure for our shareholders. | ||
Performance Organic net sales were flat, with volume decline of 1% reflecting a destock in South East Asia and West LAC, lower shipments in the United States and improving price/mix led by the growth of reserve brands. |
Performance Margin improved mainly due to cost savings, primarily through our global efficiency programme, partially offset by reinvestment in route to consumer, cost inflation and negative market mix. |
Performance Eps before exceptional was down by 6.7 pence per share driven by adverse exchange movements and lower income from associates and joint ventures, offset by underlying improvements. | ||
See page 47 for more detail. | See page 47 for more detail. | See page 48 for more detail. |
28
Business description (continued)
NON-FINANCIAL | NON-FINANCIAL | NON-FINANCIAL | ||
ALCOHOL IN SOCIETY(iii) (RESPONSIBLE DRINKING PROGRAMMES) #3 |
HEALTH AND SAFETY(iii) (LOST-TIME ACCIDENT FREQUENCY PER 1,000 EMPLOYEES) #4 |
WATER EFFICIENCY(iii), (v) (L/L) #3 | ||
|
|
| ||
NON-FINANCIAL ALCOHOL IN SOCIETY(iii) (RESPONSIBLE DRINKING PROGRAMMES) 298 PROGRAMMES 373 315 298 2013 2014 2015 | NON-FINANCIAL HEALTH AND SAFETY(iii) (LOST-TIME ACCIDENT FREQUENCY PER 1,000 EMPLOYEES) 1.66A 2.97 1.66(iv) 1.66A 2013 2014 2015 | NON-FINANCIAL WATER EFFICIENCY(iii), (v) (L/L) 6.0L/LA 7.0 6.8 6.0A 2013 2014 2015 | ||
Definition | Definition | Definition | ||
Programmes supported by Diageo that aim to reduce harmful drinking. | Number of accidents per 1,000 employees and directly supervised contractors resulting in time lost from work of one calendar day or more. | Ratio of the amount of water required to produce one litre of packaged product. | ||
Why we measure Alcohol-related harm is our most important social issue. These programmes address risks such as: harm to consumers and communities; limitations to our licence to operate; and the loss of trust and respect from our stakeholders. |
Why we measure Safety is a basic human right: everyone has the right to work in a safe environment, and our Zero Harm safety philosophy is that everyone should go home safe, every day, everywhere. |
Why we measure Water is the main ingredient in all of our brands. To sustain production growth and respond to the growing global demand for water, we aim to improve efficiency, minimising our water use, particularly in water-stressed areas. | ||
Performance In shifting our focus towards the Global Producers Commitments, we supported fewer programmes this year, and in line with our 2020 target, we are prioritising impact, which involves supporting fewer but more effective programmes. |
Performance Our overall lost-time accident frequency rate has remained static despite improvements in our operations, our accident rate in offices and sales functions has increased. Addressing this will be a key focus for us in 2016. |
Performance 11.8% improvement on 2014, resulting from process optimisations and improvements related to equipment, raw material handling, culture and behaviour towards water stewardship. | ||
See page 104 for more detail. | See page 113 for more detail. | See page 108 for more detail. |
29
Business description (continued)
FINANCIAL | FINANCIAL | FINANCIAL | ||
FREE CASH FLOW (£ MILLION)® #1 |
RETURN ON AVERAGE INVESTED CAPITAL (ROIC) (%)(ii) #2 | TOTAL SHAREHOLDER RETURN (%)® #2 | ||
|
|
| ||
FINANCIAL FREE CASH FLOW (L MILLION) L1,963m 1,963 1,452 1,235 2013 2014 2015 | FINANCIAL RETURN ON AVERAGE INVESTED CAPITAL (ROIC) (%)(ii) 12.3% 16.5 14.1 12.3 2013 2014 2015 | FINANCIAL TOTAL SHAREHOLDER RETURN (%) 2% 17 2 2 2013 2014 2015 | ||
Definition Free cash flow comprises the net cash flow from operating activities aggregated with the net cash received/paid for loans receivable and other investments, and the net cash cost paid for property, plant and equipment, and computer software. |
Definition Profit before finance charges and exceptional items attributable to equity shareholders divided by average invested capital. Invested capital comprises net assets aggregated with exceptional restructuring costs and goodwill at the date of transition to IFRS, excluding post employment liabilities, net borrowings and non-controlling interests. |
Definition Percentage growth in the value of a Diageo share (assuming all dividends and capital distributions are re-invested). | ||
Why we measure Free cash flow is a key indicator of the |
Why we measure ROIC is used by management to assess the return obtained from the groups asset base. Improving ROIC builds financial strength to enable Diageo to attain its financial objectives. |
Why we measure As a public limited company, Diageo has a fiduciary responsibility to maximise long term value for shareholders. We also monitor our relative TSR performance against our peers. | ||
Performance Improved working capital, primarily due to lower debtors driven by phasing of sales in the last quarter, was the biggest driver of the improvement in free cash flow. |
Performance The additional investment in United Spirits Limited and its full consolidation reduced ROIC by 1.1 pps. Adverse exchange and lower income from associates resulted in a further reduction offset by organic operating profit growth. |
Performance Diageo delivered total shareholder return of 2% as dividends paid increased by 9% and earnings declined mainly as a result of adverse exchange movements. | ||
See page 49 for more detail. | See page 49 for more detail. |
30
Business description (continued)
NON-FINANCIAL | NON-FINANCIAL | Remuneration Some KPIs are used as a measure in the See our Directors remuneration report | ||
CARBON EMISSIONS(iii),(vi) (1,000 TONNES CO2E) #3 |
EMPLOYEE ENGAGEMENT INDEX (%) #4 | |||
|
|
|||
NON-FINANCIAL CARBON EMISSIONS(iii) (1,000 TONNES CO2E) 652? 701 673 652? 2013 2014 2015 | NON-FINANCIAL EMPLOYEE ENGAGEMENT INDEX (%) 75% 85 73(vi) 75 2013 2014 2015 | |||
Definition | Definition | |||
Absolute volume of carbon emissions, in 1,000 tonnes. | Measured through our Values Survey; includes metrics for employee satisfaction, loyalty, advocacy and pride. | |||
Why we measure Carbon is a key element of our overall environmental impact and the impact of the industry. We recognise the importance of reducing our carbon emissions, not just to create efficiencies and savings now, but also to mitigate climate change and position us well for a low carbon economy in the future. |
Why we measure Employee engagement is a key enabler of our strategy and performance. The survey allows us to measure, quantitatively and qualitatively, how far employees
believe |
|||
Performance Improved performance resulting from cumulative impacts of multiple energy efficiency initiatives and switches to renewable fuels, predominately biogas recovery and reuse. |
Performance 94% of our people participated in our Annual Values Survey. Our people confirmed that one of our core strengths continues to be our employees pride and strong sense of ownership of our business and our brands. |
|||
See page 109 for more detail. | See page 114 for more detail. |
(i) | For reward purposes this measure is further adjusted for the impact of exchange rates and other factors not controlled by management, to ensure focus on our underlying performance drivers. |
(ii) | The group has revised the return on average invested capital calculation by excluding the profit and net assets attributable to non-controlling interests. Comparative figures have been restated. |
(iii) | Excludes United Spirits Limited. See pages 103 119 for further details. |
(iv) | Revised comparative amount to be consistent with current year presentation, see more details on page 114. |
(v) | In accordance with Diageos environmental reporting methodologies, data for each of the two years in the period ended 30 June 2014 has been restated and total water used excludes irrigation water for agricultural purposes on land under the operational control of the company. |
(vi) | Data for each of the two years in the period ended 30 June 2014 has been restated in accordance with the WRI/WBCSD GHG Protocol and Diageos environmental reporting methodology. |
(vii) | In 2014, we reviewed our overall approach to measuring engagement, and adopted a revised index (it is not possible to restate prior year figures under the new method, so 2013 show highly engaged scores based on the former method). The new index allows us to compare our results with other best-in-class organisations, and sets a more challenging benchmark for employee engagement. As part of this process, we changed our key performance indicator from super engagement to engagement. |
31
Business description (continued)
MARKET DYNAMICS
The global beverage alcohol market is large and diverse, with an estimated six billion equivalent units of alcohol sold each year, generating £300 billion of net sales. It is also one of the most regulated in the world, and beverage alcohol companies operate in the context of a range of stakeholder expectations and demands. This environment presents opportunities for a business like Diageo, with our global scale, our diverse range of leading brands, and our high standards of governance and ethics.
A growing global market
Beverage alcohol is a profitable, growing and attractive market in which to participate. Margins are significantly higher than for the overall consumer goods market, while, over the medium term, the industry is expected to grow in both volume and value. While the global market is split almost equally between emerging and developed markets, emerging markets are expected to grow at a faster rate.
Within emerging markets and developed markets, every individual market presents different consumer dynamics and a different outlook determined by specific local conditions. Our 21-market operating model, coupled with tailored local strategies, enables us to meet the specific needs of consumers across different geographies.
Opportunities in developed markets
In developed markets, the population is ageing, and in aggregate is growing more slowly than in emerging markets in some countries it is shrinking. Overall, wealth is fairly static but is increasingly polarised as growth is skewed towards the most affluent. The opportunities in developed markets are therefore very different from emerging markets. Given the higher levels of disposable income and the importance of branding, in developed markets consumers are often prepared to pay more for high quality brands with heritage and provenance. Our key opportunities are to offer beer customers other products, particularly spirits, and, as tastes evolve, to encourage consumers to trade up within spirits brands.
Opportunities in emerging markets
Growth of beverage alcohol consumption in emerging markets is driven by strong, underlying consumer fundamentals. The number of people of legal purchasing age is growing worldwide, and is set to increase by over 450 million over the next decade. Wealth is increasing, with the middle class growing. This means more consumers are buying brands and they have more money to spend on them. There is a good opportunity for growth for spirits, as consumer tastes shift and disposable incomes rise.
Factors affecting consumer choices
While medium-term prospects for beverage alcohol are robust and positive for the reasons described above, in the short term there are particular challenges that face all consumer goods businesses.
32
Business description (continued)
Economic and political instability
Sudden changes to economic variables such as exchange rates and commodity prices, or changes in levels of political security, can reduce consumer confidence and spending power. Over the last year alone we have witnessed considerable economic, social and political upheaval in many places: huge currency devaluations in Venezuela; geo-political conflict in Russia and Ukraine; the Ebola outbreak; and terrorist threats in Nigeria and Kenya, to name some examples. The general operating environment will continue to be a turbulent and unpredictable one in which to compete.
Our approach is based on broad participation across geographies, categories and price tiers, which provides a natural hedge against individual market volatility, while tailored strategies for each market allow us to respond quickly to local dynamics. Operationally, we continue to focus on improving our risk management processes, while our 21-market operating model enables our markets to respond quickly to local events and trends. Our renewed focus on managing the business according to what is actually bought by consumers rather than what we sell to our customers will also help to improve the consistency of our performance across markets.
Increasing expectations of businesses and brands
Consumers today particularly millennials have increasing expectations of the businesses behind the brands they love. It is not enough to provide a great product and brand experience: companies must make a contribution that goes beyond economic benefits, to encompass environmental and social benefits as well.
This is reflected in the developing regulatory framework for listed companies, which are expected to be transparent about their key social and environmental issues, and, through reporting, to demonstrate progress. Going beyond what is mandatory has become the norm for global businesses, which are adopting various voluntary frameworks. These include the International Integrated Reporting Framework, published last year, the Global Reporting Initiative Guidelines, launched in 2000 and updated last year, and the United Nations Global Compact principles, established in 2006, all of which we follow in our reporting.
This high and growing level of regulation and scrutiny can be an advantage to companies with good corporate governance and the right approach to sustainability and responsibility.
Creating a positive role for alcohol in society
Diageo has always believed that creating a positive role for alcohol in society is about working in partnership with all the relevant stakeholders, through concerted industry initiatives. We are one of 13 global producers of beer, wine and spirits which, in 2013, launched a set of commitments designed to support Member States implementation of the World Health Organizations (WHO) global strategy to reduce the harmful use of alcohol. They include a focus on reducing underage drinking, strengthening and expanding marketing codes of practice, providing consumer information and responsible product innovation, reducing drink driving, and enlisting the support of retailers to reduce harmful drinking.
Diageo also believes that the most effective alcohol policies are evidence-based, account for drinking patterns, target at-risk groups, treat all forms of alcohol equally, and involve all stakeholders. Such policies include mandating a minimum legal purchasing age of not less than 18; a maximum blood alcohol concentration (BAC) level for drivers of no more than 0.08mg; and lower BACs for novice and commercial drivers. Also effective are high-visibility enforcement campaigns of drink-driving laws and alcohol interlock devices for convicted drink drivers.
Diageo advocates these policies while opposing measures that are not based on evidence, and are likely to have unintended consequences. For example the use of high taxes to control consumption can in some cases push consumers to unregulated alcohol markets. These are potentially dangerous for consumers what little is known about this unrecorded alcohol, which the WHO estimates accounts for 25% of alcohol consumed, suggests that some may be contaminated, some toxic, and a risk to public health.
Factors affecting the operational environment
The developments in reporting social and environmental issues noted above are a reflection of their importance to business performance. The interdependence of companies and their local environments, communities and economies is a growing phenomenon, which Diageo has long recognised through our sustainability and responsibility programmes. In December 2014 we launched our 2020 Sustainability & Responsibility targets, which focus on three imperatives: leadership in alcohol in society; building thriving communities; and reducing our environmental impact.
33
Business description (continued)
Climate change and water scarcity
Companies particularly those that rely on agricultural raw materials are increasingly being affected by a variety of environmental issues associated with climate change, such as extreme weather events, water scarcity and biodiversity loss.
For the alcohol industry, water scarcity demands particular attention given that water is the main ingredient in all alcoholic beverages. The World Bank expects water scarcity to affect 2.8 billion people directly by 2025, and the increasing importance of water as a global issue is recognised in our Water Blueprint, launched in April 2015, which defines our strategic approach to water stewardship across the value chain. The map below shows our sites located in water-stressed areas where our approach to water stewardship is particularly important.
Local communities and supply chains
Alcohol beverage companies contribute to the economic development of their communities in a variety of ways, whether through direct or indirect employment, taxes or community investment efforts. However, companies can further contribute by leveraging the economic impact of their entire value chain in the way they work with suppliers and customers and doing so is an increasing expectation of the private sector by government and international development institutions. One powerful trend in the food and beverage industry is a focus on local sourcing in markets with an agricultural economy or the potential for one, and, in Africa, we have a target of sourcing 80% of agricultural materials locally (sourced within Africa and used by our African markets). This helps build trust with government and other stakeholders, can help secure supply, and it delivers wider benefits to the local community.
34
Business description (continued)
HOW WE WILL DELIVER OUR PERFORMANCE AMBITION
Diageos performance drivers and Sustainability & Responsibility imperatives are key to achieving our Performance Ambition. Each of our 21 markets focuses on the priorities that are most relevant to driving growth and creating shared value in that market.
OUR SIX PERFORMANCE DRIVERS
1. Strengthen and accelerate growth of our premium core brands
Our premium core brands are sold in more than 180 countries around the world. They are enjoyed by consumers in the developed markets and have wide appeal in emerging markets. They include iconic brands like Johnnie Walker, Smirnoff, Captain Morgan and Baileys.
2. Win in reserve in every market
Our reserve or luxury portfolio accounts for 13% of our total net sales. Over the last six years we have transformed our luxury brand building capabilities and are now the industry leader in the super and ultra premium segments.
3. Innovate at scale to meet new consumer needs
Our ability to innovate is a competitive advantage. A proven driver of growth, it is critical to the performance in each of our markets. Since 2009, innovation has accounted for at least half of Diageos sales growth, growing double-digit each year.
4. Build and then constantly extend our advantage in route to consumer
Our global programme looks at how we can profitably extend where our brands appear and improve the quality of how they appear at every appropriate drinking or buying occasion, achieving higher rates of sale in an efficient way.
5. Drive out costs to invest in growth
Increasing productivity and efficiency within Diageo will improve profitability and allow us to invest back into the business to drive growth.
6. Ensure we have the talent to deliver our Performance Ambition
We employ bright, collaborative people at all levels in our business, and must continue to do so if we are to achieve our Performance Ambition. Ensuring that we have the best talent now and in the future is one of our biggest challenges and one of our greatest opportunities.
OUR THREE SUSTAINABILITY & RESPONSIBILITY IMPERATIVES
1. Leadership in alcohol in society
Creating a positive role for alcohol in society is our primary focus, and over the last decade we have supported hundreds of programmes to tackle harmful drinking and encourage responsibility. We will continue these efforts with our various stakeholder partners as well as focus on delivering the five Global Producers Commitments.
2. Building thriving communities
Our distilleries, breweries and wineries are at the heart of our communities, and we have a responsibility to create shared value throughout our supply chain. Our targets commit us to further partnerships with local farmers and agricultural communities to develop more sustainable supply chains and secure our raw material supply.
3. Reducing our environmental impact
Recognising that our impact on the environment is not limited to our own sites, our targets reflect the need to better manage water stewardship and carbon emissions across our whole supply chain. We will work increasingly with suppliers, striving to decouple the growth of our business from our impact on the environment.
35
Business description (continued)
Risk factors
Diageo believes the following to be the principal risks and uncertainties facing the group. If any of these risks occur, Diageos business, financial condition and performance could suffer and the trading price and liquidity of securities could decline.
In the ongoing uncertain economic environment, certain risks may gain more prominence either individually or when taken together. For example, demand for beverage alcohol products, in particular luxury or super premium products, may decrease with a reduction in consumer spending levels. Costs of operations may increase if inflation were to become prevalent, or upon an increase in the costs of raw materials. These conditions may also lead to intensified competition for market share, with potentially adverse effects on volume and prices. The financial and economic situation may have a negative impact on third parties with whom Diageo does, or may do, business. Any of these factors may affect the groups performance, financial condition and liquidity. Diageo has taken and may take further steps to manage its business through this challenging economic environment and to position its business to benefit from economic recovery as and when that may occur in the markets in which Diageo operates, but there can be no assurance that the steps taken will have the intended results.
Diageos ability to fund its long term strategies may be adversely affected if there is an extended period of constraint in the capital markets, particularly the debt markets, at the same time that cash flows from Diageos business are under pressure. Such developments may adversely affect shareholder returns or share price. Additionally, continued volatility in exchange rates used to translate foreign currencies into pounds sterling may have a significant impact on Diageos reported results. Changes in the trustees valuations of the assets and liabilities of Diageos pension plans may also increase pension funding requirements.
Risks related to the global economy
Diageos business may be adversely impacted by unfavourable economic conditions or political or other developments and risks in the countries in which it operates
Diageo may be adversely affected by political, economic or social developments in any of the countries where it has distribution networks, production facilities or marketing companies. Diageos business is dependent on general economic conditions in the United States, countries that form the European Union and other important markets.
If the economy in any of these markets does not recover as forecast, or if there is a significant deterioration in the economic conditions in any of Diageos important markets, including any resulting social unrest, reduction in consumer confidence and spending levels, customer destocking, the failure of customer, supplier or financial counterparties or a reduction in the availability of, or an increase in the cost of financing to, Diageo, it could have a material adverse effect on Diageos business and performance. Any such economic developments may lead to reduced economic growth and, in turn, reduced demand for Diageos products, in Europe and other markets in which Diageo operates. This could have a material adverse effect on Diageos business.
Diageo is headquartered in the United Kingdom and has significant production and investment in Scotland. Following the result of the Scottish independence referendum in 2014 and the UK general election in 2015, legislation to grant more devolved powers to the Scottish parliament has been introduced. Diageo will monitor the passage of this Bill. Amendments granting additional devolved powers may be proposed, and these could result in a further period of political unceratinty that may adversely affect Diageos business. Regarding Britains place in Europe, by the end of 2017, the current government in the United Kingdom has undertaken to conduct a referendum on the UKs continued membership of the European Union. The UKs withdrawal from the EU would involve a sustained period of uncertainty and complexity which could have an adverse effect on our operations and profitability. In addition, Diageos operations are also subject to a variety of other risks and uncertainties related to trading in numerous foreign countries, including political or economic upheaval and the imposition of any import, investment or currency restrictions, including tariffs and import quotas or any restrictions on the repatriation of earnings and capital. Political and/or social unrest, potential health issues, natural disasters and terrorist threats and/or acts may also occur in various places around the world, which will have an impact on trade, tourism and travel. Many of these risks are heightened, or occur more frequently, in emerging markets. These disruptions can affect Diageos ability to import or export products and to repatriate funds, as well as affecting the levels of consumer demand (for example, in duty free outlets at airports or in on trade premises in affected regions) and therefore Diageos levels of sales or profitability. A substantial portion of Diageos operations, representing approximately 43% of Diageos net sales for the year ended 30 June 2015, are carried out in emerging markets. Emerging markets are also generally exposed to relatively higher risk of liquidity constraints, inflation, devaluation, price volatility, currency convertibility and sovereign default. Due to Diageos specific exposures, any or all of the aforementioned factors may affect Diageo disproportionately or in a different manner as compared to its competitors.
36
Business description (continued)
Part of Diageos growth strategy includes expanding its business in certain countries where consumer spending in general, and spending on Diageos products in particular, has not historically been as great but where there are strong prospects for growth. There is no guarantee that this strategy will be successful and some of these markets represent a higher risk in terms of their changing regulatory environments and higher degree of uncertainty over levels of consumer spending.
Risks related to the industry
Demand for Diageos products may be adversely affected by many factors, including changes in consumer preferences and tastes and adverse impacts of a declining economy
Diageos collection of brands includes some of the worlds leading beverage alcohol brands as well as brands of local prominence. Maintaining Diageos competitive position depends on its continued ability to offer products that have a strong appeal to consumers. Consumer preferences may shift due to a variety of factors including changes in demographic and social trends, public health regulations, changes in travel, vacation or leisure activity patterns, weather effects and a downturn in economic conditions, which may reduce consumers willingness to purchase premium branded products. Continued economic pressures could also lead to consumers selecting products at lower price points, whether Diageos or those of its competitors, which may have an adverse effect on Diageos profitability. The competitive position of Diageos brands could also be affected adversely by any failure to achieve consistent, reliable quality in the product or in service levels to customers.
In addition, the social acceptability of Diageos products may decline due to public concerns about alcohol consumption. These concerns could also result in regulatory action, litigation or customer complaints against companies in the industry and may have an adverse effect on Diageos profitability.
Growth in Diageos business has benefited from both the launch of new products and the creation of brand extensions and product innovation remains a significant element of Diageos growth plans. The launch and ongoing success of new products is inherently uncertain, especially as to their appeal to consumers. The failure to launch successfully a new product can give rise to inventory write-offs and other costs and can affect consumer perception and growth of an existing brand. There can be no assurance of Diageos continuing ability to develop and launch successful new products or variants of existing products or of the profitable lifespan of newly or recently developed products.
Diageo is subject to litigation directed at the beverage alcohol industry and other litigation
Companies in the beverage alcohol industry are, from time to time, exposed to class action or other litigation relating to alcohol advertising, product liability, alcohol abuse problems or health consequences from the misuse of alcohol. Diageo may also be subject to litigation arising from legacy and discontinued activities, as well as other litigation in the ordinary course of its operations. Diageo is further subject to the risk of litigation by tax, customs and other regulatory authorities, including with respect to the methodology for assessing importation value, transfer pricing or compliance matters. Changes in the political and economic climate have resulted in an increased focus on tax collection in recent years and tax authorities are showing an increased appetite to challenge the methodology used by multinational enterprises, even where it is compliant with international best practice guidelines. Any such litigation may result in damages, penalties or fines as well as reputational damage to Diageo or its brands, and as a result, Diageos business could be materially adversely affected. For additional information with respect to legal proceedings, see Additional information for shareholders Legal proceedings and note 18 to the consolidated financial statements.
Climate change, or legal, regulatory or market measures to address climate change, may negatively affect Diageos business or operations, and water scarcity or poor water quality could negatively impact Diageos production costs and capacity
There is a growing concern that carbon dioxide and other so-called greenhouse gases in the atmosphere may have an adverse impact on global temperatures, weather patterns and the frequency and severity of extreme weather and natural disasters. In the event that such climate change has a negative effect on agricultural productivity, Diageo may be subject to decreased availability or increased pricing for certain raw materials that are necessary for Diageos products, such as sugar, cereals, hops, agave and grapes. Water is the main ingredient in substantially all of Diageos products and it is also a limited resource in many parts of the world. As demand for water continues to increase, and as water becomes scarcer and the quality of available water deteriorates, Diageo may be affected by increasing production costs or capacity constraints, which could adversely affect Diageos operations and profitability.
37
Business description (continued)
An increase in the cost of raw materials or energy could affect Diageos profitability
The components that Diageo uses for the production of its beverage products are largely commodities that are subject to price volatility caused by changes in global supply and demand, weather conditions, agricultural uncertainty and/or governmental controls. Commodity price changes may result in unexpected increases in the cost of raw materials, glass bottles, flavours and other packaging materials and Diageos beverage products. Diageo may also be adversely affected by shortages of such materials or by increases in energy costs resulting in higher transportation, freight and other operating costs. Diageo may not be able to increase its prices to offset these increased costs without suffering reduced volume, sales and operating profit.
Risks related to regulation
Regulatory decisions and changes in the legal and regulatory environment could increase Diageos costs and liabilities or limit its business activities
Diageos operations are subject to extensive regulatory requirements relating to production, distribution, importation, marketing, advertising, promotion, sales, pricing, labelling, packaging, product liability, labour, pensions, antitrust, compliance and control systems, and environmental issues. Changes in laws, regulations or governmental or regulatory policies and/or practices could cause Diageo to incur material additional costs or liabilities that could adversely affect its business. In particular, governmental bodies in countries where Diageo operates may impose new labelling, product or production requirements, limitations on the marketing, advertising and/or promotion activities used to market beverage alcohol, restrictions on retail outlets, restrictions on importation and distribution or other restrictions on the locations or occasions where beverage alcohol is sold which directly or indirectly limit the sales of Diageo products.
Regulatory authorities under whose laws Diageo operates may also have enforcement power that can subject the group to actions such as product recall, seizure of products or other sanctions which could have an adverse effect on Diageo sales or damage its reputation. Any changes to the regulatory environment in which Diageo operates could cause Diageo to incur material additional costs or liabilities, which could adversely affect Diageos performance.
Beverage alcohol products are also subject to national excise, import duty and other duties in most countries around the world. An increase in any such duties could have a significant adverse effect on Diageos sales revenue or margin, both through reducing overall consumption and by encouraging consumers to switch to lower-taxed categories of beverage alcohol.
Diageos reported after tax income is calculated based on extensive tax and accounting requirements in each of its relevant jurisdictions of operation. Changes in tax law (including tax rates), accounting policies and accounting standards could materially reduce Diageos reported after tax income.
Diageo is subject to increasing costs of monitoring and maintaining compliance with anti-corruption laws; and a breach of such laws or of Diageos related internal policies may have a material adverse effect on its business
Certain countries in which Diageo operates are reported to have high levels of corruption. There is increasing scrutiny and enforcement by regulators in many jurisdictions of anti-bribery laws including the US Foreign Corrupt Practices Act and the UK Bribery Act. This oversight has been enhanced by applicable regulations in the United States, which offer substantial financial rewards to whistleblowers for reporting information that leads to monetary fines.
While Diageo has implemented and maintains internal practices, procedures and controls designed to ensure compliance with anti-bribery legislation and routinely conducts investigations, either at its own initiative or in response to requests from regulators in connection with compliance with such internal controls, there is no guarantee that such procedures will be effective in preventing compliance failures at Diageo.
Any investigations and lawsuits, regardless of the ultimate outcome of the proceeding, are time consuming and expensive and can divert the time and effort of our personnel, including senior management, from our business. Adverse publicity, governmental scrutiny and legal and enforcement proceedings can also have a negative impact on our reputation and on the morale and performance of our employees. To the extent that violations of Diageos policies and procedures are found, possible regulatory sanctions and fines and other consequences may also be material.
38
Business description (continued)
Risks related to Diageos business
The value of Diageos brands and its net sales may be negatively affected by its failure to maintain its brand image and corporate reputation
The value of Diageos brands and its profitability depends heavily on its ability to maintain its brand image and corporate reputation. Adverse publicity, whether or not justified, may tarnish Diageos reputation and cause consumers to choose products offered by its competitors. Such adverse publicity could arise as a result of a perceived failure by Diageo to make adequate positive social contributions, including in relation to the level of taxes paid by Diageo, or by the failures of internal controls or compliance breaches leading to a breach of Diageos Code of Business Conduct, its other key policies or of the laws or regulations in the jurisdictions in which it operates.
Diageo also maintains an online presence as part of its business operations. Diageos reputation may suffer if it is perceived to fail to appropriately restrict access to its online content or if it breaches any marketing regulation, code or policy. In addition, the proliferation of new methods of mass communication facilitated by the internet makes it easier for false or unfounded allegations to adversely affect Diageos brand image and reputation, which may in turn affect Diageos profitability.
Diageo faces competition that may reduce its market share and margins
Diageo faces substantial competition from several international companies as well as local and regional companies in the countries in which it operates and competes with drinks companies across a wide range of consumer drinking occasions. Within a number of categories, industry consolidation or realignment is still possible. Consolidation is also taking place among Diageos customers in many countries and increased competition by competitors or customers could lead to downward pressure on prices and/or a decline in Diageos market share in any of these categories, adversely affecting Diageos results and growth potential.
Diageo may not be able to derive the expected benefits from its strategy to focus on premium drinks or from its acquisitions or cost saving and restructuring programmes designed to enhance earnings
Diageos strategy is to focus on premium drinks and to grow its business through organic sales, operating profit growth and the acquisition of premium drinks brands that add value for shareholders.
There can be no assurance that Diageos strategic focus on premium drinks will result in opportunities for growth and improved margins.
It is possible that the pursuit of this strategic focus on premium drinks could give rise to further business combinations, acquisitions, disposals, joint ventures and/or partnerships (including any associated financing or the assumption of actual or potential liabilities, depending on the transaction contemplated). There can be no assurance that any transaction will be completed or that any such transaction would deliver the anticipated benefits, cost savings or synergies. The success of any transaction will depend in part on Diageos ability to successfully integrate new businesses with Diageos existing operations and realise the anticipated benefits. The current and ongoing issues in USL detailed in note 18 to the consolidated financial statements provide an example of integration challenges.
Similarly, there can be no assurance that the cost saving or restructuring programmes implemented by Diageo in order to improve efficiencies and deliver cost savings will deliver the expected benefits. Diageo continues to undertake change programmes designed to improve the effectiveness and efficiency of end-to-end operations, including changes to organisational structures, business processes and business systems. Disruption caused to business processes as a result of such change which could impact Diageo operations and lead to adverse customer or consumer reaction. There may also be a a risk of impairment charges on goodwill or other intangible assets and failure to meet financial targets.
Contamination, counterfeiting or other events could harm the integrity of customer support for Diageos brands and adversely affect the sales of those brands
The success of Diageos brands depends upon the positive image that consumers have of those brands, and contamination, whether arising accidentally, or through deliberate third party action, or other events that harm the integrity of or consumer support for those brands, could adversely affect their sales. Diageo purchases most of the raw materials for the production and packaging of its products from third party producers or on the open market. Diageo may be subject to liability if contaminants in those raw materials or defects in the distillation, fermentation or bottling process lead to low beverage quality or illness among, or injury to, Diageos consumers.
39
Business description (continued)
Diageo may recall products in the event of contamination or damage. A significant product liability judgement or a widespread product recall may negatively impact sales and profitability of the affected brand or all Diageo brands for a period of time depending on product availability, competitive reaction and consumer attitudes. Even if a product liability claim is unsuccessful or is not fully pursued, any resulting negative publicity could adversely affect Diageos reputation with existing and potential customers and its corporate and brand image.
Additionally, third parties may sell products which are either counterfeit versions of Diageo brands or inferior brands that look like Diageo brands, and consumers of Diageo brands could confuse Diageo products with them. A bad consumer experience with such a product could cause them to refrain from purchasing Diageo brands in the future and in turn could impair brand equity, adversely affecting Diageos business.
Diageos operating results may be adversely affected by increased costs or shortages of talent
Diageos operating results could be adversely affected by labour or skill shortages or increased labour costs due to increased competition for employees, higher employee turnover or increased employee benefit costs. Diageos success is dependent on the capability of its employees. There is no guarantee that Diageo will continue to be able to recruit, retain and develop the capabilities that it requires to deliver its strategy, for example in relation to sales, marketing and innovation capability within markets or in its senior management. The loss of senior management or other key personnel or the inability to identify, attract and retain qualified personnel in the future could make it difficult to manage the business and could adversely affect Diageos operations and financial results.
Diageos operating results may be adversely affected by disruption to production facilities, business service centres or information systems
Diageo would be affected if there was a catastrophic failure of its major production facilities or business service centres. Diageo operates production facilities around the world. If there was a technical failure in Diageo production facilities, or fire or explosion at one of Diageos production facilities, it could result in damage to the facilities, plant or equipment, their surroundings and/or the local environment. Such an event could lead to a loss in production capacity, or could result in regulatory action, legal liability or damage to Diageos reputation.
Diageo has a substantial inventory of aged product categories, principally Scotch whisky and Canadian whisky, which may mature over periods of up to 30 years or more. The maturing inventory is stored primarily in Scotland, and the loss through contamination, fire or other natural disaster of all or a portion of the stock of any one of those aged product categories could result in a significant reduction in supply of those products, and consequently, Diageo would not be able to meet consumer demand for those products as it arises. There can be no assurance that insurance proceeds would cover the replacement value of Diageos maturing inventory or other assets, were such assets to be lost due to contamination, fire or natural disasters or destruction resulting from negligence or the acts of third parties. In addition, there is an inherent risk of forecasting error in determining the quantity of maturing stock to lay down in a given year for future consumption. A forecasting error could lead to Diageo being unable to meet future demand or lead to a future surplus of inventory and consequent write down in value of maturing stocks. Any failure of information systems or Diageos data infrastructure could adversely impact Diageos ability to operate. As with all large systems, Diageos information systems could be penetrated by outside parties intent on extracting information, corrupting information or disrupting business processes. Such unauthorised access could disrupt Diageos business and/or lead to loss of assets or to outside parties having access to confidential information, including privileged data or strategic information of Diageo and its employees, customers and consumers, or to making such information public in a manner that harms Diageos reputation. The concentration of processes in business service centres also means that any sustained disruption to the facility or issue impacting the reliability of the information systems used could impact a large portion of Diageos business operations and in some circumstances, could result in property damage, breaches of regulations, litigation, legal liabilities and reparation costs.
Diageos operations and financial results may be adversely affected by movements in the value of its pension funds, fluctuations in exchange rates and fluctuations in interest rates
Diageo has significant pension funds. These funds may be affected by, among other things, the performance of assets owned by these plans, the underlying actuarial assumptions used to calculate the surplus or deficit in the plans, in particular the discount rate and long term inflation rates used to calculate the liabilities of the pension funds, and any changes in applicable laws and regulations. If there are significant declines in financial markets and/or deterioration in the value of fund assets or changes in discount rates or inflation rates, Diageo may need to make significant contributions to the pension funds in the future.
40
Business description (continued)
Furthermore, if the market values of the assets held by Diageos pension funds decline, or if the valuations of those assets by the pension trustees decline, pension expenses may increase which, as a result, could materially adversely affect Diageos financial position. There is no assurance that interest rates or inflation rates will remain constant or that pension fund assets can earn the assumed rate of return annually; Diageos actual experience may be significantly more negative than the assumptions used.
Diageo may be adversely affected by fluctuations in exchange rates. In particular, any redenomination of the euro or its constituent parts could materially adversely affect Diageo. The results of operations of Diageo are accounted for in pounds sterling. Approximately 30% of Diageos net sales in the year ended 30 June 2015 were in US dollars, approximately 11% were in euros and approximately 16% were in sterling. Movements in exchange rates used to translate foreign currencies into pounds sterling may have a significant impact on Diageos reported results of operations from year to year. Diageo may also be adversely impacted by fluctuations in interest rates, mainly through an increased interest expense.
Diageos operations may be adversely affected by failure to maintain or renegotiate distribution, supply, manufacturing or licence agreements on favourable terms
Diageos business has a number of distribution, supply, manufacturing or licence agreements for brands owned by it or by other companies. These agreements vary depending on the particular brand, but tend to be for a fixed number of years. There can be no assurance that Diageo will be able to renegotiate its rights on favourable terms when these agreements expire or that they will not be terminated. Failure to renew these agreements on favourable terms could have an adverse impact on Diageos sales and operating profit. In addition, Diageos sales and operating profit may be adversely affected by any disputes with distributors of its products or with suppliers of raw materials.
Diageo may not be able to protect its intellectual property rights
Given the importance of brand recognition to its business, Diageo has invested considerable effort in protecting its intellectual property rights, including trademark registration and domain names. Diageos patents cover some of its process technology, including some aspects of its bottle marking technology. Diageo also uses security measures and agreements to protect its confidential information and trade secrets. However, Diageo cannot be certain that the steps it has taken will be sufficient or that third parties will not infringe on or misappropriate its intellectual property rights in its brands or products. Moreover, some of the countries in which Diageo operates offer less intellectual property protection than Europe or North America. Given the attractiveness of Diageos brands to consumers, it is not uncommon for counterfeit products to be manufactured and traded. Diageo cannot be certain that the steps it takes to assist the authorities to prevent, detect and eliminate counterfeit products will be effective in preventing material loss of profits or erosion of brand equity resulting from lower quality or even dangerous counterfeit product reaching the market. If Diageo is unable to protect its intellectual property rights against infringement or misappropriation, this could materially harm its future financial results and ability to develop its business.
Risks related to Diageos securities
It may be difficult to effect service of US process and enforce US legal process against the directors of Diageo
Diageo is a public limited company incorporated under the laws of England and Wales. The majority of Diageos directors and officers, and some of the experts named in this document, reside outside of the United States, principally in the United Kingdom. A substantial portion of Diageos assets, and the assets of such persons, are located outside of the United States. Therefore, it may not be possible to effect service of process within the United States upon Diageo or these persons in order to enforce judgements of US courts against Diageo or these persons based on the civil liability provisions of the US federal securities laws. There is doubt as to the enforceability in England and Wales, in original actions or in actions for enforcement of judgements of US courts, of civil liabilities solely based on the US federal securities laws.
41
Business description (continued)
Cautionary statement concerning forward-looking statements
This document contains forward-looking statements. These statements can be identified by the fact that they do not relate only to historical or current facts. In particular, forward-looking statements include all statements that express forecasts, expectations, plans, outlook and projections with respect to future matters, including trends in results of operations, margins, growth rates, overall market trends, the impact of changes in interest or exchange rates, the availability or cost of financing to Diageo, anticipated cost savings or synergies, expected investments, the completion of Diageos strategic transactions and restructuring programmes, anticipated tax rates, expected cash payments, outcomes of litigation, anticipated deficit reductions in relation to pension schemes and general economic conditions. By their nature, forward-looking statements involve risk and uncertainty because they relate to events and depend on circumstances that will occur in the future. There are a number of factors that could cause actual results and developments to differ materially from those expressed or implied by these forward-looking statements, including factors that are outside Diageos control.
These factors include, but are not limited to:
| changes in political or economic conditions in countries and markets in which Diageo operates, including changes in levels of consumer spending, failure of customer, supplier and financial counterparties or imposition of import, investment or currency restrictions; |
| changes in consumer preferences and tastes, demographic trends or perceptions about health related issues, or contamination, counterfeiting or other circumstances which could harm the integrity or sales of Diageos brands; |
| developments in any litigation or other similar proceedings (including with tax, customs and other regulatory authorities) directed at the drinks and spirits industry generally or at Diageo in particular, or the impact of a product recall or product liability claim on Diageos profitability or reputation; |
| the effects of climate change and regulations and other measures to address climate change including any resulting impact on the cost and supply of water; |
| changes in the cost or supply of raw materials, labour and/or energy; |
| legal and regulatory developments, including changes in regulations regarding production, product liability, distribution, importation, labelling, packaging, consumption or advertising; changes in tax law, rates or requirements (including with respect to the impact of excise tax increases) or accounting standards; and changes in environmental laws, health regulations and the laws governing labour and pensions; |
| the costs associated with monitoring and maintaining compliance with anti-corruption and other laws and regulations, and the costs associated with investigating alleged breaches of internal policies, laws or regulations, whether initiated internally or by external regulators, and any penalties or fines imposed as a result of any breaches; |
| ability to maintain Diageos brand image and corporate reputation, and exposure to adverse publicity, whether or not justified, and any resulting impacts on Diageos reputation and the likelihood that consumers choose products offered by Diageos competitors; |
| increased competitive product and pricing pressures and unanticipated actions by competitors that could impact Diageos market share, increase expenses and hinder growth potential; |
| the effects of Diageos strategic focus on premium drinks, the effects of business combinations, partnerships, acquisitions or disposals, existing or future, and the ability to realise expected synergies and/or costs savings; |
| Diageos ability to complete existing or future business combinations, restructuring programmes, acquisitions and disposals; |
| contamination, counterfeiting or other events that could adversely affect the perception of Diageos brands; |
| increased costs or shortages of talent; |
42
Business description (continued)
| disruption to production facilities or business service centres, and systems change programmes, existing or future, and the ability to derive expected benefits from such programmes; |
| changes in financial and equity markets, including significant interest rate and foreign currency exchange rate fluctuations and changes in the cost of capital, which may reduce or eliminate Diageos access to or increase the cost of financing or which may affect Diageos financial results and movements to the value of Diageos pension funds; |
| renewal of supply, distribution, manufacturing or licence agreements (or related rights) and licences on favourable terms when they expire; |
| technological developments that may affect the distribution of products or impede Diageos ability to protect its intellectual property rights. |
All oral and written forward-looking statements made on or after the date of this document and attributable to Diageo are expressly qualified in their entirety by the above factors and by the principal risks set out in the Risk factors section above. Any forward-looking statements made by or on behalf of Diageo speak only as of the date they are made. Diageo does not undertake to update forward-looking statements to reflect any changes in Diageos expectations with regard thereto or any changes in events, conditions or circumstances on which any such statement is based. The reader should, however, consult any additional disclosures that Diageo may make in any documents which it publishes and/or files with the US Securities and Exchange Commission (SEC). All readers, wherever located, should take note of these disclosures.
This document includes names of Diageos products, which constitute trademarks or trade names which Diageo owns, or which others own and licence to Diageo for use. All rights reserved. © Diageo plc 2015.
The information in this document does not constitute an offer to sell or an invitation to buy shares in Diageo plc or an invitation or inducement to engage in any other investment activities.
This document includes information about Diageos target debt rating. A security rating is not a recommendation to buy, sell or hold securities and may be subject to revision or withdrawal at any time by the assigning rating organisation. Each rating should be evaluated independently of any other rating.
Past performance cannot be relied upon as a guide to future performance.
43
Business review
Operating results 2015 compared with 2014
1. INCOME STATEMENT
Sales and net sales
For the impact of exchange rate movements and acquisitions and disposals see pages 5051. See Group Financial Review Key Performance Indicators Net sales growth on page 47 in respect of organic movements.
Operating costs before exceptional items and operating profit
Operating costs before exceptional items comprise cost of sales, marketing and other operating expenses. For the impact of exchange rate movements and acquisitions and disposals see pages 5051. See Group Financial Review Key Performance Indicators Change in operating margin on page 47 in respect of organic movements.
Net finance charges, taxation and associates and joint ventures
See Group Financial Review Key Performance Indicators Earnings per share before exceptional items on page 48.
Post employment plans
See Group Financial Review Key Performance Indicators Free cash flow on page 49.
Exceptional items, exchange and dividend
Exceptional items comprise exceptional operating items, non-operating items and discontinued operations. See Group Financial Review Exceptional items on pages 51-52.
2. ANALYSIS BY REPORTING SEGMENTS
North America see page 54
Europe see page 58
Africa see page 62
Latin America and Caribbean see page 65
Asia Pacific see page 68
Corporate see Group Financial Review Organic growth by region page 46
3. CATEGORY REVIEW PAGES 72 TO 74
44
Business review (continued)
GROUP FINANCIAL REVIEW
Our performance this year reflected both the volatile global consumer and economic environment and the actions we took to strengthen the business. Reported net sales were up with the integration of USL and organic net sales flat driven by currency related challenges in specific emerging markets and embedding our sell out discipline. Our focus on cost delivered savings and drove margin expansion, prioritising cash resulted in a marked cash flow improvement and we continued to invest for the future.
Deirdre Mahlan,
Chief Financial Officer
HIGHLIGHTS OF THE YEAR
Reported net sales up 5% with full consolidation of United Spirits |
Free cash flow of £2bn up £0.7 bn |
9% final dividend increase to give recommended full year dividend of 56.4 pence |
Organic net sales flat |
Organic operating margin up 24bps |
Shipment volume down 1% |
Depletion volume is estimated to be up 1% |
Basic eps 95.0 pence up 6% |
Eps before exceptional items 88.8 pence due to adverse exchange and associates, offset by underlying improvements |
(i) | Excluding corporate net sales. (ii) Before exceptional items and corporate costs. |
45
Business review (continued)
Key performance indicators |
2015 | 2014 | ||||||||
Organic net sales growth |
% | | | |||||||
Organic operating margin improvement |
basis points | 24 | 77 | |||||||
Earnings per share before exceptional items |
pence | 88.8 | 95.5 | |||||||
Free cash flow |
£ million | 1,963 | 1,235 | |||||||
Return on average invested capital (ROIC)(i) |
% | 12.3 | 14.1 |
Other financial information |
2015 reported |
2014 reported |
||||||||
Volume |
EUm | 246.2 | 156.1 | |||||||
Net sales |
£ million | 10,813 | 10,258 | |||||||
Marketing spend |
£ million | 1,629 | 1,620 | |||||||
Operating profit before exceptional items |
£ million | 3,066 | 3,134 | |||||||
Operating profit |
£ million | 2,797 | 2,707 | |||||||
Share of associates and joint ventures profit after tax |
£ million | 175 | 252 | |||||||
Non-operating items |
£ million | 373 | 140 | |||||||
Net finance charges |
£ million | 412 | 388 | |||||||
Reported tax rate |
% | 15.9 | 16.5 | |||||||
Reported tax rate before exceptional items |
% | 18.3 | 18.2 | |||||||
Profit attributable to parent companys shareholders |
£ million | 2,381 | 2,248 | |||||||
Basic earnings per share |
pence | 95.0 | 89.7 | |||||||
Recommended full year dividend |
pence | 56.4 | 51.7 |
Organic growth by region |
Volume % |
Net sales % |
Marketing spend % |
Operating profit(ii) % |
||||||||||||
North America |
(3 | ) | (1 | ) | (4 | ) | (2 | ) | ||||||||
Europe |
| | 2 | 3 | ||||||||||||
Africa |
7 | 6 | 4 | 10 | ||||||||||||
Latin America and Caribbean |
(7 | ) | (1 | ) | 6 | (3 | ) | |||||||||
Asia Pacific |
(3 | ) | (2 | ) | (8 | ) | 7 | |||||||||
Diageo(iii) |
(1 | ) | | (1 | ) | 1 |
(i) | The group has revised the calculation of ROIC by excluding the net assets and net profit attributable to non-controlling interests. Before this adjustment, in the year ended 30 June 2014 the ROIC reported was 13.7%. |
(ii) | Before exceptional items. |
(iii) | Includes Corporate. In the year ended 30 June 2015 Corporate reported net sales and net operating charges before exceptional items were £80 million (2014-£79 million) and £123 million (2014-£130 million), respectively. The reduction in net operating charges before exceptional items is largely due to cost savings and exchange. |
46
Business review (continued)
KEY PERFORMANCE INDICATORS
Net sales growth (£ million)
The full consolidation of USL, partly offset by adverse exchange delivered reported net sales growth of 5%. Organic net sales flat
896 movement Organic 123 10,813 (337) 10,258 (127) 2014 2015 Reported Reported Acquisitions and Exchange Price/mix disposals(i) Volume
(i) | Impact of acquisitions and disposals on 2014 and 2015. See page 51 for further details. |
Reported net sales were up 5%, largely driven by the full consolidation of USL, which contributed £921 million of net sales. Currency weakness, other than the US dollar, had an adverse impact on net sales. Organic volume decline was largely driven by lower shipments in the United States, reduction in inventory levels in South East Asia and West LAC, and the impact of pricing in Venezuela and Brazil. While these price increases contributed to positive price, the main driver of organic price/mix was positive mix, led by growth of reserve and Crown Royal.
Change in operating margin (%)
Full consolidation of USL rebased operating margin by c200bps. Organic margin improved 24bps
30.55% 52bps 28.35% 36bps (183)bps (61)bps(64)bps Organic 2014 movement(i) 2015 Reported Reported Acquisitions and disposals Marketing spend Exchange Other operating Gross margin expenses
(i) | Exchange impacts in respect of profit on intergroup sales of products and the intergroup recharges have been re-allocated to the respective profit and loss lines for the purposes of calculating margin impacts only. |
The full consolidation of USL lowered reported operating margin for the group. The organic improvement in margin was largely as a result of cost savings and efficiencies, which more than offset the impact of cost inflation and negative market mix.
47
Business review (continued)
Earnings per share before exceptional items (pence)
Eps before exceptionals impacted by adverse exchange and decrease in associate profit
95.5 1.6 1.4 1.5 88.8 (6.4) (3.1) (1.3) (0.4) profit Operating (4.8) 2014 2015 Reported Reported Operating profit excluding FX Tax Exchange on operating profit Non-controlling interests Associates and joint ventures
Other including USL(i) Finance charges
(i) | The impact of fully consolidating USL results is included in other. The movements for operating profit, finance charges, tax and non-controlling interests, all exclude USL. |
Eps before exceptional items fell 6.7 pence largely as a result of adverse exchange movements and lower income from associates and joint ventures. Organic growth in operating profit had a positive impact on eps. Net finance charges excluding acquired debt in USL reduced due to lower interest rates which benefited eps. Basic eps was 95.0 pence (year ended 30 June 2014 89.7 pence), with exceptional items increasing eps by 6.2 pence (year ended 30 June 2014 5.8 pence unfavourable).
Movement in net finance charges |
£ million | |||||||
2014 Reported |
|
388 | ||||||
Net interest charge decrease |
|
(48 | ) | |||||
Consolidation of net borrowings acquired in USL |
|
60 | ||||||
Movement in other finance charges |
|
12 | ||||||
|
|
|||||||
2015 Reported |
412 | |||||||
|
|
|||||||
2015 | 2014 | |||||||
Average monthly net borrowings (£ million) |
10,459 | 9,174 | ||||||
Effective interest rate(i) |
3.5 | % | 3.8 | % |
(i) | For the calculation of the effective interest rate, the net interest charge excludes fair value adjustments to derivative financial instruments and borrowings. Average monthly net borrowings include the impact of interest rate swaps that are no longer in a hedge relationship but excludes the market value adjustment for cross currency interest rate swaps. |
The increase in average net borrowings was principally the result of the acquisition of the controlling interest in USL, completed on 2 July 2014, and the consolidation of USLs net borrowings. The effective interest rate decreased in the year ended 30 June 2015 as the negative impact of consolidating USLs net borrowings was more than offset by lower interest rates on new debt issued and an increase in the proportion of floating rate debt through the use of swaps.
48
Business review (continued)
Free cash flow (£ million)
Positive working capital movement drove improvement in free cash flow
Operating 79 59 1,963 pro_t 734 (57) (7) 1,235 76 (156) 2014 2015 Reported Reported USL free cash Exchange Net capex fiow(i) Working movement Operating capital Interest and tax profit excluding movement Other operating
exchange(ii) items(iii)
(i) | USL free cash flow is shown separately and is excluded from the other line items shown above. |
(ii) | Operating profit adjusted for non-cash items including depreciation and amortisation. |
(iii) | Other operating items includes pension related payments, dividends received from associates and joint ventures, movements in loans receivable and other investments, and payments in respect of the settlement of Thalidomide. |
The increase in free cash flow was primarily driven by the positive working capital movement. This was largely due to lower debtors as a result of phasing of shipments, with days sales outstanding 6 days lower than last year. This compares with an increase in debtors in the prior year.
Return on average invested capital (%)(i)
The investment in USL has rebased ROIC. Adverse exchange and lower income from associates reduced ROIC in the year
14.1% 0.2pps (1.1)pps 12.3% (0.4)pps (0.3)pps(0.2)pps 2014 2015 Reported(ii) Reported(iii) USL Exchange Other Operating profit Associates and after tax joint ventures including FX
(i) | ROIC calculation excludes exceptional items. |
(ii) | The group has revised the calculation of ROIC by excluding the net assets and net profit attributable to non-controlling interests. Before this adjustment, in the year ended 30 June 2014 the ROIC was reported as 13.7%. |
(iii) | For the years ended 30 June 2014 and 30 June 2015 average net assets were adjusted for the inclusion of USL as though it was owned throughout the year as it became an associate on 4 July 2013 and a subsidiary on 2 July 2014. |
The additional investment in USL and full consolidation of its results reduced ROIC by 1.1pps. Exchange movements reduced operating profit, but the impact on ROIC was partially offset by exchange reducing invested capital. Lower income from associates reduced ROIC in the year.
49
Business review (continued)
INCOME STATEMENT
2014 £ million |
Exchange (a) £ million |
Acquisitions and disposals (b) £ million |
Organic movement £ million |
2015 £ million |
||||||||||||||||
Sales |
13,980 | (509 | ) | 2,321 | 174 | 15,966 | ||||||||||||||
Excise duties |
(3,722 | ) | 172 | (1,425 | ) | (178 | ) | (5,153 | ) | |||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Net sales |
10,258 | (337 | ) | 896 | (4 | ) | 10,813 | |||||||||||||
Cost of sales(i) |
(4,006 | ) | 61 | (666 | ) | 26 | (4,585 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Gross profit |
6,252 | (276 | ) | 230 | 22 | 6,228 | ||||||||||||||
Marketing |
(1,620 | ) | 47 | (74 | ) | 18 | (1,629 | ) | ||||||||||||
Other operating expenses(i) |
(1,498 | ) | 68 | (85 | ) | (18 | ) | (1,533 | ) | |||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Operating profit before exceptional items |
3,134 | (161 | ) | 71 | 22 | 3,066 | ||||||||||||||
Exceptional operating items (c) |
(427 | ) | (269 | ) | ||||||||||||||||
|
|
|
|
|||||||||||||||||
Operating profit |
2,707 | 2,797 | ||||||||||||||||||
Non-operating items (c) |
140 | 373 | ||||||||||||||||||
Net finance charges |
(388 | ) | (412 | ) | ||||||||||||||||
Share of after tax results of associates and joint ventures | 252 | 175 | ||||||||||||||||||
|
|
|
|
|||||||||||||||||
Profit before taxation |
2,711 | 2,933 | ||||||||||||||||||
Taxation |
(447 | ) | (466 | ) | ||||||||||||||||
|
|
|
|
|||||||||||||||||
Profit from continuing operations |
2,264 | 2,467 | ||||||||||||||||||
Discontinued operations (c) |
(83 | ) | | |||||||||||||||||
|
|
|
|
|||||||||||||||||
Profit for the year |
2,181 | 2,467 | ||||||||||||||||||
|
|
|
|
(i) | Before exceptional operating items. |
(a) Exchange
The impact of movements in exchange rates on reported figures is principally in respect of the Venezuelan bolivar, the euro, the Russian rouble and the US dollar.
In February 2015, the Central Bank of Venezuela opened a new mechanism (known as SIMADI) that allows private and public companies to trade foreign currency with fewer restrictions than other mechanisms in Venezuela. As a result, the group has used the SIMADI exchange rate to consolidate its Venezuelan operations for the year ended 30 June 2015. For the year ended 30 June 2014, the group applied the Sicad II exchange rate to consolidate its operations in Venezuela.
Applying the SIMADI consolidation rate of $1 = VEF197.30 (£1 = VEF309.76) compared to the Sicad II rate of $1 = VEF49.98 (£1 = VEF85.47) would have reduced net assets and cash and cash equivalents as at 1 July 2014 by £60 million and £52 million, respectively, and would have reduced the previously reported net sales and operating profit for the year ended 30 June 2014 by £57 million and £36 million, respectively.
The effect of movements in exchange rate and other movements on profit before exceptional items and taxation for the year ended 30 June 2015 is set out in the table below.
Year ended 30 June 2015 |
Year ended 30 June 2014 |
|||||||
Exchange rates |
||||||||
Translation £1 = |
$1.57 | $1.63 | ||||||
Transaction £1 = |
$1.58 | $1.59 | ||||||
Translation £1 = |
1.31 | 1.20 | ||||||
Transaction £1 = |
1.23 | 1.26 |
50
Business review (continued)
Gains/ (losses) £ million |
||||
Translation impact |
(72 | ) | ||
Transaction impact |
(89 | ) | ||
|
|
|||
Operating profit before exceptional items |
(161 | ) | ||
Net finance charges translation impact |
(7 | ) | ||
Mark to market impact of IAS 39 on interest expense |
8 | |||
Impact of IAS 21 and IAS 39 on net other finance charges |
1 | |||
|
|
|||
Interest and other finance charges |
2 | |||
Associates translation impact |
(20 | ) | ||
|
|
|||
Profit before exceptional items and taxation |
(179 | ) | ||
|
|
(b) Acquisitions and disposals
The impact of acquisitions and disposals on the reported figures was primarily attributable to the full consolidation of United Spirits Limited (USL) from 2 July 2014 and the acquisition of the Mexican distribution rights of Don Julio, partially offset by the disposal of The Old Bushmills Distillery Company Limited on 27 February 2015 and Gleneagles Hotels Limited on 30 June 2015. See page 123 for further details.
(c) Exceptional items
Exceptional operating charges of £269 million (2014 £427 million) in the year ended 30 June 2015 comprise:
| £47 million (2014 £98 million) in respect of the Global efficiency programme announced in January 2014; |
| £35 million (2014 £35 million) in respect of the Supply excellence restructuring programme; |
| £41 million in respect of the impairment of the groups 45.56% equity investment in Hanoi Liquor Joint Stock Company; and |
| £146 million in respect of settlement of several related disputes with the Korean customs authorities regarding the transfer pricing methodology applicable to imported products. Total payments to settle these disputes in the year were £74 million as £87 million was paid to the customs authorities prior to 30 June 2014, and was previously accounted for as a receivable from Korean customs. |
In the year ended 30 June 2014 an exceptional impairment loss of £260 million in respect of the Shui Jing Fang brand and £4 million in respect of tangible fixed assets was charged to other operating expenses.
Non-operating items in the year ended 30 June 2015 include a gain of £103 million (2014 £140 million) following the acquisition of additional equity shares in USL which increased the groups investment in USL from 25.02% to 54.78%, excluding the 2.38% interest owned by the USL Benefit Trust (2014 10.04% to 25.02%). On 2 July 2014 when USL became a subsidiary of the group a gain was recognised on the difference between the book value of the 25.02% investment and the fair value. The gain is net of a £79 million cumulative exchange loss recycled from other comprehensive income and £10 million transaction costs.
On 27 February 2015, the group completed the purchase of the 50% equity interest in Don Julio B.V. that it did not already own (giving Diageo 100% ownership of the brand and production facility) and the Mexican distribution business of Don Julio. As a result of Don Julio becoming a subsidiary of the group a gain of £63 million arose, being the difference between the book value of the joint venture on the date of the transaction and the fair value. In addition, the group reacquired the production and distribution for Smirnoff and Popov in Mexico. As part of the transaction, Diageo also agreed to sell 100% of the equity share capital in The Old Bushmills Distillery Company Limited resulting in an exceptional gain of £174 million.
On 30 June 2015, Diageo completed the disposal of Gleneagles Hotels Limited to the Ennismore group resulting in an exceptional gain of £73 million.
In the year ended 30 June 2015 a provision of £30 million was charged to non-operating items in respect of a guarantee provided to a third party financial institution.
51
Business review (continued)
Discontinued operations in the year ended 30 June 2014 comprised a charge after taxation of £83 million (£91 million less tax of £8 million) in respect of the settlement of thalidomide litigation in Australia and New Zealand and anticipated future payments to thalidomide organisations.
Cash payments in the year ended 30 June 2015 for exceptional restructuring items, the legal settlement in Korea, the guarantee and thalidomide were £117 million (2014 £104 million), £74 million (2014 £nil), £30 million (2014 £nil) and £19 million (2014 £59 million), respectively.
Dividend
The directors recommend a final dividend of 34.9 pence per share, an increase of 9% from the year ended 30 June 2014. The full dividend will therefore be 56.4 pence per share, an increase of 9% from the year ended 30 June 2014. Subject to approval by shareholders, the final dividend will be paid on 8 October 2015 to shareholders on the register on 14 August 2015. The ex-dividend date is 13 August 2015. Payment to US ADR holders will be made on 14 October 2015. A dividend reinvestment plan is available to holders of ordinary shares in respect of the final dividend and the plan notice date is 17 September 2015.
The recommended final dividend increase is 9%, in line with the increase in the interim dividend. This rate of increase recognises that while eps has declined, the decline was mainly driven by the impact of exchange movements in a year when free cash flow has improved strongly. Eps to dividend cover at 1.6 times is however now outside managements coverage ratio, and the group will look to rebuild cover over time, maintaining dividend increases at a mid-single digit rate until it is back in range.
MOVEMENTS IN NET BORROWINGS AND EQUITY
Movement in net borrowings |
2015 £ million |
2014 £ million |
||||||
Net borrowings at the beginning of the year |
(8,850 | ) | (8,403 | ) | ||||
Free cash flow (a) |
1,963 | 1,235 | ||||||
Acquisition and sale of businesses (b) |
(306 | ) | (534 | ) | ||||
Net purchase of own shares for share schemes (c) |
(8 | ) | (113 | ) | ||||
Dividends paid to non-controlling interests |
(72 | ) | (88 | ) | ||||
Purchase of shares of non-controlling interests (d) |
| (37 | ) | |||||
Net movements in bonds and other borrowings |
(315 | ) | (157 | ) | ||||
Equity dividends paid |
(1,341 | ) | (1,228 | ) | ||||
Other movements |
2 | 1 | ||||||
|
|
|
|
|||||
Net decrease in cash and cash equivalents |
(77 | ) | (921 | ) | ||||
Net decrease in bonds and other borrowings |
315 | 157 | ||||||
Exchange differences (e) |
(7 | ) | 349 | |||||
Borrowings on acquisition of businesses |
(869 | ) | | |||||
Other non-cash items |
(39 | ) | (32 | ) | ||||
|
|
|
|
|||||
Net borrowings at the end of the year |
(9,527 | ) | (8,850 | ) | ||||
|
|
|
|
(a) See page 49 for the analysis of free cash flow.
(b) On 2 July 2014 the group acquired an additional 26% investment in USL for INR 114.5 billion (£1,118 million). On 31 October 2014 the sale of the Whyte and Mackay Group by USL resulted in a net cash receipt of £391 million. On 27 February 2015, Diageo paid $293 million (£192 million) for the 50% equity interest in Don Julio B.V. that it did not already own and for the Mexican distribution rights for Don Julio. As part of the transaction, Diageo also agreed to sell the equity share capital in The Old Bushmills Distillery Company Limited. The net cash consideration received for Bushmills amounted to $709 million (£456 million).
In the year ended 30 June 2014 cash payments primarily comprised £474 million in respect of the acquisition of a 18.74% investment in USL.
52
Business review (continued)
(c) Net purchase of own shares comprised purchase of treasury shares for the future settlement of obligations under the employee share option schemes of £75 million (2014 £208 million) less receipts from employees on the exercise of share options of £67 million (2014 £95 million).
(d) In the year ended 30 June 2014 Diageo purchased the remaining 7% equity stake in Sichuan Chengdu Shuijingfang Group Co., Ltd.
(e) Exchange differences primarily arose on US dollar and euro denominated borrowings partially offset by the favourable change on foreign exchange swaps and forwards.
Movement in equity |
2015 £ million |
2014 £ million |
||||||
Equity at the beginning of the year |
7,590 | 8,088 | ||||||
Profit for the year |
2,467 | 2,181 | ||||||
Exchange adjustments (a) |
(225 | ) | (1,133 | ) | ||||
Net remeasurement of post employment plans |
113 | (167 | ) | |||||
Exchange recycled to the income statement (b) |
88 | | ||||||
Fair value movements on available-for-sale investments (b) |
20 | (85 | ) | |||||
Non-controlling interests acquired |
641 | 8 | ||||||
Purchase of shares of non-controlling interests |
| (37 | ) | |||||
Dividends to non-controlling interests |
(72 | ) | (88 | ) | ||||
Dividends paid |
(1,341 | ) | (1,228 | ) | ||||
Other reserve movements |
(25 | ) | 51 | |||||
|
|
|
|
|||||
Equity at the end of the year |
9,256 | 7,590 | ||||||
|
|
|
|
(a) Movement in the year ended 30 June 2015 primarily arose from the exchange loss on Turkish lira, Brazilian real and euro denominated net investments.
(b) Following the acquisition of majority equity stakes in USL, 50% equity interest in Don Julio and one of the groups joint ventures in South Africa that it did not already own exchange losses of £88 million were recycled to the income statement.
On the acquisition of USL on 2 July 2014 a 43.91% (£641 million) non-controlling interest was recognised. In the year ended 30 June 2014 a gain of £85 million, in respect of USL, was recycled to the income statement reflecting the step up from available-for-sale investment to associate.
Post employment plans
The deficit in respect of post employment plans before taxation decreased by £216 million from £475 million at 30 June 2014 to £259 million at 30 June 2015. The reduction was primarily due to strong asset return and a reduction in long term inflation rates partially offset by a decrease in returns from AA rated corporate bonds used to calculate the discount rates on the liabilities of the post employment plans (United Kingdom reduced from 4.2% to 3.8% and Ireland from 3.0% to 2.6%). Total cash contributions by the group to all post employment plans in the year ending 30 June 2016 are estimated to be approximately £180 million.
53
Business review (continued)
NORTH AMERICA
North America accounts for about a third of our net sales and around 45% of operating profit and is the largest market for premium drinks in the world. Continuing economic uncertainty has adversely impacted consumer spending in the region, but due to our leadership in innovation, strong route to consumer and solid marketing investment in key brands, we continue to be well positioned. We are promoting responsible drinking, and this year the US government approved our request to include serving fact information on beverage alcohol products.
Key financials |
2014 Reported £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2015 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
3,444 | 97 | (37 | ) | (49 | ) | 3,455 | | ||||||||||||||||
Marketing spend |
540 | 16 | 7 | (21 | ) | 542 | | |||||||||||||||||
Operating profit before exceptional items | 1,460 | 27 | (2 | ) | (37 | ) | 1,448 | (1 | ) | |||||||||||||||
Exceptional items |
(35 | ) | (28 | ) | ||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
1,425 | 1,420 | | |||||||||||||||||||||
|
|
|
|
Our markets
Our North America business comprises US Spirits and Wines, Diageo Guinness USA (DGUSA) and Diageo Canada, headquartered in Norwalk, Connecticut.
54
Business review (continued)
Route to market
Route to market in the United States is through the three-tier system and we distribute our products through more than 100 spirits and wines distributors and brokers, and more than 400 beer distributors. We have a unique route to market for our spirits and wine business in the United States, with more than 3,000 dedicated distributor sales people focused only on Diageo and Moët Hennessy spirits and wine brands. Diageo consolidates its US Spirits and Wines business into a single state-wide distributor in 41 states and the District of Columbia, representing more than 80% of the companys US Spirits and Wines volume.
US Spirits and Wines business operates through five divisions in Open States where we sell to distributors who then sell to retailers, and through two divisions in Control States where mostly we sell to the state, which in turn sells to state or agency stores and on premise retailers. US Spirits and Wines sells the vast majority of the Californian and imported wines we own and represent, with the remaining small portion of sales coming from winery visitor centres and online sales.
DGUSA sells and markets brands including Guinness, Smirnoff Ice and Red Stripe. Beer distribution generally follows the three-tier open state regulations across the United States.
Diageo Canada distributes our collection of spirits, beer and wine brands across all Canadian provinces, which generally operate through a provincial control system. Diageo Canada operates through a single broker with a dedicated sales force handling our brands in the country.
National brand strategy, strategic accounts marketing and corporate functions are managed at the North America level. In North America, we market a total beverage alcohol portfolio.
Supply operations
We have 11 bottling, distilling, blending and maturation sites including operations in Plainfield, Illinois; Amherstburg, Ontario; Valleyfield, Quebec; Relay, Maryland; Gimli, Manitoba; Tullahoma, Tennessee; Louisville, Kentucky; and seven wineries and wine bottling operations in California. Focusing on continuously improving efficiency across our supply chain we made significant investments during the year and announced plans to cease bottling operations in Relay, Maryland.
Sustainability and responsibility
As our largest market, with many millions of consumers, our focus on responsible drinking in North America is particularly important, and we have built a reputation as a leading voice in the industry. After 12 years of advocating with a coalition of consumer and public health advocates, the US government recently allowed alcohol companies to include alcohol content and nutritional information per typical serve on packaging. In March we followed this by announcing our commitment to provide consumers around the world with this information a first for any alcohol company. Another key issue for us is operational sustainability our Californian vineyards and wineries are in a water-stressed area, and we have responded by creating Blue Teams to scale up our focus on reducing water use in our operations and identifying opportunities in our wine growers supply chain.
Performance
In North America, US Spirits has delivered improved depletion performance through the year with the value of distributor depletions, up 3% in the first half, and up 4% for the full year. Shipments were broadly in line with depletions and therefore net sales were down 2% year on year as last year shipments were higher than depletions mainly driven by innovation launches. Beer net sales were in line with last year, ready to drink and wine were down slightly and in Canada net sales grew 2%. Volume growth of the reserve portfolio was the main driver of the 1.5pps of increased price/mix as price premiums against the competition, for brands such as Smirnoff and Captain Morgan, were narrowed. This led to lower achieved price year on year but did drive improved share positions. Our innovation agenda continued to lead the industry in North America and this year was a key driver of our net sales. Advertising spend was down as we drove procurement savings on media and agency fees in marketing while maintaining our share of voice. Adjusting for these savings, marketing as a percentage of net sales was roughly flat. Overheads were flat but operating margin declined 47 basis points driven by soft volume and lower net sales of spirits in the United States.
55
Business review (continued)
Markets: |
Organic volume movement(i) % |
Organic net sales movement % |
Reported net sales movement % |
|||||||||
North America |
(3 | ) | (1 | ) | | |||||||
US Spirits and Wines |
(3 | ) | (2 | ) | 1 | |||||||
DGUSA |
(3 | ) | (1 | ) | 3 | |||||||
Canada |
3 | 2 | (4 | ) | ||||||||
Spirits(ii) |
(3 | ) | (1 | ) | 1 | |||||||
Beer |
| (1 | ) | 1 | ||||||||
Wine |
(2 | ) | (2 | ) | 2 | |||||||
Ready to drink |
(3 | ) | (1 | ) | (14 | ) | ||||||
Global giants and local stars(ii): |
||||||||||||
Smirnoff |
(2 | ) | (3 | ) | (1 | ) | ||||||
Captain Morgan |
(10 | ) | (12 | ) | (10 | ) | ||||||
Johnnie Walker |
(8 | ) | (15 | ) | (12 | ) | ||||||
Guinness |
2 | 2 | 4 | |||||||||
Baileys |
(5 | ) | (5 | ) | (3 | ) | ||||||
Tanqueray |
(2 | ) | (2 | ) | 1 | |||||||
Crown Royal |
13 | 12 | 15 | |||||||||
Cîroc |
4 | 4 | 8 | |||||||||
Ketel One vodka |
(2 | ) | (2 | ) | 1 | |||||||
Bulleit |
32 | 36 | 41 | |||||||||
Don Julio |
5 | 9 | 13 | |||||||||
Buchanans |
17 | 18 | 23 |
(i) | Organic equals reported movement for volume except for North America (4)%, US Spirits and Wines (5)%, spirits (3)% and ready to drink (25)% reflecting the termination of the transitional arrangements following the disposal of Jose Cuervo and Bushmills and the acquisition of the outstanding stake in Don Julio. |
(ii) | Spirits brands excluding ready to drink. |
56
Business review (continued)
KEY HIGHLIGHTS
| Net sales in US Spirits and Wines declined 2% while the value of distributor depletions was up 4%. Diageos North American whisk(e)y performance was very strong with the portfolio outpacing category growth and net sales up 13%. Crown Royal was the primary driver as Crown Royal Regal Apple, the top selling innovation according to Nielsen, gained share as it recruited new consumers to the brand, driving double digit top line growth for the trademark. Bulleit, the fastest growing unflavoured North American whisk(e)y, drove one third of that categorys growth with net sales up 35%. Both Bulleit Bourbon and Bulleit Rye led their respective segments through increased distribution, consumer experience marketing, and the engagement of key trade influencers. In scotch, Buchanans was the fastest growing brand in the United States, with net sales up over 20%. Buchanans resonates particularly well with the growing Hispanic population, and this year added sponsorship of the Latin Grammy Awards to its full suite of marketing activities. Johnnie Walker did not perform well, partly as a result of lapping the strong launch of Platinum and Gold Label Reserve last year but also due to a reduction in promotional activities for Red, Black, and Blue Label. Cîroc net sales growth of 4% was driven by the notable success of Cîroc Pineapple, the latest addition to the flavour range. Despite an improved performance trajectory, net sales of Smirnoff declined 4% as the flavour portfolio, confections in particular, continued to be a drag on performance. The launch of Captain Morgan White Flavours partially offset the effect of lapping the prior years launch of Captain Morgan White which, together with weakness on Original Spiced, drove double digit net sales decline for the brand. Net sales of tequila were up double digit, driven by 10% growth of Don Julio, which was supported by marketing campaigns focused on the heritage and craftsmanship of the brand, and the launch of new DeLeón variants, which broadened the price range and contributed to increased distribution of the brand. |
| Guinness net sales were up 3% on the strong performance of Blonde American Lager. Guinness Draught was weak given competition in the craft beer segment, particularly in the on trade. Net sales of ready to drink declined slightly, bringing net sales of DGUSA down 1%. Stronger execution and competitive pricing on Smirnoff Ice stabilised the core and flavoured variants but the brands growth still lags the category. |
| In Canada the new distribution system helped drive net sales growth of 2%. Spirits growth of 3% was driven by Johnnie Walker and vodka. Ready to drink net sales growth was principally due to Smirnoff variants, with beer down and wine down double digit. Tactical price reductions resulted in share improvement, with a marginally negative impact on price/mix. |
| Marketing investment in North America reduced 4% driven by US Spirits and Wines, which delivered significant savings on media and agency fees and procurement efficiencies. Advertising remained focused on Cîroc, Crown Royal, Smirnoff, Captain Morgan, and Johnnie Walker, and increased on Don Julio and Bulleit to support new programmes. Marketing investment in DGUSA supported the launch of Guinness Blonde American Lager and in Canada, a 1% increase went behind innovation launches. |
57
Business review (continued)
EUROPE
Diageo is the largest premium drinks business in Western Europe. Consumer marketing programmes are developed at a market level to drive consistency, efficiency and scale across all countries. In Russia and Eastern Europe we are driving our premium core, standard and value brands and reserve portfolio, whilst in Turkey, we use our local businesses strong route to consumer to drive accelerated growth in international premium spirits. In Europe, where competition for talent is particularly strong, our reputation as a trusted and respected company and for ground-breaking innovation, is key to our ability to attract and retain the people we need to deliver our Performance Ambition.
Key financials |
2014 Reported (restated)(i) £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2015 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
2,814 | (186 | ) | (13 | ) | 2 | 2,617 | (7 | ) | |||||||||||||||
Marketing spend |
413 | (30 | ) | (1 | ) | 6 | 388 | (6 | ) | |||||||||||||||
Operating profit before exceptional items |
853 | (67 | ) | (2 | ) | 20 | 804 | (6 | ) | |||||||||||||||
Exceptional items |
(20 | ) | (20 | ) | ||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
833 | 784 | (6 | ) | ||||||||||||||||||||
|
|
|
|
(i) | Restated following the change in the internal reporting structure to reflect changes made to management responsibilities. See page 124-125 for further details. |
Our markets
Europe comprises Western Europe, Russia and Eastern Europe and Turkey. Western Europe is managed as a single market with country teams focusing on sales and customer marketing execution. It includes Great Britain, Ireland, Iberia, France, Germany and Diageo Guinness Continental Europe beer business. Eastern Europe includes Poland, Bulgaria, Romania and Israel.
On 1 July 2015, Russia became a standalone market while Eastern Europe was merged with Western Europe creating Diageo Europe. Turkey remained unchanged.
58
Business review (continued)
Route to market
In Great Britain we sell and market our products through Diageo GB (spirits, beer and ready to drink), Percy Fox & Co (wines) and Justerini & Brooks Retail (wines private clients). Products are distributed through independent wholesalers and directly to retailers. In the on trade, products are sold through major brewers, multiple retail groups and smaller regional independent brewers and wholesalers.
In the Republic of Ireland and Northern Ireland, Diageo sells and distributes directly to the on trade and the off trade via a telesales operation.
Across the remainder of Western Europe, we distribute our spirits brands primarily through our own distribution companies, except for France where products are sold through a joint venture arrangement with Moët Hennessy.
Diageo Guinness Continental Europe distributes our beer brands in mainland Europe, focusing in Germany, Russia and France, our largest mainland European beer markets.
In Russia and Poland we operate through wholly owned subsidiaries, while in other Eastern Europe countries we use third party distributors.
In Turkey, we sell our products via the distribution network of Mey İçki, our wholly owned subsidiary. Mey İçki distributes both local brands (raki, other spirits and wine) and Diageos global spirits brands.
Supply operations
The International Supply Centre (ISC) comprises the supply operations in the United Kingdom, Ireland and Italy. The group owns 29 whisky distilleries in Scotland, a Dublin based beer brewery and maturing and packaging facilities in Scotland, England, Ireland and Italy. The ISC ships whisk(e)y, vodka, gin, rum, beer, wine, cream liqueurs, and other spirit-based drinks to over 180 countries. Through our £1 billion investment in Scotch whisky production and inventory, announced in 2012, distilling capacity has increased by over 25%.
Raki, vodka and wine are produced in Turkey at a number of sites and Smirnov vodka is produced in Russia.
Sustainability and responsibility
People today increasingly want to work for companies that they believe make a positive social and environmental, as well as economic, contribution. Our leadership in responsible drinking, through programmes and partnerships, and our contribution to the communities in which we operate, support our reputation and ability to attract and retain employees. Our responsible drinking programme, NOFAS, aims to tackle foetal alcohol syndrome by training midwives and health professionals to date we have reached around 300,000 pregnant women in the UK. In the last few years, we have launched our Learning for Life community programme in a number of European countries, including a major investment in Scotland, as part of a five-year effort targeted towards young people.
Performance
Europes performance reflected an improved momentum in Western Europe, growth in Turkey and a challenging environment in Russia. In Western Europe net sales were up 1%, as performance improved in more than half of our markets. Reserve brands delivered another strong performance with net sales up 20% and growing double digit even in the more challenging economies in Southern Europe. Innovation remained a key performance driver with net sales up 30% driven by successes such as The Brewers Project which helped put Guinness back in growth in both Great Britain and Ireland. We continued to invest in our route to consumer, increasing the number of sales people by 30% and the number of outlets we cover by 60%. In Russia, which continued to be impacted by economic volatility, consumers traded down and customers reduced inventory levels while Diageo gained share in scotch and rum. Turkey net sales were up 3% driving premiumisation in the raki category and gained share in scotch and vodka. Total operating margin for the region improved 75bps largely driven by gross margin improvement in Turkey, and overhead cost reduction in Western Europe, which was partially reinvested in marketing spend and route to consumer.
59
Business review (continued)
Markets: |
Organic volume movement(i) % |
Organic net sales movement % |
Reported net sales movement % |
|||||||||
Europe |
| | (7 | ) | ||||||||
Western Europe |
1 | 1 | (5 | ) | ||||||||
Russia and Eastern Europe |
(8 | ) | (9 | ) | (26 | ) | ||||||
Turkey |
| 3 | (5 | ) | ||||||||
Spirits(ii) |
(1 | ) | 1 | (8 | ) | |||||||
Beer |
1 | 1 | (4 | ) | ||||||||
Wine |
| (1 | ) | (4 | ) | |||||||
Ready to drink |
(6 | ) | (2 | ) | (5 | ) | ||||||
Global giants and local stars(ii): |
||||||||||||
Guinness |
1 | 2 | (2 | ) | ||||||||
Smirnoff |
(2 | ) | (4 | ) | (7 | ) | ||||||
Johnnie Walker |
(5 | ) | (7 | ) | (15 | ) | ||||||
Baileys |
(3 | ) | (4 | ) | (10 | ) | ||||||
Captain Morgan |
9 | 10 | 1 | |||||||||
Yenì Raki |
(4 | ) | 4 | (6 | ) | |||||||
JeB |
(1 | ) | (3 | ) | (10 | ) |
(i) | Organic equals reported movement for volume. |
(ii) | Spirits brands excluding ready to drink. |
60
Business review (continued)
KEY HIGHLIGHTS
| In Western Europe net sales were up 1%: |
| In Great Britain net sales were up 3%, with spirits, beer, and ready to drink all in growth. Reserve net sales were up 43% driven by Cîroc and the successful launch of Haig Club. Captain Morgan net sales were up 15%, with investment focused on increased activation in outlets and Smirnoff was back in growth with net sales up 1%, supported by the new Were Open campaign. Beer net sales were up 2% driven by innovation on Guinness. Ready to drink net sales were up 7% supported by strong growth in pre-mix. The only weakness was in Baileys where net sales were down 2%, however Baileys Original was in growth. |
| In Ireland net sales were down 1%, or flat after accounting for the transfer of wine sales to Diageo Wines Europe. Guinness sustained its positive momentum with net sales up 2%, supported by successful innovations launched through The Brewers Project at St Jamess Gate. Net sales in spirits were down 2% as the category continued to be affected by last years duty increase. |
| In Southern Europe net sales were down 1%. Net sales in Iberia were flat, after accounting for a transfer of sales of one customer to Africa Regional Markets, but showing positive momentum with growth from Tanqueray and Gordons in a vibrant gin category and declines in JeB and Cacique. Double digit growth of reserve was the main driver behind the 1% net sales growth in Italy, where Zacapa was up 10% and Cîroc more than trebled net sales. In Greece, performance was impacted by the deterioration of economic environment in the last quarter, which resulted in a 4% net sales decline. |
| Net sales in Germany and Austria declined 2%. In Germany net sales were up 5%. Underlying performance was strong with net sales of Baileys, Captain Morgan and Johnnie Walker Red Label all up double digit. In Austria, net sales were down 53% against the buy in ahead of the excise duty increase in January 2014. |
| Performance in Benelux continued to be impacted by the decision to realign prices in the first half on premium core brands which resulted in a net sales decline of 10%. |
| In a challenging trading environment in France net sales increased 2% largely driven by growth in scotch, with Scotch malts up 6%, and the strong performance of Captain Morgan which, in its third year, more than doubled net sales. |
| Net sales in Diageo Wines Europe were up 3% largely driven by the transfer of wine net sales from Diageo Ireland and the strong performance of [yellow tail]. |
| Performance in Russia and Eastern Europe continued to be impacted by the events in the region. In Russia, net sales declined 14%, driven by both destocking amongst distributors and consumers trading down. This impacted Johnnie Walker, however Diageo extended its leadership in whisky and rum, and gained share with brands such as White Horse, Black & White and Captain Morgan. In Poland, net sales of Johnnie Walker Red Label declined 15% and the brand lost share, as some competitors did not follow Diageo price increases to cover last years excise duty increase. |
| In Turkey net sales grew 3% despite an excise duty increase in January and the earlier start to Ramadan. Net sales in raki were up 5% with Yenì Raki and the super premium variant Tekirdağ Raki premiumising the category. Good underlying performance of international spirits resulted in share gains for Johnnie Walker, Smirnoff and Baileys. |
| Marketing investment in Europe increased 2% largely driven by Western Europe where spend was up 3%. The increased investment was focused on the biggest growth opportunities such as reserve and innovation to support the launches of Haig Club and the Guinness Brewers project. |
61
Business review (continued)
AFRICA
In Africa our strategy is to grow Diageos leadership across beer and spirits by providing brand choice across a broad range of consumer motivations, profiles, and occasions. We are focused on growing beer faster than the market and accelerating the growth of spirits through continued investment in infrastructure and brands. Local sourcing is a key element of our strategy in Africa: it directly supports our commercial operations, while indirectly supporting our position by bringing wider benefits to society as a whole.
Key financials |
2014 Reported (restated)(i) £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2015 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
1,430 | (100 | ) | | 85 | 1,415 | (1 | ) | ||||||||||||||||
Marketing spend |
152 | (10 | ) | | 5 | 147 | (3 | ) | ||||||||||||||||
Operating profit before exceptional items |
340 | (52 | ) | 1 | 29 | 318 | (6 | ) | ||||||||||||||||
Exceptional items |
(23 | ) | (7 | ) | ||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
317 | 311 | (2 | ) | ||||||||||||||||||||
|
|
|
|
(i) | Restated following the change in the internal reporting structure to reflect changes made to management responsibilities. See page 124125 for further details. |
Our markets
The region comprises Nigeria, East Africa (Kenya, Tanzania, Uganda, Burundi, Rwanda and South Sudan), Africa Regional Markets (including Ghana, Cameroon, Ethiopia, Angola, Mozambique and a sorghum beer business in South Africa) and South Africa (all other products).
Route to market
In Africa our largest businesses are in Nigeria, where we own 54.3% of a listed company whose principal brands are Guinness, Harp and Malta, and in East Africa, where we own 50.03% of East African Breweries Limited (EABL). EABL produces and distributes beer and spirits brands to a range of consumers in Kenya and Uganda, and has a 51% equity interest in Serengeti Breweries Limited, Tanzania. Within Africa Regional Markets, we have wholly owned subsidiaries in Cameroon, Ethiopia, Mozambique and Réunion and majority owned subsidiaries in Ghana and the Seychelles. Angola is supplied via a third party distributor. In South Africa we sell spirits and sorghum beer through wholly owned subsidiaries and currently sell our beer, cider and ready to drink products through our 42.25% stake in DHN Drinks Ltd, a joint venture with Heineken and Namibia Breweries Ltd. On 28 July 2015, Diageo announced the agreement to dispose of its equity interest in DHN Drinks Ltd. Diageo has brewing arrangements with the Castel Group who license, brew and distribute Guinness in the Democratic Republic of Congo, Gambia, Gabon, Ivory Coast, Togo, Benin, Burkina Faso, Chad, Mali and Guinea. Diageo sells spirits through distributors in the majority of other sub-Saharan countries.
Supply operations
We have 14 breweries in Africa, including the brewery owned by Sedibeng in South Africa in which we own a 25% equity stake.
In addition, our beer and spirits brands are produced by third parties under licence in 20 other African countries. We also own five manufacturing facilities including blending, malting and cider plants.
62
Business review (continued)
Sustainability and responsibility
In Africa we create wealth both directly through our operations and indirectly through our broader network, particularly of agricultural suppliers. We source 70% of agricultural and packaging materials locally and we work with more than 50,000 local farmers for our agricultural inputs. Thirteen of our production sites in Africa are in water-stressed areas, so much of our focus is on managing water use in our operations effectively and enhancing access to clean water to surrounding communities through our pan-African Water of Life programme. Since we began the programme in 2006, we have brought safe drinking water to more than ten million people. The launch of our Water Blueprint strategy this year will help us focus further on water use in the supply chain, with one of our key targets being to equip our suppliers with the tools to protect water sources in water-stressed areas. We also support many responsible drinking programmes throughout the continent. We tackle issues like drink driving through programmes such as Dry Drive in South Africa, and underage consumption through the Red Card initiative in Uganda, and through advocating stronger legal purchase age laws in Ghana. Our training programmes have also created close to 40,000 responsible drinking ambassadors across Africa this year.
Performance
Good performances in both beer and spirits led to net sales up 6% in Africa. Investments in route to consumer together with innovation drove an 8% increase in beer and led to double digit growth in spirits. The mainstream beer market in Nigeria remained challenged as consumers moved towards more value products, impacting the performance of Guinness and Harp. However the national rollout of Orijin and renovation of Satzenbrau drove an increase in beer net sales of 9%. Investment in Guinness marketing has stabilised volume share in the brand. Good progress in route to consumer led to strong net sales growth in Ghana, and in Cameroon, strong marketing campaigns delivered net sales and share gains in Guinness. In South Africa, spirits growth was underpinned by the continued strong performances of Smirnoff 1818, which is now a two million case brand, and Johnnie Walker, while overall growth was impacted by a decline in ready to drink. Reserve brands grew 26% with double digit increases in South Africa, East Africa and Nigeria. Increased sales of mainstream brands, which have lower costs per case, together with procurement and supply efficiencies were partially offset by an increase in marketing spend and route to consumer investments leading to organic operating margin improvement of 75 basis points.
Markets: |
Organic volume movement(i) % |
Organic net sales movement % |
Reported net sales movement % |
|||||||||
Africa |
7 | 6 | (1 | ) | ||||||||
Nigeria |
13 | 6 | (3 | ) | ||||||||
East Africa |
7 | 9 | 6 | |||||||||
Africa Regional Markets |
14 | 15 | 1 | |||||||||
South Africa |
(2 | ) | (7 | ) | (12 | ) | ||||||
Spirits(ii) |
17 | 13 | 7 | |||||||||
Beer |
4 | 8 | (1 | ) | ||||||||
Ready to drink |
(34 | ) | (28 | ) | (33 | ) | ||||||
Global giants and local stars(ii): |
||||||||||||
Guinness |
(5 | ) | (7 | ) | (15 | ) | ||||||
Johnnie Walker |
3 | 7 | 2 | |||||||||
Smirnoff |
22 | 22 | 16 | |||||||||
Tusker |
(6 | ) | 3 | 1 | ||||||||
Malta |
(8 | ) | (5 | ) | (17 | ) | ||||||
Senator |
(11 | ) | (16 | ) | (20 | ) | ||||||
Harp |
(40 | ) | (46 | ) | (50 | ) |
(i) | Organic equals reported movement for volume. |
(ii) | Spirits brands excluding ready to drink. |
63
Business review (continued)
KEY HIGHLIGHTS
| Nigeria delivered double digit volume growth driven primarily by the national rollout of Orijin, while net sales grew 6%. The weak consumer environment led to a move to value lager which resulted in a strong performance of Satzenbrau and a weak performance of Harp. Similarly net sales of Guinness declined although the brands performance improved in the second half and volume share stabilised. Spirits net sales were up 19% as inventory reductions on Johnnie Walker and Baileys were offset by the strong performance of local mainstream spirits. |
| In East Africa, where net sales grew 9%, Guinness volume and net sales grew strong double digits supported by the Made of More campaign. Innovation in value beer, in particular, Balozi lager in Kenya, a no added sugar offering, and in Tanzania Kibo Gold, positioned to capture consumers trading down, offset a decline in Senator due to excise duty changes in Kenya in the first half last year. In spirits, growth was led by mainstream spirits brands and good performances from Johnnie Walker and Smirnoff. Success in mainstream spirits was driven by Kane Extra and Liberty in Kenya, which benefited from improvements in route to consumer, including the introduction of motorcycles to increase sales coverage of mainstream outlets. Johnnie Walker net sales grew 60% driven by recruitment activities, while the launch of Smirnoff Ice Double Black and Guarana also contributed to East Africas growth. |
| In Africa Regional Markets, net sales grew strongly, up 15%. In Ghana, net sales grew 32%. Investment in route to consumer, together with price increases, led to 28% net sales growth of beer, and spirits grew strongly driven by the growth of Johnnie Walker and the introduction of Orijin Bitters. In Cameroon, net sales grew 10% driven by growth of Guinness, which benefited from increased awareness through the Made of Black campaign, together with outperformance of Harp and growth of Johnnie Walker and Baileys. In Angola, spirits net sales doubled following route to consumer investments and the appointment of a new distributor. This led to strong performances from Johnnie Walker, White Horse, and Gordons gin. While the performance of Meta beer in Ethiopia was impacted by increased competitive pricing, this was mostly offset by strong net sales of Malta and the introduction of Zemen, a lower-price beer innovation, along with a good performance of spirits. |
| Net sales in South Africa were down 7% driven by a decline in Smirnoff Ice Double Black and Guarana, which lapped strong replenishment sales and high inventories in the last financial year. Spirits net sales increased 8% driven by Smirnoff 1818, with net sales up 27% based on competitive pricing and following a packaging upgrade. Net sales of Johnnie Walker increased 10% with marketing focused on the brands quality credentials. Its contribution to total scotch performance was partially offset by a weaker performance of JeB and Bells. Reserve brands continued to benefit from investments in route to consumer. |
| Marketing investment in Africa increased 4%. In Nigeria spend on beer was refocused from Harp to support the growth of Orijin and value beers, while in East Africa, the decline in Senator volume also led to a reduction in spend. Spend increased behind vodka, notably Smirnoff 1818 in South Africa in support of pack innovations and promotional activity and investment behind Johnnie Walker grew in South Africa and East Africa. Ready to drink investment increased as Smirnoff Ice Double Black & Guarana launched in East Africa and Nigeria. |
64
Business review (continued)
LATIN AMERICA AND CARIBBEAN
In Latin America and Caribbean the strategic priority is continued leadership in scotch, while broadening the category range to include vodka, rum, liqueurs and local spirits. We are continuing to invest in routes to market and in the range and depth of our portfolio of leading brands. We are also enhancing our supply structure to enable the business to provide the emerging middle class and an increasing number of wealthy consumers with the premium brands they aspire to. In this regions changing regulatory landscape, our presence is supported by our reputation as a trusted and respected business, based on our stance on responsible drinking, and community development programmes like Learning for Life.
Key financials |
2014 Reported £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2015 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
1,144 | (123 | ) | 23 | (11 | ) | 1,033 | (10 | ) | |||||||||||||||
Marketing spend |
203 | (22 | ) | 3 | 10 | 194 | (4 | ) | ||||||||||||||||
Operating profit before exceptional items |
328 | (60 | ) | 2 | (7 | ) | 263 | (20 | ) | |||||||||||||||
Exceptional items |
(14 | ) | (5 | ) | ||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
314 | 258 | (18 | ) | ||||||||||||||||||||
|
|
|
|
Our markets
Our Latin America and Caribbean (LAC) business comprises Paraguay, Uruguay and Brazil (PUB), Venezuela, Colombia, Mexico and West LAC (Central America and Caribbean, Argentina, Chile, Peru, Ecuador and Bolivia).
Route to market
We sell our products through a combination of our own subsidiary companies and third party distributors. In Brazil, sales are primarily made directly to international retailers and distributors. In addition to Diageo Brazil, Diageo owns 100% of Ypióca, a leading cachaça producer and distributor. In Uruguay, Diageo manages distribution both directly and through distributors.
All products in Venezuela are sold through dedicated third party distributors. In Colombia we sell directly to major grocers, serving all other accounts and channels through distributors.
In Mexico our brands are sold directly by Diageo, either through direct sales to international accounts or through wholesalers and distributors.
In selected markets in West LAC, we sell directly to consumers, while in key markets, such as Costa Rica and the Dominican Republic, we use exclusive distributors. In Jamaica, we own a 58% controlling interest in Desnoes & Geddes Limited, the Jamaican brewer of Red Stripe lager.
In Argentina, we sell directly to major grocers, and other businesses are managed through a combination of wholesalers and distributors outside of major grocers, to whom we sell directly.
65
Business review (continued)
Supply operations
The majority of brands sold in the region are manufactured in our International Supply Centre in Europe. However in recent years we have acquired a number of local manufacturers. This year we acquired the remaining 50% equity interest in Don Julio, giving full ownership of the brand and production facilities. In 2012 we acquired 100% of Ypióca in Brazil which produces cachaça and in 2011 we acquired a controlling interest in a company in Guatemala (Añejos de Altura) producing Zacapa. In addition, we have controlling interest in a brewery in Jamaica (Red Stripe), and the Navarro Correas winery in Mendoza, Argentina. We also partner with more than 12 brewers and over 20 co-pack partners to manufacture brands and package products under strict quality assurance protocols.
Sustainability and responsibility
In this region, we have built a name for ourselves as a company that is committed to the long term development of an industry that can bring economic and social value to society. Our responsible drinking programmes, such as Actuando Mejor in Mexico, and Drink Right in Jamaica, are making a tangible difference in reducing alcohol-related harm, and this year contributed to creating more than 240,000 responsible drinking ambassadors. Our flagship community reinvestment programme, Learning for Life, is providing skills and training to over 100,000 people across the region. Some of our sites in Brazil are located in water-stressed areas, and we are developing environmental programmes, for example through our Ypióca business, which are helping ease the pressure on this shared resource.
Performance
Good performances in the domestic markets in LAC were offset by a significant net sales decline in export channels due to currency volatility. The levels of stock held by these customers has reduced, which together with lower depletions, impacted growth in the region by five percentage points. Net sales in domestic markets increased 5% as we expanded our leading positions in scotch and broadened our business into other categories. In Brazil, performance has been affected by a weaker economy and a tougher competitive environment, but we have invested in route to consumer and recruited new consumers into our portfolio through innovation. In Venezuela, there was good growth in local spirits and scotch. Performance in Colombia benefited from investments in route to consumer and innovation, while our strength in scotch drove good net sales growth in Mexico. In Peru and Jamaica, we delivered good growth from our investments in route to consumer and, while net sales were down in Argentina, we moved quickly to offset import levies with local production driving share gains. While significant cost efficiencies were achieved, especially in Brazil, negative market mix and increased marketing investment led to a decrease of 41 basis points in organic operating margin.
Markets: |
Organic volume movement(i) % |
Organic net sales movement % |
Reported net sales movement % |
|||||||||
Latin America and Caribbean |
(7 | ) | (1 | ) | (10 | ) | ||||||
PUB |
(8 | ) | (2 | ) | (12 | ) | ||||||
Venezuela |
(38 | ) | 41 | (60 | ) | |||||||
Colombia |
10 | 10 | (2 | ) | ||||||||
Mexico |
14 | 13 | 19 | |||||||||
West LAC |
(5 | ) | (9 | ) | (12 | ) | ||||||
Spirits(ii) |
(8 | ) | (3 | ) | (12 | ) | ||||||
Beer |
5 | 17 | 11 | |||||||||
Wine |
1 | 17 | (1 | ) | ||||||||
Ready to drink |
(7 | ) | 9 | (6 | ) | |||||||
Global giants and local stars(ii): |
||||||||||||
Johnnie Walker |
(6 | ) | (5 | ) | (11 | ) | ||||||
Smirnoff |
(12 | ) | 5 | (7 | ) | |||||||
Baileys |
(4 | ) | 8 | | ||||||||
Buchanans |
(17 | ) | (12 | ) | (24 | ) | ||||||
Old Parr |
(9 | ) | (10 | ) | (22 | ) | ||||||
Ypióca |
(5 | ) | (3 | ) | (14 | ) | ||||||
Black & White |
17 | 27 | 6 |
(i) | Organic equals reported movement for volume. |
(ii) | Spirits brands excluding ready to drink. |
66
Business review (continued)
KEY HIGHLIGHTS
| Net sales in Paraguay, Uruguay and Brazil (PUB) declined 2% as currency weakness and a slower Brazilian economy impacted consumer spending. In Brazil, volume declined mainly as a result of changes in the route to consumer and the harmonisation of interstate pricing, which led to a reduction in inventories held by distributors. In PUB, price increases and a reduction in commercial discounts led to 6pps of positive price/mix. Scotch net sales declined 2% driven by Johnnie Walker, which was down 9% as intense competitor promotional activity amplified the price premium of Johnnie Walker Red Label. In premium scotch, Old Parr and Johnnie Walker Double Black had strong net sales growth and share gains, and in standard scotch, White Horse grew net sales supported by a new media campaign. Smirnoff strengthened its leadership position in vodka, growing net sales 6% driven by price increases and the launch of Smirnoff Peach. Net sales of Ypióca were affected by the transfer from net sales to overheads of tax credits from local production incentives. On a like for like basis, net sales of Ypióca increased high single digit driven by price increases and continued strong performance in the North East. |
| In Venezuela, while volume declined, net sales increased 41% to £32 million. Access to currency allowed for the importation of some scotch leading to strong comparative performances of Johnnie Walker, Buchanans, and Ye Monks. Increased focus on developing local spirits led to strong performances of Cacique, which doubled net sales, despite glass supply constraints, and Gordons vodka net sales increased 185%. |
| In Colombia, investments in the route to consumer increased share across key categories and drove 10% net sales growth. The launch of Old Parr Tribute and the introduction of Buchanans Special Reserve, together with double digit growth of Johnnie Walker, led to an 11% increase in the net sales of scotch. Innovations contributed to a 22% increase in Baileys net sales. |
| In Mexico, the breadth of Diageos scotch portfolio was the main driver of a 13% increase in net sales. Selective price increases along with strong trade executions delivered growth across all price segments of scotch other than value. Johnnie Walker net sales increased 15% with growth across all variants and a particularly strong contribution from Johnnie Walker Red Label. Diageo gained share in the fast-growing but competitive standard scotch segment with the introduction of Black & White, which increased net sales over 80%. There was a good contribution to net sales growth from Smirnoff, since Diageo took direct control over marketing and distribution of the brand in December 2014. |
| In West LAC, net sales were down 9%, driven by inventory reductions in the export channels where net sales declined 51%. This impacted the performance of Johnnie Walker, Old Parr, and Buchanans. In domestic markets, strong performances in Peru and Jamaica led to a 3% increase in net sales. In Peru, net sales increased 26% with scotch driving growth together with Baileys, while growth in Red Stripe, pack renovations on Guinness and the strong consumer appeal of Dragon Stout helped deliver 15% growth in net sales in Jamaica. Price realignments in Chile and Caribbean & Central America led to some negative price/mix but delivered share gains in key categories. In Argentina, restrictions on imports affected overall performance but a shift to locally bottled spirits including VAT 69, White Horse, and Smirnoff drove share gains. |
| An increase in marketing investment of 6% supported broader participation within spirits. Spend on scotch was focused on increasing brand equity across price points in Mexico and on supporting the launch of Old Parr Tribute in Colombia. In Jamaica, investment also increased to support the growth of beer and there was growth in spend on Smirnoff to maintain its leadership position in Brazil and in Mexico as Diageo regained distribution of the brand. |
67
Business review (continued)
ASIA PACIFIC
Our strategy in Asia Pacific, which encompasses both developed and emerging markets, is to operate across categories in international spirits, local spirits and beer. We focus on the highest growth categories and consumer opportunities, driving continued development of super and ultra premium scotch, and leveraging the emerging middle class opportunity through a combination of organic growth and selective acquisitions. In the financial year we acquired a controlling stake in United Spirits Limited (USL), positioning us as leaders in spirits in an attractive market, and giving us a significantly expanded operational footprint in India.
Key financials |
2014 Reported £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2015 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
1,347 | (22 | ) | 920 | (32 | ) | 2,213 | 64 | ||||||||||||||||
Marketing spend |
305 | (1 | ) | 65 | (25 | ) | 344 | 13 | ||||||||||||||||
Operating profit before exceptional items |
283 | (13 | ) | 66 | 20 | 356 | 26 | |||||||||||||||||
Exceptional items |
(276 | ) | (193 | ) | ||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
7 | 163 | 2,229 | |||||||||||||||||||||
|
|
|
|
Our markets
Asia Pacific comprises South East Asia (Vietnam, Thailand, Philippines, Indonesia, Malaysia, Singapore, Cambodia, Laos, Myanmar, Nepal and Sri Lanka), Greater China (China, Taiwan, Hong Kong and Macau), India, Global Travel, Asia and Middle East, Australia and North Asia (Korea and Japan).
68
Business review (continued)
Route to market
In South East Asia, spirits and beer are sold through a combination of Diageo companies, joint venture arrangements, and third party distributors. In Thailand, Malaysia and Singapore, we have joint venture arrangements with Moët Hennessy, sharing administrative and distribution costs. Diageo has wholly owned subsidiaries in the Philippines and Vietnam. In Vietnam we also have a 45.56% equity stake in Hanoi Liquor Joint Stock Company. In Malaysia, Diageos own and third party beers are brewed and distributed by a listed company, Guinness Anchor Berhad, in which we have an effective 25.5% equity interest. In Indonesia, Guinness is brewed by, and distributed through, third party arrangements.
In Greater China, part of our spirits business is conducted through a joint venture arrangement with Moët Hennessy. The remainder of our spirits are sold through a wholly owned subsidiary. In addition, we are the sole distributor of Shui Jing Fang, a super premium Chinese white spirit, through our controlling 39.71% equity stake in a listed company.
In India, we further extended our route to market through the integration of USL, the leading spirits company in India. Diageo consolidated USL from 2 July 2014 following the acquisition of an additional 26% investment in USL, becoming the largest shareholder with a 54.78% controlling stake.
In Australia, we produce and distribute the groups products and in New Zealand we operate through third party distributors.
In North Asia, we have our own distribution company in South Korea, whilst in Japan, the majority of sales are through joint venture agreements with Moët Hennessy and Kirin.
Airport shops and airline customers are serviced through a dedicated Diageo sales and marketing organisation. In the Middle East, we sell our products through third party distributors.
Supply operations
We have distilleries at Chengdu in China that produce Chinese white spirit and in Bundaberg, Australia that produce rum.
USL owns 33 manufacturing facilities in India and Nepal, leases 10 further manufacturing facilities in India and 46 facilities are licensed to produce USL products. In addition, we have bottling plants in Korea and Australia with ready to drink manufacturing capabilities.
Sustainability and responsibility
Promoting responsible drinking has always been a particular focus for us, as it is in many parts of the world. We run programmes to address drink driving, to train bartenders and promotional staff on how to serve alcohol responsibly, and to raise awareness of alcohol and its effects. We also focus on empowering women through our Plan W programme. With the acquisition of USL, our supply footprint has increased significantly, almost doubling the number of sites we operate in water-stressed areas. We believe that our approach, set out in the Water Blueprint strategy, will bring benefits to local water sources, while our compliance and ethics and Zero Harm safety programmes are helping colleagues at USL improve in these areas.
Performance
Asia Pacific performance reflects inventory reductions in South East Asia, and disruptions in Indonesia due to new restrictions on the sale of beer and ready to drink in some channels. All other markets delivered growth, including China led by Chinese white spirits. Reserve sales were up 30%, led by Scotch malts, with particularly strong performance from The Singleton. Innovation responding to changing trends played an important role, with the launch of Haig Club, W ICE by Windsor in Korea, Guinness Zero in Indonesia, and new ready to drink offerings. We reduced marketing investment, largely in China and South East Asia, where the consumer environment was challenged. Performance, primarily the reduction in stock levels, in South East Asia resulted in a significant operating loss for that market. Our Chinese white spirits business regained profitability after a loss last year. This return to profitability, along with cost savings, resulted in an overall margin improvement for Asia Pacific of two percentage points. The full consolidation of USL added £921m of net sales and £53m of operating profit to reported performance for the region.
69
Business review (continued)
Markets: |
Organic volume movement(i) % |
Organic net sales movement % |
Reported net sales movement % |
|||||||||
Asia Pacific |
(3 | ) | (2 | ) | 64 | |||||||
South East Asia |
(24 | ) | (28 | ) | (28 | ) | ||||||
Greater China |
3 | 15 | 17 | |||||||||
India |
5 | 3 | 1,732 | |||||||||
Global Travel, Asia and Middle East |
5 | 4 | 3 | |||||||||
Australia |
1 | 2 | (5 | ) | ||||||||
North Asia |
1 | 1 | (1 | ) | ||||||||
Spirits(ii) |
(3 | ) | (3 | ) | 83 | |||||||
Beer |
(13 | ) | (12 | ) | (16 | ) | ||||||
Ready to drink |
(2 | ) | 1 | (5 | ) | |||||||
Global giants and local stars(ii): |
||||||||||||
Johnnie Walker |
(10 | ) | (14 | ) | (14 | ) | ||||||
Smirnoff |
(3 | ) | (7 | ) | (9 | ) | ||||||
Guinness |
(13 | ) | (12 | ) | (16 | ) | ||||||
Captain Morgan |
| 11 | 8 | |||||||||
Baileys |
(4 | ) | (13 | ) | (16 | ) | ||||||
Windsor |
(10 | ) | (10 | ) | (8 | ) | ||||||
Bundaberg |
(5 | ) | (7 | ) | (13 | ) | ||||||
Shui Jing Fang |
275 | 239 | 245 |
(i) | Organic equals reported movement for volume except for Asia Pacific 622%, India 6347%, and spirits 710%, reflecting the full consolidation of USL. |
(ii) | Spirits brands excluding ready to drink. |
70
Business review (continued)
KEY HIGHLIGHTS
| In South East Asia, net sales declined 28% given an inventory level reduction in specific wholesale channels, with Johnnie Walker Red and Black Label most impacted. Performance in these channels was also impacted by transferring sales from some Indian travel retail customers to Global Travel Asia. New regulations in Indonesia caused major disruptions, and Guinness net sales declined 30%. In Thailand, price repositioning on Johnnie Walker Red Label and Smirnoff led to negative price/mix, however, Johnnie Walker Red Label volume was up double digit in the second half, while Smirnoff gained share. |
| In Greater China, net sales were up 15%. Taiwan net sales increased 6%, driven by continued success of The Singleton, which was up significantly and has become the largest malt brand in Taiwan. Mainland China was up 26% including an 11pps benefit from an additional quarter of Shuijingfang to align financial year end timing. Shuijingfang grew significantly through innovation, strengthened route to consumer, and a soft prior year comparable. Shuijingfang also generated profit and drove margin improvement for Greater China, due to a significant reduction in the underlying business loss and benefiting from provision releases. While scotch in mainland China was down 17%, due to increased competition for on trade contracts and a reduction in wholesaler inventory levels, The Singleton and Haig Club drove growth and share gains. |
| Despite shipment disruptions due to new food safety labelling requirements, Diageo India volume was up 5% and net sales up 3%, and all key priority brands grew depletions. Investment in Johnnie Walker and VAT 69 campaigns, and a Black & White packaging relaunch drove continued premiumisation. The Smirnoff Black launch helped increase Smirnoff share by 5pps over the past three months to 56% of vodka. The integration of Diageo and USL completed, and from June, USL started selling Diageo brands. |
| Global Travel, Asia and Middle East net sales were up 4% including 6pps of benefit from transferring sales from some Indian travel retail customers from South East Asia. Middle East performance slowed in the second half due to geopolitical tensions and increased pricing pressure on scotch, with second half sales down 16%. Across GTME, Diageo brands gained share particularly in whisky, led by Johnnie Walker in Global Travel Asia, where premium and above variants drove the brands net sales growth. |
| Net sales in Australia improved 2%, reversing a first half decline. Spirits were up 2%, driven by super premium scotch, spiced rum, and North American whisk(e)y. Captain Morgan net sales grew nearly 50% and it is now the second largest rum brand behind Bundaberg. While pricing pressure impacted Bundaberg and Smirnoff, depletions improved in the last quarter. Ready to drink growth continued in the second half driven by Captain Morgan variants and pack format innovations from several brands. |
| North Asia net sales were up 1% with Japan up 10% and Korea down 2%, as second half performance slowed following an increase in import duties after a Customs settlement in January. In Korea, whisky contraction decelerated, and the launch of lower ABV offering W ICE by Windsor stabilised Windsor share in the fourth quarter. While Windsor was down, whisky sales in Korea benefited from strong growth of Johnnie Walker Blue and Black Label. Guinness was up 41%, driven by a campaign and price promotion. In Japan, performance improved due to scotch growth, with depletions up high single digit, and increased distribution and new flavours of Smirnoff Ice. |
| Marketing investment decreased 8%, due to Johnnie Walker reductions, particularly in Black Label, in China and South East Asia. In China, investment declined in the competitive on trade and was reinvested in testing new at home and with meal off trade campaigns. In Thailand and the Philippines, Johnnie Walker investment focused on recruiting consumers and maintaining Gold and Blue Label sponsorships. Many markets also supported Haig Clubs launch. |
71
Business review (continued)
CATEGORY REVIEW
Key categories |
Organic volume movement(i) % |
Organic net sales movement % |
Reported net sales movement % |
|||||||||
Spirits(ii) |
(2 | ) | (1 | ) | 10 | |||||||
Scotch |
(4 | ) | (5 | ) | (9 | ) | ||||||
Vodka |
| 1 | 1 | |||||||||
North American whisk(e)y |
10 | 12 | 15 | |||||||||
Rum |
(3 | ) | (3 | ) | (6 | ) | ||||||
Liqueurs |
(1 | ) | (4 | ) | (8 | ) | ||||||
Gin |
4 | 5 | 3 | |||||||||
Tequila |
10 | 14 | 38 | |||||||||
Beer |
3 | 4 | (2 | ) | ||||||||
Ready to drink |
(11 | ) | (4 | ) | (13 | ) | ||||||
Wine |
(1 | ) | (1 | ) | (1 | ) | ||||||
Total |
(1 | ) | | 5 |
(i) | Organic equals reported movement for volume except for total 58%, spirits 72%, ready to drink (18)%, liqueurs (1)%, and tequila 25%, largely reflecting the full consolidation of USL, the acquisition of Don Julio and the termination of agency brand distribution agreements, including Jose Cuervo. |
(ii) | Spirits brands excluding ready to drink. |
72
Business review (continued)
Organic volume movement(i) % |
Organic net sales movement % |
Reported net sales movement % |
||||||||||
Global giants |
||||||||||||
Johnnie Walker |
(6 | ) | (9 | ) | (12 | ) | ||||||
Smirnoff |
(1 | ) | (2 | ) | (3 | ) | ||||||
Captain Morgan |
(4 | ) | (6 | ) | (7 | ) | ||||||
Baileys |
(4 | ) | (4 | ) | (8 | ) | ||||||
Tanqueray |
6 | 5 | 5 | |||||||||
Guinness |
(2 | ) | | (5 | ) | |||||||
Local stars |
||||||||||||
Crown Royal |
13 | 12 | 15 | |||||||||
Yenì Raki |
(4 | ) | 4 | (6 | ) | |||||||
JeB |
(2 | ) | (4 | ) | (9 | ) | ||||||
Buchanans |
(9 | ) | (3 | ) | (12 | ) | ||||||
Windsor |
(10 | ) | (10 | ) | (8 | ) | ||||||
Old Parr |
(13 | ) | (14 | ) | (24 | ) | ||||||
Bundaberg |
(5 | ) | (7 | ) | (13 | ) | ||||||
Bells |
(3 | ) | (5 | ) | (14 | ) | ||||||
White Horse |
(5 | ) | (7 | ) | (26 | ) | ||||||
Ypióca |
(5 | ) | (3 | ) | (14 | ) | ||||||
Cacique |
(37 | ) | 3 | (32 | ) | |||||||
Shui Jing Fang |
268 | 235 | 241 | |||||||||
Reserve |
||||||||||||
Scotch malts |
11 | 16 | 12 | |||||||||
Cîroc |
6 | 6 | 9 | |||||||||
Ketel One vodka |
(3 | ) | (2 | ) | 1 | |||||||
Don Julio |
8 | 12 | 43 | |||||||||
Bulleit |
34 | 38 | 42 |
(i) | Organic equals reported movement for volume, except for Don Julio where reported volume growth is 98%. |
(1) | Spirits brands excluding ready to drink. |
| Global giants represent 39% of Diageo net sales |
| Johnnie Walker, with nearly 70% of its net sales in the emerging markets, was impacted by currency weakness and inventory reductions in South East Asia and export channels in Latin America. In the United States, the brand lapped the shipment of two big innovations, Gold Label Reserve and Platinum Label in the prior year; Red and Black Label were negatively impacted by reduced promotional activities. In China, the governments anti extravagance measures drove continued closure of traditional on trade outlets, leading to increased competition in the modern on trade negatively impacting the whole scotch category. Many other markets delivered strong performance, including Cameroon, Angola, Ghana, and East Africa with net sales up more than 50% and Mexico, Venezuela, and Colombia which all delivered double digit sales growth. In the developed markets in Asia Pacific, Johnnie Walker performed strongly and net sales grew high single digit. |
| Smirnoff net sales declined 2%, largely driven by the United States, and the weakness in flavoured vodka there. The relaunch of the brand with the Exclusively for Everybody marketing campaign, new packaging and targeted price promotions drove improved depletions momentum and share gains on Smirnoff Red. In Western Europe, a number of countries, notably Great Britain, delivered growth. Net sales were up in Latin America, with Brazil growing 8% following the national Cheers to Real Life campaign launch. Smirnoff had a very strong year in South Africa with Smirnoff 1818 sales growing 27%. |
| Captain Morgan net sales were down 6% due to the performance of the brand in the United States, where Captain Morgan held share in a flat rum category that is facing heightened competition from other categories. The decline in shipments was driven by weakness on Original Spiced Rum, and Captain Morgan White Rum which lapped its launch last year. The launch of Captain Morgan White Flavours partially offset the shipments decline on the core variants. Elsewhere, the brands performance continued to be strong with double digit growth in Great Britain, Germany, Southern Europe, Australia, India, and East Africa. |
73
Business review (continued)
| Baileys net sales declined 4% having started the year with high inventory levels. It experienced softer depletions this year in the United States and Nigeria. In China, after weakness in the first half, specific interventions to drive consumer conversion resulted in stronger second half depletions, up mid single digit. In Western Europe performance was impacted by lapping the launch of Chocolat Luxe in the prior year, but the Baileys brand achieved share gains in the key markets of Great Britain and Germany. The brand continued to expand its footprint in emerging markets, with double digit growth in Colombia, West LAC, and Africa Regional Markets. |
| Tanqueray gin benefited from a strong focus on increased visibility and distribution in the on trade, supported by the highly effective Tonight We Tanqueray campaign. This drove strong double digit growth in Western Europe, particularly in Spain and Great Britain, with accelerating growth in Germany and Benelux. Net sales for the gin brand grew 6%, with Tanqueray No. TEN up double digit in every region. |
| Guinness net sales were flat, reflecting a strong performance in both the United States and Western Europe, where the brand grew 3% and 2% respectively. This was achieved through a combination of acclaimed innovations such as Blonde American Lager and Dublin Porter that built on the Guinness brewing heritage, a drive to increase presence and distribution in bars, and a series of award winning marketing campaigns built under the Made of More platform. In Nigeria, sales declined but performance improved over the course of the year and volume share stabilised. Sales declined in Indonesia due to adverse regulatory changes. |
| Local stars represent 16% of Diageo net sales. Overall performance was good with net sales growth of 4%. In developed markets, there was double digit growth on certain premium brands that have resonance with particular consumer groups, such as Buchanans in the United States with the Hispanic community, and Crown Royal Regal Apple with millennial consumers in high energy occasions. In China, Shui Jing Fang showed significant growth due to innovation, a strengthened route to consumer, and a soft prior year comparable. In emerging markets more broadly, there was good performance from local and secondary imported brands as certain consumer segments traded down, particularly where local production protected pricing from currency volatility. The net result is that whilst premium imported brands such as Windsor and Old Parr have seen sales decline, there was strong growth on brands such as Yenì Raki in Turkey, Cacique in Venezuela and White Horse in Brazil. |
| Reserve brands represent 13% of Diageo net sales, and continued to perform well with net sales growth of 8%. During the economic volatility of recent years, the wealthy consumer base that underpins reserve has been resilient. The slight deceleration in overall reserve growth was driven by lapping strong innovation shipments on Johnnie Walker Gold Label Reserve and Platinum Label in the United States. Ketel One vodka faced increased competitive pressure from both within and outside the category. Across the wider portfolio, performance was strong. Scotch malts grew double digit, led by The Singleton which was the fastest growing of the top 5 global malt whisky brands last year. The very strong performance of Bulleit continued with sales up 38%, benefiting from high advocacy amongst the bartender community. Zacapa rum and tequila Don Julio also delivered double digit growth globally, reflecting the quality and heritage of these products, and the strength of the reserve business model. Cîroc continues to expand its footprint outside of North America with strong growth in Western Europe, particularly Great Britain, where it rapidly gained share from the market leader and is now the number two ultra premium vodka. |
Other Key Highlights
| Within whisk(e)y, scotch represents 24% of Diageo net sales and declined by 5%. Approximately 80% of this decline was due to inventory reductions in South East Asia and export channels in Latin America on Johnnie Walker, Buchanans, and Old Parr. Other brands including Haig Club, The Singleton, and scotch malts globally, and Buchanans in the United States performed well, with many growing double digit. |
| Also within whisk(e)y, North American whisk(e)y, which represents 7% of Diageo net sales, grew 12% this year with over 2pps of positive price/mix. This strong performance was driven by the successful launch of Crown Royal Regal Apple, the continued strong growth of Bulleit, and the acclaimed range of rare bourbons in the Orphan Barrel series. |
| Vodka represents 12% of Diageo net sales and grew 1%. The growth of Cîroc in Europe and North America, as well as Smirnoff in Africa and Latin America was partially offset by the decline of Smirnoff in developed markets. |
| Beer represents 18% of Diageo net sales, grew 4% and delivered 1.1pps of positive price/mix. Beer in Africa grew 8%, led by double digit growth in Africa Regional Markets. In Nigeria, the success of Orijin and Satzenbrau more than offset declines in Guinness and Harp. East Africa delivered double digit growth on Guinness and a good performance with Tusker. Performance of Guinness in developed markets was good, driven by the successful launch of Brewers Project innovations and Blonde American Lager. |
| Ready to drink represents 5% of Diageo net sales and declined 4% this year. The main driver of this decline was in South Africa with Smirnoff Ice Double Black and Guarana where the brand lapped a strong performance in the previous year and an increase in inventories ahead of its transition to DHN Drinks. Elsewhere there was growth in ready to drink, including East Africa, West LAC, and Australia. In Great Britain, ready to drink cans underpinned sales growth of 7% in the category. |
| Wine represents 4% of Diageo sales and declined 1%. In the United States, a decline of 1% was driven by depletion softness as the business lapped one off programming in the prior year on core brands. In Europe, commercial challenges on Blossom Hill were offset by the strong performance of [yellow tail]. |
74
Business review (continued)
Operating results 2014 compared with 2013
GROUP FINANCIAL REVIEW
The following comments were made by Deirdre Mahlan, Chief Financial Officer, in Diageos Annual Report for the year ended 30 June 2014:
This year was tougher than anticipated with mixed regional performance as North America delivered top-line growth and significant margin expansion; Western Europe was stable and performance in emerging markets reflected economic weakness and market specific challenges. Despite this tougher environment we have gained share in a number of markets, invested for the future, expanded margins and simplified the organisation.
HIGHLIGHTS OF THE YEAR
| Net sales, up 0.4%, reflecting mixed performance; growth in North America, stability in Western Europe and weakness in emerging market economies. | |
| Fourth quarter net sales up 0.8%. | |
| Positive consumer trends in higher priced categories, Diageos reserve brands net sales were up 14% and targeted price increases drove 3pps of positive price/mix. | |
| Operating margin improved 0.8ppt. | |
| Procurement driven savings, worth 4% of total marketing spend, more than offset the cost of increased activity, contributing 0.2ppt of the total margin improvement. | |
| Eps before exceptionals was down 7.6p to 95.5 pence per share as foreign exchange movements reduced eps by 10 pence per share. | |
| Free cash flow was £1,235 million. | |
| Final dividend was 32.0 pence per share, up 9%. |
75
Business review (continued)
Key performance indicators |
2014 | 2013 | ||||||||
Organic net sales growth |
% | | 5 | |||||||
Organic operating margin improvement |
basis points | 77 | 78 | |||||||
Earnings per share before exceptional items |
pence | 95.5 | 103.1 | |||||||
Free cash flow |
£ million | 1,235 | 1,452 | |||||||
Return on average invested capital (i) |
% | 14.1 | 16.5 |
Other financial information |
2014 reported |
2013 reported |
||||||||
Volume |
EUm | 156.1 | 164.2 | |||||||
Net sales |
£ million | 10,258 | 11,303 | |||||||
Marketing spend |
£ million | 1,620 | 1,769 | |||||||
Operating profit before exceptional items |
£ million | 3,134 | 3,479 | |||||||
Operating profit |
£ million | 2,707 | 3,380 | |||||||
Reported tax rate |
% | 16.5 | 16.6 | |||||||
Reported tax rate before exceptional items |
% | 18.2 | 17.4 | |||||||
Profit attributable to parent companys shareholders |
£ million | 2,248 | 2,452 | |||||||
Basic earnings per share |
pence | 89.7 | 98.0 | |||||||
Recommended full year dividend |
pence | 51.70 | 47.40 |
Volume | Net sales | Marketing spend |
Operating profit (ii) |
|||||||||||||
Organic growth by region |
% | % | % | % | ||||||||||||
North America |
(1 | ) | 3 | 2 | 8 | |||||||||||
Europe |
(1 | ) | 1 | (1 | ) | 1 | ||||||||||
Africa |
(6 | ) | | 3 | (2 | ) | ||||||||||
Latin America and Caribbean |
(1 | ) | 2 | 1 | 3 | |||||||||||
Asia Pacific |
(5 | ) | (7 | ) | (7 | ) | (13 | ) | ||||||||
Diageo (iii) |
(2 | ) | | (1 | ) | 3 |
(i) | The group has revised the calculation of ROIC by excluding the net assets and net profit attributable to non-controlling interests. Before this adjustment, in the years ended 30 June 2014 and 30 June 2013 the ROIC reported were 13.7% and 16%, respectively. |
(ii) | Before exceptional items |
(iii) | Includes Corporate. In the year ended 30 June 2014 Corporate reported net sales and net operating charges of £79 million (2013 £76 million) and £130 million (2013 £151 million) respectively. The reduction in net operating charges primarily comprised lower costs in respect of global functions. For the reconciliation of reported to organic results, see pages 129-133. |
KEY PERFORMANCE INDICATORS
Net sales growth (£ million)
Reported net sales were adversely impacted by foreign exchange, while sustained performance in North America offset emerging market weakness
11,303 (290) (797) (235) (277) Organk movement 10,258 Acquisitions and disposals(a) Volume Exchange(a) Price/mix
(a) | See notes on page 80. |
Organic volume growth in reserve brands was largely offset by decline in beer and in scotch in emerging markets. The strong performance of reserve brands and selective price increases drove positive price/mix.
76
Business review (continued)
Change in operating margin
Focus on costs and driving efficiencies delivered 77bps of margin improvement
30.78% 2013 Reported (0.15)ppt (0.10)ppt 0.16ppt Organic movement 0.71ppt (0.49)ppt 30.55% 2014 Reported F13 inorganic movements Gross margin Marketing spend Other operating expenses F14 inorganic movements
Significant supply chain savings and positive price/mix from growth of reserve brands was offset by cost inflation and under recovery of fixed costs in Africa due to weaker beer volume. The organic increase in operating margin was primarily driven by an increased focus on costs and efficiencies across the business and by procurement savings on marketing spend.
Earnings per share before exceptional items (pence)
Eps before exceptionals impacted by adverse foreign exchange
103.1 2013 Reported (13.9) 1.4 2.8 0.7 1.6 (0.2) 95.5 2014 Reported Operating Profit Assocates and joint ventures(1) Net finance charges Taxation Non-controlling interests
(a) | The groups after tax share of the results of associates and joint ventures was £252 million for the year ended 30 June 2014 (2013 £217 million), of which, Diageos 34% equity interest in Moët Hennessy contributed £246 million (2013 £230 million). |
Reduction in eps due to lower operating profit was largely as a result of adverse foreign exchange movements. Increased income from associates and joint ventures and lower net finance charges partly mitigated the impact of reduced operating profit. The reduction in non-controlling interests was largely driven by the operating loss that has been reported by Shuijingfang.
Basic eps was 89.7 pence (2013 98.0 pence), with exceptionals reducing eps by 5.8 pence (2013 5.1 pence).
For movements in net finance charges see below:
Movement in net finance charges |
£ million | |||
2013 Reported |
457 | |||
Net interest charge |
(51 | ) | ||
Post employment charges |
(26 | ) | ||
Venezuela hyperinflation adjustment |
9 | |||
Other finance charges |
(1 | ) | ||
|
|
|||
2014 Reported |
388 | |||
|
|
77
Business review (continued)
2014 Reported |
2013 Reported |
|||||||
Average monthly net borrowings (£ million) |
9,174 | 8,267 | ||||||
Effective interest rate (%) |
3.8 | 4.9 |
For the calculation of the effective interest rate, the net interest charge excludes fair value adjustments to derivative financial instruments and borrowings. Average monthly net borrowings include the impact of interest rate swaps that are no longer in a hedge relationship but excludes the market value adjustment for cross currency interest rate swaps.
The increase in average net borrowings was principally a result of the acquisition of shares in USL, completed on 4 July 2013, and the one off pension contribution to the UK pension plan in the year ended 30 June 2013 and a 100 million (£85 million) contribution to the Irish pension plans in the year ended 30 June 2014. Despite the increase in debt, the interest charge decreased in the year driven by lower interest rates on new debt issues and proportionally higher commercial paper balances.
The positive impact on post employment charges was mainly driven by the reduction of the pension deficit as a result of the one off contributions mentioned above.
Free cash flow (£ million)
Lower pension contributions and capex partly offset the impact of reduced operating profit on cash flow
1,452 2013 Reported (534) (45) 35 70 315 (58) 1,235 2014 Reported Operating profit(a) Working Capital movement Net capex Net interest and tax One off pension contributions Other movements (b)
(a) | Operating profit adjusted for non cash items including depreciation and amortisation and excluding the thalidomide charge. |
(b) | Other movements include dividends received from associates and joint ventures, movements in loans receivable and other investments, pension contributions excluding one off contributions and the payment of £53 million in respect of the settlement of thalidomide litigation in Australia and New Zealand in the year. |
The decrease in free cash flow was primarily driven by lower operating profit due to the adverse impact of exchange rate movements and restructuring exceptional charges during the year. The reduction attributable to the termination of the distribution agreement with Jose Cuervo was largely offset by organic growth. The negative working capital movement arose in respect of lower creditors driven by reductions in overhead spend, bonus accruals and phasing of marketing spend. One off contributions to pension plans in the year ended 30 June 2014 were lower than in the year ended 30 June 2013, resulting in a favourable cash movement.
78
Business review (continued)
Return on average invested capital (ROIC) (i)
Adverse foreign exchange movements and investment in USL led to a reduction in ROIC
Adverse foreign exchange movements and investment in USL led to a reduction in ROIC 16.5% (1.4)ppt 0.4ppt (0.2(ppt 0.4ppt (0.5)ppt (0.3)ppt (0.4)ppt 14.1% 2013 Reported(ii) (restated) 2014 Reported(ii),(iii) (restated)
Operating profit after tax (excluding FX) Movement in tax rate Exchange movement on invested capital Investment in USL Working Capital Other Iincluding associates and joint ventures)
(i) | ROIC calculation excludes exceptional items |
(ii) | The group has revised the calculation of ROIC by excluding the net assets and net profit attributable to non-controlling interests. Before this adjustment, in the years ended 30 June 2014 and 30 June 2013 the ROIC was reported as 13.7%, and 16%, respectively. |
(iii) | For the year ended 30 June 2014 average net assets were adjusted for the inclusion of USL as though it was owned throughout the year as it became an associate on 4 July 2013 and a subsidiary on 2 July 2014. |
Lower operating profit reduced ROIC by 1.4pps primarily due to adverse exchange movements. Average invested capital increased as a result of our acquisition of shares in USL. The negative movement in working capital is partly accounted for by increased maturing inventory.
INCOME STATEMENT
2013 £ million |
Exchange (a) £ million |
Acquisitions and disposals (b) £ million |
Organic movement £ million |
2014 £ million |
||||||||||||||||
Sales |
15,276 | (1,082 | ) | (368 | ) | 154 | 13,980 | |||||||||||||
Excise duties |
(3,973 | ) | 285 | 78 | (112 | ) | (3,722 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Net sales |
11,303 | (797 | ) | (290 | ) | 42 | 10,258 | |||||||||||||
Cost of sales(i) |
(4,389 | ) | 243 | 167 | (27 | ) | (4,006 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Gross profit |
6,914 | (554 | ) | (123 | ) | 15 | 6,252 | |||||||||||||
Marketing |
(1,769 | ) | 108 | 31 | 10 | (1,620 | ) | |||||||||||||
Other operating expenses(i) |
(1,666 | ) | 110 | (8 | ) | 66 | (1,498 | ) | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Operating profit before exceptional items |
3,479 | (336 | ) | (100 | ) | 91 | 3,134 | |||||||||||||
Exceptional operating items (c) |
(99 | ) | (427 | ) | ||||||||||||||||
|
|
|
|
|||||||||||||||||
Operating profit |
3,380 | 2,707 | ||||||||||||||||||
Non-operating items (c) |
(83 | ) | 140 | |||||||||||||||||
Net finance charges |
(457 | ) | (388 | ) | ||||||||||||||||
Share of after tax results of associates and joint ventures |
217 | 252 | ||||||||||||||||||
|
|
|
|
|||||||||||||||||
Profit before taxation |
3,057 | 2,711 | ||||||||||||||||||
Taxation |
(507 | ) | (447 | ) | ||||||||||||||||
|
|
|
|
|||||||||||||||||
Profit from continuing operations |
2,550 | 2,264 | ||||||||||||||||||
Discontinued operations (c) |
| (83 | ) | |||||||||||||||||
|
|
|
|
|||||||||||||||||
Profit for the year |
2,550 | 2,181 | ||||||||||||||||||
|
|
|
|
(i) | Before exceptional operating items |
79
Business review (continued)
(a) Exchange
The impact of exchange rates movements on reported figures was principally in respect of the Venezuelan bolivar, the US dollar, the Turkish lira and the South African rand.
In March 2014, the Central Bank of Venezuela opened the Second Ancillary Foreign Currency Administration System (Sicad II) that allows private and public companies to trade foreign currency at a higher exchange rate than the official exchange rate. As a result, the group has applied a consolidation rate of $1 = VEF49.98 (£1 = VEF85.47) for its Venezuelan operations for the year ended 30 June 2014. For the year ended 30 June 2013 a rate of $1 = VEF9 (£1 = VEF13.68) was used. The change in the exchange rate for the year ended 30 June 2014 reduced net sales by £358 million, operating profit by £229 million, cash and cash equivalents by £329 million and net assets by £378 million.
The estimated effect of exchange rate and other movements on profit before exceptional items and taxation for the year ended 30 June 2014 is set out in the table below.
Gains/ (losses) £ million |
||||
Translation impact |
(182 | ) | ||
Transaction impact |
(154 | ) | ||
|
|
|||
Operating profit before exceptional items |
(336 | ) | ||
|
|
|||
Net finance charges translation impact |
12 | |||
Mark to market impact of IAS 39 on interest expense |
(6 | ) | ||
Impact of IAS 21 and IAS 39 on net other finance charges |
(2 | ) | ||
|
|
|||
Interest and other finance charges |
4 | |||
Associates translation impact |
8 | |||
|
|
|||
Profit before exceptional items and taxation |
(324 | ) | ||
|
|
2014 | 2013 | |||||||
Exchange rates |
||||||||
Translation £1 = |
$1.63 | $1.57 | ||||||
Transaction £1 = |
$1.59 | $1.57 | ||||||
Translation £1 = |
1.20 | 1.21 | ||||||
Transaction £1 = |
1.26 | 1.18 |
(b) Acquisitions and disposals
The impact of acquisitions and disposals on the reported figures was primarily attributable to the termination of the distribution agreement with Jose Cuervo. See page 131 for further details.
(c) Exceptional items
Exceptional operating charges of £427 million (2013 £99 million) in the year ended 30 June 2014 comprised:
| £98 million (2013 £nil) in respect of the Global efficiency programme announced in January 2014; |
| £35 million (2013 £25 million) in respect of the Supply excellence restructuring programme; |
| £30 million (2013 £44 million) for the restructuring of the groups supply operations; and |
| a brand and tangible asset impairment charge of £264 million in respect of Shui Jing Fang (2013 £50 million in respect of the Cacique brand) as a result of the downturn in the baijiu category in China driven by the anti extravagance measures by the Chinese government. The related deferred tax liability of £65 million had been written back to taxation in the income statement and therefore the net charge was £199 million. As the group has a 39.7% controlling interest in Sichuan Shuijingfang Co., Ltd (Shuijingfang), the impact of this impairment on the groups basic earnings per share is a reduction of 3.2 pence. |
80
Business review (continued)
In the year ended 30 June 2013 exceptional operating items also included a gain of £20 million in respect of changes to future pension increases for the Diageo Guinness Ireland Group Pension Scheme.
Non-operating items in the year ended 30 June 2014 comprised a gain of £140 million following the acquisition of additional investment in United Spirits Limited (USL) which increased the groups investment in USL from 10.04% to 25.02% on 4 July 2013 and triggered a change in accounting from available-for-sale investments to associates. As a result, the difference between the original cost of the investment and its fair value had been included in the income statement. In the year ended 30 June 2013 exceptional non-operating items comprised a loss of £83 million in respect of the Nuvo disposal.
Discontinued operations in the year ended 30 June 2014 represent a charge after taxation of £83 million (2013 £nil) in respect of the settlement of thalidomide litigation in Australia and New Zealand and anticipated future payments to thalidomide organisations.
Cash payments in the year ended 30 June 2014 in respect of exceptional restructuring items and thalidomide were £104 million (2013 £61 million) and £59 million (2013 £23 million), respectively.
Dividend
The final dividend was 32.0 pence per share, an increase of 9% from the year ended 30 June 2013. The full dividend was therefore 51.7 pence per share, an increase of 9% from the year ended 30 June 2013. Following of the approval by shareholders the final dividend was paid on 2 October 2014 to shareholders on the register on 15 August 2014. Payment to US ADR holders was made on 7 October 2014.
MOVEMENTS IN NET BORROWINGS AND EQUITY
Movement in net borrowings |
2014 £ million |
2013 £ million |
||||||
Net borrowings at the beginning of the year |
(8,403 | ) | (7,573 | ) | ||||
Free cash flow (a) |
1,235 | 1,452 | ||||||
Acquisition and sale of businesses (b) |
(534 | ) | (660 | ) | ||||
Proceeds from issue of share capital |
1 | | ||||||
Net purchase of own shares for share schemes (c) |
(113 | ) | (11 | ) | ||||
Dividends paid to non-controlling interests |
(88 | ) | (100 | ) | ||||
Purchase of shares of non-controlling interests (d) |
(37 | ) | (200 | ) | ||||
Net (decrease)/increase in bonds (e) |
(93 | ) | 1,231 | |||||
Net movements on other borrowings |
(64 | ) | 7 | |||||
Equity dividends paid |
(1,228 | ) | (1,125 | ) | ||||
|
|
|
|
|||||
Net (decrease)/increase in cash and cash equivalents |
(921 | ) | 594 | |||||
Net decrease/(increase) in bonds and other borrowings |
157 | (1,238 | ) | |||||
Exchange differences (f) |
349 | (116 | ) | |||||
Other non-cash items |
(32 | ) | (70 | ) | ||||
|
|
|
|
|||||
Net borrowings at the end of the year |
(8,850 | ) | (8,403 | ) | ||||
|
|
|
|
(a) See page 78 for the analysis of free cash flow.
(b) Primarily includes cash payments of £474 million in respect of the acquisition of an additional 18.74% investment in USL. On 2 July 2014 the group acquired an additional 26% investment in USL for INR 114.5 billion (£1,118 million) taking its aggregate investment to 54.78% (excluding 2.38% of the shares owned by the USL Benefit Trust on behalf of USL). From 2 July 2014 the group accounts for USL as a subsidiary with a 43.91% non-controlling interest.
In the year ended 30 June 2013 cash payments principally included £284 million in respect of 100% equity stake in Ypióca Bebidas S.A. (Ypióca) and £274 million in respect of a 10.04% investment in USL.
81
Business review (continued)
(c) Net purchase of own shares comprised purchase of treasury shares for the future settlement of obligations under the employee share option schemes of £208 million (2013 £143 million) less receipts from employees on the exercise of share options of £95 million (2013 £132 million).
(d) Primarily comprises the purchase of the remaining 7% (2013 purchase of 40%) equity stake in Sichuan Chengdu Shuijingfang Group Co., Ltd.
(e) In the year ended 30 June 2014 the group issued bonds of 1,700 million (£1,378 million) and repaid bonds of 1,150 million (£983 million) and $804 million (£488 million). In the year ended 30 June 2013, the group issued bonds of $3,250 million (£2,100 million) and repaid bonds of $1,350 million (£869 million).
(f) Primarily arose on US dollar and euro denominated borrowings offset by adverse exchange rate movement on cash and cash equivalents held in Venezuela.
Movement in equity |
£ million | |||
Equity at 30 June 2013 |
8,088 | |||
Profit for the year |
2,181 | |||
Exchange adjustments (a) |
(1,133 | ) | ||
Net remeasurement of post employment plans (b) |
(167 | ) | ||
Fair value movements on available-for-sale investments (c) |
(85 | ) | ||
Dividends to non-controlling interests |
(88 | ) | ||
Purchase of shares of non-controlling interests |
(37 | ) | ||
Dividends paid |
(1,228 | ) | ||
Other reserve movements |
59 | |||
|
|
|||
Equity at 30 June 2014 |
7,590 | |||
|
|
(a) Primarily arose on the US dollar, the euro, the Turkish lira and the Venezuelan bolivar denominated intangible assets, investments and borrowings.
(b) Mainly driven by the decrease in discount rate assumptions used to calculate the net post employment liabilities partly offset by the actual return on the plan assets being higher than the discount rate.
(c) Comprises the net recycling of the cumulative fair market value adjustment on the groups investment in USL due to the change in accounting from available-for-sale investment to associate.
Post employment deficit
The deficit in respect of post employment plans before taxation decreased by £66 million from £541 million at 30 June 2013 to £475 million at 30 June 2014. The decrease was primarily due to the cash contributions of £288 million (2013 £591 million) made into the post employment plans, which included a one off 100 million (£85 million) payment into the Irish pension plans, partially offset by the net remeasurement of post employment plans.
82
Business review (continued)
SEGMENT REVIEW
NORTH AMERICA
Performance
Key financials |
2013 Reported £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2014 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
3,723 | (156 | ) | (231 | ) | 108 | 3,444 | (7 | ) | |||||||||||||||
Marketing spend |
581 | (27 | ) | (24 | ) | 10 | 540 | (7 | ) | |||||||||||||||
Operating profit before exceptional items | 1,478 | (54 | ) | (71 | ) | 107 | 1,460 | (1 | ) | |||||||||||||||
Exceptional items |
| (35 | ) | |||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
1,478 | 1,425 | (4 | ) | ||||||||||||||||||||
|
|
|
|
North America, our biggest and most profitable region given our brand and market strength and its consistent strong performance, again delivered top line growth, driven by 5% growth in US Spirits and Wines, and margin expansion of 183bps as a result of gross margin expansion and cost reduction. Economic recovery in the US is uneven and this is reflected in the consumer trends seen in US spirits with overall spirits category growth slowing and premium and above price points driving category growth. Our growth reflects this with scotch, North American whisk(e)y and tequila leading the growth. Our strength in innovation has continued. Launches of super and ultra premium variants have accelerated growth of our reserve brands, which grew 14%, and innovations against our premium core brands have driven brand relevance and recruited new consumers. However, performance in vodka was weak as Smirnoff volume has been impacted as its price premium has been maintained for another year. In Canada the spirits market is softer than the US and net sales grew 1%. Our DGUSA business declined 7% mainly reflecting reduced focus on the pouches segment.
Organic volume movement (i) % |
Organic net sales movement % |
Reported net sales movement % |
||||||||||
Key markets and categories: |
||||||||||||
North America |
(1 | ) | 3 | (7 | ) | |||||||
US Spirits and Wines |
(1 | ) | 5 | (7 | ) | |||||||
DGUSA |
(5 | ) | (7 | ) | (11 | ) | ||||||
Canada |
(2 | ) | 1 | (17 | ) | |||||||
Spirits (ii) |
(1 | ) | 4 | (7 | ) | |||||||
Beer |
(7 | ) | (5 | ) | (9 | ) | ||||||
Wine |
(1 | ) | 6 | 2 | ||||||||
Ready to drink |
(5 | ) | (9 | ) | (24 | ) | ||||||
83
Business review (continued)
Organic volume movement (i) % |
Organic net sales movement % |
Reported net sales movement % |
||||||||||
Global and local leaders (ii): |
||||||||||||
Johnnie Walker |
| 6 | 2 | |||||||||
Crown Royal |
(4 | ) | | (4 | ) | |||||||
Buchanans |
22 | 24 | 19 | |||||||||
Bulleit |
69 | 69 | 63 | |||||||||
Smirnoff |
(4 | ) | (2 | ) | (6 | ) | ||||||
Ketel One vodka |
1 | 4 | | |||||||||
Cîroc |
(3 | ) | (3 | ) | (7 | ) | ||||||
Captain Morgan |
2 | 5 | | |||||||||
Baileys |
(1 | ) | 2 | (3 | ) | |||||||
Tanqueray |
(1 | ) | 1 | (3 | ) | |||||||
Don Julio |
26 | 26 | 22 | |||||||||
Guinness |
(6 | ) | (3 | ) | (8 | ) |
(i) | Organic equals reported movement for volume except for North America (8)%, US Spirits and Wines (9)%, Canada (4)%, spirits (8)% and ready to drink (7)%, reflecting the disposal of Nuvo and the termination of the Jose Cuervo distribution agreement. |
(ii) | Spirits brands excluding ready to drink. |
Key highlights
| US Spirits and Wines. Diageo continued to lead the industry on price and mix but the volume performance was weaker, especially in the increasingly price sensitive standard vodka segment where the decline of Smirnoff was the main driver of overall volume down 1%. Price increases, which drove around 120bps of net sales growth, and the strong performance of reserve brands were the primary drivers of 6pps of positive price/mix. Reserve brands grew double digit fuelled by almost 50% growth of Johnnie Walker super and ultra premium variants following the successful launches of Johnnie Walker Platinum and Gold Reserve, as well as the introduction of limited edition variants and packs targeted at the gifting occasion. Strong growth of Don Julio and scotch malts, especially Lagavulin, Talisker and Oban, contributed to the performance of reserve brands as did Bulleit which grew net sales 69%. Innovation delivered incremental net sales, with flavour extensions in vodka, as well as the launch of Captain Morgan White in February, which has expanded the brands presence across the rum category and driven growth of the brand. Cîroc Amaretto performed strongly in the year, however, price pressure on the base variant resulted in an overall net sales decline of 3%. Buchanans, the fastest growing scotch brand in the United States, continued to grow double digit through its continued focus on the growing Hispanic consumer segment. Crown Royal net sales grew 1%, lapping growth of 18% in the year ended 30 June 2013 fuelled by the launch of Crown Royal Maple. |
| DGUSA net sales declined 7%, primarily driven by continued decline of pouches, as the segment was defocused, and weakness in beer, while Smirnoff Red Ice performance improved. Renovation of Smirnoff Red Ice with new packaging, new flavor innovations and a new marketing campaign Cheers to Us targeted at Hispanic and African American consumers, halted the brands decline with net sales broadly flat for the year and improved brand equity scores amongst all major consumer groups. Guinness performance reflects weak performance of Guinness Black Lager and slower growth in the on trade, particularly in the second half, with increased competition from the craft beer segment. |
| In Canada, net sales grew 1% impacted by slowdown in the category. Reserve brands grew by over 40%, with Cîroc and scotch malts being the biggest contributors. Guinness grew net sales, largely driven by the launch of Guinness Black Lager with some growth also from the base variants. |
| In the year ended 30 June 2013, marketing spend increased 10% with upweighted investment behind global and local leading brands. In the year ended 30 June 2014 spend was up and benefited from 3ppt of procurement efficiencies. Investment in the year was focused on supporting new launches, in particular Cîroc Amaretto and Captain Morgan White Rum, the re-invigoration of Guinness and the growth of Johnnie Walker focused on the Keep Walking campaign as well as supporting growth of super and ultra premium variants. Guinness investment increased significantly in the year to support the Basketball advertising as part of the global Made of More platform and the digital and television campaign saluting US sport heroes leading up to the Winter Olympics. |
84
Business review (continued)
EUROPE
Performance
Key financials |
2013 Reported £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2014 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
2,915 | (77 | ) | (41 | ) | 17 | 2,814 | (3 | ) | |||||||||||||||
Marketing spend |
431 | (10 | ) | (5 | ) | (3 | ) | 413 | (4 | ) | ||||||||||||||
Operating profit before exceptional items |
903 | (49 | ) | (9 | ) | 8 | 853 | (6 | ) | |||||||||||||||
Exceptional items |
(31 | ) | (20 | ) | ||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
872 | 833 | (4 | ) | ||||||||||||||||||||
|
|
|
|
Western Europe still has weak economies and fragile consumer confidence but there has been steady improvement and our business has stabilised year on year, gaining share of spirits. There was modest growth in Great Britain, Benelux, France and the Nordics which counter-balanced the slowing declines in Southern Europe and Ireland. Germany was weaker due to higher trade investment and an increasingly price competitive off trade. Marketing was targeted more effectively, and we kept our investment as a percentage of net sales flat while prioritising higher growth and margin brands. We have focused on fewer, bigger pan-regional innovation launches with Baileys Chocolat Luxe, Smirnoff Gold, frozen pouches and premix, and our reserve business was strong with net sales up 15% driven by the scotch malts, Cîroc, Zacapa and Johnnie Walker. Operating margin expansion of nearly 20bps was driven by product optimisation and reductions in warehousing and logistic costs. Our route to consumer programme focused on efficiency, effectiveness and expansion, increasing the focus of our sales people, improving their capabilities and putting more feet on the street, which has given us a strong platform as we move into next year. Net sales growth in Russia and Eastern Europe slowed this year to 2%. Following a much improved performance in the second half, net sales for Turkey grew 5%.
Organic volume movement (i) % |
Organic net sales movement % |
Reported net sales movement % |
||||||||||
Key markets and categories: |
||||||||||||
Europe |
(1 | ) | 1 | (3 | ) | |||||||
Western Europe |
| | (2 | ) | ||||||||
Russia and Eastern Europe |
(1 | ) | 2 | (7 | ) | |||||||
Turkey |
(3 | ) | 5 | (12 | ) | |||||||
Spirits (ii) |
| | (5 | ) | ||||||||
Beer |
(5 | ) | (3 | ) | (3 | ) | ||||||
Wine |
(3 | ) | (2 | ) | (10 | ) | ||||||
Ready to drink |
1 | 5 | 4 | |||||||||
85
Business review (continued)
Organic volume movement (i) % |
Organic net sales movement % |
Reported net sales movement % |
||||||||||
Global and local leaders (ii): |
||||||||||||
Johnnie Walker |
| (2 | ) | (4 | ) | |||||||
JeB |
(8 | ) | (9 | ) | (10 | ) | ||||||
Smirnoff |
| (5 | ) | (6 | ) | |||||||
Captain Morgan |
18 | 10 | 8 | |||||||||
Baileys |
(4 | ) | (2 | ) | (3 | ) | ||||||
Guinness |
(4 | ) | (3 | ) | (2 | ) |
(i) | Organic equals reported movement for volume except for Europe (2)%, Western Europe (2)%, Russia and Eastern Europe (2)%, spirits (1)%, wine (9)% and ready to drink flat, reflecting the termination of some agency brand distribution agreements including Jose Cuervo. |
(ii) | Spirits brands excluding ready to drink. |
Key highlights
| In Great Britain, in a relatively flat beverage alcohol market, net sales were up 2%. Baileys delivered a strong performance with top line growth of 8% on the back of a new advertising campaign and the launch of Chocolat Luxe which was one of the top five spirits sold on Amazon over the week of Christmas. Captain Morgan and Cîroc also performed well. Bells was weaker as it faced increasingly intense price pressure. Smirnoff net sales declined 3% given the weak vodka category but it gained volume share supported by the Great Drinks Made Easy with Smirnoff campaign and the launch of Smirnoff Gold. Ready to drink was up double digit led by the success of premix, providing popular brands, such as Diageos Gordons and Pimms in more convenient formats. |
| Following a significant increase in excise duties in the first half of the year, the market in Ireland remained challenging and net sales declined 4%. Spirits were impacted and net sales were down double digit. Roughly half of the decline was driven by weakness in agency beer brands. Guinness net sales declined 3%, but brand equity improved with the launch on television and YouTube of the Basketball campaign, and the launch of an on trade footfall driver, the GUINNESS Plus app which provides consumers with in outlet experiences and discounts. |
| In Southern Europe, which now represents 16% of Western Europe, net sales declined 3%. Greece and Italy net sales were down 7% and 5% respectively, as economic weakness continued to weigh on scotch and Smirnoff performance in both countries, and on Baileys performance in Italy. In Iberia the net sales decline moderated to 1%. Scotch net sales declined 8% as JeB was impacted by an increasingly price competitive off trade environment but the brand gained share in the second half of the year. This was partly offset by the performance of Tanqueray which was up 14% on the back of a double digit increase in media spend and Baileys, which was up 2%. Increased investment in the Spanish route to consumer was partially offset by cost saving initiatives. |
| In France, in an environment of intensified price competition amongst major off trade retailers, net sales grew 1%. The strong performance of scotch malts, which were up 7% led by The Singleton, Cardhu and Talisker, and of Captain Morgan where net sales more than doubled, offset weakness in JeB. |
| In Germany, following a number of years of double digit growth which has built Captain Morgan to be Diageos second biggest brand, performance was weaker this year as Baileys and Smirnoff continued to decline. |
| Net sales in wine declined 2%, with innovations on Blossom Hill and strong growth of [yellow tail] partially offsetting soft Bordeaux En Primeur performance and the decision to exit unprofitable sales channels and distribution agreements. |
| In Russia net sales grew 4%. While performance was impacted by reduced consumer confidence and higher excise taxes, Diageo grew share in whisk(e)y with growth of White Horse and double digit growth of Bushmills and Bells and in rum with strong growth of Captain Morgan. |
| The impact of the crisis in Ukraine offset high single digit growth in the rest of Diageos distributor markets in Eastern Europe. In Poland we retained leadership of the scotch category in softer than expected market conditions. |
| In Turkey following two years of decline, the raki category volume is stabilising and through price increases and premiumisation, the businesss raki net sales grew low single digit and contributed significantly to the markets positive price/mix. The scotch market has continued to show solid growth and scotch net sales grew double digit led by Johnnie Walker on the back of increased distribution and visibility in the off trade. Vodka net sales grew in the second half and recovered to flat for the full year with festivals and the new Apple Bite serve driving share gains and growth of Smirnoff. |
| Marketing spend in Western Europe as a percentage of net sales was held at 15%. Spend in premium core, innovation and reserve were prioritised over lower margin local brands. In Russia and Eastern Europe and in Turkey, in response to marketing restrictions, investment was increasingly focused on commercial activations, driving improved visibility across trade channels, supporting new serves and bartender programmes to build brands. |
86
Business review (continued)
AFRICA
Performance
Key financials |
2013 Reported £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2014 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
1,564 | (124 | ) | (3 | ) | (7 | ) | 1,430 | (9 | ) | ||||||||||||||
Marketing spend |
162 | (14 | ) | | 4 | 152 | (6 | ) | ||||||||||||||||
Operating profit before exceptional items | 400 | (51 | ) | (1 | ) | (8 | ) | 340 | (15 | ) | ||||||||||||||
Exceptional items |
(5 | ) | (23 | ) | ||||||||||||||||||||
|
|
|
|
|||||||||||||||||||||
Operating profit |
395 | 317 | (20 | ) | ||||||||||||||||||||
|
|
|
|
In a tough year and despite facing significant challenges, net sales were flat as the region responded to the specific market challenges that it faced. In Nigeria, where beer performance was weak, we adjusted prices and increased our presence in the growing value segment. Innovation was a key enabler for responding to changing consumer trends through new formats and brands and the region delivered the highest growth rate for innovation through the success of brands such as Snapp in Nigeria, Jebel in Kenya, Smirnoff Black Ice in Cameroon and Ghana. We have expanded our route to consumer, revitalised the Guinness brand across its key markets in Africa and reserve brands grew 34%. Under recovery of fixed costs in supply due to lower beer volumes and cost and salary inflation drove an overall reduction in organic operating margin, although significant procurement and supply chain savings partly mitigated this impact.
Organic volume movement (i) % |
Organic net sales movement % |
Reported net sales movement % |
||||||||||
Key markets and categories: |
||||||||||||
Africa |
(6 | ) | | (9 | ) | |||||||
Nigeria |
(9 | ) | (9 | ) | (14 | ) | ||||||
East Africa |
(12 | ) | 2 | (2 | ) | |||||||
Africa Regional Markets |
(3 | ) | 2 | (8 | ) | |||||||
South Africa |
4 | 12 | (9 | ) | ||||||||
Spirits (ii) |
7 | 3 | (10 | ) | ||||||||
Beer |
(16 | ) | (5 | ) | (11 | ) | ||||||
Ready to drink |
46 | 36 | 23 | |||||||||
Global and local leaders (ii): |
||||||||||||
Johnnie Walker |
1 | 2 | (6 | ) | ||||||||
JeB |
(4 | ) | (4 | ) | (16 | ) | ||||||
Smirnoff |
(6 | ) | (5 | ) | (21 | ) | ||||||
Captain Morgan |
2 | 4 | (14 | ) | ||||||||
Baileys |
(9 | ) | (6 | ) | (12 | ) | ||||||
Guinness |
(7 | ) | 1 | (5 | ) |
87
Business review (continued)
(i) | Organic equals reported movement for volume except for South Africa 3%, and spirits 1%, reflecting the termination of the Jose Cuervo distribution agreement. |
(ii) | Spirits brands excluding ready to drink. |
Key highlights
| Nigeria net sales declined 9% for the full year driven by beer, while spirits and ready to drink grew double digit. The beer market has become more price competitive, significantly impacting Harp, which lost share and some distribution. Although pricing was adjusted in the third quarter this was not fully passed through to consumers. Malta performance was similarly impacted by increased competition and pricing pressure. Despite these challenges, performance slightly improved in the second half, driven by growth of Guinness following reinvigoration of the brand, including a new pack, media campaign and trade promotion and the launch of Orijin, a new local spirit and ready to drink brand, which sold over 100k cases of the spirit format in the year. |
| East Africas net sales grew and price increases taken across the beer portfolio led to strong price/mix. For the markets two largest beer brands, Guinness and Tusker, double digit growth was driven by price increases, supported by increased investment behind strong marketing campaigns. Innovations such as Jebel and Senator Dark Extra, targeted at providing value for money offering to consumers, have driven growth. Balozi lager, launched in the year ended 30 June 2013 and priced just below mainstream beer, has also contributed to growth. This strong performance was partly offset by Senator keg in Kenya where the brand declined around 80% post the duty change. |
| In Africa Regional Markets, net sales grew 2% with growth of beer partly offset by the decline in spirits largely as a result of distributor changes in Angola. Growth was led by Malta both in its existing markets, aided by a new pack, as well as its launch in Ethiopia, the growth of Meta in Ethiopia and the launch of Harp Premium and the recovery of Guinness in Cameroon. Following the changes in Angola, while spirits shipments declined overall, depletions and share continued to grow and performance improved in the second half. |
| South Africa. Despite softness in the economy, share gains and price increases resulted in spirits net sales growth of 2%. Johnnie Walker grew double digit with growth across price segments supported by the King of Flavours campaign and trade activation. This growth was partly offset by the decline of Smirnoff 1818 due to reduced inventory levels, although depletions and share of spirits grew and performance improved in the second half. South Africas strong net sales performance includes the sale of Smirnoff Ice Double Black & Guarana at cost to Diageo Heineken Namibia Drinks (DHN Drinks) to cover demand in excess of supply capacity following the strong performance of the brand. This capacity shortage has now been resolved. |
| Marketing spend increased 3%, benefiting from procurement efficiencies. |
88
Business review (continued)
LATIN AMERICA AND CARIBBEAN
Performance
Key financials |
2013 Reported £ million |
Exchange £ million |
Acquisitions and disposals £ million |
Organic movement £ million |
2014 Reported £ million |
Reported movement % |
||||||||||||||||||
Net sales |
1,453 | (328 | ) | (8 | ) | 27 | 1,144 | (21 | ) | |||||||||||||||
Marketing spend |
233 | (30 | ) | (2 | ) | 2 | 203 | (13 | ) | |||||||||||||||
Operating profit before exceptional items | 468 | (151 | ) | 2 | 9 | 328 | (30 | ) | ||||||||||||||||
Exceptional items |
| (14 |