Diageo Earnings: U.S. the Weak Spot, but Price Elasticity Remains Lower Than the Broader FMCG Group

Diageo’s DGE preliminary fiscal 2023 results provided further confirmation that consumers are scaling back beverage consumption, but price elasticity remains below that in other consumer staples categories, and we think this supports our thesis that the large-cap distillers have some of the strongest pricing power in the group. We are retaining our GBX 3,200 fair value estimate and our wide moat rating. After a slight derating in the stock in the second quarter, the shares now trade only slightly above our valuation, and Diageo now trades at its lowest level since the early days of the post-COVID-19 reopening of on-premises establishments. However, the spirits category is one of the most cyclical in the staples sector, and if consumer sentiment continues to weaken, Diageo’s operating environment could deteriorate further.

Organic volume fell by 0.8% in fiscal 2023, a sequential decline from the 2% growth achieved in the first half of the year, and well below the low-single-digit growth we estimate the company can achieve in a normalized environment. This was in line with our forecast, however, and was another signal, following on from Heineken’s disappointing second-quarter volume performance, that consumer spending is slowing. The difference between Diageo’s performance and that of Heineken’s, however, is that price elasticity in the distilled spirits categories remains quite low. Despite the anemic volume performance, net sales grew by 6% in the fiscal year as the company passed through price increases of over 7%. We attribute this to the resilience of the higher-income consumer relative to lower-income consumers that are more sensitive to macroeconomic conditions. We estimate that brands in the premium-plus price segment represented around 60% of net sales in 2023 and drove almost three fourths of Diageo’s growth.