Diageo delivers stronger second quarter and says "momentum" brewing

After a bad start to its financial year, drinks giant Diageo delivered a much improved performance in the second quarter with stronger net sales, volumes and margins, though first-half results saw earnings suffer a double-digit drop but the dividend hiked.

Organic net sales for the first half were broadly flat, down 0.1% after a 1.5% fall in the first quarter, with volume down 1.9% to 134.1m equivalent units (EUm) after the first quarter's 3.5% fall.

Earnings per share were down 14.2% to 53.7p but free cash flow of £699m was more than double that in the first half last year, enabling the interim dividend to be comfortably hiked 9% to 21.5p per share.

Analysts had been keen to see cost savings, and the FTSE 100 company delivered these, generating 28 basis points of organic margin improvement.

Chief executive Ivan Menezes told of improved "win, win" arrangements with suppliers, such as forcing them to wait 90 days to be paid, he told BBC radio.

"We delivered the planned savings from our global efficiency programme together with procurement benefits in marketing spend which we have reinvested in our brands and we increased our investment in our routes to consumer while again expanding our margins," Menezes said in the company's results statement.

"We have already taken action to improve the performance of those brands and markets that have not performed as well as we would expect. This contributed to our stronger second quarter performance and I expect to maintain this momentum through the year."

The Chinese clampdown on government spending continued to weigh on the company, with organic net sales growth in Asia Pacific down 7.4%, with Europe 1.4% lower and Latin American & Caribbean likewise down 1.4%, with North America a ray of sunshine with a 0.1% rise.

Analysts were impressed by the dividend increase after headline numbers missed exceptions at a reported level, mainly due to a worse currency impact, but were in-line on an organic basis.

But Eddy Hargreaves at Canaccord was distinctly unimpressed. "We find little cause for short term optimism, with the CFO noting 'challenging' conditions for Scotch in China with the expectation of a 'relatively soft' Chinese New Year and we see no relaxation in anti-extravagance measures in that market...We think China will remain a challenging market," he wrote.

He added that the US also presents a "significant headwind" for Diageo as pricing remained very muted for mainstream brands in both vodka and rum in this market, with volume from five of the six "global giant" brands falling in the half.

Richard Hunter at Hargreaves Lansdown was more sanguine: “These are tough times for Diageo, particularly in some of its core regions where sales have been more difficult to come by. However, there are signs of positive momentum after the second part of the half year numbers showed some signs of improvement."

He added that the increase in cash flow could provide further growth opportunities, and the overall strength of the product portfolio leaves Diageo well positioned to weather further economic storms.