Comment – Spirits – Diageo, Pernod Ricard and the Scotch Whisky Grand Prix
Diageo confirmed yesterday (6 June) that it will invest heavily in its Scotch whisky production capabilities going forward. As soon as the announcement was made, debate kicked off about whether the move was a positive for Diageo or Scotland, or both. Whatever the argument, the news confirms that Diageo is dead set on coming good on its promise to have half of its annual net sales coming from the emerging markets.
The spirits giant plans to spend GBP1bn (US$1.55bn) on its Scotch operations over the next five years. The cash will be used to build a distillery similar in output - 10m litres of pure alcohol a year - to Diageo's Roseisle facility, which will see its liquid come online later this year. As well as this, half of Diageo's existing 28 Scottish distilleries will have their capacity increased and, if that weren't enough, another distillery is being considered further down the line.
The debate mentioned earlier kicked off when some observers considered Diageo's closure of its Kilmarnock presence back in 2009, with the loss of around 500 jobs. About 100 staff will be taken on as part of the investment (not including construction and other ancillary service employment). Good for Scotland? Maybe not as good as it will be for Diageo's future balance sheet.
On a broader global stage, Diageo's move makes perfect sense. As Pernod Ricard said last week at its Capital Markets Day in Scotland, the potential for Scotch – both blended and malt – knows no bounds, as the emerging markets soak up whatever is available. Indeed, Pernod also said last week that it will be investing in its Scotch operations. Both Diageo and Pernod are looking to the likes of Brazil, China, Russia and India – as well as smaller markets in Africa, Asia and LatAm – to provide the performance that both have forecast for the medium and long term.
From the outside, this looks like a pretty risk-free move. After all, if the two can't sell what they make, they can hang on to the liquid for a little while longer, then charge more for older Scotch once the cycle picks up again.
But, I see a bump in the road. And, its name is India. As the situation currently stands, the excise rate on imported spirits in the country is at 150% - and that's just to get the stuff off the boat. With each Indian state holding its own set of tax reins, there are further duties to pay depending on where the two companies want to venture.
Talks between the European Union and India over this, and other financial matters, are ongoing. This particular tunnel is long, with no end in immediate view. One seasoned observer has told me that the likelihood of an agreement between the two – and the subsequent dropping of the 150% duty rate – before the next Indian elections in 2014 is only 50-50.
Diageo may maintain that it is not factoring India - and its widely-touted craving for Scotch – into its future plans for Scotland. I find this quite hard to believe.
Pernod's dominance of imported spirits in China, through the Martell Cognac brand, is based very much on the fact that it got into the market first. Diageo will not want that to happen again and will have its foot ready on the clutch the best it can ahead of the (Indian) flag coming down.
The spirits juggernaut has started its engine and will be hoping it is not heading for a false start.
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