The just-drinks Interview - Diageo's CEO
Yesterday (27 August), Diageo reported its full-year results. Although the company managed to hit its full-year guidance, the group's warning that this year will be tough suggests that Diageo has its work cut out in fiscal 2010. Speaking exclusively to just-drinks yesterday afternoon, group CEO Paul Walsh talks about the trials and tribulations of the past 12 months - including, of course, the ongoing row in Scotland.
On the day Diageo released its results for fiscal 2009, for Paul Walsh, time is tight. We've got half an hour with him, after which he is quite keen to get to the pub and start to unwind after what is a pretty demanding day.
We leap straight in, then. Earlier in the week, Diageo announced that its long-running talks with United Spirits over a possible tie-up in India had come to an end. Considering discussions between the two began way back in November last year, why did it take so long for nothing to happen? "First of all," says Walsh, "the strategic curiosity of both parties was real. Getting (the owner of United Spirits' parent company, UB Group) Vijay Mallya to focus on it is not the easiest thing, because he has a lot of other things going on. I think that attached some of the delay time to it."
Walsh acknowledges that Diageo wasn't racing to reach an agreement either: "We needed to do a lot of understanding of the market," he says, "so there was a lot of to-ing and fro-ing."
As the talks progressed, however, Mallya's share price began to slide. "His expectations did not slide with his stock," Walsh says, "so he remained with a price expectation up there, when the stock valuation was down here."
|Paul Walsh, chief executive of Diageo|
"I always said when we started these discussions that we had to be very honest with Radico, and assure them that, whatever happened, we would manage this so that they would not be left out in the cold," Walsh notes. "They would have been part of the mix somehow. It never got to that point, so I think they're okay with it, given how we handled it, I hope.
"We were going it alone, so to speak, and therefore we'll continue to go it alone. Will that disadvantage us? No. Will it provide the speed that I thought the Vijay option could have provided? No, it won't. So, I was looking for some way to turbo-charge our performance there. Here, today, it's not gone anywhere, but we'll see."
Moving away from most recent to most controversial, Diageo's announcement last month that it plans to cut around 500 jobs in Scotland has provoked an outcry in the country. Most vocal in their opposition have been the politicians in the country.
The latest is that Diageo is awaiting alternative proposals to its plans from the Scottish government, something that Walsh appears rather sceptical about. "We will see what proposal comes forward," he says, "but whatever proposal it is, it has to be specific and it has to satisfy our business objectives of having best-in-class cost of production. There will be a cost gap and somebody better tell me who's paying for it. I think the reality of the situation is, when you look at how many jobs will be saved and what Scottish Enterprise or whomever are going to have to put behind saving those jobs, eyes will be rolled, because it just won't stack up.
"I'm going to be open-minded," he continues. "Our people are looking at it and, who knows? There may be something. But, we've been looking at this for 15 months - I'm not saying we're perfect, but I don't think we're going to miss anything that obvious."
Maybe, just-drinks suggests, with hindsight, the company would have done things differently? It is clear in his answer, that the politicians have made their presence felt on Walsh. "I would have found a way to engage with the politicians earlier in the process, but not to the point whereby I would have put our employees second," he says." We'd have tried to straddle both camps. We deliberately took the decision to inform our employees first and politicians separately. Therefore, part of the initial backlash, I think, was anger at being snubbed."
When pressed for his opinion on the political powers, however,Walsh pulls no punches. "The Government in this country (the UK) has decided that it is going to continue to make our category unappealing from a price point of view," he says. "They're going to price 2% duty ahead of RPI (Retail Price Index). So, the future has to be overseas. Therefore, we have to be able to compete. If we want to migrate local consumers away from the products they know and love - such as baiju in China - that will take more marketing spend, more investment in sales forces, more overheads. We understand that, and we're not frightened about that, but what it means is that you cannot have inefficiencies farther up the supply chain. If you look at our business in Scotland, we've got three plants. We need two."
While Walsh is keen to point out his empathy for the Scottish workers who will be affected by the move, he also appears disappointed by the way many in the media have handled the matter. "What has had precious little coverage in Scotland is the fact that, in the last five years, we've invested close to half-a-billion pounds over the last five years around the sustainability of Scotch," he says. "And here we are talking about another GBP100m and creating 400 jobs between Leven and Cambus."
This story still has some distance left to run, it would appear.
Looking more broadly, we turn to the current economic environment. While the first three months of the year to the end of June saw Diageo perform strongly, the downward turn in the US and UK broke in October, leaving the company fearful of its Q1 performance this year. When it comes to lessons learnt in the last year, Walsh highlights the weaknesses in a distribution system reliant on credit that virtually ceased to exist.
"I think it's taught us that this was a pretty inefficient supply chain by modern day standards," he says. "I do not believe that that inventory is coming back. We've got to be far more inter-connected with our distribution partners, we've got to be far more alert to changes in consumer and customer demand. Our service levels also need to step up even higher - the system will not operate with that level of inventory."
Although this may sound expensive, Walsh maintains Diageo is already well-placed to make these changes. "One of the things that will serve us well is that we've invested in IT extensively in the last five or six years," he notes. "We don't need to do a lot.
"I think it's taught us that we need to be very close to our distributors regarding their fiscal resilience," he continues. "When credit got tight, some of our distributors just had the rug pulled out from under them. And we did not step into the place of the banks, because that's not our job. So, we'll take far greater interest in how our distributors are funding themselves and their ability to fund their business."
Finally, one stand-out figure - for the wrong reasons - from Diageo's full-year results was the 3% slip in net sales for the company's Scotch portfolio. Surely, this must be a concern of Walsh's going forward? "Well, I don't like it," he concedes, "but if you look at the level of destocking, that's over half of the decline. If you look at volumes, a big chunk of that was a loss of secondaries (low-price brands) that we're not particularly interested in, there's no money in that market."
When asked if selling off these secondary brands would be a temptation, Walsh's tenacity makes a rare public outing. "No," he says. "Because they'd end up strengthening other parties. I still want them in our portfolio.
"Those brands still have roles, but I know that if we sell them, all they'll do is come back and bite us."
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