COMMENT: Diageo's high spirits in testing times
Diageo has revealed plans to increase prices following trading difficulties in Europe.
Despite the challenging environment in Europe and the fact that its biggest competitors are to join forces, Diageo has a strategy in place to maintain its lead in the industry. Primarily, this involves capitalising on the premiumisation trend by introducing price increases, which could prove the perfect tonic to counter the growing threat of private label competition.
Diageo has warned that European trading conditions have deteriorated over the past year and that underlying growth in the coming 12 months will probably be flat against 2004.
Despite this setback, the company still expects to increase its organic operating profit for its financial year to the end of June 2005 by about 6%, in line with previous guidance. Performance in emerging markets has been strong, especially in Latin America, Russia, India and China, while its wine brands continue to make encouraging progress in the core markets of the US and Britain.
Factors behind Europe's deteriorating conditions undoubtedly include the smoking bans in Italy, Norway and Ireland. Diageo must now hope that those European markets affected will respond in a similar way to New York, where, after an initial slump following the imposition of a ban, sales returned to normal.
The company will also, no doubt, be paying even more attention to competition in the next 12 months when its biggest rival, Pernod Ricard, completes its complex takeover of the number three global drinks company, Allied Domecq.
However, Diageo does have a plan in place. The company will be looking to increase prices in the coming year, a move that coincides with an overall focus on re-structuring and cost-efficiency, the former expected to cost an estimated GBP70m.
Initial indications that Diageo would be looking towards price premiums to drive sales growth emerged in May, with the company backing a ban on 'happy hours' and a restriction on other similar cheap drinks offers in the UK.
The drinks giant is correct in attempting to assert its leadership by focusing on prices. Too often leading brands have responded to the threat of private label by discounting, which has undermined many established brands' image and general positioning. While increasing prices is not often the best way to drive profit growth, taken in the context of the prevailing trends in the drinks industry, this shift towards premium offerings could yet prove a shrewd move for Diageo.
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