Consumers will often treat alcohol as an “affordable luxury.” More on how Diageo can potentially be a calm investment even amid a fairly raging market storm below.
While many stocks around the globe faced exceptionally tough times throughout 2022, Diageo PLC (NYSE: DEO) saw its shares stay fairly stable. Adjusted for dividend reinvestment, Diageo investors have seen a return of around -8.3% calendar year to date through December 16, 2022.
A large part of that relative stability can be traced to the simple fact that Diageo is a global leader in producing alcohol-containing beverages. Alcohol is generally considered both a recession-resistant and an inflation-resistant business line. Consumers will often treat alcohol as an “affordable luxury” and drink when they aren’t doing much else due to a shortage of disposable income.
Of course, in tougher times, people may shift where they’re drinking and what they’re drinking -- with more of a tilt towards value brands and at-home experiences instead of public ones. Still, with a portfolio of over 200 different brands and both a large commercial and consumer business, Diageo as a whole is well positioned to flex with the market and consumers across economic cycles.
The author and his sister at Diageo’s Guinness Storehouse in Dublin. Photo courtesy of Kate Saletta.
Throw in a reasonable balance sheet for even better protection
On top of a business line that’s designed to hold up fairly well in both recessionary and inflationary times, Diageo has a reasonably solid balance sheet. Its debt-to-equity ratio clocks in just below 1.8, and it has a current ratio above 1.5.
The comfortable debt-to-equity ratio means that, even with rising interest rates, it should be able to roll its debt as it matures without facing an outrageously high extra risk premium. The current ratio above 1.5 means that it can cover its bills coming due over the next year even if its revenue falters. The combination means that investors can sleep well knowing that there is very little risk of Diageo running into major financial trouble over the next year.
Add a decent valuation to give even more reason to believe its shares can hold up
As if the one-two punch of a solid balance sheet and a recession-resistant business model weren’t enough, Diageo trades at around 21 times its anticipated forward earnings. Those earnings are expected to grow at a comfortable rate of around 11% annualized over the next five years.
While nothing about the future is guaranteed until it actually happens, that valuation represents a reasonable price to pay for a business with the properties that Diageo has. Although not a deep value, you wouldn’t expect a solid company with decent growth prospects to trade at a discount to its fair value. As a result, as long as Diageo continues to operate a generally healthy business and protects its balance sheet, it likely can justify a valuation in the neighborhood of where it is now.
Diageo probably won’t set the world on fire, but it might be worth owning
Of course, the factors that meant Diageo’s shares have held up well throughout 2022 are the very same ones that mean that it likely won’t outperform a rapidly rising market. That’s part of the trade-off we all face as investors.
Still, if 2023 turns out to be as rocky overall as 2022 has been for many investors, it might make sense to have some money invested in a business that can perform reasonably well in tough times. Although there are never any guarantees when it comes to the market, Diageo offers investors plenty of reasons to believe it can serve as a relatively calm investment even amid a fairly raging market storm.
At the time of publication, Chuck Saletta did not own shares of Diageo.
Sources – EasyResearch, Yahoo Finance, Diageo, Forbes