Business Outlook: Allied Domecq needs to act

Ever since Guinness and Grand Metropolitan announced merger plans last May, Allied Domecq has been under pressure from City investors and investment bankers to do something similar. There is more to this than blind adherence to the me-too principle.

Diageo is set to become a truly awesome distribution and marketing power once the full benefits of the merger begin to show through a few years hence. Allied is number two in the branded spirits market, but even if it were to merge its liquor interests with those of the next biggest player, Seagram, it would still not be as big as Diageo. Keeping Allied as it is can no longer be an option for Allied's chairman, Sir Christopher Hogg, and his chief executive, Tony Hales.

The problem is that the available options for merger appear so limited. When Guinness and Grand Met tied the knot, Allied was left out in the cold; there is no other sizeable British player of note left. Most international drinks companies that might make a credible partner for Allied are family controlled, including Seagram, the most likely bride. Even assuming one or other of these families could be persuaded to tolerate the necessary dilution, there would still be an issue of control and management to sort out. The City would have a big problem with anything that might become captive to family control, even if that were through a minority shareholding.

All the same, this may be the only path left open to Sir Christopher. Merely to set up a joint distribution agreement with Seagram probably doesn't go far enough; such a limited arrangement would have neither the deep cost-cutting potential of the Diageo combination, nor would there be the same opportunity for coordination of marketing and cross subsidy in brand promotion.

One alternative would be for Allied to sell the business outright for cash and channel the money into its leisure activities or return it to shareholders, but that surely would be a dreadfully defeatist route. Allied's liquor and drinks business is still number two in the world; it must be possible to do something with all that potential. Something is precisely what Sir Christopher has to do. If he does nothing, the shares will head south again with speed. Not a comfortable position to be in.