The Investment Column: Diageo shares regain their sparkle

DETRACTORS HAVE been lining up to take a stab at Diageo since the colourful burgers-to-Baileys group was formed in December 1997 from the merger of Guinness and Grand Metropolitan.

The company, which owns brands such as Smirnoff vodka and Burger King, has so far delivered insufficient evidence for detractors to change their minds. But yesterday's maiden full-year figures are, Diageo claims, the best evidence yet. While Diageo shares have recovered from their mauling last year - the Latin American economic crisis sent them tumbling to 480.5p from 780.5p - they have drifted in recent months. No surprises then that Diageo is in combative mood. It is planning to double global Guinness consumption and rejuvenate Burger King.

The annual results bear out the logic of the merger's rationale of focusing on top brands, thereby cutting manufacturing costs and combining marketing operations. All four divisions - spirits and wine, packaged food, beer, fast-food - enjoyed margin improvement. Disposals of non-core brands helped bring pre-tax profits down around 5 per cent to pounds 1.8bn, and spirits and wine sales, which account for 42 per cent of the total, fell 7 per cent to pounds 4.9bn. But operating profits climbed 8 per cent, driven by better- than-expected North American and European sales.

Sales of the company's top nine brands, such as Johnnie Walker and Gordon's gin, rose 6 per cent as US sales rose. As expected, sales to Asia and Latin America fell, by 15 per cent. While the latter continues to decline, operating profits from Asia Pacific climbed 20 per cent year-on-year in the second half.

Cost-savings from the merger were pounds 127m in the year and the group expects to save a further pounds 70m this financial year. On the downside, Diageo faces regulatory hurdles over the sale of the Cruzampo brand and the disposal programme is not complete.

Analysts expect pre-tax profits of around pounds 1.9bn and earnings of 38p per share this year, rising to pounds 2.2bn and 43p in 2001. The volume increases in Diageo's core brands suggests the merger is helping Diageo serve its customers better. That can only be good news for shareholders and the shares, up 19.5p at 636p yesterday, have further to go. Buy.

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