Rumour mill grinds down on Diageo

Now that’s desperate, that’s truly pathetic. Are the chattering classes in the financial world so anxious for a Big Deal in the brewing industry that they eagerly lap up even the most outlandish of speculations?

Since early June 2015 media all over the world have reported that AB-InBev could be setting its sights on the British drinks company Diageo, after nearly a year of speculation that AB-InBev was targeting fellow brewer SABMiller.

The source of the recent media frenzy was an article in a Brazilian newspaper which argued that the Brazilian billionaire Jorge Paulo Lemann, a shareholder and board member of AB-InBev, and his partners in the private equity firm 3G Capital are in the initial stages of studying a buyout offer for Diageo, the stock market-listed maker of Captain Morgan, Smirnoff, Baileys and Guinness, among other alcohol brands.

The rumour does not indicate if Diageo will be taken over by 3G or by AB-InBev.

Ah well, this is not the first time the possibility has circulated. In June 2014, amid speculation of an AB-InBev purchase of SABMiller, analysts wheeled in Diageo as another possible takeover candidate. Eventually, as no grit was added to the rumour mill, the gossipers lost interest in Diageo, as they did in SABMiller.

Diageo is the world’s number one drinks company. The business publication Forbes argued on 12 June 2015 that between 2009 and 2013, the company saw revenues grow at about 4 to 5 percent a year, leading the stock value to almost double over the same period.

However, for Diageo things turned to the worse in 2014 when the U.S. market slowed down, the Chinese authorities cracked down on “extravagance spending” and unfavourable currency movements impacted Diageo’s sales and profits (revenues fell 8 percent and profits declined 18 percent), causing the stock price to drop almost 15 percent over the past year.

In the past, Mr Lemann’s vehicle 3G has shown a healthy appetite for acquisitions, especially for consumer brands. It took over notable names in the consumer and retail sector such as Heinz and Burger King.

But leaving 3G’s appetite aside: would a tie-up between AB-InBev or 3G and Diageo make sense? And, what is more, would it get regulatory approval? On the face of it, the latter seems highly unlikely. A merger between the likes of Diageo and AB-InBev, which are both global leaders in spirits and beer respectively, could form a body that may be extremely hard for other players to compete against. On these grounds, the deal may not be given the green light at all, or could involve major divestitures, which could potentially erode the profitability of the deal, Forbes argues.

And as to making strategic sense, observers should harbour big doubts. Most of AB-InBev’s and 3G’s acquisitions have involved major cost-cutting exercises. Slashing costs in the drinks industry, however, could backfire badly. Traditionally, drinks companies have incurred significantly higher costs in production and marketing in comparison to beer. Moreover, to date neither AB-InBev nor 3G have any knowledge of the drinks industry.

Finally, Diageo could be hugely expensive. The quoted price tag is USD 73 billion.

Although all these aspects make the prospects of an acquisition bleak, the rumour still revved up Diageo’s stock price last week.

In conclusion, Forbes points out, an acquisition of this sort may not be in the cards at all, since Britain’s takeover rules require companies to inform the Takeover Panel of any potential mergers or acquisitions, in the event of “material or abrupt movement” in share price. Since Diageo made no such disclosure, the rumour has just been mere rumour (so far).