Diageo stock (NYSE:DEO) has solidified its reputation as a reliable dividend growth stock in the alcoholic beverage industry, with its dividend growth track record spanning 25 years. Known for several category-leading brands, including Smirnoff, Johnnie Walker, Guinness, and Baileys, that generate predictable cash flows, Diageo’s long-term dividend growth prospects remain highly attractive. Combined with the stock trading at a relatively attractive valuation following recent share price weakness, I am bullish on DEO.
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Portfolio of Category-Leading Brands Offers Unparalleled Strength
To understand the merits of Diageo’s dividend and its strong growth prospects, I think it’s essential to underscore the exceptional strength inherent in the company’s vast brand portfolio.
With a diversified lineup of 200 brands, Diageo has secured a market-leading position in the alcoholic beverages industry.
For context, Diageo is the third-largest player in the global beverage alcohol market by value. Further, it ranks first in International Spirits in terms of retail sales value globally and is 1.4x larger than its nearest competitor in this category. It’s also bigger than four of its top 10 competitors combined and has more brands in more categories than any other competitor.
Finally, to illustrate the company’s focus on expanding its footprint everywhere in the industry, Diageo owns 34% of Moët Hennessy, the wine and spirits division of LVMH Moët Hennessy Louis Vuitton (FR:MC), expanding its exposure to the rapidly growing champagne and cognac markets.
Overall, Diageo’s portfolio is clearly one of the most complete and competitive ones in the industry. This allows the company to generate both highly predictable cash flows and pursue growth opportunities in up-and-coming product categories.
The stability of Diageo’s cash flows doesn’t only stem from the highly mature nature of its century-long brands but also from the fact that alcohol sales tend to be recession-proof and follow predictable patterns.
When it comes to growth, Diageo has a major edge in what is a rather brutally competitive industry, thanks to its wide-ranging portfolio. No matter what’s hot in the market, the company is well-positioned to capitalize on it. Take Tequila, for example—it’s currently the fastest-growing category in spirits. Well, Diageo’s diversified portfolio has ensured that Tequila accounts for about 15% of its revenue; Don Julio, a Diageo brand, was the world’s top-selling tequila in 2023 for the eighth consecutive year.
Consequently, Diageo’s portfolio has been able to deliver exceptionally stable growth over the years. In particular, over the past five years, Diageo’s revenues have grown at a compound annual growth rate of 7.0%. Management expects that the company can continue to sustain this pace of growth for years to come, targeting a revenue CAGR of 5% to 7% over the medium term.
Dividend Growth Prospects Remain Robust
With Diageo’s highly diversified portfolio delivering resilient cash flows and continuous growth over the years, management has been able to gradually increase its dividend quite comfortably. Impressively, the company has raised its dividend every year for the past 25 years.
Admittedly, the pace of dividend growth has modestly slowed down lately. The five-year dividend-per-share CAGR stood at just 4.1% at the end of FY2023, somewhat lower than its 10-year equivalent of 5.4%. The most recent interim FY 2024 dividend of 40.50 pence (in GBP) implies a year-over-year increase of 5%—a small rebound from its historical average but still a somewhat soft increase.
Overall, I don’t think Diageo will accelerate the pace of dividend increases anytime soon. At the same time, however, I am very confident that increases of this kind will continue to take place for years, and even decades, if I dare say, to come.
FY2024’s projected EPS of £1.47 implies a healthy payout ratio of 55% against this period’s expected dividend per share of £0.81. This, along with the stability of Diageo’s business model and management’s intention to increase shareholder returns over time, form a compelling case for long-term dividend growth. In the meantime, recent share price weakness has resulted in Diageo’s dividend currently around 2.7%, at the high-end of its five-year hovering range.
Share Price Weakness Presents an Attractive Valuation
As I just mentioned, the recent share price has elevated the stock’s yield, but most importantly, it has also resulted in the stock trading at a rather attractive valuation. With Diageo stock trading at its 2019 levels, its forward P/E has declined to 19.2x. This is notably higher than the stock’s past five-year average, which would usually hover between 20x and 26x.
The recent multiple contraction can be justified given that Diageo, like all equities, is being repriced in an elevated interest rate environment. Nevertheless, I think that its portfolio of brands deserves a premium, a sentiment shared among spirits brands overall, particularly due to their resilience in economic downturns.
And yes, it’s true that Diageo’s current valuation might not scream “bargain.” However, I think it’s quite attractive because opportunities to buy Diageo at a relative discount have been rare. Therefore, investors who previously stayed on the sidelines due to its steep premium now have a chance to purchase shares at reasonable levels.
IS DEO Stock a Buy, According to Analysts?
Wall Street seems less convinced about Diageo’s bullish case so far. The stock features a Hold consensus rating based on one Buy, two Holds, and one Sell rating assigned in the past three months. At $153.25, the average Diageo stock forecast suggests 5.9% upside potential.
The Takeaway
To sum up, I believe that Diageo stands as a reliable stock for those seeking stable dividend growth. With its diverse portfolio of category-leading brands delivering resilient cash flows and giving Diageo access to up-and-coming trends at all times, the company’s performance was, is, and will most likely continue to be a smooth ride.
Simultaneously, with ample room for continuous dividend increases and management’s intention to keep raising capital returns, Diageo forms a compelling investment case for dividend growth seekers at its current levels.
