Diageo is the world's leading premium drinks business, I have a holding in my income portfolio (epic code: DGE)
Diageo has an outstanding collection of alcohol brands and earnings and valuation to match, but if one had to be critical of Diageo, it would be on the
deterioration of their cash generation over the past few years. If you take the view that the value of a
business is the discounted value of all future free cash flows (FCF) - then it
matters, or even if you are sceptical of any management’s EPS numbers – then it
matters.
One year of operating cash flow (OCF) or FCF on its own is
less informative, but an accumulation over the years or a trend is informative.
DGE’s last four years of earnings, accumulation of those
earnings (ACC) and the last twelve months (LTM) show a positive trend:
2010 - £1,629m
2011 - £1,900m
2012 - £1,942m
2013 - £2,485m
ACC - £7,956m
LTM - £2,546
Although FCF shows a different trend and accumulation:
2010 - £2,023m
2011 - £1,763m
2012 - £1,609m
2013 - £1,405m
ACC - £6,800m
LTM - £939m
Part of the FCF decline has been due to increase in capital
expenditure, up from £374m in 2010 to £643m in 2013, but OCF has also declined
from £2,396m in 2010 to £2,048m in 2013.
Part of the reason has been the requirement for DGE to hold higher
levels of working capital. For example
Inventory has increased from £3,281m in 2010 to £4,222m in 2013 representing an
increase from 26.1% of sales to 27.3% and, over the same period, receivables
have increased from £2,008m to £2,484m representing an increase from 15.5% of
sales to 16.0%.
On a FCF valuation basis DGE’s SP is 51x its LTM FCF, the median
for the FTSE All Share is 20x, but then companies such as DGE will be highly
valued at times, due to the expected future FCF from its brands. So the market must be assuming that the trend
of the last four and a half years will be reversed, or it has become obsessed
with the EPS trend and is ignoring the cash that is being generated.
No comments:
Post a Comment