Diageo PLC (DEO) is the world’s largest spirits company with such market-leading brands as Johnnie Walker scotch, Smirnoff vodka (not made in Russia!), Captain Morgan rum, Gordon’s gin, and Guinness stout, asserts Gavin Graham, contributing editor to The Income Investor.

Over one-third of its revenue comes from faster-growing emerging and frontier markets, making it an excellent play on the growth of the middle class in these regions with an additional boost from developed markets as consumers trade up to more expensive drinks (called “premiumization”).

In the six months to Dec. 31, 2021 (Diageo has a June 30 year-end), net sales grew 15.6%, to £8 billion, with organic net sales growth of 20%. Reported operating profit was £2.7 billion (£0.843 per share) up 22.7%.

Operating margins increased by 190 basis points while organic operating profit grew 24.7% with productivity savings and price increases more than offsetting the effects of cost inflation.

Particularly strong growth came in scotch, tequila, and beer, while premium-plus brands accounted for 56% of sales. Net cash flow was down slightly, to £1.9 billion and free cash flow slipped to £1.6 billion, mostly due to an exceptionally strong release of working capital in 2020.

The dividend was increased 5%, to £0.2936 for the first half, giving Diageo a 1.74% yield. The company bought back £0.5 billion worth of shares.

Diageo remains an excellent way to benefit from the growth of the middle class in emerging markets and premiumization, while generating large amounts of free cash flow.

Its aim is to raise its share of the world’s distilled spirits market to 6% from 4% in the next few years, which should allow it to continue to deliver growth in earnings and dividends. Down only 5% in the last year, and with a total return of almost 50% over five years, Diageo remains a Buy.

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