Rumours surfaced Friday that Diageo (DGE) could be interested in buying Mey Icki, Turkey's leading manufacturer of the anise-based national drink, raki. Although we think the story has some merit, a deal would not affect either our fair value estimate of the firm's equity or our issuer credit rating, and both remain intact.
Diageo owns some dominant brands with global appeal, such as Johnnie Walker and Smirnoff, but brands with local relevance are also important, and we think Mey Icki would be a solid addition to the firm's portfolio. At the rumoured price of £1.6 billion, or $2.5 billion, Diageo has the financial resources to support a deal. With £2 billion in untapped revolving credit facilities and £1.6 billion in cash, the firm would require little additional leverage to finance the deal. Even if financed entirely with long-term debt, our forecast for year-end fiscal 2011 debt/EBITDA would increase to 3.7 times from 3.3 times, and our credit rating would not be affected.
However, any deal for Mey Icki would make it unlikely that further debt could be raised for additional transformative acquisitions. Fortune Brands (FO) is selling its home and security and golf segments, and we think Diageo could be interested in acquiring the remaining spirits business. However, we estimate that Fortune's spirits portfolio could cost at least $8.5 billion and possibly more if a bidding war ensues. In addition, there is still a possibility that LVMH will sell its beverage segment, and we would expect Diageo to again be an interested acquirer. LVMH's Hennessy cognac brand would be appealing to Diageo, in our view, because cognac is popular in China, and the addition of a leading brand such as this would allow Diageo to gain share in the fast-growing market. However, the use of cash to acquire Mey Icki could jeopardise Diageo's ability to raise the financing to pursue larger deals for either Fortune Brands or LVMH.
Philip Gorham, CFA is an equity analyst with Morningstar.