A New Liquor Deal: Whiskey Business or 1 Sure Thing?

Diageo's (NYSE: DEO  ) recently upped stake in India's United Spirits gives the liquor behemoth the leading position in the largest global whiskey market. Will this deal ensure big things to come for Diageo? Or is competition in the brown spirits market just bubbling up?

A burgeoning and thirsty middle class
Distillers like Diageo are successfully expanding in developing markets where economic growth is creating a flourishing middle class. The U.K.-based liquor maker increased net sales growth in emerging markets by 33% from 2010 to 2012. Emerging markets contributed 40% of Diageo's net sales last year. In those markets, net sales grew 15%, and operating profit increased 23% during the same period. By 2015, the company expects half of net sales to come from these markets, a huge jump Diageo will likely make via a number of acquisitions.

Even before this recent United Spirits deal, Diageo has been on an acquisition bender in emerging markets. It slurped up Chinese baijiu producer Shui Jing Fang, Turkish raki maker Mey Icki, and leading Brazilian cachaca brand Ypioca. Those liquors probably don't mean anything to you and me, but they do to those nations' collective 1.6 billion inhabitants.

Doubling down on brown liquor
Of Diageo's product portfolio, scotch represents not only the largest percentage of Diageo's net sales, but also one of its biggest growth drivers. Last year, the company's Johnnie Walker brand reported net sales increases of 31%, 12%, and 18%, respectively, in Africa, Latin America and the Caribbean, and Asia Pacific. Clearly, consumers' taste for the brown elixir is growing.

To keep up with demand, Diageo will invest billions of dollars in whiskey production over the next several years. The company sees huge potential in brown liquor, because consumption in emerging nations is much less than in developed ones. Of course, Diageo's rivals know this, too, and competition in the booming brown spirits market is fierce.

Pure-play spirits competitor Beam (NYSE: BEAM  ) wants a piece of the action. Its 2012 acquisition of Irish whiskey producer Cooley Distillery adds to its already-successful brown liquor portfolio. Beam's popular Maker's Mark and Jim Beam brands posted 15% and 10% respective sales growth in 2012. Even better, the company's more premium products, Basil Hayden's and Knob Creek, enjoyed 35% and 24% respective sales growth during the same period. 

Kentucky-based rival Brown-Forman (NYSE: BF-B  ) believes strong consumer interest in bourbon will continue. Not to be outshone, the company is increasing capacity to meet demand. It recently announced a $35-million expansion plan for its Woodford Reserve Kentucky Bourbon, which experienced record case volume, and grew net sales by 28% globally in fiscal 2013. Since the 1996 launch of Woodford Reserve, the brand has experienced double-digit growth rates annually. 

Foolish takeaway
Acquisitions come with risks. But they also dovetail nicely with Diageo's strengths, which include developing products, marketing them, and leveraging the company's global distribution infrastructure. If the liquor maker continues its track record of successful integration in lucrative markets, it should bode very well over the long-term for shareholders of the U.K.-based company.

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