Raise a Glass to the Rapidly Growing Scotch Market

Luxury-goods sales have been more resilient than most during the past few years. That said, so have sales of alcoholic beverages, and one of the sections of the market that has seen the fastest growth is the luxury-whiskey market. In particular, the Scotch market has done well, and no company has been better placed to ride this trend that Diageo  (NYSE: DEO  ) .

Diageo is easily the biggest listed beverage company in the world, with a market capitalization of $80.7 billion, 28,000 employees, and revenue of approximately $18.2 billion in 2012. Diageo's growth strategy over the past decade has been to acquire competitors around the world that are established within their home market. In addition, the company has also built up a strong beverage-distribution network, especially within its home country, the UK.

Furthermore, Diageo's acquisition strategy has led it to acquire some of the most valuable alcohol brands in the UK and indeed around the world, with names such as Guinness, Smirnoff and Johnnie Walker filling its drinks cabinet.

Diageo's ownership of Johnnie Walker, as well as its position within the UK, puts the company in a great position to benefit from the globe's growing demand for Scotch. Worldwide sales of Scotch are expected to rise 3% a year for the next decade. In particular, Diageo's Scotch sales have expanded 50% during the past five years alone. What's more, the company is planning a £1 billion ($1.6 billion) investment over the next few years to meet rising demand for the spirit.

Across the pond
Meanwhile, Diageo's US peer Beam  (NYSE: BEAM  )  is also investing heavily to ride the rising demand for Scotch. Indeed, at the beginning of this month the company announced that it was going to open three new Scotch maturation warehouses at Westhorn Glasgow. This investment actually pales in comparison to that of Diageo's, as Beam is only spending £3 million ($4.8 million) on the expansion. Still, the investment will boost Beam's Scotch aging capacity by nearly 20%.

Money to be made
Diageo's and Beam's managements are right to be investing heavily to expand their Scotch production. As with any premium product, the Scotch business can be highly lucrative as the nature of the product means that demand is relatively inelastic, allowing both Diageo and Beam to establish wide profit margins, making them both highly cash-generative companies.

Moreover, Scotch brands tend to have a strong reputation, and the brand names alone are worth a significant amount -- the Johnnie Walker brand owned by Diageo reached the height of luxury by partnering with the Vodafone McLaren Mercedes Formula 1 team back in 2005. Formula 1 is potentially one of the most exclusive sports in the world.

Bigger in Europe
Pernod Ricard (NASDAQOTH: PDRDF  ) is three times the size of Beam and based out of Europe. The company has numerous premium Scotch brands in its cabinet and boosted production by 25% during 2012. Pernod is also boosting its ultra-premium Scotch production as, according to comments from the company's chairman and CEO Christian Porta, "The higher you go in terms of price, the higher the growth rate."

What's more, premium Scotch brands currently only account for 27% of whiskey-industry sales and consumption volume. In comparison, in the Cognac industry around 50% of sales are premium brands, so there is plenty of room for growth in the Scotch industry. Still, with sales expected to grow 3% annually for 10 years across the whole industry, the premium sector of the market has plenty of room for growth.

Foolish summary
Clearly the Scotch industry should not be ignored. Many luxury Scotch brands command a high premium and the market growth is nothing be sniffed at. Moreover, with the three main players, all of which are listed above, planning to make heavy investments to boost output during the next few years, the industry could be worth a look for its high growth and profit margins.

Scotch and growth go hand in hand
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4/17/2014 4:01 PM
BEAM $83.27 Down -0.01 -0.01%
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