Diageo Plc

Topics: Finance, Investment, Corporate finance Pages: 4 (1181 words) Published: September 6, 2012
1. What do you think about the capital structure policies Diageo has pursued in the past. Do they make sense? How does it compare to Diageo’s competitors’ policies? Which competitors would make for the best comparison? 2. Why is Diageo selling Pillsbury and spinning off Burger King? How might value be created through these transactions? 3. Based on the results of the simulation model, what recommendations would you make for Diageo’s capital structure? Does the model capture all of the important risk factors faced by Diageo? Would you want to adjust the model I any way?

Up until 2000 capital structure policy at Diageo was conservative, maintaining quite a high the [book] equity-to-assets ratio inherited from its predecessors: ca. 57% vs. 42% of the average UK firms. This partially can be explained by the willingness to maintain the level of the creditworthiness its predecessors have had before the merger. It seems that Diageo was more concerned of maintaining a certain level of the Interest Coverage Ratio rather than Debt-toEquity or Debt-to-Value Ratio – it undertook few share repurchase initiatives to decrease its Debt Coverage Ration back to the desired boundaries (5x – 8x). Having the accrued and paid corporate profit tax amount above zero it can be concluded that the company didn’t fully utilized its debt capacity, leaving some amount of money on a table for the Internal Revenue Service and thus – loosing some of the value because of underleveraging. With the relatively low volatility of ROA within the industries company was operating, it could increase its level of gearing without substantial increase of the associated risks. Low level of the equity’s beta also supports this viewpoint: company’s earnings weren’t highly procyclical – demand for the types of products Diageo was producing isn’t perfectly elastic. On the other hand, Diageo with its debt parameters, was at the lowest end within its peer group – majority of the comparable companies...
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