Diageo’s biggest cause for concern is the potential for increased tariffs on its exported products.
As a member of the EU, Diageo, and other UK-domiciled companies, have enjoyed access to one of the world’s largest networks of preferential trade deals, with over thirty free trade or cooperation agreements currently in place.[1] Post-Brexit, it is likely that the UK will lose access to these agreements, such as the one recently negotiated with Vietnam, which reduced alcohol import tariffs from 45% down to zero.
Fortunately, the impact may not be as pronounced, with Diageo still able to access zero tariffs in its key export markets such as the US and Canada under WTO rules. However, the Company will still need to renegotiate with important markets such as Korea and South Africa.[2]
Even its most famous Irish export, Guinness, may be affected. Diageo estimates that Guinness kegs cross the border between the Republic of Ireland and the UK over 13,000 times a year; short delays between 30 minutes and an hour are estimated to cost the Company over US$1.7m per year.[3] Upstream supply chain costs could also increase, with the Company reliant on raw materials including dairy for its famous ‘Bailey’s Irish Cream’, which accounts for almost 5% of the Republic of Ireland’s total dairy output each year.[4]
To make matters worse, the Company faces a raft of other potential issues, including changes to drink labelling and quality standards and the loss of talent due to restrictions on the free movement of labor.[5] [6]
Brexit on Management’s agenda
Brexit is clearly on the agenda for Diageo, listing it as one of the key risks in its most recent annual report[7].
Over the short to medium-term, the Board is undertaking a range of initiatives to mitigate against these risks, including[8]:
- Developing on-the-ground market and country intelligence;
- Maintaining a cross-functional steering group to monitor risks associated with Brexit;
- Initiating a market-sensitive, multi-country investment and capacity expansion strategy, and local sourcing strategy; and
- Ensuring that the CEO and other senior executives review local strategies.
Outside of these initiatives, Diageo is working with its industry associations, such as the Scotch Whisky Association (SWA) to secure a positive deal for the Company.[9] The key priority for the SWA in the short-term includes lobbying for a ‘transitional adoption’ of benefits secured through EU trade deals, followed by the negotiation of more ambitious FTA agreements by the UK. Diageo and the broader industry are also calling for a ‘frictionless’ border between the Republic of Ireland and the UK, which would allow for the free movement of goods and labor.[10]
What else should Diageo be doing?
As a global company with a global supply chain, Diageo’s board and management must be vigilant in understanding and mitigating areas in its supply chain that are vulnerable to regulatory change.
Over the short-term, the Company should continue to take an active position in monitoring and lobbying for open trade policies that reduce import taxes, using the strength of its brand and influence in international markets where it employs over 20,000 people[11].
Over the medium-term, Diageo should consider whether a ‘localized’ or ‘global’ sourcing and distribution strategy is preferable in light of the regulatory risk. For many of its brands, including Guinness, Diageo issues companies with licenses to brew its product in their local market. The Company might consider expanding this strategy to a broader range of its brands in order to reduce the risk of increases in import tariffs.
Some outstanding questions…
Despite being domiciled in the UK, Diageo has operating entities across the globe that could be affected by changes to large free trade agreements, such as the Trans-Pacific Partnership (TPP) or the North American Free Trade Agreement (NAFTA).
Two questions remain for Diageo as it navigates the challenges of protectionist policies:
With these policies incentivizing companies to ‘localize’ their laborforce, what impact might a loss of international talent have on Diageo’s competitiveness?
Furthermore, investment in global supply changes has been a driving factor in improving standards of living for many people across the world. What responsibility does Diageo have to contribute to the communities in which it serves, by employing local talent and/or manufacturing locally in developing markets?
[1] EFTA, “Free Trade Agreements and Trade Relations by Country,” http://www.efta.int/free-trade/free-trade-agreements, accessed November 2017.
[2] “Brexit – what now for Scotch Whisky?” Scotch Whisky Association, August 3, 2016, http://www.scotch-whisky.org.uk/news-publications/news/brexit-what-now-for-scotch-whisky/#.Wgz4uWhSw2x, accessed November 2017.
[3] “Why Brexit could mean a pricier pint of Guinness,” The Economist, July 15, 2017, https://www.economist.com/news/britain/21724934-harder-irish-border-would-cause-delays-and-add-costs-many-agri-food-products-why-brexit, accessed November 2017.
[4] Simon Marks, “Brexit is (maybe) the ruin of Irish Whisky,” Politico, March 3, 2017, https://www.politico.eu/article/trouble-at-the-border-brexit-threatens-irish-supply-chains/, accessed November 2017.
[5] The Scottish Parliament, “European and External Relations Committee 3rd Meeting 2016, Session 5” (PDF file), downloaded from The Scottish Parliament website, http://www.parliament.scot/parliamentarybusiness/report.aspx?r=10496&mode=pdf, accessed November 2017.
[6] Willis Towers Watson, “Chronic labor shortage forecast for UK food and drink industry post Brexit,” Willis Towers Watson Wire (blog), June 8, 2017, https://blog.willis.com/2017/06/chronic-labour-shortage-forecast-for-u-k-food-and-drink-industry-post-brexit/, accessed November 2017.
[7] Diageo, 2017 Annual Report, p. 20, https://www.diageo.com/pr1346/aws/media/3960/diageo-2017-annual-report.pdf, accessed November 2017.
[8] Ibid.
[9] Ibid., p. 19.
[10] Provision Trade Federation, “Early agreement on trade with Ireland” March 3, 2017, http://www.provtrade.co.uk/article/early-agreement-on-trade-with-ireland-27.aspx, accessed November 2017.
[11] Diageo, 2017 Annual Report, p. 20, https://www.diageo.com/pr1346/aws/media/3960/diageo-2017-annual-report.pdf, accessed November 2017.
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