Diageo All Eyes on The U.S. Spirits Market

     Diageo has underperformed its Spirits peers YTD. We see this as a buying opportunity given its solid organic sales growth and strong cash generation. Our proprietary US Spirits wholesalers survey is reassuring regarding market growth and Diageo's brands. Reiterate Overweight.  Our 5th US Spirits survey highlights the confidence of Spirits wholesalers regarding volume and premiumization potential over the rest of 2018. Among US distributors, >50% of our respondents are optimistic about the next 6 months, like our November survey.  The distributors expect low-single-digit volume growth, with further improvement in the on-trade. The premiumization outlook remains solid, driven by dark spirits, which implies further positive mix and is a bellwether for the market's health, in our view.

     Diageo's organic sales growth looks set to accelerate driven by US, India and EM.  We expect +3.2% organic sales growth in North America for Diageo in FY18, which looks set to accelerate to 3.6% in FY19e. Closing the gap with the market within the next 12 months looks possible, driven by Brown Spirits and Tequila, while the drag from Ketel One and Ciroc vodka (only 10% of US sales) is likely to fade. We expect emerging markets growth to accelerate, with India (10% of Diageo sales) growth set to bounce back to 8% post a weak H1 affected by regulations. Overall, we expect Diageo's organic sales growth to reach +4.7% in FY18e (H2 +5.2%) and to accelerate to +5.3% in FY19e. Thanks to cost savings, we forecast average organic EBIT growth at c.7.3% in FY18/19e.