Diageo's Management Hosts Brunch-Time Call with the Presidents Conference (Transcript)

May.14.13 | About: Diageo plc (DEO)

Diageo plc (NYSE:DEO)

Brunch-Time Call with the Presidents Conference

May 14, 2013 8:00 am ET

Executives

Gilbert Ghostine - President of Asia-Pacific Region

Analysts

Andrea Pistacchi - Citigroup Inc, Research Division

Chris Pitcher - Redburn Partners LLP, Research Division

Melissa Earlam - UBS Investment Bank, Research Division

Christopher Wickham - Oriel Securities Ltd., Research Division

Edward Mundy - Nomura Securities Co. Ltd., Research Division

Pablo E. Zuanic - Liberum Capital Limited, Research Division

James Isenwater - Deutsche Bank AG, Research Division

Laetitia Delaye - Kepler Capital Markets, Research Division

Thomas M. Paulson - Cornerstone Capital Management, Inc.

Olivier Delahousse - Natixis S.A., Research Division

Operator

Good afternoon, and welcome to the Brunch-time Conference Call with the Presidents. [Operator Instructions] Just to remind you, this conference call is being recorded.

Today, I am pleased to present Gilbert Ghostine, President of Diageo Asia-Pacific. Please begin your meeting, sir.

Gilbert Ghostine

Hello, everyone, and thank you for joining me on the call today. I am taking this call from my office in Singapore this evening. And we will follow the usual format where I would start with short update of the business in Asia-Pacific, and we will then open the line for your questions.

There are 2 things I want to cover in today's call: firstly, I want to recap on the opportunity we see in Asia and our strategy to deliver against it; and secondly, I want to address the current year's performance, including some of the short-term challenges we are facing. The opportunity for our business in Asia is very exciting. Each year, there are 57 million new consumers of legal drinking age. This, combined with continued GDP growth, means that the number of emerging middle class consumers in the region will double over the next decade. In addition, GDP growth will drive significant increase in the number of high net worth consumers across the region, which already has the largest high net worth population in the world.

We outlined our strategy for Asia-Pacific at our conference in Shanghai 2 years ago, and it is unchanged. We have 3 growth drivers: growing our leadership position in scotch; driving premiumization across our entire brand range, with particular emphasis on accelerating super and ultra premium price points; and selectively participating in emerging middle class opportunities. Over the medium term, this can drive top line double-digit growth across the faster-growing markets, and given the breadth and depth we will be reaching in some markets, we believe this will deliver consistent operating margin improvement.

Before talking about our current financial performance, let me update you on the progress we have made against each of our strategic growth drivers. Let me start with scotch. Scotch remains the biggest category within the international spirits in the region, and Diageo remains the biggest player. By growing the category and growing ahead of the competition, we can consistently consolidate our #1 position. This fiscal year, with the exception of north Asia, we have increased our share of the category in every market in which we compete. This comes on top of share growth in scotch in every market in the region over the previous 2 years. In fact, over a 4-year period, we have widened our share leadership against our next competitor to 9 points.

Across the region, we are focused on growing our brand equity to support our pricing agenda, and this year, like the last 2, we have taken price increases in most markets. To give you a recent example of brand-building equity, China, where we need to build the category and accelerate our brand equity, the number -- the one intense marketing [ph] campaign has improved consumer preference for Johnnie Walker Blue Label by a very significant 11 points. The campaign compares the rarity of the malts in Johnnie Walker Blue Label to the rarity of a white tiger. Increasing equity in Johnnie Walker in China is driving 10% to 19% price increase over the last 18 months across different variants.

We continue to innovate to drive scotch growth and to premiumize our scotch business. Innovation has allowed us to fully participate across all price points from $15 in standard whiskey up to the Johnnie Walker at USD 3,000 and to offer a bespoke range of rare and exclusive products at even higher price points to our Johnnie Walker Houses. Two recent examples of very successful Johnnie Walker premium variants targeting specific price points are Johnnie Walker Platinum Label at $85, which has delivered 100,000 cases; and Johnnie Walker 21 years old at USD 100, which has sold more than 50,000 cases in scotch.

Our Moët performance is also a good illustration of how this focus on scotch, great marketing and innovation comes together. The world's best whiskey advertising and mentoring is making Singleton the fastest-growing Moët brand in the largest Moët market in the region, Taiwan. To create a thread of opportunity, we recently launched the Singleton reserve collection at premium price points. These are our latest activations in a program which has seen our Moët business double in the region since 2010, with volume growth and a 25% improvement in the NSV per case.

Moving now to premiumization and specifically our reserve business. We have doubled the value of our reserve brands since 2010. Nearly 30% of the region's A&P spend is now focused against reserve, and we continue to push the creativity of our marketing in this field. A great example is the launch of the John Walker Odyssey, a rare triple malt retailing at over USD 1,000, which was amplified by recreating the journey of ship captains who were paid on commission by the Walker family to sell Johnnie Walker across the world. The platform generated substantial media coverage and online engagement, creating an active impact on perception of luxury by associating the brand with the global elite. Bloomberg and the HISTORY Channel both made series about it, and demand for Odyssey has been double our expectations.

However, it is not just about marketing. Our reserve proposition comes together in outlets, with focused and differentiated approach to the critical 4,000 trend-leading outlets in the region. In addition, over 2,000 bartenders have been trained in our reserve brands through our world-class program over the last couple of years. And our reserve vodka is as much an area of focus as super and ultra premium reserve scotch brands and continued investment on our reserve vodka portfolio has seen accelerated growth to 50%.

And our third growth driver is in the emerging middle class opportunity in Southeast Asia and India. As you know, this is a scale business, and we are accessing this through acquisitions, including investments in Halico in Vietnam and USL in India. But we are also accessing it organically using our existing brands and with targeted innovation. For example, in Southeast Asia, we have recently launched Ibap [ph] , a wine-based RTD in Thailand and Smirnoff Ice in Indonesia, targeting the emerging middle class consumer. In India, we are targeting the emerging middle class through brands such as Rowson's Reserve, Haig, Smirnoff and VAT 69.

Let me illustrate our strategic growth drivers in operations at the market level. Our strategy in China remains to build the scotch category and Johnnie Walker through leading with superpremium. Johnnie Walker superpremium scotch has been growing at more than 40% compounded annual growth rate for more than 2 years now, and it's the focus for almost half of our investments in China. I am pleased to say that our second Johnnie Walker House is fully operational in Beijing. It builds on our learning from Shanghai that has largest scale and includes a luxury retail store.

Southeast Asia is our biggest market at some 30% of our business and continues to deliver solid double-digit top line growth. It is a big scotch market, accounting for nearly 1/3 of our scotch business in the region. We continue to expand our lead in international spirits, particularly in scotch, with share growth in all Southeast Asian markets. Our scotch business in Thailand has been consistently growing significant share, and that momentum continues. However, in addition, we are also seeing overall scotch growth of over 20% in the smaller markets of Vietnam, Indonesia and the Philippines, where we are developing organizations and building routes to market which will position us to compete effectively in the future.

As you know, we operate Diageo's Global Travel Retail business as part of the Asia-Pacific region. It is the business that is 70% premium and above, and our focus is on premiumization and capturing the high net worth consumer, whether they are shopping at home or abroad. Last year, I spoke to you about adopting a differentiated consumer offering in this channel to reward these consumers and remove the comparison with the domestic market. I am pleased to say that we have now launched the Johnnie Walker Explorers' Club Collection exclusive to this channel. Inspired by Johnnie Walker's rich heritage in travel, our master blender has created 3 unique blends in the premium and superpremium category, capturing the flavors found on the great trade routes at the time of Johnnie Walker's global expansion. The Explorers' Club Collection was launched in November 2012, and it is on track to be the biggest-ever spirit brand launch in travel retail.

Now let's move to my second topic, current year performance and some of the challenges we are facing in the short term. In China, the anti-extravagance campaign announced by the government in November last year has affected consumption of all alcohol categories, but especially in high-end banqueting, feasting, institutional sales and business entertainment occasions. In Chinese White Spirits, the food safety allegation that received wide coverage in the Chinese media has been an additional factor. Although Shui Jing Fang is less dependent on institutional sales to government entities than most of its competitors, it has been affected as its leading brands are superpremium, the most impacted segment.

Shui Jing Fang is addressing this by expanding the Qian Hua Hao Chen [ph] portfolio into premium, priced at around RMB 200 to RMB 300, which was launched in Chengdu in December. In the preliminary stages, both customer and consumer feedback has so far been very positive. Shui Jing Fang delivered 10% net sales and 12% operating profit growth in calendar year 2012. But the first quarter of 2013 has been weak, and we saw both net sales and operating profit decline over 40% mainly as a result of weak Chinese New Year sales. Excluding Shui Jing Fang, our China business is growing NSV low-double digits year-to-date period 9. However, Q3 declined low-single digit due to the weak Chinese New Year.

In domain, this is driven by scotch, reflecting 1 point of share growth period 9 year-to-date. Reserve in China, of which 97% is driven by superpremium scotch, continue to be a big driver, with year-to-date period 9 NSV growth of over 40%. Outside of scotch, we continue to see great momentum in Baileys, growing nearly 30% as we access the female consumer. Also, Guinness grew 17% on the back of launching modern on trade, coupled with seeding into additional cities like Beijing, Guangzhou and Chengdu after our initial success in Shanghai.

In India, performance has been held back by Smirnoff, which is declining 2% in a weak vodka category. However, we have strong underlying momentum in scotch, with the Johnnie Walker Red and Black growing NSV double-digit period 9 year-to-date, driven by even stronger depletions growth. This is the result of our continued F1 sponsorship program step inside the circuit campaign. VAT 69 also saw double-digit depletion growth, and in aggregate, we are gaining share of the scotch category year-to-date. Our emerging middle class scotch brands such as Rowson's Reserve, Haig and VAT 69 together are growing NSV double digit period 9 year-to-date.

Southeast Asia continues to deliver solid double-digit top line growth, driven by strong performance in Thailand, Indonesia, Vietnam and the Philippines and strong share performance. Guinness is a big brand for Southeast Asia and continues to grow strongly at mid-teen levels. Growth is particularly fueled by Indonesia, where music sponsorship platform is driving equity and supporting pricing. Southeast Asia price increases are driving 3 points of NSV gearing on Guinness at the regional level.

Travel retail Asia and our Middle East markets are growing low-single digits, held back by a decline in Asia travel retail. That business has been impacted by some softness in spend by travels, especially a reduction in spend by Chinese travelers as a result of the anti-extravagance campaign, particularly in Chinese White Spirits. A key driver of performance has been significant destocking in part by customers' route to market rationalization and customer working capital reduction. Underlying performance is stronger, and I would expect to see a rebound in performance in the second half of the calendar year.

Turning to our developed markets. As you know, Korea has been difficult this year due to 14% contraction in the traditional on trade whiskey market. This was further exacerbated in H1 for us when our competitors didn't follow our August price increase until January, resulting in some share loss. Since then, we have been regaining share and now have 40% share on a depletion basis. However, year-to-date period 9 NSV decline for Korea is minus 19%. In the medium term, category growth remains challenging.

In our other developed markets, we have seen much stronger performance. In fact, our business in Japan grew 9% period 9 year-to-date in a market where the total beverage alcohol has been declining year-on-year, and Australia continues to outperform the market, delivering 4% year-to-date NSV growth. Taken altogether, I will expect a reduced level of top line growth in F '13 than we saw in F '12, both from the region and within that, across our faster-growing markets. We will, however, see operating margin improvement driven by a combination of premiumization and economies of scale in investment in some markets.

As I look to F '14, my focus is on stabilizing our share position in Korea and getting travel retail Asia back to sustained double-digit growth. While China will remain challenging over the coming year, particularly for Chinese White Spirits, however, I am now focused on supporting Shui Jing Fang to stabilize their share position, continue our share gains in scotch and retain our momentum in reserve.

Before I take your questions, I'm going to return to the significant medium-term opportunity I see in Asia and our strategy to deliver it. As wine performance in Asia this year has been challenged, we have made progress across each of our strategic growth drivers. We have consolidated our position in scotch, growing share across the region and building stronger brands. We have continued the momentum we have in the reserve portfolio and increased our capability in the reserve space as we take our marketing to the next level. We are building a platform for selective emerging middle class participation inorganically through USL and our increased stake in Halico. And post USL, our exposure to high-growth markets will be 80% of the region. We are very well positioned to maximize the opportunity I laid out at the beginning of the call, and my confidence is high.

Thank you for listening to me. And now, I would like to hand the call over to you for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Andrea Pistaccchi from Citigroup.

Andrea Pistacchi - Citigroup Inc, Research Division

I have a couple of questions, please. Firstly on the performance in Q3. Your organic NSV growth was around 1% in the quarter. Now you've gone through the various clusters, giving us 9-month growth numbers, which is very, very useful. To what extent was Q3 impacted by technical factors? For example, the fact that last year, and I think in Southeast Asia in particular, you had very strong growth ahead of a price increase. So what would be an underlying growth number for Q3? Second question is on Southeast Asia. You said double-digit growth for the 9 months, which I believe is still good, but it implies a bit of a slowdown in the region. Now other companies are suggesting, for example, that in Vietnam, the festive season, the Tet season has been particularly disappointing, so I just wanted a bit of color on that, particularly on trading in Taiwan and Vietnam. And then, if I may, my final question is a broader question on your route to market. You've -- you were going through what you've done in terms of acquisitions, clearly, Halico, USL. More in terms of where you think you need to address your route to market maybe by strengthening your sales force or addressing your distribution, are there any countries in particular you could single out where you think you need to step up or you have plans to step up your route to market?

Gilbert Ghostine

Thank you very much for your questions. Let me start to deal with them one by one. Let me start with the first one by your -- performance in Q3. You are right, we have some technical areas here. We are lapping the price increase in Southeast Asia. At the same time, we are lapping a 10% growth in the same quarter last year, and coupled with that, the anti-extravagance campaign in China and a slower Chinese New Year. So that's mainly the explanation on Q3 softness. Moving to Southeast Asia. Southeast Asia has been very strong for us, and Tet was very promising for us. We are very excited about our performance in Vietnam. We have won Tet again with gifting this year, and we had 25% [ph] performance in Vietnam, mainly driven by the Tet season. That is critical for our business. Our Thailand business is also strong, and in Thailand, we keep gaining market share every year in scotch whiskey, where we see that we are growing our expanded whiskey and at the same time, our deluxe and super deluxe whiskey. And we grew 6 points of market share in scotch whiskey this year in Thailand. So Southeast Asia remain a strong growth for our business, not only scotch, but also with Guinness predominantly in Indonesia, Malaysia and Singapore. To go to the third question on route to market, we feel we have markets where we have a quite advantaged route to market in Asia-Pacific, and this will be markets like Australia; like Japan, now with our joint venture with Kirin; like Indonesia, with Dima, where we have a very advantaged route to market. And also, we are very excited about the potential that USL will offer us in India. So if I look at these markets, these are the markets where we have a lead in terms of route to market. Markets where I say we have room for improvement will be Korea, where predominantly we were focused on the traditional

on trade, and we see room for improvement in putting additional resources and support behind the modern on trade and off-premise.

Operator

Our next question comes from the line of Chris Pitcher from Redburn.

Chris Pitcher - Redburn Partners LLP, Research Division

Could you just quickly run through the numbers you gave on China again, specifically on Shui Jing Fang through 9 months? And if you'd split out Diageo Moët Hennessy, Diageo China, just give us a split there. And then in terms of -- you mentioned you're looking to support the Shui Jing Fang business going forward and you talked about a new brand launch. Could you just give us a bit more detail on how you see that business coming out over the next 1 to 2 years? Specifically in China, given the scale of the dropoff we saw in the third quarter, how much of that minus 40% do you think was destocking, how much of that was just underlying demand dropping off? Just wanted to get a bit more color on that.

Gilbert Ghostine

Yes, thank you, Chris, for your question. Let me start with Shui Jing Fang. First, the numbers that I've given, Shui Jing Fang delivered 10% net sales and 12% operating profit growth in calendar year 2012, so this is calendar year 2012. The first quarter of calendar year 2013, which is generally to March, that has in it Chinese New Year has been weak, and net sales and operating profits declined by 40%. Now what you need to take into consideration is that with Shui Jing Fang Q1 2012 was high, where Shui Jing Fang was up NSV at 51%. So here also, in the quarter, yes, Shui Jing Fang was down 40% driven by a weak Chinese New Year, but Shui Jing Fang was lapping also a very big Q1 last year at plus 51%. The good thing is that Shui Jing Fang in this weak quarter managed to maintain the gross margin during the period and at the same time, was nimble in launching a premium brand that had a good reaction from customers, from consumers. So the way I see supporting Shui Jing Fang in the future, Shui Jing Fang has a strong franchise in the Super Deluxe baiju, and we are less affected by because we have a smaller percentage of our business that goes into institutional sales. We will keep supporting Shui Jing Fang that has a strong franchise and developing the brand in China and outside of China. But at the same time, also we will be participating at a bigger scale at the premium segment, too, through Qian Hua Hao Chen [ph] brand that we have launched in December.

Chris Pitcher - Redburn Partners LLP, Research Division

Maybe I'd just be specific on that. The contribution to organic growth from Shui Jing Fang comes in from which point? Do you think you'll be able to stabilize that before it's fully annualizing an organic performance?

Gilbert Ghostine

I would say it will be organic as of F '14, and our ambition is to have Shui Jing Fang growing top and bottom line next year.

Chris Pitcher - Redburn Partners LLP, Research Division

So when it contributes to organic, you think it will be back in growth by then?

Gilbert Ghostine

Yes.

Operator

Our next question comes from the line of Melissa Earlam from UBS.

Melissa Earlam - UBS Investment Bank, Research Division

I have a couple of questions please on your scotch business in China. You mentioned the price increases you put through over the last 18 months. Can you just comment on the scale of the most recent price increase for your scotch portfolio, how big that was and how you see the pricing dynamics in scotch over the next year? And then could you comment a little bit on how your marketing spend is evolving in China? Should we be expecting to see better operational gearing coming through from your A&P line now? Or are you still investing at high levels for the foreseeable future?

Gilbert Ghostine

Okay. Thank you very much for your question. I will definitely answer your question specifically on pricing and better operating gearing, but also, I think, the opportunity to talk about the scotch whiskey potential in China at the same time. Let me start by sharing with you some data about the scotch whiskey category performance in China year-to-date. First, the scotch whiskey category year-to-date in China is flat in value. But the most exciting thing in the scotch whiskey category is that the Super Deluxe scotch whiskey category is growing by 18% in value term, and this is the big opportunity for us in China. We are very excited about this. Three years ago, we've decided to invest on building the scotch whiskey category credentials for the long term, and we have decided to do it top down. This is reflected in all the work that we have done in the Johnnie Walker Houses. We've opened the first Johnnie Walker House in Shanghai back in May 2011. The reaction from high net worth Chinese individuals was very, very positive, which led us to open a flagship Johnnie Walker House in Beijing, 3x bigger than the Johnnie Walker House in Shanghai. And both Johnnie Walker Houses are oversubscribed in terms of high net worth Chinese individuals who have expressed interest to visit them, and as you know, they are by exclusive invitation only. And the good news is that our Super Deluxe scotch whiskey category has been growing over 40%. Our Super Deluxe scotch whiskey business in China has been growing over 40% over the last 3 years. So that's what is exciting us about scotch whiskey in China is mainly the growth that is coming from the Super Deluxe end of the scotch whiskey category. On scotch pricing, the pricing that we have put this year, this fiscal year, varies on the variants in between 2% to 6%. And in terms of investment levels in China, we feel that we have reached scale on our investments in China. So first, we have built 2 Johnnie Walker Houses that are already operational, and we are using them as a mega-experimental marketing platform. And second, with the scale that we have today in China, not only with scotch whiskey, because you need to remember that we have several building blocks in China, we have the Johnnie Walker Houses, we have our scotch business, we have a substantial Baileys brand that is now 100,000 cases business, we have our beer business in Guinness and we have Shui Jing Fang. So with the building blocks we have in China, we feel that now we have reached scale in China, where we will start seeing better operational gearing from this market, and we started driving these efficiencies in F '13 mainly on the overhead and A&P line.

Melissa Earlam - UBS Investment Bank, Research Division

And just to clarify a couple of points. You mentioned that the scotch category was flat year-to-date in value. Do you mean for the 9 months of your fiscal year? Or do you mean for the calendar year?

Gilbert Ghostine

I'm talking for the fiscal year, and I'm talking -- the category overall, we are growing double digit. So the scotch whiskey category is flat in value, we're growing double digit. The Super Deluxe end of the scotch whiskey category is growing at 18% in value, and we are growing over 40%.

Melissa Earlam - UBS Investment Bank, Research Division

And could you just give us what your estimated market share is at Super Deluxe scotch currently?

Gilbert Ghostine

It's a difficult one to answer. But what I can tell you is 24% of my business in China is Super Deluxe scotch, so it's not a negligible share.

Operator

Our next question comes from the line of Chris Wickham from Oriel Securities.

Christopher Wickham - Oriel Securities Ltd., Research Division

Just a couple of things. Appreciate your comments about South Korea and the timing of the price increases and competition. I mean, are there any underlying sort of longer-term headwinds that we've got to be aware of in South Korea? And what sort of happens to sort of change that? And then, the second thing is just tying in what you're saying today with what we heard last week. I mean, you obviously have a higher portion of the innovations relative to your portion of sales, which I presume is because you got this sort of big spirits and a very big emphasis on Super Deluxe. I mean, that's likely to remain in place, you wouldn't sort of see any sort of some point where you get to the point where you don't need to have quite such a brisk pace of innovations. Is that correct?

Gilbert Ghostine

Chris, thank you for asking me these questions. Let me start by dealing with your question on Korea. Korea, the traditional on-trade channel where it is predominantly a winter business for us is declining, and this is structural decline, declining by 14%. I see this decline continuing over the next maybe 3 to 5 years. Not in the double digit, I would see it in the single digit though. The area that is important also to take into consideration in Korea is that outside our winter business, for our business outside of the traditional on-trade channel, so in off trade and modern on trade, our business there is growing at 19% period 9 year-to-date. So Baileys business is growing double digit. Our Guinness business is growing double digit. Our vodka business is growing triple digit, and we have gained 7 points of share this year in vodka in Korea. And this is a category that is growing at 25% CAGR. And as I said, I will put more emphasis behind the -- more than on trade and off trade by beating up my organization there and shifting more investments behind this channel, where, ultimately, I need to get to a place, maybe over the next 5 years, where I have this business 50-50, 50% coming from the traditional on trade and 50% coming from modern on trade and off trade. Today, 20% of my business is in on trade -- is in modern on trade and off trade. So that's the goal that I have for Korea. And I see the business more stabilizing next year. Let me turn to your question on innovation. Innovation continues to be a big opportunity for us in Asia Pacific and a big lever for us. We have a team dedicated on innovation, 35 people dedicated on innovation. We have very strong brands that are enabling us to innovate on this platform. And at the same time, I think one element that you need to take into consideration, that when you look at total beverage alcohol in Asia-Pacific, you're talking about 94 billion pounds of net revenue. International spirits are still at 5.5 billion, so the upside opportunity for international spirits in Asia Pacific, especially the leading brands, have a lot of upside. So -- and we are innovating in formats, in new brands to the world, and all of what we are doing here is to meet consumer needs. We are doing lots of work to understand consumer needs, consumer insights, and we come with variants and brands to meet their expectations. And the last example is our launch of Eva in Thailand where we came with a wine RTD that delivers against the female expectations in this market.

Operator

Our next question comes from the line of Edward Mundy from Nomura.

Edward Mundy - Nomura Securities Co. Ltd., Research Division

Two questions, if I may. First of all on Australia, one of your competitors pointed to increased competition on Australia yesterday. Are you seeing much of an impact here on your business? Secondly, on United Spirits, I noticed that overnight the Indian press highlighted the potential tax issue at United Spirits. Since acquisition, have you found many surprises? And could you provide an update on the progress in getting the business SPA compliant? And then finally, on India, could you update on some of the high scotch import duties and whether you're seeing any movement here?

Gilbert Ghostine

Perfect, very good. Let me start with your question on Australia before I forget the others. In Australia, we are doing well. Our spirits business is up 9% year-to-date. What is most exciting for us is our reserve business is up 40%. So we've built a dedicated reserve organization in Australia 3 years ago, and we are seeing a very strong performance. Last year, our reserve business was up 100%. This year, our reserve business in Australia is up 40%. And in scotch whiskey, we keep gaining market share. This year, in Australia, we gained 1.8 points of market share. And I think we are competitively advantaged in Australia. We have a very strong route to market. In this market, also scale matters. We have strong leading brands and at the same time, combined with good innovation capability, where we come with new packs, new formats, new price points, to meet our consumer needs in these markets. So we are doing well in Australia, and we are committed to continue doing so. On USL, so you have asked me to give you the update on where we stand. All I can tell you is that [indiscernible] and will be processed today, which will allow us to subscribe for the preferential allotment by the end of May. It is that then we could -- put us in a position where we could complete the share purchase agreement by the end of the fiscal year. On your question on tax [indiscernible], I won't be able to comment on this one because we have not closed this transaction and completed the deal for us to have the visibility to the business. On the SPA negotiation with the Indian government, we [indiscernible] is progressing positively. But unfortunately, I cannot put a time frame on this one because we have been in this place before, but they seem closer than they were in the past.

Operator

Our next question comes from the line of Pablo Zuanic from Liberum Capital.

Pablo E. Zuanic - Liberum Capital Limited, Research Division

Gilbert, just 3 quick questions. Number one, at the category level, can you talk about -- at the category level in China, talk about how the anti-extravagant campaign and the Chinese New Year -- the stronger Chinese New Year affected cognac, scotch and baijiu, just to put things in context. That's the first question. The second question, just remind us about your China business, if you can give us the numbers in terms of volume, in terms of sales. And what's unique there in terms of scotch, baijiu and other products? And within scotch, you said Super Deluxe is 24%. What's the mix within scotch, if you can do that? And also, just remind us what's inside Super Deluxe. And the third and last, if you could talk about Shui Jing Fang. I mean, you said that it was up 51% in the first quarter last year, calendar, and then 10% for the year. So it's been dropping for the last 9 months of the year, and then down 40% this quarter. So what's happening within that business and the category? And related to that, I think in the past you've mentioned that you will use Shui Jing Fang as a consolidator to try to make acquisitions in baijiu. And I'm just wondering whether that strategy is changing now given the very poor performance of that business.

Gilbert Ghostine

Very good. Thank you for asking me these questions. Let me start with Shui Jing Fang. We strongly believe in the underlying growth of the Chinese White Spirits category, and we believe that Shui Jing Fang remains a very critical pillar for our medium-term strategy in China. This -- what people need to remember that this category has existed for 2,000 years and is a core pillar of the Chinese society, and we remain very positive about the medium-term health of this category. And in the medium term, we do believe that it will retain -- it will return to double-digit growth, although unlikely to be in the 20% range, as it was previously. Also, what you need to take into consideration is that we are competitively advantaged to be operating in baijiu at this scale because we are the only international company in the world that has this position. And the Chinese call it an experiment, and we are committed to prove it right. And because we have this platform, we are also interested to look at other opportunities within baijiu. And maybe, during this period, these opportunities will be more available because the category is going through a rough ride. Now to go back to your question around the anti...

Pablo E. Zuanic - Liberum Capital Limited, Research Division

Gilbert, do you mind if I interrupt? Can I interrupt there just very briefly? Just to put in context the baijiu business, can you remind us what's the market share of that business, either of the whole baijiu category in China or of the superpremium or the category in which it competes? Just to have some idea of market share for that business.

Gilbert Ghostine

Happy to do that. With Shui Jing Fang, we have 4% market share of the superpremium baijiu category, and we are committed to doubling this market share within the next 5 years. And we see no reason, from where we stand today, with the information that we have available for us, that we won't be able to do so. Now going back to your question about the anti-extravagance campaign. As I think you've heard from conversation that we already had and when I talked about scotch in China, I see that scotch in China was the least affected category by the anti-extravagance campaign because the scotch in China is less used in gifts and entertainment with Chinese officials. The categories that are mostly used are initially baijiu and high-end cognac, and that's why we are excited about the potential of scotch whiskey. We are excited with the opportunity to connect with high net worth Chinese individuals through the Johnnie Walker House and also engagement -- engage them with the art of blending scotch whiskey. So we are excited about the potential of the scotch whiskey category in China, and we will keep investing behind it and mainly on the Super Deluxe side of the category.

Operator

Our next question comes from the line of Jamie Isenwater from Deutsche Bank.

James Isenwater - Deutsche Bank AG, Research Division

Just one quick question from me. You talked in your introductory comments about a rebound in the second half of the current calendar year, I think, in terms of China, generally. And I'm just wondering what the driver of that comment is.Are you seeing already an improvement in terms of the anti-extravagance campaign? Have you got specific initiatives that are coming through? If you can just talk a little bit about your optimism over the second half, that would be useful.

Gilbert Ghostine

Thank you for asking me this question because it helps me to clarify the point. Actually, I see China continuing to be soft until the end of the calendar year. Where I see rebounding in the second half is mainly on the travel retail in Asia, and as I said, the travel retail in Asia was affected by a combination of destocking from the trade that is more cash constrained and at the same time, decline by Chinese travelers. And so I see this correction being addressed in the second half and the business in travel retail Asia being in double digit again, but not in China. I see China remaining soft until the end of the calendar year.

James Isenwater - Deutsche Bank AG, Research Division

And just -- so just a follow-up in terms of that comment. Is that basically as far as you've got sort of visibility? Or do you expect the campaign to sort of ease off once it had a sort of full 12 months of press, et cetera?

Gilbert Ghostine

Well, look, honestly, Jamie, nobody knows. But I think if I share with you what I think, I think this campaign is good for China for the medium to long term. And that's why we will see and we will discover this together as we go forward [ph].

Operator

Our next question comes from the line of Laetitia Delaye.

Laetitia Delaye - Kepler Capital Markets, Research Division

Just one question for me. You talked about scale benefits on A&P and on overheads in China just around [indiscernible] . Could you talk a little bit about your distribution cost in China and remind us where you stand in terms of seeking penetration, Tier 1 to 2 and so on? Some of your competitors said also, that they sell to that, they would stop expanding in China. I just wanted to hear where you stood on your side and if we could still expect a few points of growth from your distribution expansion there.

Gilbert Ghostine

Yes, thank you for your question, Laetitia. Look, in China, we have 3 different route to market: one of them is for Shui Jing Fang, that is a service unit advisory business; the second one is the joint venture that we have with Moët Hennessy that markets Johnnie Walker and Hennessy together; and the third one is Diageo China Limited that we used as an innovation incubator for brands like Baileys, et cetera. We feel that the 3 different route to markets today in China serve us well because if we didn't have these organization, we would have never uncovered the growth drivers for Baileys. Baileys is today, for us, the 100,000-case brand in China and has the potential to become potentially 1 million-case brand in 10 years because we have cracked the growth drivers with Chinese females. And in terms of coverage and distribution for our whiskey business, obviously, Hennessy, we feel that this is a route to market that serves both Hennessy and Johnnie Walker well. We have access to 200 cities, and we continue to build the sales force across Tier 3 and Tier 4 cities with MHD. On operating, on leverage and efficiency, as you know, across Asia-Pacific, we have a strong track record of delivering significant improvement of operating margin over the last 4 years. And over the medium term, our pricing and premiumization strategy across Asia-Pacific of accelerating reserve while selectively participating in emerging middle class will enable us to deliver sustainable operating margin improvement, and this, obviously, will be coupled by economies of scale in A&P investment that we will benefit from like the situation we have today in China.

Operator

Our next question comes from the line of Tom Paulson.

Thomas M. Paulson - Cornerstone Capital Management, Inc.

Just 2 quick questions. Could you remind us what contribution baijiu is to the entire region in terms of NSV? And then, secondly in terms of Korea, scotch saw an unwind but several other categories is seeing very robust growth. So you said that Korea scotch would be in decline for the next 3 or 4 years. In terms of the overall Korean -- your Korean business, where do you see the growth trajectory in the next fiscal year and the following?

Gilbert Ghostine

Yes, thank you, Tom, for your question. Let me start with Korea. Korea, the decline will come from the traditional on trade, and this is where you have winter. Johnnie Walker and J&B that are more in the modern on trade will grow, with the growth that is coming from the modern on trade and the off-premise. The way I see the Korean business next year, I will see the Korean business somewhere in between flat to low-single digits, so it will be within this space. When I turn to baijiu, the baijiu business, for us, in the region will be around 7%. And when you're talking about NSV, it will be 7% of our NSV, somewhere around 120 million pounds, 130 million pounds.

Operator

Our next question comes from the line of Paul Lawyer [ph] from Integra Asset Management.

Unknown Analyst

I have a question with respect to organic volume growth. Between 2007 and 2012, the average organic volume growth in your region has been less than 1% or 4% cumulative. This is quite low given the tailwinds you have had from increasing drinking age population, GDP growth rate and premiumization. How do you explain that, please? And how do you see organic volume growth going forward?

Gilbert Ghostine

Thank you for asking this question. Honestly speaking, volume is not what we are driving. What is exciting for us is to drive value and mainly grow our scotch whiskey category, the premium end and at the same time, drive premiumization. So my strategy was very clear. As I laid it out from the beginning, the strategy has not changed: First, winning in scotch. We are the leading player in scotch whiskey. Scotch whiskey represents almost 50% of international spirits in Asia-Pacific. We lead the category on standard, deluxe and Super Deluxe, and that's where we are driving premiumization in the category. And we have proven, over the last few years, that we could drive growth in price points that the scotch whiskey category has not seen in the past. So the focus that we have is mainly scotch, premiumization. And the premiumization is not only scotch whiskey, is in vodka, is in rum, in all the categories where we compete. And the third one is participating in emerging middle class in India and in Southeast Asia, and we have done this through acquisition. Be it through Halico in Vietnam or USL now in India, that is giving us a leading position in this market.

Unknown Analyst

If I may follow up, if you have 57 million people that are anchoring the drinking age per annum, it must generate volume growth for the business. Isn't it?

Gilbert Ghostine

Well, you are right. We want them to drink better, we don't want them to drink more. And that's why on our scotch whiskey journey, we are recruiting our consumers to the higher end of our business. And let's keep in mind that if you look at scotch and cognac, you don't have unlimited quantities here. The quality is always what we are selling today in Asia. We've laid it down 12 or 15 years ago in Scotland, so it's not like you add the 18 years old or 21 years old, these were laid down 18 and 21 years ago. So the good thing about scotch whiskey, we have high barriers to entry, and with the position we have with Johnnie Walker being the leading international spirits brand across all companies -- or categories in Asia-Pacific, it gives us a huge edge on the competition. And it's all about trading up and working the range more than selling more cases. I prefer to wait, not to sell the 5-year-old cases today and sell them in 7 years at 12 years old price points.

Operator

Our next question comes from the line of Olivier Delahousse from Natixis.

Olivier Delahousse - Natixis S.A., Research Division

I have 2 questions, one regarding back to India on United Spirits. Can you give us any comments to your plans regarding increasing your stake moving forward? The mandatory tender offer, obviously, wasn't contort [ph] due to the decision not to increase the price of the offer. So you mentioned that with all due prudence, you're seeking to reach the 27%, let's say, complete the preferential allotment as well as the share purchase agreement by the end of June. That would put you at 27%. Can you comment as to your plans related to increasing that? And secondly, on the scotch market in China, you seem to be gaining a lot of share overall in the category, as well as in the premium or Super Deluxe category. Can you -- what is wrong with the competition in your view? Have they taken wrong decisions regarding product positioning? Or how can you be gaining so much share there?

Gilbert Ghostine

Thank you. Let me start with your question on scotch in China. We feel very proud and excited about the performance of our scotch whiskey business in China. I think what is important in China is that the way we had been investing and building the category, we have been pioneering in doing this, no one else in the industry has ever done what we have done, build these Johnnie Walker embassies in Shanghai and in Beijing and build the category top down. So that's where we are differentiated on what the competition is doing in building the scotch whiskey category in terms of consumer engagement and establishing the brand and the franchise for the long term, that's one. Second, I think this is where the Moët Hennessy Diageo organization is working for us. Because now where things are getting possibly faster in China, you have 2 teams. You have a Diageo team focused on scotch and putting all their brainpower into building Johnnie Walker. At the same time, you have a very capable Moët Hennessy organization and people putting their brainpower behind Hennessy. So you have 2 big hands, hand in hand working to make the Moët Hennessy Diageo and Hennessy and Johnnie Walker successful in China, and this potentially is giving us an edge. That's on China. On -- you asked me question about shareholding.

Olivier Delahousse - Natixis S.A., Research Division

Sorry, just on China, there is a follow-up, please, on you mentioned that one of the pillars also is addressing the middle classes. To what extent -- or rather, in terms of timing, when do you think it might be appropriate to consider launching there maybe cheaper versions of your scotch? I'm referring to brands like Black and White or such as to capture also these people who will never be able to afford your higher-end products as part of that strategy?

Gilbert Ghostine

Yes. Look, the emerging middle class is not a priority for us in China. I think our predecessors did an amazing job that the start -- the entry point in scotch whiskey and cognac is VSOP and Johnnie Walker Black Label 12 years old, and we want it to stay this way. So in scotch whiskey, our entry point is 12 years old, and we will continue driving the category upwards. To go now to your question on shareholding in USL. We are very pleased with where we are, and anything above 25.1% in USL gives us the same control as the majority would have given us through our voting and other government arrangements with the USL organization. So we are very comfortable with where we are. Obviously, we can't say more about implementing investments in USL. We will be in a position to comment more on this one after we close the transaction and we start working hand in hand with the USL management to grow this business.

Operator

We have time for one further question, and that is from Chris Pitcher at Redburn.

Chris Pitcher - Redburn Partners LLP, Research Division

Just on the India point, just a very quick point. If it still doesn't complete this financial year, does that mean the voting arrangement runs through to fiscal '19? And then finally, I don’t know if I missed this, you did say continued margin expansion at the group level. You did over 100 basis points of margin growth in H1. Are you therefore implying that you will do more than 100 basis points of margin growth in the second half despite a limited pickup in sales growth in the fourth quarter?

Gilbert Ghostine

Can you ask the question again because I'm confused? You talked about India and margin for -- USL and margin.

Chris Pitcher - Redburn Partners LLP, Research Division

The margin question is for the group level. So you say you expect continued momentum in margin growth for the group, and you did over 100 basis points in the first half. Are you saying that for the Asia region, we should expect over 100 basis points of margin expansion in H2? And then specific to the India point, that if it doesn't close this fiscal year and closes at the beginning of fiscal '14, the voting arrangement would therefore carryforward until June 2019, if I've got my math right. Just to confirm that.

Gilbert Ghostine

We are comfortable with where we are in USL, so with all the arrangements we have. First, we are comfortable that we will close this transaction by the end of June. But even if it slips beyond end of June 2013, we have no problem based on the arrangements we have. So that's on USL. On the margin, yes, we will continue to deliver, this fiscal year, operating margin with the order that we have delivered in the first half in Asia-Pacific. And I think we have a strong track record in delivering on this one in this region over the last 4 years.

Operator

I'll return to conference to you.

Gilbert Ghostine

Okay, fantastic. Look, thank you very much, everyone, for joining me on this call. I hope I managed to convey my excitement about the potential that we have in this part of the world, and the future success that we could drive for this business for Diageo and our partners in Asia-Pacific. Thank you for listening to me today, and have a good day. Bye-bye.

Operator

This now concludes today's conference call. Thank you for attending. You may now disconnect your lines.

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