Market Report: Diageo loses fizz after Merrill cuts estimates

Business at Diageo is not going as well as you may think. That was the message from Merrill Lynch to its clients yesterday after a meeting with the drinks giant's management. And it did no favours for Diageo's shares price, which dropped 17p to 737p on the news.

Business at Diageo is not going as well as you may think. That was the message from Merrill Lynch to its clients yesterday after a meeting with the drinks giant's management. And it did no favours for Diageo's shares price, which dropped 17p to 737p on the news.

The US broker downgraded its earnings forecasts in the wake of the meeting ­ and this particularly unsettled investors. Many were expecting upgrades to consensus estimates in the months ahead.

The broker now expects little if any earnings growth from Diageo over the next two years. And it believes others analysts in the City will soon have to moderate their expectations. "Given our new estimates are derived following conversations with Diageo's management, we imagine that others will need to downgrade accordingly," it warned.

So what has changed at Diageo? According to Merrill Lynch, the majority of investors have been of the view that the company would benefit from the recent strengthening of the US dollar. It notes that despite the rally in the value of the American currency, the company's guidance for the impact of foreign exchange transactions has not changed for both this year and next.

Merrill also warns that those hoping for £500m of share buybacks from the company next year will be disappointed. It believes buy-backs are likely to be nearer £300m.

Meanwhile, it seems that Diageo continues to face a tough trading environment in the UK as the pricing pressure on a number of its brands remains intense. "The pace of margin expansion is likely to be slower in the UK than we had expected," cautioned Merrill. Elsewhere in the sector, Allied Domecq fared much better, gaining 4.25p to 450.75p, as investors continued to buy into the company in the hope of a bid.

News of a takeover offer for Celltech, up 111.5p to 542p, from Belgian's UCB, sent traders hunting for the next bid in the sector. SkyePharma gained 3.25p to 53.75p, Acambis improved 8p to 308p, Alizyme put on 5p to 127.5p and Protherics added 2p to 49.25p. ML Laboratories was also in demand, rising 1.5p to 18.25p, as it emerged that David Kirch, the Jersey-based property tycoon, had upped his stake in the group. Mr Kirch picked up 500,000 shares via his Channel Hotels & Properties investment vehicle, taking his total holding in ML to 2.6 per cent. The most recent gossip surrounding the biotech group has been of a major licensing deal for its Innovata Biomed inhalers division.

The FTSE 100 index made up some of Monday's losses, gaining 11.4 points to 4,414.4. The FTSE 250 rose a more impressive 60 points to 5,943. Vodafone improved 1.25p to 135p as Lehman Brothers was heard moving its clients into the stock ahead of next week's full-year earnings from the mobile phone giant. The US broker believes Vodafone shares will head higher after the figures and tipped Arun Sarin, the group' chief executive, to herald a strong performance in the post-results roadshow of the City.

Pennon was not so lucky, giving up 18p to 718p, as a downgrade by Cazenove took its toll on the utility. On Monday Pennon shares soared after news of a bid from Terra Firma, the private equity house run by Guy Hands. Terra also said it was looking to buy certain assets belonging to Shanks, Pennon's waste disposal unit. "We have doubts about the seriousness of the Terra Firma approach as it seems to have been made only after Shanks had rejected Terra's advances," the broker said.

Topps Tiles added 9.5p to 144.75p on talk that next week's interims would easily beat market forecasts. Analysts may have to upgrade their expectations for the full year in the wake of the numbers. As it stands, the market expects profits of £28m from Topps for the year.

Plasmon retreated 6.5p to 186p amid nervousness about the group's interims later this month. Market professionals fear the weakness of the dollar over the past year could cause Plasmon's numbers to disappoint.

Impax Group, the financial adviser, added 0.25p to 7.5p after its chairman, Keith Falconer, picked up 1.2 million shares at 7.2p. His move followed interim results from Impax at the start of the day that showed narrowing losses, which were accompanied by an assurance from Mr Falconer that the company has now turned the corner and is heading for profitability.

Inveresk gave up 0.75p to 14.5p on talk the paper maker is facing tough trading conditions on the continent.

Finally, investors can expect Hemisphere Properties, unchanged at 4.62p, to announce the acquisition of more than £60m of property today. Of this, £36m will be commercial property in China's Gansu Province. At the time of Hemisphere's admission to AIM, in August, the company had a property portfolio worth just £1m.