Diageo and SABMiller climb on merger talk

Shares in Diageo and SABMiller continued to rise on Tuesday on speculation that the companies will merge, creating a drinks group worth over £100 billion and putting paid to a rumoured bid from drinks giant AB Inbev.

The Peroni and Grolsch-maker SABMiller, the larger of the two with a market capitalisation of around £54 billion, is said to be contemplating a deal with Smirnoff and Baileys manufacturer Diageo to ward off AB Inbev which could be interested in using Diageo's beer business as a platform for further access to Africa.

The companies have previously worked together on corporate deals, such as in 2007 when they looked at carving up Scottish & Newscastle.

Diageo shares rose 1.2% to 1,888p in early trading from a 52-week low of 1,768p, while SAB was up 0.15% to 3,394p from a 52-week low of 2,661p.

The combined businesses would generate annual free cash flow of around £5 billion, according to analysts at Barclays. A deal would allow SAB to stymie AB Inbev's approach and access Diageo's Guinness beer business which could produce cost savings of £430 million from using SAB's global beer distribution network alone, in addition to the usual synergies.

Diageo has also been building a stake in United Spirits for access to India, the world's largest whisky market in terms of volume, in which it sees an opportunity to circumvent the country's strict rules on imported goods.

If successful, United's network would also allow Diageo to distribute its own beverages and high margin premium spirits, such as Johnnie Walker whisky and Smirnoff vodka.

India's alcoholic beverage market is estimated to be worth upward of $16 billion (£9.34 billion) and growing as young Indians develop western tastes.

If both deals go ahead, there will be a lot for management to chew through. Diageo has already stated that the integration will be complex, and that United won't make an impact on its earnings until 2016.