Archive | September, 2010

Hearings to start on HR 5034

The Fat and Lazy Wine Distributor Full-Employment Act of 2011.

Hypocrisy of Opposition to Direct Shipping

Inter-state shipping of wine to consumers, usually called ‘direct shipping,’ is an enormous controversy in this Age of the Internet, and has been a simmering controversy for thirty years. The latest effort is a bill (HR 5034) introduced to Congress by William Delahunt (D-MA) with 139 co-sponsors. Judicial Committee hearings begin 29 September 2010. Eventually the matter will be settled by the Supreme Court. Meanwhile numerous politicians collect campaign donations from big wholesalers in many states by carrying water for them in the form of legislation against Direct Shipping. “Inter-state shipping of alcohol facilitates under-age drinking,” is their common refrain. What a crock! Air-freight shippers require an adult signature for alcohol deliveries. I’m not sure gun shipments can say the same. How many sixteen-year-olds do you know who buy alcohol by paying $30 or more for a bottle of wine, and then waiting a week or two for delivery?

U.S. Wine Laws

Let us start with the legal issue. When Prohibition ended in 1933, Congress granted to the individual states a right to regulate sale of alcohol within each of their borders. That led to a bewildering welter of different laws. Some states became ‘Control states,’ much like the Canadian provinces, where sale of alcohol was restricted to state-run stores. Pennsylvania would be an example today. The attraction is obvious: state stores generate a huge amount of income for the government. And state stores don’t have to be run by the governor’s idiot nephew. In the province of Ontario, Canada (read Toronto), the L.C.B.O. has some of the most knowledgeable wine people in the world serving a well-developed community of connoisseurs. Eastern Pennsylvania (read Bucks County and Philadelphia) by contrast, has turned the wine buying public into commuters. Some of the best retail wine stores in the world have operated for decades just across the Delaware River in various hamlets of New Jersey.
     Other states chose an alternative and became ‘Franchise states.’ Georgia is an example. That means any producer or importer seeking to sell their wine in Georgia must appoint a distributor who then holds the ‘franchise’ for the brand in the state. Whether they ever sell any product or not! Getting one’s ‘franchise’ back from an underperforming distributor in Georgia is next to impossible. Other states went for ‘local option,’ which means small geo-political entities can decide for themselves whether or not to allow sale of alcohol. Some 10% of Texas, for instance, is dry. Visit Lubbock sometime. Note the gigantic liquor stores all clustered like car dealerships next to the freeway south of town. That’s the county line. Lubbock, the college town home of Texas Tech, is dry. In other parts of Texas, like Houston, holders of a second class alcohol license must buy the alcohol they resell from holders of a first class license: a kind of entrenched alcohol feudalism.

Why Direct Shipping Shouldn’t Threaten Anybody

Throughout this quagmire of different regulations and practices, one general principle is dominant, the Three-Tiered Distribution System (hereinafter ‘TTDS’). Producer (or Importer) pays a Federal excise tax upon sale of the product to an in-state Distributor (sometimes called Wholesaler). That’s tier #1. Then the Distributor pays a State excise tax upon sale of the product to a Retailer (or Restaurateur). That’s tier #2. Finally the Retailer pays a sales tax upon sale of the product to the Consumer. All three tiers pay various licensing fees.
     Direct Shipping seeks to eliminate tiers #1 and #2 from this chain, and to let Producers perform #3 themselves. Amongst marketing savants this process is called ‘disintermediation.’
     The concept is particularly practical when applied to wines costing more than $20 per bottle. Spirits, major-brand beers, and mass-produced inexpensive wines work just fine through TTDS. Those products seek consistency from bottle to bottle. They are produced in large quantities, and they attempt to influence consumers through widely disseminated advertising. Mass-produced products also account for way over 95% of the alcohol volume sold in America. Expensive, limited production wines are an entirely different story.
     Craftsman-level wines seek to emphasize taste differences from vineyard to vineyard, and from vintage to vintage. Hence they need to convey a much larger volume of information to consumers than do mass-produced alcoholic beverages. TTDS does not transmit information well. Much like the parlor game where a secret is whispered into a succession of ears, a Producer’s message is seriously diminished and mangled by the time it emerges from any TTDS chain. This ‘product story’ is an essential ingredient for craftsman-level wines. Producers need to communicate it directly to the end-user. Bottle and story need to arrive together.
     Of course the other perceived effect of disintermediation is a reduction in distribution chain cost. But because that cost is not a flat rate, but is traditionally calculated in the alcohol Trade as a percentage of some starting figure (i.e. the Distributor Price from the Producer gets marked-up a percentage by the Distributor, and that price in turn gets marked-up a percentage by the Retailer), it only becomes attractive enough to eliminate when it outweighs the more flat rate cost of physically delivering Goods directly to a Consumer. That desirability begins to manifest itself at some point between a retail store shelf price of $15 and $20 per bottle of wine. Let me demonstrate:
      On a bottle of wine retailing for $10, the Wholesale Price to the Local Retail Store is around $6.65, and the Winery price to the Distributor is around $5.00. The Winery could sell that same bottle directly to the Consumer at the Wholesale Price ($6.65), and pocket the $1.65 that otherwise would go to the Distributor, but the $3.35 savings to the Consumer would be meaningless if a $15 UPS charge were subsequently applied to deliver three bottles in a protective shipping carton.
      By contrast, on a bottle of wine retailing for $20, the Wholesale Price to the Local Retail Store is around $13.30, and the Winery price to the Distributor is around $10.00. The Winery can sell that wine directly to the Consumer at the Wholesale Price ($13.30), realizing a bump to Gross Revenue of $3.30, while the $6.70 per bottle savings to the Consumer more than compensates for $15 UPS charge on a delivery of three bottles.
      The Direct Shipment cost to the Consumer on three bottles of $10 wine would not be attractive compared to the TTDS price that Consumer would expect in a Retail Store. It would only make sense if the wine were not available in a Local Retail Store, and the wine were dramatically better than alternative wines the Consumer could find in a Local Retail Store. Remember, there’s no waiting period after a purchase in a Local Retail Store.
     Direct Shipping simply does not impact the vast majority of wine gallons sold in America! The price::benefit ratio of Direct shipping only starts to become desirable at something above a retail store shelf price of $15 per bottle. Above $20 per bottle it definitely starts to make sense. At $50 per bottle, serious cost savings are a reasonable expectation on the part of both Producer and Consumer. And while those bottles represent a large number of small, family Producers in America, those bottles are a miniscule percentage of the total wine volume sold throughout the country today.
     It costs small California wineries a considerable amount of hard-found capital to create a bottle sale in their tasting rooms. Clearly they should feel justified expecting the legal right to contact that purchaser a few months down the road to politely inquire, “Would you like to buy another one?”

Further Info on HR 5034

For more information on the cynical HR 5034, now pending before the U.S. Congress, see Stop HR 5034 on Facebook. Or view the Joint Letter sent recently to Congress from California’s Wine Institute, the U.S. Brewers, and the Distilled Spirits Council.

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