Three Faces of Wine Strategy: Porto Perspectives

If you walk along the river in Vila Nova de Gaia, just across the Douro from beautiful Porto, you are in the right place to visit the famous Port lodges and sample different types and styles of Port wine. If you dig a little deeper, you can also learn something about the diversity of successful wine industry strategies that these historic firms have deployed.

I’m interested in Portuguese wine because it has experienced rising sales here in the US market while some other countries have struggled and lost market share. And I am interested in wine industry strategies because, as I wrote here last week, the global wine market seems to have plateaued and so everyone wants to know the secret to growth in a stagnant market.

Herewith, for your consideration, three case studies inspired by an imaginary Vila Nova de Gaia excursion.

Taylor’s: Tradition and Innovation

Our first stop is Taylor’s, one of the most famous names in Port wine. Fortified wines, including Port wines, are not the easiest products to sell these days, but Taylor Fladgate, which has been in this business since 1692, is committed to Port and Porto. The Fladgate Partnership’s portfolio of Port brads is broad and deep, including Taylor’s, Fonseca, Croft, and Krohn.  No unfortified wines are produced. This focus on its traditional business, however, doesn’t rule out innovation and entrepreneurial endeavors.

Late Bottled Vintage (LBV) Port was a Taylor innovation, for example. I have argued that LBV Port helped rescue and revive the Port trade in the 1970s by giving consumers the experience of Vintage Port without the expense and bother. Taylor’s innovation continues today with its canned White Port spritz, Chip Dry & Tonic, a delicious and refreshing addition to the RTD market that may help consumers see Port wine in a new light.

Taylor’s commitment to Port and Porto is also expressed through its investment in the region’s wine tourism industry. First came the fantastic Yeatman Hotel high on the hill overlooking the Douro next door to the Taylor’s Port lodge. The hospitality investment continued with the redevelopment of luxury Hotel Infante Sagres in central Porto and the Vintage House Hotel in the Douro Valley at Pinhão.

That’s really himpressive … but wait, there is more! The the area of warehouses reaching down to the Douro from Taylor’s were developed into Porto’s new wine tourism destination — the incredibly ambitious World of Wine. Sue and I haven’t visited WoW yet, but we look forward to exploring its many varied experiences when we get back on the road again.

Bravo to Adrian Bridge and The Fladgate Partnership for their bold strategy of doubling down on Porto and Port wine.

Symington: Porto and the Douro

If you continue down the pathway along the Douro and up the hillside a few blocks you will come to Graham’s, part of the Symington Family Estates, with its historic Port lodge and destination restaurant, Vinum.

Symington represents a second face of wine industry strategy here in Porto. They are all-in on Port wine, of course, with four famous brands: Graham’s,  Dow’s, Warre’s, and Cockburn’s. But Symington’s reach extends beyond Port to Portuguese table wines including Quinta do Vesuvio, Quinta do Ataíde, Quinta da Fonte Souto, Altano, and Prats + Symington, a partnership with Bordeaux’s Bruno Prats. All the wines but one come from the Douro Valley. Quinta da Fonte Souto is in Alto Alentejo, which is Symington’s first foray outside of its home region.

Sue and I recently enjoyed a bottle of P+S Prazo de Roriz, a red wine made from younger Douro Valley vines that harmoniously balances fruit and minerality — a seriously attractive wine that punches above its  $20 price point.

Although the Fladgate Partnership and Symington Family Estates have taken different pathways in wine industry strategy, they share a strong commitment to sustainability. Adrian Bridge is a driving force for climate change action in the wine industry and beyond, for example, and Symington is one of the wine world’s most recognized Certified B Corporations.

Sogrape: Portugal Goes Global

As you walked from Taylor’s to Graham’s along the Douro you passed two noteworthy Port lodges that are part of the Sogrape family, Sandeman’s and Porto Ferreira (Offley Port is also a Sogrape brand). Sogrape, Portugal’s largest wine producer, is an important force in Port wines and in wine generally. It is the producer, for example, of Mateus Rosé, which was once the best-selling imported wine in the US market and remains incredibly popular around the world.

Sogrape’s strategy extends across Portugal’s wine regions from the Douro north to Vinho Verde and south to the Dao and Alentejo. Sue and I are fans of the Casa Ferreirinha Douro Valley wines, including especially the Quinta da Leda, which we love to pair with duck rice.

Sogrape’s strategy differs from both the Fladgate Partnership and Symington family models in that, while its base in Porto and Port is strong, its vision extends far beyond the Douro. It is, in fact, a global vision, as Sogrape’s extensive portfolio extends to Spain (including the famous LAN wines among others), Argentina (Finca Flichman), Chile (Chateau Los Boldos) and New Zealand (Framingham).

It may be surprising that a wine company from a relatively small country should have such a global reach, but remember that this is Portugal and globalization is in its DNA. The Portuguese practically invented globalization and their Port wines are a global icons. Sogrape, with its Mateus Rosé history, seems well prepared to ride the global wave.

Three Faces of Wine Strategy

So what are the take-aways from this wine strategy tour of Vila Nova de Gaia? The first is that there is a lot going on in Portuguese wine these days. If you haven’t thought seriously about Portugal and its wine recently, it is time to give it some attention.

The second point is that there are many routes to success in today’s market, something that is true in Portugal and elsewhere, too. A key seems to be to identify a comparative advantage and make the long-term investments needed to realize potential gains. Taylor’s has invested in expanding Port wine’s reach while investing in Porto and the Douro as a destination –leveraging the power of place. Port and Porto are inseparable — expanding the appeal of one necessarily raises the profile of the other.

The Symington family have adopted a strategy that focuses on the vineyards and communities — the social and physical terroir, with wines that reflect the region and investments that promote social welfare.

Finally, Sogrape leverages the local-global nexus, thinking global and acting local in a very Portuguese tradition.

What do these firms have in common besides Port and Porto? Well, they are all three family businesses that think in generational terms.  That long-term perspective makes it possible for the sort of strategies we see here to succeed.

Global Wine Trade: Headwinds, Obstacles, Distortions

Wine has become one of the world’s most globalized consumer goods. The OIV estimates that 45% of all wine crosses at least one international border on its way from producer to consumer. And that’s just the finished product. If we examine the whole product chain, to include bottles, corks, and so forth, wine’s globalization index would be even higher.

So it is significant that wine today faces headwinds, obstacles, and distortions that make global wine a risky business. Taken together, these forces impact every part of the wine trade.

Headwinds

The covid pandemic has created new headwinds and magnified some existing ones that make global wine trade more difficult and uncertain. On-premise sales are critically important to some segments of the wine industry, for example, and the recovery from lockdowns  is slow, uneven, and uncertain. Bars and restaurants have struggled to refill to capacity in many cases, even where rules permit this, because of both uneven response by wary consumers and difficulty attracting and retaining service sector workers.

Many wineries invested time and effort into establishing alternative paths to market during the pandemic and now they must wonder whether direct-to-consumer and other strategies will continue to be as critical to success and what aspects of these efforts should be expanded in the future. There are a lot of puzzle pieces to put together as we move into the new normal and the picture that they create won’t be the same as it was pre-covid.

Obstacles

Wine globalization has been powered by favorable trade policies and efficient transportation logistics over the last 50 years, so it is significant that obstacles have appeared in both areas.  US tariffs, Chinese tariffs, Brexit uncertainty — the list of trade policy factors that create barriers to particular wine flows is much longer than in the past and some counties (Australia, I’m looking at you) have been hit particularly hard.

But an even bigger obstacle for wineries not directly affected by trade policy has been the breakdown of ocean shipping logistics, which moves bulk wine, packaged wine, and intermediate goods such as bottles and corks. A world-wide shortage of shipping containers is to blame and big increases in the costs of shipping a container is one result. Port congestion, which adds extra days or even weeks and much uncertainty to shipping schedules, is an unwelcome side effect.

Distortions

Finally, foreign exchange rates have introduced or magnified distortions in the relative prices of wine on international markets. The graph above shows how the US dollar (USD) has fallen relative to the Euro in the pandemic period.  The dollar has recovered a bit of its value recently, but it is hard to know if this rise can be sustained. In general, a falling currency encourages exports and discourages imports. The impact on US wine exports has been muted, however, by the several factors noted above including especially demand-squelching pandemic lockdowns in target markets.

The dollar’s fall came as a bit of a surprise, as I noted in a column about a year ago.  Now there is another surprise. The Economist newspaper reports that the dollar is still over-valued by over 10 percent against the Euro!

The Economist released its most recent Big Mac Index report last week, which uses international fast food  hamburger price differences to estimate the relative purchasing power of various currencies. This might sound like a foolish exercise, but the Big Mac Index has a pretty good track record as a general indicator of over- or under-valued currencies.

The June 2021 Big Mac Index finds only four currencies over-valued relative to the USD, so the currency distortion would favor US wine export sales. Significantly, Sweden (+9.6%) and Norway (+11.5%) are in this group and they are both importanr potential export markets for US wine.

The list of currencies that are under-valued compared to the USD is long and includes a number of significant wine producing countries that gain an advantage from the exchange rate mis-alignment.

  • Euro area -11.1%
  • Australia -15.2%
  • New Zealand -15.7%
  • Argentina -30.2%
  • Chile -30.3%
  • China -38.3%
  • Moldova -48.8%
  • Romania -55.5%
  • South Africa -59.6%

Several of these countries are important wine exporters and so their under-valued currencies give them a cost advantage in competition for US sales. Global wine has always been a tough business. The current combination of these headwinds, obstacles, and distortions make the global wine trade particularly challenging as we head into the fall.

Kiwi Malbec? Signature Wines & the Dutch Disease Effect

Some people like to define wine regions by their signature grape varieties. New Zealand = Sauvignon Blanc. Argentina = Malbec.  You know what I am talking about. So what should you think of a Kiwi Malbec like the one shown here? Read on to find out.

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What do you think of when I say Malbec? Well, there are lots of things that could come to your mind, but I expect that Argentina or Mendoza are at or near the top of your mental list for this term. Malbec is Mendoza’s signature wine grape and it tends to dominate the region’s image.

Signature Wines & the Dutch Disease

This is convenient from a marketing standpoint — it is good to stand for something in the world’s congested wine markets. Here in my home state of Washington, for example, we make great wines from many different wine grapes and we sometimes yearn to have a defining variety like Argentina or our neighbor Oregon with its famous Pinot Noir.

But signature wines have a downside, which I have compared to an economic condition called the Dutch Disease. Sometimes when one sector of an economy becomes particularly successful the result isn’t a tide that lifts all boats, but rather a sort of whirlpool that drags the other sectors down.

Thus Argentine Malbec’s great success makes it more difficult for other interesting wines to get attention. Personally,  I always look for Argentine Cabernet, Semillion, Cab Franc, and Syrah, for example, and there are some wonderful Chardonnays and high-elevation Torrontes, too. But I imagine they are tougher to sell than good old Malbec. The signature wine rises high, but can cast a deep shadow.

New Zealand and the Dutch Disease

Now consider New Zealand wine. What comes to your mind? Chances are that Marlborough Sauvignon Blanc comes first, with Pinot Noir from Central Otago on the list for many. I’m a big fan of these wines, but the Dutch Disease dilemma applies here, too. Other wines and other regions don’t get the attention (Rodney Dangerfield would say they don’t get the respect) they deserve because of the signature wine phenomenon.

So what would you think about a Hawke’s Bay Sauvignon Blanc or a Gimblett Gravels Malbec? Well, I hope your interest would be piqued at the very least. Sue and I visited the Hawke’s Bay area (think Napier on New Zealand’s north island) several years ago, where we were fortunate to meet with Steve Smith MW of Craggy Range. He helped us understand this interesting region and introduced us to the Gimblett Gravels’ rocky dry river bed terrain that makes me think of alluvial fan terroirs such as To Kalon in Napa Valley or The Rocks District of Milton-Freewater in Oregon. Hawke’s Bay is warm enough to make great wines from Bordeaux grape varieties (of which Malbec is one), which are unexpected for those who haven’t fully explored New Zealand’s varied wine scene. The Gimblett Gravels is a special case within that special case. Fascinating.

Now Hear This!

Which brings us to some wines we’ve been for fortunate to be able to sample during this pandemic period. Daniel Brennan is an American who came to New Zealand in 2007 with the intent to focus on Pinot Noir. But somehow the people and terroir of the Hawke’s Bay region captured his attention, which is something Sue and I can appreciate. We stayed with a modest grower/winemaker family in the Esk Valley during our visit and got a deep sense of the people and place.

Brennan makes 11 different wines under the Decible and Giunta labels (including a Pinot Noir from Martinborough). We had the opportunity to sample three of them: the 2019 Decibel Crowethorpe Vineyard Hawke’s Bay Sauvignon Blanc, 2020 Giunta Malbec Nouveau, and 2017 Decibel Gimblett Gravels Malbec.

The Sauvignon Blanc broke through some of the stereotypes about Kiwi Sauv Blanc, with more savory notes than you might expect. The Malbec  Nouveau was just what you want from a young wine like this: fruity, juicy, easy to drink and enjoy. The Gimblett Gravels Malbec featured a line bright acidity that tied together fruit and tannins in ways that evolved in the glass over time. The acidity made it different from most of the Argentina Malbecs we’ve tried.

Brennan makes a number of wines that run counter to the signature wine stereotype, but his passion for Pinot Noir is undiminished. He hosts a popular podcast called Vintage Stories that spreads the word about Kiwi Pinot and the people who craft it.

I’m a Pinot fan, too — and I hope to taste Brennan’s Martinborough wine at some point — but I enjoy these Hawke’s Bay wines because they are distinctive and because they challenge the signature wine stereotype and the Dutch Disease that can go with it. The Gimblett Gravels Malbec forces you to re-think the conventional wisdom about New Zealand … and about Argentina, too, I hope.

Wine Future 2021, Idaho Wine, The Unified: Wine Economist World Tour

The Wine Economist World Tour is back on the virtual road in 2021. We hope for the return of in-person events before too long, but until that’s possible virtual events will do very well. Here are the first three stops for the new year.

The Unified: State of the Industry

The Unified Wine & Grape Symposium (January 26-29, 2021) is going virtual this year, including both the seminars and the amazing trade show.  It will be quite an experience.

The program addresses a host of important issues, with special attention to wildfire threats and diversity and inclusion initiatives. Several sessions analyze changing wine market conditions including the State of the Industry session on Wednesday, January 27.  Danny Brager, Glenn Proctor, Jeff Bitter, and Jon Moramarco join me on the virtual panel.

Idaho Wine Commission: State of the Industry

The Idaho Wine Commission’s annual meeting goes virtual this year, too, with half-day sessions on February 22-23, 2021. This is the third time I’ve spoken at this event and I am sad that I won’t be able to visit Boise in person to refresh friendships, exchange insights, sample great Idaho wine, and enjoy Boise’s amazing Basque food scene.

I will anchor the first day’s program with a special take on the State of the Industry. Greg Jones, the world’s foremost viticultural climatologist, will speak the following day. Economic change, climate change. Food for thought for Idaho’s dynamic wine industry.

Wine Future 2021: Challenges & Solutions

WineFuture 2021, an incredibly ambitious international event, will happen on February 23-26, 2021. This big international conference boasts an all-star cast. I will lead a panel on the economics of the crisis on February 23.

The folks behind Wine Future 2021 think big. The theme of the first day is the four crisis challenges facing wine (and the world): climate, economy, pandemic, and inequality. Day 2 focuses on solutions and sources of inspiration. The final two days look to the future from many different points of view.

Wine Future 2021 has been hosting a pre-conference webinar series since November to get ideas in the air and discussion flowing. You can view previous webinars (including one I did with Rabobank’s Stephen Rannekleiv) and register for upcoming broadcasts on the Wine Future 2021 Webinar home page.

Wine, Tariffs, & Globalization

 

The wine trade has always been as global as transportation technology and political economy have allowed. So it is no surprise that the economist David Ricardo sought to make his theory of international trade based on comparative advantage clear and obvious by choosing an example that all his readers would appreciate — Portuguese wine exchanged for British wool.

A World of Wine

If you want to get a sense of wine’s global reach today I suggest you visit your local upscale supermarket or wine shop and survey the landscape there. I had my university students do this back in 2011 and reported the results in a Wine Economist column.  The local Safeway store carried about 750 wines from a dozen different countries back them, which caught the students by surprise. The store has expanded its wine wall since then, with even more offerings, and the supermarket across the street has an even larger set of wine choices. Globalization delivers a world of wine to your doorstep!

Global trade in wine, both bottled and shipped in bulk, is incredibly important to wine producing countries. The largest producers — France, Italy, Spain, Portugal, Argentina, Australia, New Zealand, Chile, South Africa — could not possibly sell all the wine they produce in their domestic markets. The collapse of global wine trade would be a global wine catastrophe.

And the trade in wine isn’t the whole story. Global markets exist for corks, capsules, winemaking services (think “flying winemakers”), and bottles, too. We’ve visited wineries in South Africa, for example, that import glass bottles from Europe and then export the finished wine to the UK, China, and the US. That’s globalization! Chinese glass has an even broader global reach.

Peak Wine Globalization?

By some measures globalization generally — taking into account goods, services, and people — reached a peak about the time of the global financial crisis and has since shrunk as a percentage of global GDP. Global wine resisted the de-globalization trend, however, but perhaps now is catching up.

Some of the macroeconomic drivers of wine imports and exports such as rising disposable incomes and stable exchange rates have been impacted by the Covid recession. And of course Covid restrictions and behavioral changes have negatively affected both on-premise wine sales and travel and tourism vectors, too.

There are attractive pockets and niche markets for wine sales all around the world and smart producers have sought them out. But the three big wine targets in recent years have been the UK, US, and China and each of these has become more challenging.

The UK issue is Brexit and it is shocking that there is so much uncertainty about the nature of future trade arrangements with just a few weeks to go before the exit from the EU is final. Britain’s unsuccessful attempt to navigate the twists and turns of Covid have pushed the country into a recession that is likely to grow worse before it gets better — a bad thing for income- and price-sensitive wine demand. Add to this the possibility of a botched Brexit and you might see Britain’s status in world wine trade diminish substantially.

Tit for Tat

The US market is suffering from Covid and recession problems as well and its own set of trade issues. The Trump trade wars have increased tariffs on wine imports from the EU, for example, but also generated retaliatory tariffs on US exports to China.

Wine has been caught in the crossfire in the Boeing-Airbus trade dispute, as The Wine Curmudgeon recently reported. The WTO has ruled that the US can impose tariffs on EU products in response to Airbus subsidies and that the EU can put tariffs on US products because of subsidies to Boeing. Wine figured prominently on the US tariff list, but the EU plans to focus on US spirits instead of wine, with new duties on vodka, rum, etc. on top of previous tariffs on U.S. bourbon.

How did the US wine industry dodge the tariff bullet in this case? Trade policy is sometimes very personal when you think about it. EU tariffs on US wine would fall heaviest on California producers — think for a moment important politicians from California. (Does the name Nancy come to mind?) Not necessarily someone the EU wants to upset.

Tariffs on US spirits fall heavily on Kentucky bourbon producers. Can you think of an important political leader from Kentucky that EU officials might enjoy roughing up a bit? Maybe some guy named Mitch? Just thinking out loud …

China vs Oz

And then there’s China. Down in Australia there is more than a bit of concern about wine trade with China. China has grown to be Australia’s largest wine export market, so rumors that the Chinese government might impose tariffs on or even ban imports of Aussie wine entirely are serious concerns. It is not clear that the US and UK, the other big export markets, could easily absorb the resulting flood of  unsold wine.

Since tariffs are as political as they are economic, there is hope that, with a changing US administration, the troops in the wine trade wars might stand down and a truce be agreed. This could start with both sides backing down over the Boeing-Airbus duties. That would certainly be a good outcome and I don’t think it is impossible.

No Easy Fixes

But tariffs aren’t the only factor preventing a return to the previous era of wine globalization as noted above, so don’t expect a quick fix. International producers seeking to penetrate the US market in particular need to be aware of how much the on-trade to off-trade shift has changed which wines American consumers buy, where they buy them, and how much they are willing to pay.

The process of restoring wine’s global reach seems likely to be a process and probably a slow one, with some firms and regions more successful than others. The faster the global economy returns to health, the faster the clouds will clear for global wine.

Wine, Covid-19, and the Zero-Sum Dilemma

Last week’s Wine Economist column presented a “Guide for the Overwhelmed” that analyzed the current crisis in terms of its perfect storm of component parts. This week begins a short series of articles that try to put the pieces back together in order to better see the outlines of the future of global wine in the post-Covid era.

Zero Sum Economics

MIT economist Lester Thurow’s 1980 book on The Zero-Sum Society argued that America and the world had reached a turning point. An era of growth, where an expanding social and economic pie made it possible for many to gain without corresponding losses for others, was coming to an end, Thurow argued. This change in the economic environment would have broad and lasting consequences.

Example? Under the right circumstances (which can be tricky), open trade is a recipe for positive-sum growth while protectionist trade wars are zero-sum at best and negative-sum at worst. The 1980s proved to be a fertile decade for trade barriers, competitive currency devaluations, and other protectionist policies.

What caused the sudden shift from positive-sum growth with rising overall living standards to zero-sum stagnation? It was complicated, of course. But the 1980 answer in a single word was oil or rather the oil crises of the 1970s and the higher costs and restricted supplies that resulted.

The world, it seems, had organized itself around the assumption of cheap, plentiful petroleum. Scarcity and higher costs shocked the system in ways that few even imagined and helped set the stage for a generation of stalled living standards and frustrated expectations.

The focus of the zero-sum society, Thurow argued, would shift from equity and growth to distribution and conflict. Everyone would struggle for an increased share of the stagnant or shrinking pie and some would succeed better than others, increasing inequality. I recall that Thurow grew up in Montana and he must have imagined his Big Sky world of open opportunity closing down around him.

Covid Crisis / Oil Crisis

It is easy to see in retrospect that the 21st century B.C. (Before Covid) world was organized around the assumption that people could safely gather together and cheaply move about. Spending on travel and tourism, for example, increased dramatically as a proportion of total expenditure in the past two decades. Wine tourism and cellar door sales were important sources of growth in our industry. The post-Covid world will be different indeed, although just how different and for how long remains to be determined.

Is it reasonable to compare the Covid-19’s world economic shock with the oil crisis of the 1970s and its aftermath? Everyone knows the oil crisis was a game changer. The Covid crisis is different in many ways, so it is not a simple apples-to-apples comparison. From a macroeconomic standpoint, the oil shock was a supply-side event that produced stagflation. The Covid shock is more of a demand side disruption that risks a deflationary cycle. It is obviously too soon to know what the final picture will look like, but I would argue that Covid could prove in the end to be the bigger crisis in the long term.

The New Zero-Sum

Even if you accept that the Covid crisis shock is as serious now as the oil crisis shock was in its today, you might still disagree with the idea that the new world that it is creating will be more zero-sum than in the past, with a greater focus on how the pie is divided than in its growth. Why is the future likely to be a zero-sum environment?

One argument is that many parts of the economy are already zero-sum and that Covid simply magnifies and accelerates existing trends.  The recovery from the initial Covid recession in the U.S., for example, wasn’t the V-shape that many hoped for but more of a K-shape. Some parts of the economy (especially the financial sector) recovered very quickly. Other sectors continue to struggle, a situation made worse by the lack sustained economic stimulus. The rising tide did not lift all boats and the financial pages are full of multi-billion dollar M&A deals as businesses bulk up to grab market share.

If you saw the strong Q3 U.S. GDP figures that were released last week, you might think that the economy has rebounded and will resume previous growth quickly. But those numbers are the result of literally trillions of dollars of stimulus (and debt), which are unlikely to be sustained. And they don’t take into account the Covid second wave tsunami, which seems to be sweeping across the globe.

The second argument for stagnant economic growth can be found in the financial news, where the yield curve hugs the zero axis for at least a five year time-frame and monetary policymakers have pledged their support for the foreseeable future even if fiscal actors hesitate to renew stimulus measures. The overall economy is on life support and monetary authorities who lack the power to shock it back into life are determined to at least prevent flat-lining.

The likely result, according to the most recent Q4 2020 global forecast by the Economic Intelligence Unit, is the “zombification” of the global economy characterized by slow growth, low inflation, and high levels of debt. Does this sound like a zero-sum environment?

Wine and the Zero-Sum Economy

It goes without saying that the economic environment I’ve just described is not favorable to the growth of the global wine industry. This is especially true because of the importance of on-premise wine sales, which are most directly affected by the Covid pandemic.

Is the global wine market now zero-sum? And what are the implications if it is? Come back next week for thoughts and speculations.

Wine Industry Consolidation & the Big “W” Recession Threat

bigw-9In my other life as an economics professor I studied financial crises and their implications (one of my academic books, which seems eerily relevant today, was called Mountains of Debt). One thing that I learned about the financial sector is that crises are generally followed by periods of consolidation.

Smaller, more fragile banks and investment firms fail or fall into the hands of larger firms (sometimes the big ones fail too as the Washington Mutual collapse of a few years ago reminds us). Eventually new community banks appear to fill the gaps that the bulked-up big banks leave behind.

Banks and Wine: No Joke

How are banking cycles related to the wine industry in the current coronavirus crisis? Well there is a joke that the only person crazier than a winery owner is her banker. But no one is laughing at jokes like that these days.

There is a serious connection.  A recent Wine Business Monthly report suggests that the American wine industry looks a lot like the American finance industry and that a coronavirus recession shake-out is likely to lead to a wave of consolidation.

Only 56 out of the more than 10,000 U.S. wineries are really really large, producing more than 500,000 cases per year. These are the JP Morgan Chase and Goldman Sachs of the American wine scene. Another 246 wineries are very large, producing between 50,000 and 500,000 cases annually. Taken together, this small number of wine producers accounts for most of the wine produced and consumed.

The Bottom of the Pyramid

At the other end of the scale are 2773 wineries that make between 1000 and 5000 cases a year and an incredible 6420 wineries that produce less than a thousand cases. These are the community banks of the wine world and they are the most dependent on direct sales including especially tasting room sales. They are, therefore, the most vulnerable today.  About half the estimated $5.94 billion wine industry loss due to the crisis comes from lost cellar door sales.

And they are the most likely to experience severe economic distress that might result in sale or closure. Even before the crisis a surprisingly large number of wineries were quietly on the market for the right price. The recession will push that trend to the fore.

The WBM report notes that

Ninety-seven percent (97%) of all U.S. wineries produce less than 50,000 cases and are estimated to experience annual revenue losses of between 36% to 66% with smaller wineries most impacted. Projected losses increase as winery size decreases with wineries producing 1,000 to 5,000 cases expected to see lost revenue of 47.5% and wineries producing under 1,000 cases or less expected to lose 66% of revenue.

Just as some community banks manage to come out of a financial crisis in a stronger competitive position, some smaller wineries will emerge in relatively better shape, too. It is inspiring to see the effort that is going into customer relations and marketing to make up for the lack on in-person contact. I am sure that there are lessons learned now that we be valuable when the tasting rooms open again somewhere down the road.

3-Tier versus Two Speed

Some states have relaxed their direct-to-consumer shipping regulations, which benefits all wineries but will be especially important to small ones. Wine Curmudgeon speculates that this might be the start of important changes to the three tier distribution system that would open up the wine market. That would be a big benefit for the bottom of the wine pyramid.

But at the same time it seems likely that consolidation in the wine sector will be accompanied by similar trends in distribution and for the same basic reasons.  Although much is lost in generalization, there is a tendency for larger distributors to focus their value chain on bigger retailers and larger wine producers.  Scale matches scale matches scale. This pattern magnifies an on-going movement to a two-speed wine market with those in the middle range (both domestic and imports) squeezed in the process.

Here is a link to the Wine Economist’s coverage of the coronavirus recession. All of the most important factors affecting the wine economy remain unknown: how deep will the recession be, how long will it last, when will the economy be open, how soon (if at all) will consumers return to previous patterns? Add to the list the question of how long will it take people to drink up all that wine and spirits they piled into their shopping carts in March? Gosh, I hope they didn’t drink it all at once!

Big “W” Recession Threat

There is so much uncertainty at present that prediction is impossible, but these are some directions that seem likely given current trade winds. It appears increasingly likely, for example, that the “shape” of the coronavirus recession will be W (a very big W in this case) and not V or U (see this previous Wine Economist column about recession shapes).

Many forecasts assume a V-shaped recession, with a short sharp economic fall followed by a quick and decisive recovery.  That would be the best case scenario and there are some early indications that that might be what’s happening in China.

But there is a significant threat that a second recession will strike just as the economy is recovering from the first. The second dip could come if another wave of coronavirus strikes and large parts of the economy need to be locked down again — this is the concern being expressed about China at the moment. Many experts seem to assume a second virus wave, but are uncertain about its impact.

But coronavirus 2 isn’t the only threat. Economists are increasingly concerned that the first virus recession will be followed by a financial crisis as all the missed payments and bad loans come due. There is a lot of credit risk right now, especially counter-party risk, which is the possibility that the trustworthy firm that owes you money might fail, bringing you down, because the people who owe it money can’t pay.

In wine terms, that’s what happens when your distributor can’t pay because its restaurant clients can’t pay. A credit collapse would likely speed consolidation in both the winery and distribution sectors.

Many state and local governments have played constructive roles in the current crisis, but they might unintentionally end up contributing to the W recession scenario. Many state-locals are constitutionally restricted from running budget deficits or borrowing except for capital projects like roads, bridges, and school buildings.  The first recession wave will drive down their revenues, forcing them to cut back on spending and employment. That would make the second recession wave even worse.

None of this is set in stone. Truly heroic economic stimulus (helicopter money drops, fiscal bazooka blasts) has been deployed with more to come. This would be more than enough to deal with economic problems in normal times. But these times are not normal and the head of the IMF said last week that she’s concerned the global recession will be even worse than currently envisioned. Buckle up.

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Do you recognize the big W in the photo above? It is the from the classic 1963 Stanley Kramer film “It’s a Mad, Mad, Mad, Mad World.”

 

Wine & the Coronavirus Recession: Shaping Up the Prospects for Recovery

 

As recent Wine Economist columns have reported, it’s very clear now that the world economy has fallen into a recession, with some countries and regions affected more than others.  The depth of recession is hard to gauge. A few weeks ago I thought that things would be very bad here in the United States, with as many as 5 million unemployed.  But by late last week almost 10 million had applied for unemployment benefits in just two weeks and the shoes are still falling. Incredible. What will things look like two weeks from now?

20200404_cuk1280Silver lining predictions based on the current wine sales surge aside, it is pretty clear that the wine industry will be negatively impacted by the slowdown in spending. How much depends in part on what “shape” the recession takes, which is to say what factors dominate the decline and how long it takes to recover.

Recessions are like stomachs — they come in lots of different shapes (see the classic 1960s Alka-Seltzer tv commercial above for humorous examples). Will it be a V-shaped recession? Or will we be dealing with a W, U, or  maybe an L? The shape matters for the global economy and for the wine economy, too. Herewith a brief survey of the economic landscape.

Best Case Scenario: The Deep V

Initial projections (and many current ones, too) forecast a deep V-shaped recession. The economy will shrink rapidly for two quarters and then rebound just as quickly, so that by this time next year we will be safely back to square one. The logic behind this is simple — everyone goes home to hide out from the coronavirus and, when the danger is passed, the Reset button is pressed everyone goes back to their old jobs and habits.

This scenario makes sense if you think of the coronavirus crisis as just an exaggerated version of the annual seasonal flu season with minimal permanent impacts. But not many hold that view any more from a medical standpoint and there are big doubts about it in terms of the economy. Not all the businesses that shut down as we entered the crisis will be coming back, even with historic levels of economic stimulus.

Consumers will find it hard to recover, too. A 2019 Federal Reserve survey found that about 40% of American households did not have the ready cash or credit to weather an unexpected $400 economic emergency. Those 10 million (and growing) unemployed workers are facing a lot more than $400 worth of problems. The crisis will badly undermine the foundations of their economic security.

But a deep V is not out of the question if the massive bazooka blasts of government aid and helicopter drops of interest-free money are effective. If they work and work fast, then the Reset button will engage a speedy recover. I hope that’s what happens.

I’m worried that the problems are deeper and that you can hit the Reset button until you are blue in the face, but the economy won’t spring back so quickly. If I am right, it is bad news for the wine trade, which might have hoped that consumers would stock up on wine now, drink it all up while sheltering in place, and come back for more in the fall.

Double Dip W

A second fairly optimistic theory currently making the rounds is that the economy rebounds as described above, but then a second coronavirus pandemic wave appears in the fall or early next year. The necessarily closures and quarantines would trigger a second recession, but it would be smaller and shorter because the world would be better prepared.

I don’t have a strong opinion about the double dip recession scenario except to note that (1) there is no reason to think that the current pandemic will be the last we will see and (2) I sure hope we learn from our mistakes this time around.

The double dip W complicates things for wine because it makes it even harder to predict when a sustained economic recover would power higher wine sales. Instability and uncertainty — is this the new normal?

The Classic U-Shaped Recession

The U-shaped scenario is a third possibility. The U-shape recession is longer in duration but less deep than the V or the W. Full recover might take 3 to 5 years, not a few months.  This is the classic recession shape and it sometimes works this way. Demand falls for any number of reasons, so that inventory builds up and production slows down and unemployment rises (which further depresses demand). Excess inventories are eventually drawn down and new orders placed, which stimulates production creates incomes and jobs, and encourages a rebound in demand.

The U shape would be a problem for wine because several years of depressed demand would exacerbate the structural wine surpluses that plague the industry both in the U.S. and in many other wine-producing countries. Supply-side vineyard adjustments, which are already recommended in order to reduce capacity, would be critical.

There is reason to doubt the U-shape scenario, however. First,  the coronavirus recession is more than just falling demand, so a demand-based theory doesn’t seem to fit all that well. And, second, it would seem like the bazookas and helicopters would shorten the cycle if this scenario holds, so the U would become a V. That’s a bit of good news, which I supply at this point because things are about to get very dark.

L is for Liquidity Trap

The worst case scenario, from a strictly economic standpoint would be an L-shaped recovery. The global economy plunges and then … does not recover for a very long time. An extended recession is of course very bad for the wine industry as it would undercut the economic foundations of wine buyers of all generations.

There are a couple of realistic scenarios that could lead to such an outcome.

The first is a financial crisis. The coronavirus recession may have started with health issues, but there is a high probability that a financial crisis will follow. Not necessarily a banking crisis this time, because banks are better capitalized than a decade ago, although banks and non-bank lenders are still vulnerable The worry focuses on weakness in and liquidity of  corporate junk bond debt and emerging market debt and the contagion that collapses in these markets can cause. You might add state and local debt problems to the mix if the crisis persists for more than a year.

We have already seen several instances of financial markets freezing up, or nearly so, in a panic for liquidity. This could create the conditions for a liquidity trap, which is a situation where financial actors are so concerned about liquidity that they soak up any new funds that are injected into the financial system, not spending, investing, or lending.  Monetary policy, even maybe helicopter money, is impotent because the new funds just disappear into reserves with no real economy impact.

You can call the second scenario the Zombie Economy and it goes like this. Many firms collapse during the coronavirus crisis, but are kept alive — just barely — by aggressive government support. They don’t die, but they aren’t really alive enough to actually recover either. They continue on for years soaking up trillions of dollars of (debt-financed) resources and preventing an economic shake-out that would free up resources for self-sustained growth.

Is the Zombie L-curve possible? It seems hard to believe … until you call it by its other name: post-bubble Japan.

What’s going to happen? What will the recession look like? I really don’t know, but I hope that the coronavirus health crisis and the economic dislocation it causes are both milder than seems likely at this point and that we return to health quickly. Fingers crossed that the massive economic stimulus that is being unleashed around the world is effective.

Book Review: What Can Wine and Coffee Learn from Each Other?

51wdqn2bcpyl._sx324_bo1204203200_Morten Scholer, Coffee and Wine: Two Worlds Compared. Matador/Troubador, 2018.

What can the coffee industry learn from wine (and vice versa)? That’s the question that Morten Scholer wanted to examine when he set out to write Coffee and Wine: Two Worlds Compared. It is the kind of question that gets attention here at The Wine Economist, where we search for lessons about the future of wine by looking at all sorts of other products ranging from craft beer to almond milk and beyond.

Coffee and wine are an interesting pairing. Both are global consumer goods, traded around the world for centuries. But, as Scholer points out, they differ in a hundred ways. Coffee, for example, is relatively young as an international commodity — 800 years compared to maybe 8000 years for wine.

North-North versus North-South

The most important markets for both coffee and wine are in the advanced industrialized world, as you might guess, but while a lot of wine is also produced there (Italy, France, Spain, Germany, the U.S.), coffee comes mainly from the developing world. Wine trade is thus mainly north-north (with important exceptions such as Argentina and South Africa), while coffee trade tends to be north-south.

So what can wine and coffee learn from each other? Scholer probably knows, but he wants his readers to find their own answers, which is both frustrating and engaging.  It is frustrating because it is natural to seek out an over-arching narrative to help organize and guide the reader through the dozens and dozens of topics covered. You won’t find that here.

Serious Fun

Some of the comparisons are just plain fun, as in the chapter on quality and quality control when the wine aroma wheel is set alongside a coffee tasters flavor wheel. Who knew that flavors and aromas could be so complicated and that coffee and wine could have so many sensory qualities in common?

Other comparisons are seriously revealing. I found the comparative analysis of the development of sustainability movements in coffee and wine very interesting.  Sustainability in coffee began as a top-down movement initially focused on assuring that growers received a fair return on their efforts, although a wider range of concerns are now addressed. Sustainability in wine, on the other hand, was a bottom-up movement based on grower concerns about environmental issues that has also broadened.

There are three main global sustainability programs for coffee, Scholer tells us, and almost half of world production meets these standards, although only about a third is marketed that way. In wine there are many different sustainability standards and programs reflecting the localized bottom-up origins of the movement. It is a complicated situation, Scholer argues, and he believes that sustainability standards for coffee are more complex than for wine in part because coffee has a long and complex value chain and meaningful sustainability must extend across the entire chain. Market structure really matters.

Everything You Ever Wanted to Know?

Scholer’s eleven chapters take pretty much every aspect of wine and coffee and then breaks them down into comparative elements. Thus the reader moves from history to botany and agronomy, processing and quality control, patterns of trade, packaging and logistics, consumption patterns, sustainability issues, organizations and competitiions, cultural values, and finally a country-by-country side-by-side snapshort. An appendix briefly expands the book’s domain, adding cocoa, tea, and beer to the comparative mix.

Each section is peppered by boxes, charts and tables and illuminated with maps. If you are just looking for interesting tidbits, they are there on every page. Hard to put the book down.

Back to the Big Picture

But if you are looking for the answer to that big question about what wine and coffee have to say to each other, more effort is required. Scholer’s method is a bit like pointilist painting, where the image only becomes clear when you stand back a ways. What’s the big picture? Honestly, I am still working on it. Maybe one big macro answer doesn’t exist and that the insights are best appreciated at the micro level.

But I think it’s worth the effort to think about coffee and wine seriously. I tried to do that in a pair of Wine Economist columns back in 2009. My focus then was on the question of why the price difference between the cheapest and most expensive wines was so much greater than for the cheapest and costliest coffees. Wine does better than coffee in spanning the space from everyday commodity to luxury product. But, I wrote then, coffee will try to catch up and I think that’s happening today.

Scholer’s Coffee and Wine is an intriguing book. You can try to solve its riddle or just enjoy learning all about these two global industries. Either way, there’s food (and drink) for thought.

Second Thoughts about the Wine Wizards of Oz

The Wizards of Oz” (see below) appeared on The Wine Economist a dozen years ago in  February 2008. It looked to Australia for insights about what might be ahead for the wine industry. I’d forgotten all about this old column until it started getting  “hits” recently, which caused to me give in another look.

The basic idea was that what’s happening in the global wine market sometimes happens in Australia first or most clearly. I think this might have been one inspiration for my book Extreme Wine, which argues that the best place to see the future of wine is at the edges, where change is happening fast, not in the more stable center.

Re-reading this column makes me think how quickly things change (Fosters?) and how much some things persist. Do you think the argument stands the test of time? I am not sure how far I would push it now and maybe I pushed it too far then, too, but the climate change and ecological limits analysis still seems timely.

Let me know what you think in the comments section below (or tell me in person if you are attending the Unified Wine & Grape Symposium in Sacramento). Here’s the 2008 column as it appeared then.

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The Wizards of Oz (February 19, 2008)

20_australian_wine_industry_segments.jpgWhen I think about the future of the global wine market, my thoughts frequently stray to Australia because that’s where I see so many current trends originating or being most effectively exploited.

Export driven marketing strategy? That’s Australia. Branded varietal wines? Everyone talks about Gallo and Constellation brands, but who has done it better than [Yellow Tail]? Foreign market penetration?  The Aussies again, replacing the French as the strongest competitor in the British market and a strong presence in the United States.

Australia even wins the prize for the most sophisticated national wine strategy. Click on the image above to see a representation of the latest Australia wine strategy, which divides the market into twenty (20!) key segments where Aussie wines can compete.

Australia’s Boom and Bust

No doubt about it, if you want to learn about wine economics and integrated wine business, you should look to Australia. But that doesn’t mean that all is well down under. As I have written in previous posts, Australia has experienced a roller-coaster of wine market problems. First it was the problem of over-supply, which pushed prices down to unsustainable levels. And then, just when it seemed like things couldn’t get worse, they did and the early signs of wine shortages began to appear, which caused me to declare that the era of cheap wine was coming to an end. In each of these cases, trends that I see in many places now were first apparent in Oz. No wonder that I’m starting to view Australia as my leading indicator of global wine market trends.

This makes the news in Jancis Robinson’s column in Saturday’s Financial Times particularly sobering (not a good word for wine lovers). Robinson’s article suggests that Australia has hit ecological limits to the production of cheap wine. Water is scarce and expensive and this means that the cost (and therefore price) of bulk wines like [Yellow Tail] must rise — from A$0.40 in 2006 to A$1 in 2007 according to the article. That’s not quite a leap from unsustainable to unaffordable (the A$ is about 91 US cents today), but it presents a completely different business model. More to the point, however, the price rises exist because costs are high and the product is in short supply. Robinson is optimistic that Australian winemakers can compete and even thrive in the new market environment, but adjustment won’t be easy.

Robinson reports that Fosters has started sourcing some of its Lindeman’s brand from its vineyards in Chile (for the British market) and South Africa (in the U.S.). This continues the practice we have seen in the U.S. for some time for short-supply Pinot Noir. U.S. brands like Pepperwood Grove and Redwood Creek frequently contain Chilean and French wines respectively. Now, Robinson reports

There is much talk, though not much evidence, of basic bulk wine being imported into Australia from southern Europe, South Africa and South America to fill the so-called “casks” (boxed wine) and the cheapest bottles and flagons for the bottom end of the domestic market, prioritising export markets for such inexpensive Australian wine as the brand owners can afford. Australia has swung from famine to feast and back to famine in terms of its wine supply recently and bulk wine imports are nothing new. I remember encountering a director of one of Australia’s largest wine companies looking very shifty round the back of some fermentation vats at Concha y Toro outside Santiago de Chile in the mid-1990s.

Ecological Limits?

Now the problem here is not that the Australians are passing off foreign wines as their own. The wines I have seen have been clearly labeled and the few cases I know about where winemakers have tried to fool the public (some years ago in New Zealand, as I recall) ended badly for the dishonest producers. They were punished pretty severely in the marketplace when their tricks were revealed.

No, my concern goes more to the heart of the problem. Maybe Australia’s ecological constraints are a short term problem that will disappear. Maybe it is an Australian problem with no implications beyond the land of Oz. Maybe ready supply from Australia wannabe producers in South America, South Africa and Europe will always be there to fill the gap.

But that’s a lot of maybes and economists are trained to get nervous when it’s maybe this and maybe that. We know that the effect of climate change on the wine industry is real. And we know — or at least I think I know — that Australia has often been a good indicator of emerging trends in global wine. If this is the case, then we are indeed about to enter a new wine world, one where the natural constraints on wine production may be about to become as important as marketing strategies.