The Future of Wine?

May 25, 2008 By in Australian wine, Berry Bros. & Rudd, China wine, Economic impact, New Zealand, Supply and Demand, wine price, wine taxes 2 Comments

What will the world of wine look like in 50 years? A look in the crystal ball.

What if the Chinese were French?

A journalist with a Brazilian newsweekly called me on Thursday to ask for help with a story on China. The magazine is doing a sort of “worst case scenario” report on the potential impact of China’s economic growth on world markets. What would happen to oil prices, for example, if the Chinese used as much fuel per capita as Americans do? Yikes, that would be a lot of drivers using a lot of gas and it would send oil prices through the roof. What would happen if Chinese consumers generated as much waste and pollution per person as people in the West? Once again, the global effects would be dramatic.

What would happen, the journalist asked me, if Chinese tastes changed and they drank as much wine per capita as the current world champtions, the French? Well, that is a very interesting question, even if it isn’t a very realistic one. Annual Chinese consumption of wine is about a half-liter per capita and rising, according to my copy of The Global Wine Statistical Compendium (and a lot of that wine isn’t grape wine, as I wrote in The China Wine Syndrome). Wine consumption in France, on the other hand, is 55 liters per person and falling (it was more than 120 liters per capita in the early 1960s). The figure is about 8.5 liters per capita for the U.S. and 20 liters per capita for Great Britain.

It is hard to imagine how Chinese wine consumption could rise to the current French level. Heck, it is unlikely that the French will sustain their current level for long. But isn’t entirely out of the question that Chinese consumpion could rise to the world average, which is about 3.5 liters per capita per year. That’s a lot smaller increase than the Brazillian reporter was concerned with, but it would still have a huge impact on global wine markets. Much of the increase would probably be met by higher Chinese production; China is already a major wine producer — smaller than Chile but larger than Portugal in total production. But the global effects would be substantial and prices would surely rise.

We can already see some indication of the potential “China Effect” in the market for fine wine. Everyone seems to think that at least some of the rise in Bordeaux prices in recent years is due to Asian and especially Chinese purchases. This trend seems likely to accelerate now that Hong Kong has eliminated its high tax on wine transactions so that it can become the auction hub of the Asian wine market. The latest Wine Advocate reports prices of 2005 Bordeaux that reach stratospheric levels — $500, $1500, $2500 per bottle! This is what happens when a global market focuses on an object of speculation — huge rents (excess returns) are created. As China (and India, too) become more completely integrated into global markets for products like fine wine, these rents will likely rise higher still.

The View from London

The Brazilians are not the only ones interested in the future of wine. Berry Bros. & Rudd (BBR), the London fine wine house, recently celebrated its 310th anniversary with the release of the Future of Wine Report written by four of their top wine buyers (Alun Griffiths MW, Jasper Morris MW, Simon Field MW and David Berry Green). It makes pretty interesting reading if you are interested in what wine markets might look like in 2058.

I say wine markets (plural) because BBR correctly recognizes that there is not one wine market but many interrelated ones. The fine wine market, BBR predicts, will see the rise of China and India as important factors in terms of both demand and supply. “I absolutely think China will be a fine wine player rivalling the best wines from France,” writes Jasper Morris. Britain will become an important producer of fine wines, too, perhaps especially Champagne-like sparkers.

Wine prices will soar even higher, according to the report. “If values increase by 15% per annumn, as they have been doing recently, a case of 2005 Ch. Lafite-Rothschild, currently available for £9,200. could be worth just shy of £10 mllion by 2050,” according to Simon Staples.

The forecast changes are more dramatic in the volume wine market. China will be the world’s largest wine producer. Global warming will shift wine production from France to Eastern Europe and from Napa Valley to Canada. Australia, the report speculates, could see a collapse of its volume wine industry if recent droughts persist. Goodbye Yellow Tail. Hello boutique producers in cooler, wetter areas like Tasmania.

Brands will become even more important in the volume business, BBR suggest. “In 50 years, consumers will ask for wine by the brand name or flavour and won’t know, or care, where it has come from. Grapes will be genetically modified to change a wine’s taste,” according to Jasper Morris, “and producers will add artificial flavourings to create a style wanted by consumers.” Wait — OMG I think I drank those wines back in the 1970s when I was in grad school!

Bottles and corks? They’re history. Corks will disappear because they are inefficient — the contamination rate is too high. Bottles are heavy and environmentally problematic. Tetra pak containers (like the ones used in today’s French Rabbit wines) and other sustainable packaging systems will prevail for volume wine.

The Future of Wine?

So what should we think of these visions of the future of wine? Economists like to say that prediction is difficult, especially about the future, so long range forecasts need to be taken for the educated guesses that they are.

Some forecasts, will be wrong because they are more or less simple straight line extrapolations (How much wine would the Chinese drink if they were French? How much will fine wine costs if its price compounds at the current rate?). It seems to me that simple projections are usually wrong because they are sensitive to initial conditions. Who is to say if long term trends will match those of the recent past?

Some predictions, like the £10 million case of wine, are extreme, but others are probably too conservative. The wine world has a way of surprising us — who in 1958 would have predicted the importance of Chile and Argentina today or the decline of consumption and production in France? People matter, too. People and their ideas are powerful forces that do not always respect historical trends, as refelction on the recent death of Robert Mondavi remind us.

Kenneth Boulding, the great 20th Century social scientist, once wrote a history of the future. He looked back to see what people in the past had said about the world just ahead. What he learned, he told me, was that when the future eventually rolled around, it never matched the predictions, it was always unexpected. The best way to prepare for the future, he concluded, was to prepare to be surprised. I expect this rather general advice applies as well to wine.

The Sub-Prime Wine Crisis

May 20, 2008 By in brands, British wine market, Charles Shaw, Constellation Brands, critics, Supply and Demand, Tesco, Trader Joe's, Two Buck Chuck, wine brands, wine critics, wine markets 2 Comments

What does the sub-prime mortgage crisis have to in common with the market for wine today? More than you might think! Read on …

Liquidity Problems

Here’s a simplified version of the sub-prime mortgage crisis narrative. A housing bubble masked the inherent risk of the mortgaged-backed securities that financed the bubble itself. Investors were unable to fully assess risk because the complicated financial vehicles were not very “transparent” and the rating agencies did not prove to be trustworthy guides.

When the crisis came, liquidity dried up and the market deflated (crashing in some cases). The solution to the problem, many think, is to increase transparency — to make it easier to figure what is in a mortgage-backed security and how to assess its risk and return.

Some wine buyers will find it easy to relate to elements of this story, according to the Project Genome study recently released by Constellation Brands (I have written about Project Genome in my post “What are wine enthusiasts looking for?”).

According to this study, the largest single group of wine consumers are”overwhelmed” by the choices confronting them and cannot adequately assess the risk they face when staring down a crowded supermarket wine aisle or endless restaurant wine list. Their “liquidity crisis” is a real one — they are afraid to invest in complicated wine products due to a lack of confidence in their knowledge and lack of transparency regarding what’s really in the bottle. Intimidated, they buy a lot less wine than other groups. They lose and winemakers lose, too.

Project Genome estimates that overwhelmed consumers represent 23% of wine buyers, but make just 13% of all wine purchases. They are the “bottom of the pyramid” of wine and many industry people figure that a fortune awaits anyone who taps this market.

Making Wine More Transparent

So what’s the best way to make the wine buying process more transparent and end the overwhelmed consumer’s liquidity crisis? Better information is one approach. Wine critics are the bond rating agencies of the wine market. Their scores give many wine buyers the confidence they need to make what really is a risky purchase. At their best, wine critics serve a useful function of reducing uncertainty about what’s in that bottle and whether it is worth the price.

But there are dozens of wine critics and their ratings, using different scales and ranking protocols, do not always agree and are not always a clear guide. How many disappointing wines have you bought because of the “89-point” rating on the shelf tag? It only takes a few highly-rated losers to discourage an overwhelmed buyer from taking a chance.

Wine critics are part of the answer, but they are also part of the problem. What other options are available? The May 15, 2008 Wall Street Journal included an interesting article by Charles Passy (the “Cranky Consumer” columnist) that examined how some wine retailers are trying to demystify wine. “For Novice Shoppers, a Little Wine 101” describes four retailers, WineStyles, Total Wine & More, The Grape and Costco, and their different marketing strategies (I wrote about Costco’s system in an earlier post, “Costco and Global Wine“).

I’ve been to a WineStyles store so I can give a personal report. The store is arranged according to wine style profiles (crisp, silky, rich, etc.) rather than varietal type, production region or retail price. So if you know you like a crisp wine, you go to that wine rack and you find wines such as Washington Riesling, Chilean Sauvignon Blanc and South African Chenin Blanc. You are directed to the style you like and hopefully encouraged to try unfamiliar types of wine. If consumers can actually figure out what they like about wine and if they develop confidence in the style categories, this system helps them make better and more self-assured choices.

Food and wine writer Cynthia Nims reports on another strategy on her blog, Mon Appétit. Cynthia discovered a line of branded wines called “Wine that Loves” that are intended to simplify the wine-food pairing choice. Are you looking for something to serve with roast chicken? Pick up “Wine that Loves Roast Chicken.” Fish tonight? Look for “Wine that Loves Grilled Salmon.”

The chicken wine is “Predominantly Garnacha” according to the label — not a wine that an overwhelmed consumer would probably risk as a varietal choice, but might try and like in this format. The salmon wine is a Pinot Grigio/Garganega/Chardonnay blend. I like this concept because it links wine to food, which is very important, and encourages experimentation. It will be interesting to see if buyers embrace it or if it is just a novelty that soon fades.

The British System of House Brands

Great Britian is the most important wine market in the world in part because British retailers have developed a number of successful strategies to increase wine buyer confidence. Supermarkets are the big players in the U.K, and house brands are key to their wine strategies. Tesco, Waitrose, Sainsbury’s and Marks & Spencer all have their own brands of wine (sourced from around the world). Buyers are willing to try an unfamiliar wine because their confidence in the supermarket chain transfers over the the wine.

(It doesn’t hurt that at least some of the house brand wines are very good, of course. A M&S house brand wine is one of the highest-rated New World Sauvignon Blancs in the current Decanter ratings, for example.)

Trader Joe’s uses this strategy here in the U.S. (I have written about this in 300 Million Bottles of Two Buck Chuck). Trader Joe’s sells vast quantities of Charles Shaw (a.k.a. Two Buck Chuck) wine each year and the key is reputation. Not the wine’s reputation — the store’s. Trader Joe’s has a reputation for value and quality, which lends credibility to their house brand wine. As I have said before, the miracle of Two Buck Chuck isn’t that you can sell a wine for $1.99, it is that you can get anyone to buy it. The $1.99 price point just screams “rotgut.” But people happily buy wine at Trader Joe’s  at price points they would never think of considering at Safeway or Kroger because they have confidence in the TJ brand.

My local upscale grocer, Metropolitan Market, is trying the house brand route, apparently with success. For the last year or so they have occasionally stocked limited-release house brand wine specials such as the 2007 Columbia Valley “White Selection #1” shown here. The wines go for $8 per bottle or $88 per case and they are stacked in big displays that remind me of, well, Trader Joe’s.

These house brand wines are kind of interesting. The first release of the year was a Rosé — hardly an easy sale given upmarket consumer resistance to pink wines (too close to White Zin!) and the chilly spring we have had — and now a white that turns out on close inspection to be an oak-free Semillon blend. I like Semillon quite a bit, but I don’t think you could sell it by the case at a neighborhood grocery store with a traditional brand name and varietal label. But “Met Market White #1” and the Rosé are products that buyers seem to embrace as safe bets and good values because of the store’s reputation for quality.

They fly out the door, according to the satisfied customers in line with me last week. You might have trouble selling them as ordinary branded varietals, but they go down easy as trusted house brand wines. The British know the wine game really well. We are smart to learn from them.

Confidence Game

Everyone is trying to solve the overwhelmed consumers’ liquidity problem. Here in the Pacific Northwest we have consumer friendly labels like House Wine (produced by the Magnificent Wine Company) and Wine By Joe, an Oregon brand. Like the Met Market generics, these are good quality upmarket answers to the question, what should I buy to drink tonight? The reputations these brands have developed for value and quality makes buying their wines a comfortable experience for many consumers. (My Costco sells the House Wines brands by the case.)

Take a close look at your supermarket wine aisle and I think you will see a lot of products designed to make wine easier to understand and buy. With so much creative energy at work here, I am confident that the needs of overwhelmed wine buyer market are being well served. Maybe they’ll stop being overwhelmed and their liquidity crisis will end. I wish I had the same confidence about the financial markets!

Senior Research Assistant

May 18, 2008 By in wine research Leave a comment

In honor of his birthday on May 19 I am appointing Michael H. Morrell, physician, navigator and cheap wine specialist, as my Senior Research Assistant for that day.

Here is a photo of Michael hard at work during our visit to Domaine Drouhin Oregon in August 2007.

You can read about Michael, his wife Nancy and his wine fieldwork experiences in “Old World meets New World in Oregon.”

Congratulations and Happy Birthday, Michael. Keep up the good work.

Chateau Cash Flow

May 14, 2008 By in Economic impact, Jancis Robinson, Washington wine, wine tourism Leave a comment

Everyone knows that wine is a big business in the United States, but how big is it and where does the money flow? I’ve spent the last couple of days reading studies of the economic impact of the wine industry to try to get answers to these questions. Here’s a brief summary of what I have found out (follow the links for more details).

Economic Impact Studies

Let’s start with grapes. Grapes were the sixth most valuable agricultural crop in the U.S. in 2005 (and the #1 fruit crop) worth nearly $3.5 billion, according to a 2007 economic impact study by MKF Research LLC, a leading wine economics research consultancy based in St. Helena, California. California accounted for about 6.1 million of the 6.9 million tons of total U.S. grape production in 2005 followed by Washington (415,000 tons), New York (178,000 tons) and Michigan (100,000 tons).  A ton of grapes yields 50-60 cases of wine according to published sources.

Roughly half the grape crop ends up in wine. The other half becomes raisins (30%), table grapes (11%) and grape juice (9%). Raisins and table grapes come mainly from California while Washington is an important player in the juice market (juice grape production actually exceeds wine grape production in Washington!). Juice grapes, mainly native Concords, sell for about $150 per ton (Washington data). Wine grapes sell for much more depending upon varietal type, quality and provenance.

There are about 5000 bonded (commercial) wineries in the U.S., according to the study. Nearly half of these are located in California, as you would expect, with Washington (about 500 wineries), Oregon (about 300) and New York (about 250) trailing far behind.

There are bonded wineries in every state including Alaska . I visited one in Anchorage that blended local huckleberry juice with grape must from Washington State to make Alaskan wine. The study indicates that Puerto Rico’s sole commercial winery closed in 2003, suggesting that the Caribbean wine boom has peaked. 🙂

Follow the Money

One of the things I have learned in studying wine economics is that the wine business is more than wine. Wine (its production, distribution and sale) is important to the wine economy, but there are a lot of associated businesses that are sometimes as important as wine itself. I have seen some small, scenic wineries, for example, that use wine strategically to create an attractive venue for other more profitable activities, such as restaurant sales and money-earning events such as weddings and parties. Wine is important because of the opportunities it creates for other activities.

The economic impact study gives some sense of this. Winery sales totaled about $11.3 billion in 2005, for example, while wine tourism expenditures were reported at $3.5 billion (about 30% of wine sales). Other related industries include wine labs and consulting ($11 million), winery research and education ($31 million) and the value of charitable contributions (goods and services, $128 million).

The economic impact studies I studied are very complete, but they don’t provide data for some interested wine-related businesses. Wine publishing (books and magazines) is a business that is growing as more consumers seek out knowledge and advice. Wine critics may indeed be parasites, as Jancis Robinson recently asserted, but they do generate cash flow even when they add little value.

I am also interested in the growing wine lifestyle industry. Some people build satisfying lifestyles around wine and the material goods that are associated with it and I think that the total economic impact may be quite large. It starts with wine, of course, and glasses, corkscrews, and storage units of various sorts. Wine tourism (eno-tourism according to a European email correspondent) comes next, followed by wine collecting and investing, which can be expensive indeed.

Then finally there is the urge to own a winery or at least live a winegrower lifestyle. There are a number of winery properties for sale today, according to the Wine Business Monthly real estate listings. Some of these are working operations but others are tailored for lifestyle investors. Recently I have become aware of the growth of gated winery communities like this one in Mendoza, Argentina, which offer the benefits of a luxury villa in a planned and managed (but romantic) vineyard setting. I know of several vineyard estate projects like this being developed in the United States.

Wine consumption is rising in the United States, but I think the economic impact of wine is growing faster as wine tourism and lifestyle investments grow. It will be interesting to see if this trend can be sustained or if some aspects of the wine economy prove to be bubbles.

Strong Wine

May 11, 2008 By in Fielding Hills, Washington wine 1 Comment

Wine’s strength is usually measured in percent of alcohol — and everyone complains that it is too strong, too hot. A recent charity event reminds me that there are other ways of measuring the power of wine and that perhaps it can never be strong enough.

Tacoma Wine Classic

Mike and Karen Wade of Fielding Hills Winery asked us to pour their wines at the Tacoma Wine Classic, a charity dinner/auction organized by the Tacoma Community College Foundation to benefit TCC’s scholarship fund and education programs. It’s their major fund-raising event and they were hoping to generate about a third of the $500,000 annual target on this one night. More than 200 people paid $150 each to attend. Wineries and others donated thousands of dollars of goods and services (including a “mountain of magnums”) to the auction. Scores of volunteers contributed their time to pull it all together.

We poured the Fielding Hills wines during the reception alongside representatives from Fort Walla Walla Cellars, Kestrel Vintners, McGavick Winery, Milbrandt Vineyards, McCrea Cellars, Northstar, Page Cellars, Spring Valley Vineyards, Woodward Canyon Winery, Maryhill Vineyards and Saviah Cellars (what a great group of wineries). Everyone had a good time tasting and noshing and bidding on silent auction items (wines and wine-related packages). Then the dinner bell rang — more wine, good food, and the oral auction, which included a five-year vertical of Leonetti Cellar Cabernet Sauvignon magnums that went for about a thousand dollars.

As I reflect on this experience the thing that stands out to me is the power of wine to bring these people together to support a good cause. Providing adequate resources for higher education is very important, but the free rider principle is powerful and the “collective action problem” is therefore difficult to solve. It is hard in general to get people to support projects that provide widely dispersed benefits. Mancur Olson, the great political economist, argued that “specific incentives” are often needed to motivate individuals to cooperate to produce collective goods. People need to feel that they benefit as individuals in some way from their support of collective goals and that their individual benefit and the collective benefit are linked. (This is one reason public television stations both ask for your unselfish support of their public good and at the same time try to give you some sort of private good — a Masterpiece Theater coffee mug? — in exchange for your donation.)

Wine’s Hidden Strength

It seems to me that wine lends itself very well to solving the collective action problem. Wine has obvious private benefits, but it is well known that these benefits are best appreciated (magnified?) in association with others. This is obviously true about wine consumption — half the fun of drinking wine is talking about it with friends. But it is also true of other aspects of wine. People gain private benefits from display of their wine knowledge and taste and from the generous feeling one gets in sharing with others. But these benefits can only be realized in the company of other people — they are private goods that are collectively produced, if that makes any sense (I was tasting as well as pouring last night, so my logic may be a bit fuzzy). Educational benefits are both private and public in a similar way, at least to some extent, which makes the wine and education link useful in both symbolic and practical ways.

In an age when many social activities such as listening to music are increasingly individualized and privatized (think iPod here) the power of wine to connect remains strong and perhaps has become more profound. I would like to say that wine has a universal power to bring people together, but that’s clearly wrong. Some people just don’t care about wine — they have other interests– and some positively object to it because of its alcoholic content.

But it is interesting to observe how effective wine can be at events like this to bring together people of different ages and backgrounds to share collective experiences and support a good cause. The TCC Foundation is wise to uncork wine’s hidden strength by making it the theme of their annual fund-raising event.

Grubbing Up

May 6, 2008 By in decanter, EU wine reforms, New Zealand, Supply and Demand 2 Comments

Grubbing up is one of my favorite wine economics terms. It means to pull the vines up by the roots and replace them with other agricultural crops. I It is a harsh term, just as it sounds, because it is the opposite of wine — it is anti-wine. Grubbing up isn’t something that a wine lover contemplates with ease, but sometimes it is necessary. The European Union’s Council of Ministers has recently finalized a grubbing up scheme for the EU and it is probably a good idea, even if it may not work.

Watering Down the Wine Lake

The problem is that EU wine production vastly exceeds demand with the result that thousands of liters of wine must be bought up by the EU each year and distilled into alcohol to prevent prices from dropping through the floor. The distillation price support only encourages continued production, waste and expense. It is a mess — a wine lake, as people say — and it has to stop.

A fairly radical plan was introduced a few years ago, one that would have paid farmers to grub up thousands of hectare of vines and introduced market reforms to allow (by deregulating) and to encourage (through supporting programs) European winegrowers to compete more effectively with New World winemakers who are taking their markets.

The package that the Council of Ministers agreed last week is significant even if it is less radical than the original initiative (Decanter magazine called it “watered-down” — never a good thing when you are talking about wine). The program called for subsidies to encourage winegrowers to eliminate up to 175,000 hectares of vines (versus 400,000 hectares in the original proposal), limit chaptalisation (the addition of sugar in the wine-making process) rather than eliminating it, and market-based reforms that encourage and enable winegrowers to compete on world makets (through varietal labeling of wines) rather than hide behind protective barriers.

I’ve been reading up on the details of the final EU plan and it is pretty interesting — the best analysis I’ve seen so far comes from the USDA Global Agriculture Information Network, which you can download in .pdf form at this California Wine Export Program website. The program includes money for grubbing up, of course, and deregulation of wine labels, removal of some vine planting restrictions (so marketable grape varieties can replace uneconomic grubbed up varietals), funds for wine promotion abroad, and so forth. Like any EU program, it is a complicated balance of economic reality, fiscal feasibility and political necessity.

The idea is to help the European wine industry transition to a new market environment, where export markets are growing, domestic markets shrinking and competition is fierce. It is not unreasonable to think that policies like this could work. They worked in New Zealand in the 1980s, for example.

Lessons from Kiwi Wine History

New Zealand today is famous as one of the great success stories in the world wine market. A small nation in an unlikely location, it punches above its weight in the global wine market, holding the title as champion exporter. Not in quantity, obviously, but in price. New Zealand has the highest average export price of any wine producing country.

But such was not the case 25 years ago. New Zealand suffered from a surplus of mediocre wine that could only be sold domestically behind high protective barriers. The industry collapsed with many failed firms from a combination of bad wine and surplus production. The government paid to grub up vines and then opened the market to international competition. Cheap but better wines from Australia flooded in to fill the domestic bulk wine market, leaving New Zealand producers only one choice — make better wine for export. They have done so brilliantly. Their success inspires the EU reforms.

It would be a mistake to think that what worked so well in New Zealand in the 1980s will work equally well in Europe today. It is unlikely that the EU would be willing to let its wine sector reach the sort of crisis that New Zealand experienced and that motivated the dramatic reforms implemented there. If big change comes from big crisis, as I believe (I wrote a book on this theme), then Europe is unlikely to see big change. The social cost of crisis is just too great. The guiding principle of EU policy is to prevent crisis, which makes change that much harder to effect.

Comparing New Zealand to Europe is problematic in other ways, too. New Zealand’s wine production is tiny — a drop in the bucket, really — whereas European producers account for well more than half of all the wine in the world. New Zealand’s grubbing up program may have been difficult, but only 1500 hectares were uprooted rather than the “watered-down” 175,000 set for the EU.

Changing the Rules of the Game

The principle of the EU wine reform scheme is sound, yet many reports that I have read are pessimistic. I think this is mainly because the final reforms are so much more timid that the initial proposal. But there are other reasons for concern.

One thing that economists have learned over the past 25 years is that institutions matter. This is another way of saying that economic forces do not always produce the same results. If the “rules of the game” are different the laws of economics will produce different results. Institutions are the rules of the game in life. Dani Rodrik, my favorite development economist, makes this point in his recent book One Economics, Many Recipes. The nature of local institutions, public and private, formal and informal, shapes the economic landscape in important ways.

This idea applies to the EU reforms in particular. Take the grubbing up scheme, for example. An incentive to repurpose large but unprofitable vineyards in Australia, for example, might well meet with an enthusiastic response because the institutions of wine growing there are different, with large vineyards and a consolidated industry. But European vineyards are much different and represent a completely different model.

Many vineyards (where much of the inferior surplus wine originates) are tiny inherited plots of a hectare or so, frequently on sites with few viable alternative uses. The rules of the game here are much different. A hectare might produce 20-30 tons if badly overcropped and, at perhaps $500 per ton at the local cooperative, gross revenues are too small for a family to live on but too great (compared to alternative uses) to give up. It’s an institutional trap that might be solved by consolidation, but making large vineyards out of these scattered small plots is necessarily costly and difficult.

Under these circumstances growers are likely to hang on to their vines for years rather than accept a modest one-time payment. Grubbing up might need to be forced, not voluntary, to have much effect.

New regulations to allow wines to be labeled according to grape variety (rather than the traditional local geographic designation) might be attractive to a large and distinctly commercial wine producer, but much wine in Europe is still produced by cooperatives that have little to distinguish their wines from others apart form the local designation. What advantage would they have as simple varietals in a world awash with good varietal wine?

A Certain Vision of Wine

It is possible to envision a future where the reforms can work, where the marginal vineyards have gone out of production, where consolidation has increased efficiency and where branded varietals can compete with the world market. (I have even seen some early attempts at EU branded varietals in the discount bins of a local store — more about this in a future posting.) I think it is possible that this vision may be realized — eventually.

But oh, it is such a big jump. The institituions of the small family vineyard and the local wine cooperative seem to me to make these reforms much more difficult. New Zealand’s success will be difficult to repeat.

Family Wineries in Transition

April 29, 2008 By in Uncategorized Leave a comment

Family. It is one of the distinguishing characteristics of the wine business, at least according to some scholars. But today’s news from Vinum Capital LLC makes we wonder about the future of the family winery business model.

Family businesses are supposed to be disadvantaged in the big time business world. Their family-ownership structure is supposed to limit access to capital and make expansion and effective management difficult. And yet some of the most famous names in the wine industry are family-owned firms. Some, like the Gallos of California, have kept ownership closely held for years. Others, like the Antinori of Italy, have experimented with outside capital only to return, at considerable expense, to the family model. Still others, like the Mondavi, illustrate just about everything — the problems of family businesses (the family feud that caused Robert Mondavi to strike out on his own), the benefits of family business (the rise of the Robert Mondavi brand) and problems of taking a family business public (the eventually takeover by Constellation brands).

All in the Family

Why does family ownership seem to be an advantage in wine where it is seen as a disadvantage almost everywhere else? One theory is that it is all about trust. Family firms are forward-looking high-trust environments where long term relationships can grow. The wine industry, people say, uniquely benefits from the long term commitment and close trusting relationships (with correspondingly low transactions costs) that family relations can provide.

It is said that the success of [Yellow Tail] wine is due to the fact that the Casella family (Australian winegrowers) and the Deutsch family (American distributors) were able to work together effectively to promote the brand because both sides of the deal were high-trust family firms. I am not sure how much faith to put in this idea (economists are trained to be suspicious of “cultural” explanations of economic outcomes), but I recall that Steve Smith, the celebrated New Zealand winemaker I interviewed a few years ago, felt it was very important for his family-owned business (Craggy Range — owned by the Peabody family) to work mainly with family-owned distributors in export markets. Smith is smart, so maybe there is something to this family business thing.

But the family-owned wine business may be an endangered species according to a recent study by Silicon Valley Bank, a major wine industry financial institution. They report that as many as 51% of these family wineries (in the western U.S.) will likely be up for sale in the next decade as the founding generation retires and is not replace by younger blood. One limitation of the family business model is that it only works if generations of family members want to run the business. Wine is glamorous but hard work, so it is perhaps not surprising that heirs might prefer cash.

A New Business Model

Vinum Capital has established a $250-million private equity fund (Vinum Capital Partners I LP) to acquire certain family wineries as they come on the market, invest in them so that they grow to be large enough to be of interest to larger firms (Constellation Brands?) and then sell them at a profit. The basic business model is shown in the image above.

“Our objective is to help provide liquidity for family-owned businesses,” according to Vinum’s press release, “Many of them have been in business for 20 to 40 years and there may not be a second generation willing or able to take on the business.” Large wine companies are interested in operations that produce at least 300,000 cases per year, according to Vinum, which sees itself as being able to muster the resources to get some family-owned firms to that level.

The fund’s managers certainly have a lot of experience, both with family businesses and at the corporate wine level, so maybe this is a good business plan. I know that a number of high-profile family wineries have recently “transitioned” to corporate control including Erath in Oregon, purchase by Ste Michelle Wine Estates and Stag’s Leap in Napa Valley, sold to a Ste Michelle – Antinori partnership.

A Natural Experiment

I’m pretty interested to see what happens because I view this as a natural experiment. Vinum’s plan will work best if people are wrong about family wineries — if the particular advantages of the family form of business organization are not really important factors in winery success after all (or if they lose their effectiveness above a certain scale). If the plan works it might mean that wine is doing more than passing from one generation to the next — perhaps it is transitioning from a special type of business where long run relationships and trust are key to one where traditional business factors such as economies of scale, distributional effcieincy and brand strength matter more. Stay tuned for the results!

They Always Buy the Ten Cent Wine

April 22, 2008 By in wine markets, wine ratings Leave a comment

Ernest and Julio Gallo built their business in the years after the repeal of Prohibition according to a strict division of labor: Julio made the wines and Ernest sold them. I don’t know if Ernest Gallo really appreciated the spiritual element of wine, but he did know that selling wine is not just about selling what is in the bottle. Selling wine, like selling anything else, is also about selling image, mystique or terroir.

The story is told of a sales call that Ernest Gallo made to a New York customer in the dark days of the depression. He offered sample glasses of two red wines – one costing five cents per bottle and the other ten cents. The buyer tasted both and pronounced, “I’ll take the ten-cent one.” The wine in the two glasses was exactly the same. Clearly, the customer wanted to buy an identity – the image of someone who wouldn’t drink that five-cent rotgut- even if he couldn’t actually taste the difference.

They always buy the ten cent wine, Ernest Gallo said.

I wonder how much things have changed since the days when Ernest Gallo made his calls? Two recent studies provoke this question.

Price and Taste

The first, which has been widely reported, is a study that was published in the Proceedings of the National Academy of Sciences that showed that test subjects displayed the Ernest Gallo effect. Their ratings of wines changed when they were given price information — even bogus price information. Identical wines received different ratings depending upon price information provided. “Expensive” wines, naturally, were rated higher than their inexpensive twins.

A second study, just released by the American Association of Wine Economists, answers the question Do more expensive wines taste better? The answer, based on a large sample of blind tastings, is that there is no correlation between price and wine evaluation (or perhaps a modestly negative one). This will be no surprise to readers of wine publications like Wine Spectator. Sure, the top wines are usually expensive, but there are also a lot of costly wines that get low ratings.

These findings will give bring great satisfaction to my friend and part-time research assistant Michael Morrell, who prides himself on drinking cheap wines, trusting his own tastes not ratings or price “signals” of quality. Michael would buy the five cent bottle every time.

But ask any wine distributor or retailer and you will find that price is the critical factor in retail wine sales. Although wine enthusiasts like to think of themselves in complicated ways — favoring red versus white, old world versus new world, merlot versus pinot noir, fruit bomb versus barrique reserve — the dirty little secret of wine retailing is that price is the key to most wine buying decisions. When push comes to shove, buyers are really looking for an $8 wine or a $10 wine and and make their purchases within a relatively narrow price range, regardless of other factors.

Evidence from the Wine Aisle

The wine aisle in your grocery store is probably organized this way. Yes, I know there is a California section and an Import section and even a jug/box wine spot, but look within each wine display and you’ll see the clear price stratification effect. The wines you have come to buy are probably on the shelf just below your natural eye level, so that you cannot help but see those special occasion wines just above them (and the higher priced wines above them on the top shelf). Cheaper wines are down below, near the floor, so that you have to stoop down to choose them.

The physical act of taking the wine from the shelf mirrors the psychological choice you make — reach up for better (more expensive) wines, stoop down for the cheaper products. The principle will be the same in upscale supermarkets and discount stores but the choices (what price wine will be at the bottom, middle and top) will differ as you might expect.

Studies suggest that people establish a wine price comfort zone (and corresponding wine shelf) and stay there, moving up a rank for special occasions and down a shelf for parties and other higher-volume purchases. A lot of factors drive this behavior, including fear. I have some $8 wine friends who are afraid to start drinking $12 wines for fear that they will be able to taste the difference — and have to upgrade their wine budgets.

One local supermarket has taken this principle to its logical extreme. It is a discount store that counts a lot of immigrants and retired people among its customers. The wine aisle is not organized as you might expect — by country of origin or wine varietal. It’s logic is simple and clear. This rack has wines that cost $3 and less. The next rack has $3 – $5 wines. And so on up to the $15+ wine rack. Large signs efficiently guide buyers directly to their target zone. Do they sell a lot of wine? You bet they do!

The relationship between the price of wine and our evaluation of it is complex. These recent studies indicate that we shouldn’t let price information influence our decisions, but marketing experience shows that most of us do.

Wine, Rice and Drought in Australia

April 18, 2008 By in Australian wine, climate change, globalization, Supply and Demand, wine markets 1 Comment

The effects of Australia’s continuing drought on the wine industry are well known; I wrote about drought and other problems that Australian winemakers now confront last September in a post titled Big Trouble Down Under. An article on the front page of yesterday’s New York Times explains how the crisis is deepening and evolving in frightening ways.

The Global Food Crisis

The article is part of a series on the global food crisis. If you haven’t been paying attention, food supplies around the world are drying up (both literally and figuratively), causing chaos in many places. Food riots are reported in the press almost every day. The crisis has many causes. Drought and climate change have reduced supplies in some areas, for example. Increasing demand is part of the problem, too, especially in China where, rising incomes have encouraged greater consumption of pork, which in turn increases the demand for grain. Rich countries like the U.S. are not helping the situation. Our biofuel policies divert food to the gas pump. All these factors push up food prices and the poorest people are the most affected.

As prices rise and surplus supplies shrink, food-exporting countries have begun to impose export taxes or even export bans in an attempt to keep domestic supplies plentiful and relatively cheap. The effect, of course, is to drive international prices even higher and “beggar they neighbor.” The price of rice rose by 40 percent in a single day last week as these export controls kicked in.

The Rice-Wine Connection

What part does wine play in this problem? Australia was until recently a major exporter of rice, but rice is an especially water-intensive crop and the continuing drought in Oz has dramatically limited production there. The Australian drought is a key part of the global rice shortage story. Wine production, however, makes the problem worse.

As the New York Times explains, winegrape production uses much less water than rice and so, as irrigation costs have soared, farmers have shifted production from rice to grapes. The graphic above shows the economic reality of the situation. Even at today’s crisis price of $1000 per ton for rice, higher water costs make winegrapes the more profitable crop. So while drought has reduced production of both grapes and rice, the substitution effect has reduced the impact on grapes and made the crisis in rice even worse.

Many authors suggest that what we are seeing here is part of an important transformation in the global economy. Globalization linked up producers and consumers at the far ends of the earth in the 1990s and produced a world of abundance and falling prices. The growth this helped produced (plus the associated environmental effects, according to some) are now combining to turn surplus into shortage. It is easy to see this in rice, but it is true in wine as well, as I argued in my post on The End of Cheap Wine. Protectionist policies conspire to raise the problem to crisis level for those who are least able to deal with it.

The [New] Emperor of Wine

April 15, 2008 By in critics, robert parker, wine critics 3 Comments

I met the guy everyone thinks is the New Emperor of Wine last week at the Taste Washington event. He’s a thirty-ish fellow from Belarus via New Jersey. He was walking around in a white and green New York Jets jersey and people treated him like a god. Wine is changing and the New Emperor is part of the story. Here is my report.

The Old Emperor

The Old Emperor of Wine is Robert Parker, of course. That’s the title that Elin McCoy gave him on the cover of her book, The Emperor of Wine: The Rise of Robert Parker and the Reign of American Taste. Parker is often cited as the most influential wine critic in the world. His writing on Bordeaux wines helped make these products objects of global interest. Jacques Chirac awarded him the Legion of Honor for his service to France and her wine industry. Parker is controversial because of the perceived power of his palate. Parker has particular tastes, it is argued, and winemakers who cater to those tastes receive big Parker numbers and are rewarded handsomely in the marketplace. Those who go their own way suffer.

And yet the French hate him. Parker is one of several villains we meet in the film Mondovino. Here’s what he looks like according to an illustration I found in Slate. He looks more like a devil here than an Emperor, shoving his idea of wine down the public’s throat (or over their heads, actually).

Robert Parker is more than a wine critic, he is a business model. Parker scrupulously avoids conflicts of interest, accepting no payment from anyone with a financial stake in wine, so he must sell his knowledge and opinions to pay the bills. He does this successfully in a variety of ways including subscriptions to his magazine Wine Advocate ($75 per year in the U.S.), his frequently updated internet wine site, eRobertParker.com ($99 per year) and sales of his many books and buyers guides ($30 to $75). People will clearly pay a lot to learn Parker’s opinions. They will pay even more to meet him in person. Dinner with Robert Parker appears frequently on charity wine auction lists. I don’t think I have ever seen it go for less than $10,000 although I admit I don’t follow these things closely.

Parker’s reign is coming to an end, however, according to an article by Michael Steinberger in the current issue of The World of Fine Wine ($300 per year in the U.S. – wow!). Parker is getting older and slowing down, Steinberger writes, overwhelmed by the global expansion of the wine industry. He’s slowly turning over the chores to a stable of hired tasters with regional specialization and in the process losing his hegemony over global wine.

The X-Emperor

The New Emperor, the one I met in Seattle, represents a different business model and a different idea of wine. His name is Gary Vaynerchuk and he is director of operations at the Wine Library, a wine store in Springfield, New Jersey that is owned by his family, immigrants from Belarus. This is what he looks like, based on an image that appeared in another Slate story.

You don’t have to settle for the illustration, however, because you can see him in action on the web at his website, Wine Library TV. His daily 10-20 minute wine tasting webcasts draw a growing audience — I have seen estimates that range from 60,000 to 90,000 viewers a day. They come for a completely different experience of wine.

Click on the link above and watch one of Vaynerchuk’s wine reviews right now. Yes, do it now. His real-time reviews may change the way that you think about wine. The narrative is zany and over the top. The “tasting notes” are instant, personal, confident and detailed. I admit they make me wish that I could taste as much in a glass of wine as he does. But it’s his business and he does it with gusto. The surround sound experience (complete with the splurt as he spits into a NY Jets bucket) will either delight you or appall you, but it probably will not leave you unmoved.

Gary Vaynerchuk is to traditional wine criticism as the X-games are to the Olympics. It’s the same game, more or less, but intentionally taken to a new level. Like the X-games, I’m not sure it is to my taste, but it fascinates me. Like the X-games, I suspect it is an experience that will appeal instantly to young people who are drawn by the combination of extreme bungy-jumping pure adrenalin rush and geeky technical detail. Like the X-games, I think it is probably here to stay.

Wine Empire 2.0

The New Emperor embodies a new business model, too. Parker studiously avoids conflict of interest. Vaynerchuk accepts such conflicts as inevitable and moves on. Wine Library TV is given away free on the internet, not sold on a subscription basis (another appealing factor for young people, who often resent being asked to pay for web content). The webcasts generate business for the store, however, and for other enterprises, including a forthcoming book (101 wines guaranteed to “bring thunder” to your world).

One particularly interesting part of the New Emperor’s empire is Cork’d, a wine social networking website (Facebook for wine geeks, I guess). Cork’d aims, like Cellar Tracker, to turn the tables on wine critics by collecting reviews from wine drinkers themselves, many of whom are very knowledgeable, so that the ratings are free, interactive, and reflect the tastes of an (hopefully) informed consensus. Is it working? It is too soon for me to tell — I’ve only been experimenting with Cork’d for a few days.

Cork’d is classed Web 2.0 — shifting power from a small number of content providers to a huge user base. Lead by Emperor Vaynerchuk, the Cork’d army could seize control of the idea of wine from Parker and the others. Imagine what Parker’s staid critics would say about that! I’ll have to watch Gary Vaynerchuk to see how his empire unfolds.