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05.27.2010

The Great Wine Unraveling

spilled_wine.jpgI've never been one of those folks who decries the globalization of wine. I find the Mondovino crowd to be alarmist and polemical in their approach to wine, more concerned with their ideology than with the facts. However, there has always been an aspect of their argument about which I have shared some concern: the seeming inexorable consolidation of wine companies into large corporate behemoths. I've watched many brands be swallowed up and come out much worse for wear after going through the digestive tract of these beasts, and I've watched these massive companies lumber about in the industry crashing into things, and generally making life difficult for wineries, distributors, and retailers.

In short, I've always thought these big wine holding companies were unwieldy, but figured, like in so many other industries, that must have been the price to be paid for increasing shareholder value.

But it turns out that outward appearances may have indeed indicated some deeper, more systemic problems, at least in the case of Foster's Wine Estates, by volume the fifth largest wine company in the U.S.A. and one of the largest in the world.

Earlier this week Foster's announced that it would essentially undo its previous acquisitions, divesting itself of all its wine holdings (which included giants Beringer-Blass and Southcorp) and essentially wiping its hands of $12 billion dollars to go back to beer.

I'm obviously not a drinks industry analyst, so it's hard to know what to make of this, and whether it signals anything other than poor management on the part of Foster's.

However Foster's is hardly alone. Constellation Brands, the world's largest wine company has been shedding brands and consolidating divisions in an effort to shore up its balance sheet in this economy, and another large wine company, Ascencia, (that, ironically, was buying up a lot of those brands from Constellation) has been trying somewhat feebly to convince everyone it is not going out of business.

Of course, these are hard times, especially for the wine industry, but in addition, we may be seeing an end of an era, as the giants of the industry crumple under their own weight.

If the global financial crisis coupled with some small fundamental flaw in the idea of super-consolidation in the industry means that we are returning (retrenching?) to a more heterogeneous global wine market, I don't think there will be many people complaining, except those unfortunate souls who find their jobs (or their wine brands) casualties of the phenomenon.

I guess there's no such thing as "too big to fail" in the wine business.

Comments (8)

Jim Robinson wrote:
05.27.10 at 10:20 PM

I want to feel a more personal connection to the products I purchase and use daily. I want to know where they come from, who's making them, where the money goes. I think a lot of people feel that way, but it's impossible to have that relationship with these industry giants and they know it. I might be biased, but the best wines for me always come from boutique vineyards that I've actually visited.

Phil wrote:
05.28.10 at 9:26 AM

Nice blog Alder, it immediately brought to mind something I wrote in June of 2008 on our forum: basically wine is just like any other industry. Here's part of it:

"I'm starting to wonder if we are at the very tip of a market correction.

To me, the keys here are the drivers of these sales. Fosters is acknowledging that it paid too much for its wine assets, and that they are losing money. Constellation was widely expected to sell off some of the acquired Beam brands when the acquisition was made, but listen to the explanation from CEO Rob Sands:

'Sales of these assets will aid in streamlining Constellation's U.S. wine portfolio by eliminating brand duplication and excess production capacity.' He is attributed, but not quoted as saying the sale will raise cash to pay down debt. By the way, Constellation Brands lost $610 million last year, mostly due to one-time expenses related to goodwill(which is the intangible value of a company, McDonald's, for instance, gains an enormous amount of value from its brand). But even though these are one-time expenses, the companies income was also down from the previous year by about $80 million (from over $400 million). It's also worth noting that Constellation expects to have a $23 million loss in this entire transaction (buying from Beam and then selling off), mostly due to 'goodwill writeoffs', which to me translates to 'we paid too much.'

This to me is classic market economics at work. The result of conglomeratization in any industry tends to be brand duplication and excess production capacity (just ask GM). I'd note that the 2008-2009 State of the Wine Industry report from Silicon Valley Bank Financial Group states that wine in general is experiencing shortages, not excesses, in supply.

In addition, companies tend to overpay for assets in 'hot' markets like the wine industry. The combination of these factors is bad news economically for companies who overbuy, because the sum of all of the separate companies tends to not be equal to their individual worth.

Combine this with the 'wine profits will always continue to grow the way they have been' attitude many seem to have, and the current problems in the economy in general, and you have a recipe for overstuffed, inefficient, and eventually money-losing corporations. Most of the time, these corporation see that they've over acquired and act accordingly (GM, for some reason, still hasn't).

Also, what will the effect of the seemingly inevitable shift away from the three-tier distribution system in many areas have on these mega-wineries? Some of the value of having so many brands is leverage in the distribution channels."

GM of course had to go bankrupt to finally try to remove some of its redundancies. I also think it's important to point out that distributors are in a different situation, they are buying out competition to end their competition with them, not to run their company themselves. If Foster's situation is analogous to GM, then the distributor situation, led by Southern, is more akin to a supermarket chain or a bank: you buy out your competitors to take over their business and you eliminate the brand you buy after a short transition period.

Bill Dyer wrote:
05.28.10 at 9:37 AM

We like to say we are too small to fail!

Phil wrote:
05.28.10 at 3:28 PM

Housing market - Meet Wine Business! Overvalued is overvalued no matter what sector of the economy you are operating in.

05.28.10 at 3:49 PM

"Some of the value of having so many brands is leverage in the distribution channels."

A HUGE amount of the value of having big volume/dollar share is leverage in the distribution channels. That and pummeling your suppliers. Internal "synergies" are usually overrated IMHO. Really, how many brands/SKUs can you have before they start cannibalizing each other? Once your tanks are a certain size and full and the bottling line is fully booked, how much economy of scale can be realized?

Go Bill!

Anthony wrote:
05.31.10 at 2:49 AM

"I want to feel a more personal connection to the products I purchase and use daily. I want to know where they come from, who's making them, where the money goes. I think a lot of people feel that way, but it's impossible to have that relationship with these industry giants and they know it. I might be biased, but the best wines for me always come from boutique vineyards that I've actually visited."

This is beautifully said Jim - hard to know how many people feel this way but I share the sentiment.

I have been beating this horse for a while now - but the global credit glut - the fact that nearly anyone could get the money to do what they want (not just buy a house) is and will continue to doom businesses of all sizes for quite some time.

I was in the cellar of a major producer this weekend in Chianti - big name, good wines, big production. After the cellar guide mentioned that one particular wine stayed in oak for 20 months, some of the others in the group wanted to know why all the barrels were dated with the 2007 vintage. It's because THERE IS NO PLACE TO PUT THE WINE. This is happening to the best Italian reds - it is happening everywhere. And in many industries.

I welcome the return to smaller and better - but - the prices will eventually go up on all of us again - I just think that day is a long way off.

Stephen Weinberg wrote:
06.01.10 at 6:07 AM

Perhaps it is the CYCLE of LIFE! Nature has a way of adapting Size to it the Situation. Just another form of Downsizing!

06.01.10 at 4:22 PM

Maybe it would be wonderful to live in a world where all wines are made by small boutique producers (and also all the wines are wonderful too!), but for my part I am not sure I agree. Just as the physical geography of the wine world is extraordinarily diverse, so is the human geography. That goes for the industry of wine, because, whether made by peasant growers in some corner of Europe, by a family that has biodynamically farmed a Grand Cru plot in Burgundy for 300 years, or by a large company based in the Central Valley of California, making and selling wine is an industry.
Matching human diversity and economics with geographical diversity will always produce a wide range of outcomes. An enormous part of the diversity of the wine world would be impossible with big corporates, or at least without organisations able to capitalise on economies of scale to produce wines at affordable prices. So much so that without them, and the flow-on benefits that accrue to the regions in which they may operate, wine would be vastly more expensive to produce, vastly more expensive to ship and distribute, and never have the intensity of industry of people to write about it and guide people to it. There would be far, far less wine produced, and far fewer outlets to sell it. Nor would globalisation of wine even exist as a discussion topic.
And, believe it or not, large corporates produce not insignificant volumes of seriously good wines as well. Some of this is acquired, sometimes cheaply and sometimes massively overpaid for; sometimes it comes about through pioneering new regions and developing new styles and labels (yes: believe it or not this does happen – New Zealand’s Marlborough sauvignon blanc, for example, was effectively created by a corporate willing to plant somewhere it had been told it would be foolish to plant vines, and where it had to replant most of the vineyard owing to initial mistakes).
The flaws in the corporate model are human behavioural flaws, not necessarily flaws in the fundamental business model. Corporates tend to develop overly elaborate or prescriptive theories as to how they should operate and what they should or should not own. Then it can become extraordinarily difficult to properly test the theories or to backtrack, to admit mistakes, until those mistakes have become too big to ignore.
Large conglomerates have been into and out of the wine industry for a very long time indeed. I don’t see that ending. Changing tastes and new opportunities will drive the creation of new conglomerates who may perceive ways of doing business that are not obvious to us today. These may lead, in the human way, to the creation of new empires of wine. Like a movie, sit back, watch, and enjoy the ride; you already know the ending.

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