The Big Boys

The (American) Brewers Association daily email arrived earlier with links to a couple of interesting articles on the role of the brewing giants in the US.

One was written by Brooklyn Brewery's Steve Hindy for CNN(!) on his fear that the US beer market is getting dangerously close to a duopoly. (Annoyingly the embedded video seems to have no relation to the content of the article.) The piece is quite fearful, as if the writer has heard stories about how bad a duopoly can be - stories from, I dunno, New Zealand? Interestingly it's possible that regulators will intervene to stop the 47% market-share holder from swallowing a 6% market-share holder.

The second was an interview with SABMiller executive chairman Graham Mackay on their "if you can't beat them, join them" attitude to craft brewers. At times it's refreshingly candid. He talks about how little bitterness was left in American beer before the arrival of craft beer, and acknowledges that craft is "local, anti-marketing, anti-global, anti-big, and more focused on experience and knowing the brewer who produces it."

He then chucks in the line repeated by many big brewers: "We have our own craft brands." He's just acknowledged that craft brewing is essentially a movement away from everything big breweries represent, but claims to be, or "have" one too. In other words, they're part of the empire but they're also part of the rebellion. Staggering.

Then there's the perfectly fair and reasonable-sounding comment "Let the consumer decide. If we're authentic enough for the consumer, that's authentic enough for anyone." As if transparency is their middle name and their advertising budget is for fun.

Finally comes the most chilling comment of the lot. "Tenth and Blake is a creation of MillerCoors to solve a specific problem, which is that we under-index in the growth segments." Yes buying craft breweries or starting faux-craft operations (which is the role of Tenth and Blake) is their way of correcting an error in their risk profile. That's why companies like Lion Nathan buy breweries like Emerson's - they're like fund managers making sure they've got stocks in all the companies in the benchmark index. Perfect owners.

The Price of Beer

Following a trip to the US earlier this year, I wrote the following piece as a possible contribution to a publication that never made it to print. So I might as well put it here...

It’s common to grumble about the price of beer. But increasingly travellers returning from certain countries have a little more reason to question what we pay for a good tap beer here. In particular in the US a (US) pint of high quality craft beer typically costs between $3 and $5. Even if the New Zealand dollar were to fall to a more traditional price that still represents a big price difference.

As importers, distributors and retailers of craft beer from a number of countries we’re privy to a little more detail regarding pricing than a lot of people so we’d like to shed a little light on the real costs of the beer coming out of the tap. 

Let’s start with the cost of a keg of beer from a brewery. It seems that US breweries are able to get beer out their door at a lower price than New Zealand or Australian producers. As far as we can tell, the prices below are indicative of what a 50L keg of a 7% IPA might cost in each country, excluding excise tax. 

Table 1. Indicative costs of a 50L keg of a 7% IPA.

A detailed analysis of the relative costs of brewing in each country is beyond the scope of this story. But it is assumed that better infrastructure and denser populations mean that ingredients and, perhaps, labour and other costs, are cheaper to US producers. Also their craft brewing industry is better established with a bigger population of consumers and many of their breweries are working on a much bigger scale. Even the smaller ones probably have less trouble selling their beer than an equivalent in New Zealand or Australia because bars and breweries aren’t allowed to enter into the kind of exclusive supply agreements that are the norm here.

When a keg of beer leaves a New Zealand brewery a second party need to be paid –the government. This is because excise tax is charged the moment alcohol leaves the boundary of a customs controlled area, such as a brewery.

Most of our trading partners have essentially the same arrangement, but varying levels of tax. In New Zealand brewers pay $27.609 per litre of alcohol. Australia has a similar system but a higher rate - $AU31.05 (although the tax is only on alcohol above 1.15% ABV). That’s around 20% more than in New Zealand. But there’s actually worse news for Australian drinkers. That rate only applies for beer packaged in a vessel 48 litres or greater in volume. There aren’t many of those on the supermarket shelf, so drinkers of bottled beer pay $AU44.11 per litre of alcohol. At that rate Australian beer drinkers are paying between 20% and 50% more excise than New Zealand’s, depending on a beer’s ABV.

But drinkers in both countries are being punished in comparison to those in the US. Small brewers there (i.e. brewing less than 234 million litres a year!) pay $US18 per barrel, where a barrel is 117 litres. (There’s an even lower rate for their first 60,000 barrels.) That’s roughly a tenth of what we pay, although the rate isn’t proportionate to the volume of alcohol so it’s impossible to compare directly.

So if a brewery were to sell a 50L keg of a 7% beer, here are the excise charges in the three countries:

Table 2. Excise on 50L of a 7% beer in US, NZ and Aus.

That beer then has to get from the brewery to the bar. We’re going to assume a freight charge of 20 of whatever unit of currency applies in the US, New Zealand or Australia. This is probably done via a distributor who will add a markup of, say, 15%.

Now there’s an important point to make about the distributor’s markup and the excise. The distributor will add a percentage markup and doesn’t care that some of the price that they’re marking up is excise tax. Why should they? A cost is a cost and a party buying and selling the product is risking capital and incurring other costs to do so. So in New Zealand that $96.63 figure mentioned above as the excise on a keg of a 7% IPA is effectively $111.12 by the time it gets to a bar.

The retailer then adds their markup. In New Zealand and Australia it’s accepted practice to mark tap beer up around 200%. This sounds a lot. But that markup is how these businesses pay all their costs, from rent to wages and everything in between. It is expected that a bar spends little more than 30% of their income on stock. We’re going to assume that in a market like the US the markup they apply is slightly lower. For one thing their labour costs will be lower because of the expectation that staff are paid in tips and they also don’t have expenses like ACC levies, kiwisaver contributions and other costs of our slightly less brutal economic system.

So for our model we’re assuming 200% markups in New Zealand and Australia and 150% in the US.

Sales tax is then added. Like the markups mentioned before, this is a percentage increase that doesn’t care what the costs it’s being added to are. So yes, GST is charged on excise tax.

Then customers in the US are expected to tip. This effectively adds a dollar to the price of a glass of beer. 

Here is our full table then. We’ve added a fourth column that represents the costs for a US beer shipped to New Zealand. As you’ll see, it starts cheaper than an equivalent local beer but the cost of bringing it here eliminates that difference and once it’s in the New Zealand system all our local costs take effect.

Table 3. Full Comparison of beer costs.

These are “back of the envelope” calculations but we think they reflect reality. And they offer an explanation of how we come to pay the prices we do.

So what can we learn? Clearly excise makes a big difference, not just because we end up paying nearly a dollar a glass in absolute terms, but because it then gets marked up by every party handling the beer. There is a case for saying that if excise tax wasn’t applied a beer such as the one in our example would be $3-4 cheaper in New Zealand.

In theory excise could be charged at the retail end instead of when beer leaves the brewery. This would come as a relief for brewers and would eliminate some of the extra marking up that goes on in the supply chain. It would mean every New Zealand bar, bottle store and supermarket would suddenly become a tax collector. But then they already are collecting GST, so that isn’t as radical as it sounds. But excise is a more complex tax, and every outlet would have to apply New Zealand’s arcane excise calculations on all the alcoholic beverages on their shelves. And since bars in particular mark drinks up more than any other party in the chain, this change would only produce a small saving in “marked up excise”.

But in the current climate of paranoia about drinking habits a reform of excise laws to give relief to brewers and beer drinkers has no realistic chance of winning political support. And we probably need to accept that our sin-tax regime, while punitive, is not as bad as it could be nor as bad as some of our neighbours.

Topic du Jour

Yesterday I issued a press release commenting on the sale of Emerson’s brewery to Kirin (Lion Nathan) and answering a question that was already being asked – whether we would continue to sell Emerson’s products.

The answer to that question was simple – we wouldn’t change our policy of excluding the products of the companies that spent most of the 20th century reducing the New Zealand brewing industry to a joke. (That’s Heineken-own DB and Kirin-owned Lion Nathan.)

This was pretty much non-news, but with the shock that the Emerson’s sale has caused, it has been seized upon in the media and generated some pretty bizarre responses in comments sections and social networking. Oddly about the only party that we had a constructive dialogue with yesterday regarding this was Emerson’s brewery itself.

So here is our rationale:

For nearly a century Lion Nathan and DB have employed business strategies that have set back the art and science of brewing in New Zealand and deprived consumers of choice. For example:

• They ensure that they have access to the New Zealand market in the form of shelf space and taps in bars by giving incentives to outlets. The effects are the exclusion of newcomers (new, small breweries) and the reduction of the New Zealand hospitality industry to a kind of serfdom in the service of the two breweries.
• They bought up and shut down every rival brewer in the country (except each other).
• Before the re-emergence of small breweries like Emerson’s they eliminated almost all stylistic diversity in New Zealand brewing.
• They misuse accepted terms for beer styles for marketing convenience and misuse intellectual property law.
• They brazenly exploit loyalties of the public to their regions while relocating production for convenience.

Emersons meanwhile have arguably been the most significant single force in the revival of brewing culture in New Zealand. In that time their investors (and this is a guess) must have been asked to fund regular expansions and upgrades to equipment while profits have been modest or non-existent and the staff toil away trying to get access to outlets controlled by the big breweries. While they’ve had as much success as anyone the returns to investors have probably been negligible. Their only hope of a realistic financial return on their investment is to sell the business.

So it makes sense for the owners to sell. And the next time Richard Emerson’s chauffeur drops him off at Hashigo Zake and he descends the stairs in his crocodile shoes and fur coat and orders a plum wine, we’ll welcome him as warmly as ever.

Emerson’s beer will now have the access to market that they’ve been largely denied for twenty years. They will no longer rely on free houses to find customers for their beer. Or to put it another way, they don’t need the likes of Hashigo Zake any more. But fifty or sixty other breweries do.

And as soon as the proceeds of their sales go to a parent whose business practices I disapprove of, we’ll prefer to find other suppliers.

At the Emerson’s brewery production will probably have to expand as they find it much easier to sell beer. Their new owners will probably add millions of dollars of spending to an already eight-figure investment. But Lion Nathan have an obligation to maximise returns to their owners. So while everyone has said that it will be business as usual at the brewery, I don’t see how Lion Nathan’s obligation to make a profit and their track record suggest any outcome except meddling with the beer.

It’s not really that hard to see why we said what we did. But we’ve been accused of snobbery, possibly xenophobia (presumably because I insisted on referring to Lion Nathan as Kirin, to remind people where the profits go), being haters, being hipsters (!wtf?)… who knows what else.

But actually we were just being consistent. Excluding Lion & DB products has worked well for us and our customers and as much as we admire Richard and his company we aren’t about to change.

Beer and Corporations

For years some of us have been expecting New Zealand’s two big brewers – Kirin-Castlemaine-Emu-Lion-Nathan-National-Foods and Heineken-Tiger-DB-Radler - to react to the growing interest in craft beer by reverting to type and going on a shopping spree of New Zealand’s small breweries. The rumours aren’t going away and Lion Nathan’s recent buyout of Australia's Little Creatures just reinforces the impression that the breweries have itchy cheque-signing fingers.

Most, if not all, of New Zealand’s small breweries are a huge financial burden on their investors. While they might make a modest trading profit in a good year that’s nowhere near enough to compensate investors for the capital they’ve poured in. Capital that could have been earning LIBOR at a respectable bank.

If a small brewery owner wants a fair financial return for all their cash and early mornings and sleepless nights the best hope is that a big rich corporation will come along, recognise their brand’s inherent value, give them an overdue payday, put in the extra cash the business is probably desperately in need of and, best of all, open up previously denied access to market.

So for the exhausted, under-remunerated brewery owner it is in their interests and rational to take the corporate mega-bucks. I’ve heard this sentiment expressed by plenty of people in or close to small breweries lately. It’s often heard alongside statements such as “the new owners would be mad to change the product” and “this way more people will get to try this great beer”.

I couldn’t fault their logic but something still felt wrong. After much contemplation I’ve come up with two reasons why I still hate to see these transactions take place.

1. From my, admittedly, partisan point of view, the industrial breweries make these purchases in our part of the world for one reason: to put a band aid on their own product list. To elaborate: the big two oblige most of the outlets to serve only their products but the public are asking for different (better) products, so rather than loosen the contractual obligations of outlets they would rather add (i.e. buy the maker of) a better range of products to their offering, creating the appearance of a more varied and better product range. Consumers who don’t read the business pages won’t realise that the independent-looking beer brand they’re buying in a tied outlet is actually a Lion-or-DB product.
   
   Pulling off this trick of owning someone good and independent-looking may be all the two need to keep enough of their customers satisfied to put back the day that they’re forced to loosen their exclusive supply agreements with outlets. But for the 59 or so small breweries who don’t get bought that’s another nail in the barricaded goods entrance to the New Zealand Hospitality Industry.
   
   
2. Having worked for corporations (in unrelated industries) and watched New Zealand’s big two brewing conglomerates for decades I can promise that they will mess with the beers. They won’t be able to help themselves.
   
   I’m a firm believer in the theory put forward by the book and film The Corporation that when you analyse a corporation as a psychiatrist might analyse a human, you’ll come up with a personality type of “psychopath”. Corporations are capricious and shallow and routinely captured internally by forceful individuals who make them forget previous intentions and follow radical agendas.
   
   That’s how I would explain the Lion-Macs-Shed 22 fiasco, which I have no inside information on, but watched as a consumer. Almost by fluke Lion appointed a fine brewer in Colin Paige to brew at Wellington’s Shed 22 and at first didn’t rein him in when he started getting adventurous. At about the same time they appointed Tracy Banner to brew at their subsidiary Mac’s and the beer improved out of sight. They had two subsidiaries making good beer on a small scale. Maybe Head Office hired someone with an MBA, or maybe someone senior with a few clues retired, but for whatever reason it was decided that two breweries was one too many and the operations had to merge and Mac’s Nelson brewery was closed. The quality of the merged operation probably wasn’t as good but sold well, so they closed the Wellington operation too and moved production to Christchurch, which promptly suffered a catastrophic earthquake destroying the brewery. The point is that as a corporation they couldn’t recognise a good thing when they had it – whether it was something they built or bought - couldn’t help tinkering and Wellington consumers suffered.
   
   Lion and DB got where they are by buying up small breweries – literally dozens of them - capturing the customers and brands of those small breweries and consolidating everything in sight. Where are those traditional brands and breweries now? Exactly. Does anyone really think that this time will be different? The new owners might have good intentions today, and it might take one year or twenty, but sooner or later they won’t be able to help themselves. It’s their personality type.
   

Interestingly, just as I was writing this, I was alerted to a piece by none other than Charlie Papazian, nuclear engineer and founder of the American Brewers Association, in which he has a similarly bleak interpretation of the purchase by Kirin-Lion-Nathan-XXXX-James-Squire-Macs-Speights of Little Creatures.

Payola

I got put onto this story from the US yesterday. Basically it touches on what seems to be a recurring scandal in the brewing industry there - that brewers or distributors will make illegal payments to get bars to put their beers on.

If one assumes that their anti-inducement rules generally work, in spite of all the issues people like Flying Dog have, then they must play a part in the explosive growth of independent brewing there.

As much as we like how well the New Zealand brewing industry is doing, it has never had the gold-rush feel of the US industry. Surely it's the hospitality industry (i.e. bars) who are the obstacle. Because what's illegal in the US is a cornerstone of the hospitality industry here.

Every now and then there's an appeal for some kind of tax-break or special treatment for craft brewers. (Because, you know... defining who is a craft brewer is dead easy and a large industrial brewer would never have their lawyers find a way for the tax-break to apply to them.)

But surely the single best way to get beer that we like (trying to avoid saying "craft") into New Zealand bars is to outlaw the ways that DB and Lion tie the bars down? We have government and private institutions dedicated to making sure New Zealand's economy is competitive but they won't even look at a practice that is all about using inducements to eliminate competition. And if competition law doesn't get them, surely contractual penalties for not selling a minimum volume of beer breach the Sale of Liquor act.

Seriously - why do Lion and DB get away with what they do without a whisper?