The next rosé?

The cases of Inniskillin and Domaines Barons de Rothschild illustrated brands that captured and maintained market share as a result of their emphasis on quality and focus on the high-end of the wine market. When discussing DBR specifically, many of us concluded that instead of expanding their Collection offering in the lower-cost segment, the company should instead continue expanding by doing what it does best: growing and producing the highest quality wines at French chateaux. In fact, moving down the quality/cost frontier might erode their competitive advantage of being a leader in the high quality, luxury wine space.

This begs the question: how can companies successfully establish a competitive advantage in the affordable wines category? Establishing a competitive advantage is especially important in this segment given extreme fragmentation. Constellation Brands seems to be attempting to find the answer to this question. The company recently reported Q4 earnings and revealed that beer revenues increased quarter over quarter. In contrast, the company expects wine and spirit sales to decrease 4-6% over the 2018 fiscal year. How might the company try to increase wine sales? One idea is a cannabis-infused wine offering. In October, the company announced that it obtained a minority stake in the Canadian medical marijuana company, Canopy Growth. While cannabis-infused wine might be a few years down the road, at least in the US, it would certainly have greater impact than bringing a new canned wine or rosé to market. I think this class provides a good opportunity to look at other ways companies are attempting to differentiate and grow in the affordable wine segment.

Who has the power?

I was struck by two comments made by Christine Wente during our class on Thursday. First, she stated that she felt lucky they were above the fray and selling for more than $15/bottle. This seemed to suggest that the low-cost segment is very competitive, and most consumers are buying based on price as opposed to brand reputation or loyalty. Shortly thereafter she discussed how difficult it is for Wente to raise prices, and that they’re investing a lot in their wines and probably not charging enough.

These two statements seemed contradictory to me. As one of the oldest wineries in California, Wente is clearly established as a brand. If consumers view it as higher quality, and they’re willing to pay above the ~$15 low-cost threshold that Christine identified, why is it so difficult to incrementally raise prices?

As I reflected on this question I began wondering if:

1.     The middle market is becoming more competitive? It was suggested that most mid-size producers did not want to be acquired by large players, and many are family businesses. Are mid-size producers going to continue to expand as multiple generations become involved in the industry?

2.     The difficulty raising prices stems from the power held by consolidated distributors? It was mentioned that it was hard to get attention from distributors if you weren’t a large brand. If the majority of a winery’s sales are not direct to consumer, how much power do they have to dictate pricing?

3.     The demographics of their customers are changing? We discussed in our first class how boomers are the largest consumers, but their consumption is slowing. Could replacement consumers with lower disposable income be contributing to the problem?

Wine & Finance: Well-Established, High Quality Brands Adding More Affordable Products

There is always a trade-off when a luxury brand considers expanding by adding an affordable product to its offering. I worked through this problem in my role at Morgan Stanley prior to the GSB. Morgan Stanley Wealth Management provides quality investment advice and resources to its clients and has historically targeted a high net worth clientele ($2M+ in assets). Recently, however, with robo-advisors disrupting the industry, Morgan Stanley has had to decide whether it too would enter into the robo-advisor space. This expansion would give the firm access to a high volume of mass affluent clients and the next generation of high net worth clients who currently favored an easy, low cost digital offering. When the next generation clients inherited or accumulated wealth, they could then easily transition into an advisor-assisted offering, Morgan Stanley's bread and butter. The downside is the potential effects on Morgan Stanley's brand and the cannibalization of its current business in the advisor-assisted model.

This same thinking could be applied to the wine industry. When DBR considered expanding to Chile to offer a more affordable product, they too needed to consider the impacts on their brand. They chose to label differently, adding a new brand to their portfolio rather than diluting the reputation of the current luxury brand name. Morgan Stanley, on the other hand, would need to leverage the power of its name to persuade even mass affluent customers. The offering could have its own labelling but it would be more obviously tied to the MS brand. Still, both are able to use their well-established reputations to market even their affordable products as high quality.

While there are many similarities in MS's and DBR's approach to branding their affordable product lines, cannibalization concerns do not affect both in the same way. MS needed to be concerned that customers would abandon more expensive advisor-assisted channels to opt for the digital offering. This is because digital offerings were brand new and were not an option before and especially not an option from a traditional, reputable brokerage firm. People would leave expensive channels in favor of cheaper ones. DBR on the other hand didn't have this concern. Affordable wine was already accessible and is now even more accessible. It is very easy for customers to purchase a $10 bottle of quality wine. DBR expanding its offering to meet this demand did not necessarily cannibalize its luxury product offering because when people purchase affordable wine their alternative is not expensive wine but instead other affordable wine. Therefore, DBR could expanding into this segment of consumer demand, leveraging its brand to ensure quality without harming the success of its more expensive products.

Though brand dilution and cannibalization are valid concerns, the availability of alternatives in both industries makes it essential for both companies to adapt to the accelerating changes in consumer trends in order to ensure their success in the future.

Consumer Behavior in China - Some Answers, More Questions

I really enjoyed our conversation around DBR's strategy in China and was left ruminating about whether or not Chinese consumers are ready to start purchasing and consuming Chinese wine. As discussed in class, the mistrust of domestically produced pharmaceuticals and infant formula has been a real sticking issue. A 2008 scandal in which melamine was discovered in infant formula led to serious mistrust of the domestic dairy industry and prompted increased regulation of food and beverages. This was one of the many contributing factors to an emerging desire (by those who can afford it) to buy imported goods from reliable names. I saw this trend in action in 2013, when I worked on the team that advised Smithfield (America's largest pork producer) on their acquisition by Shuanghui Group to form the largest pork company in the world. Much of the acquisition thesis revolved around the value of marketing and selling an American branded product in China, with quality implicit in the American name and packaging.

However, based on my recent visits to China and conversations with people on the ground, I think that this trend is starting to change. Part of the issue has been a general attitude that Chinese companies make low quality copies of existing products rather than innovating and creating something new (and tailored to the local market). Xiaomi, an electronics company, is a great example of how that is changing. Xiaomi has long been thought of as a maker of low cost, knock off Apple products. However, a recent visit to corporate headquarters and their new retail concept has convinced me that this is no longer the case. There is true innovation taking place, most notably evidenced by the recent launch of their Mi MIX phone (in advance of Apple launching the iPhone X). I think the same trend is occurring across industries, including fashion, personal care and food & beverages. In November, I visited a mall in Beijing that had a store selling locally grown produce and prepared foods. The store would have been at home in Williamsburg or Palo Alto, right down to the signs showing the provenance of each item and the eye popping prices. Consumers are starting to appreciate that "Made in China" can mean high quality, with the added benefit that these products are made at home by people who have an authentic understanding of the local market. I look forward to learning more about how this emerging trend will translate to the nascent Chinese wine industry.

Margaret Greenberg

Affordable Luxury

I have always been interested in consumer products, and especially the middle market of affordable luxury. Things that are special, but that don't have the prohibitive cost structure of "true" luxury. Wine is a category that spans many price points (e.g., the bottles of Andre my roommate and I would buy in college to the Rothschild wine that discussed last class), but in nearly every scenario that it is consumed, it is a luxury of the moment. It's generally not a drink people consume out of necessity or for the health benefits, but because there's enjoyment in it. It's not only a product, but an experience.

I am excited to learn about the history of the industry, how labels get consumers to increase their purchases (e.g., either with increased quantity or buying a higher price point bottle), and generally how the industry things about selling to consumers who are largely uneducated about the differentiation in products. 

Lebanon's Native Grapes: Obaideh and Merwah

In 2017 Forbes published a two-part series on the history of Lebanese wine production titled, "Lebanon: The Greatest Food & Wine Country You've Never Visited". In the first part of the series the author runs through a summary of the country's turbulent political past (and present) and in the second focuses on the market's top producers. According to their assessment, Chateau Musar is the most internationally well-known Lebanese wine producer.

"Lebanon’s most famous producer and the one best known in the States is Château Musar. While the Musar Red has long commanded the highest price in their portfolio, a tasting of Musar’s white from vintages back to the 70’s demonstrated the underappreciated potential of Lebanese indigenous grapes Obaideh and Merwah." 

Learning of Musar’s popularity and reach was no surprise, particularly given that it was revived by an heir who immigrated to the West, made a fortune and presumably connections, and had come back to Lebanon to revive the family business.

However, I was surprised to learn that Lebanon has indigenous grape varieties: Obaideh and Merwah. Upon looking into this a little more deeply I found that Obaideh (or Obeidi), described as a “white-wine grape…used to make traditional blends and varietals,” is also used in the production of Arak, a traditional Lebanese liqueur that tastes of aniseed (I mentioned this drink in my previous post, unaware of the link). The flavor profile and treatment of the grape is described as follows:

“high in sugars and low in acidity and often yields wine with a creamy texture and flavors of honey and lemons. It responds well to oak aging and, when vinified with care, is capable of aging for many years. Obaideh has an unproven relationship with Chardonnay and Semillon and is typically blended with Merwah, another Lebanese variety.” (Wine Searcher)

According to the team that runs Chateau Musar, the Obeidi grape is so well-adapted to the regional and environmental characteristics that they do not intervene in its growth in the slightest (from Just Grapes: “no canopy management, no pest control, no irrigation”). This contrasts with “minimal intervention patina” used in other wineries elsewhere in the world. Chateau Musar grows these grapes on their own roots (rather than on grafted rootstock) in chalk soil and calcareous gravel and harvests the grapes when they are ripe (not necessarily at night, which is the more common time to pick grapes in hotter climates).

The result of this grape varietal and these growing and aging practices is generally a more oxidative quality to the wine. Brief research on oxidative wine (and commentary on Musar’s products) has revealed that, perhaps like many other characteristics of diverse wines, this is an acquired taste. According to a Brooklyn-based sommelier “Some winemakers insist that, yes, controlled oxidation can add richness, complexity, and desirable, umami-driven aromas and flavors to white wines in particular. If preventing oxidation highlights primary notes like fresh fruit, floral, and herbal notes, oxidative winemaking does the opposite, bringing layer upon layer of savory, earthy, nutty aromas and flavors to the wines. The key is balance.” If the winemakers expose the wine to too much oxygen then it may entirely damage the wine, making it oxidized rather than oxidative.

Distributors - a serious problem?

Related to our last class, I found our discussion on distributor consolidation pretty interesting. While I can understand the general argument that big distributors tend to forget about their smaller customers, I still can't believe such is the case with regards to the wine industry. Prohibition era booze laws and mob-esque middle-man muscle definitely play roles here, but I’d imagine the customers – i.e. the retail buyers and end consumers – are significant mitigants. There is a trend towards variety, “finds,” and smaller brands, much as is occurring in the beer industry. Mid to premium users feed off the cultural value and pseudo-intellectual points they gain from drinking smaller batch wines. Something to keep in mind when industry participants are bemoaning their distribution channels – it could be a lot worse! Market forces are providing significant tailwinds, which makes me question just how much of a problem distributors actually pose.