Meiningers Wine Business International, July 29, 2019
|Monday, July 29, 2019|
Wine Profits at the lower end
When everyone is talking about trading up, why are some wine companies going the other way? Jeff Siegel investigates.
Peter Stoneberg, managing director, Dresner Partners
Talk to anyone in the wine trade, and they’ll say the most important trend in the US is premiumisation: the idea that consumers are trading up, willing to spend more money for a bottle of wine. The idea of premiumisation has been embraced by companies ranging from tiny craft producers to the biggest multinationals.
So why, in the space of a couple of weeks this northern spring, did two of the biggest wine companies in the world head in the opposite direction? The Wine Group, with 53m cases annually, said it would spend “multi” millions of dollars to relaunch its Franzia 5-litre box wine – once the best-selling brand in the US, but which has been in a sales freefall since the end of the recession. Meanwhile, E & J Gallo, the industry’s biggest producer at 90m cases, in April agreed to pay $1.7bn to Constellation Brands for 30 of its sub-$11 labels, along with a variety of wineries, vineyards and production facilities across the US. Although the sale has been delayed because of the need to supply more information to the US Federal Trade Commission, it’s nevertheless predicted to go ahead in the second half of this year.
What’s going on here?
“I was frankly surprised,” says Peter Stoneberg, managing director at the Dresner Partners investment bank in San Francisco. “Clearly, there is a focus on premiumisation, so for companies to spend so much money in the other direction must mean something else is important for them.”
In these cases, say analysts, it’s not a rejection of premiumisation as much as the realisation that one size does not fit all. Yes, some consumer segments have embraced trading up. But if US sales growth by dollar has increased over the past several years, growth by volume has remained flat, especially among consumers younger than 40. The ageing Baby Boomers, who powered the 30-year US wine boom, still have money to spend on wine in a way younger drinkers don’t. In addition, legal marijuana and craft beer and spirits have given younger drinkers choices that their parents and grandparents didn’t have. Hence, more wine marketers are asking if premiumisation is the best way to attract those younger Gen X and Millennial consumers.
“If you look at these [companies] as lifestyle brands, it’s not uncommon that they move around,” says Michael Wangbickler, the president of Balzac Communications and Marketing in Napa, California. “Since they aren’t usually tied to a vineyard or winery, they become commodities to be traded. The target audience cares less about the sourcing than they do about price and brand alignment. I don’t think this is a trend as much as a business decision by Gallo and The Wine Group. They see these brands still have a lot of equity and that investing a bit in the brands can recapture some of their past glory.”
Doing the deals
The Franzia re-launch is the brand’s first creative campaign in 35 years, since the varietal push (calling wines Chardonnay and Merlot instead of Chablis and Burgundy) that jump-started the US wine boom. The Wine Group did not respond to a request for an interview, but various published reports outlined its planned multi-million dollar expenditure. Franzia’s sales are more or less what they were in the early 1990s, about 12m cases. By one measure, the brand is the fourth biggest in the US off-premises segment by dollar volume, just one half of Gallo’s No. 1 Barefoot. It has been a long, steady drop from the top for Franzia, where it ruled for decades and as recently as 2014.
Hence the announcement in early April to re-do the brand. The plan includes modernising the venerable 5-litre box’s packaging and introducing 500ml Tetrapaks called Little Franz, a rosé, Chardonnay, and two white blends that will retail for $3.49. In addition, the brand is launching a media campaign based on the late 1980s TV show “Golden Girls” and its theme song, “Thank You For Being A Friend”. The campaign will include updated social media, influencer marketing, and a sweepstakes via the brand’s digital channels.
Interestingly, The Wine Group CEO Brian Vos gave an interview in April 2018 in which he said premiumisation was the company’s goal: “You won’t see us abandoning the value end and the popular [premium] segment as well, but you will see us leaning in on the [ultra] premium end, because that is where the growth is at … Our innovation has focused on south of $20. Everyone has different terminology for that [segment]. I call it ‘premium-plus’.”
The difference between then and now? Gallo’s aggressiveness, as well as what long-time California winemaker Cameron Hughes calls “the ecosystem of brands”. The Wine Group, he says, can’t let Gallo steal its shelf space, particularly for a brand like Franzia. It’s true that the label is not what it was, but it’s still important, “so there’s a need to reinvent it and make it relevant again,” he said. “Otherwise, you’re going to lose that shelf space.”
Meanwhile, almost everyone interviewed for this story called Gallo’s acquisition a coup for the company, potentially allowing it to control the US supermarket wine business. It’s worth noting that Constellation originally asked for $3bn for just a handful of brands that it wanted to sell, but had to settle for just more than half of that and add a variety of production facilities and the 3-litre Black Box. Black Box sales grew by almost one-third between 2017 and 2018, making it one of the fastest-growing labels in the country.
The facilities and vineyard acreage acquired will include the Clos du Bois winery in Sonoma (“a production marvel,” according to one observer), and two large facilities in the Central Valley, where much of the US’s bulk wine comes from. Hughes says that Gallo, always one of the most important growers in the Central Valley, could become the most important with the additional acreage and wineries.
Gallo declined a request for an interview, but issued a statement, saying, “While we continue to invest in our premium and luxury business, we see a tremendous opportunity with this acquisition to bring new consumers into the wine category. We will continue to provide our customers and consumers with quality products at every price point. We believe the additional brands as part of this acquisition will build upon our already diverse portfolio of wines and spirits and provide us with increased production capacity to fuel future growth.”
In other words, said Rob McMillan, the executive vice-president and founder of Silicon Valley Bank’s Wine Division in Napa, “there’s a huge need to get younger consumers into wine, and Gallo sees some of these brands as a way to do it. They aren’t at a high price, and they can use these brands as entry level wines and still be profitable.”
An uncertain future
McMillan’s point: the wine business has finally realised that premiumisation may be great for the bottom line, and it’s especially appealing to public companies like Constellation. But higher prices may be scaring off younger wine drinkers, forcing producers to decide which direction to take. They can focus on premiumisation across beer, wine, spirits and legal marijuana, which Constellation appears to be doing. By some accounts, it’s remaking itself into something more like luxury brand LVMH instead of the wine company it has been since the end of Prohibition.
In fact, Constellation was apparently so eager to get rid of its sub-$11 wines that the $1.7bn sale price may not have covered the cost of acquiring some of them. It paid $885m to buy Clos du Bois (plus vineyards and several other wineries) in 2007, plus $150m for Ravenswood, $160m for Mark West, and $145m for Blackstone over the past 20 years. It also paid $1.3bn when it bought Canadian producer Vincor in 2006; that deal included Hogue and Toasted Head.
Says McMillan: “When wine was all there was, that was one thing. But today, with premiumisation, you can buy a $28 bottle of Napa red wine and get five servings, or you can buy a $28 bottle of Maker’s Mark and get 28 servings. What makes more sense for the consumer, and especially for the younger consumer?”
The other choice for producers is to remain primarily a wine company with products at all price tiers. This seems to make more sense for large, privately held companies like Gallo and The Wine Group, say analysts, and it looks to be Gallo’s approach. By one estimate, the company will control almost one-quarter of US wine sales by volume after adding the Constellation brands.
“Gallo is recognising that current growth trends aren’t sustainable,” says McMillan. “But they have so much invested in California in huge facilities and in vineyards across the state, they see the need to reinvigorate the market that’s falling because they do have such a large investment.”
Hughes says it’s about what he calls throughput – maintaining supply chain efficiencies throughout the wine production process, from vineyard to grape crushing to fermenting to bottling. Gallo has significant investments in all of those, and even makes its own bottles. So a purchase like this capitalises on the company’s economies of scale, allowing it to squeeze more margin even from lower priced brands.
“There is a still a huge market for the brands that Gallo bought,” says Stoneberg. “And Gallo must see that it can really dominate that market, and control an entire part of the wine business and not just one segment of it. When you’re a low-cost producer, that’s how you win.”
Even with premiumisation as the trend that dominates the US wine market.
This article first appeared in Issue 3, 2019 of Meininger's Wine Business International magazine.