The Three-Tier System of Wine Distribution Channels
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In your travels, either locally or further afield, have you walked into wine shops and noticed how many similar wine labels adorn shelves and displays? That’s true, especially for wines produced in the United States.
How is it that the selections are so homogenous? Where is the retail diversity from the over 10,000 wineries currently operating across all 50 states? (You can indulge in a drilldown of production and consumption stats in a recent column.)
Retail shops are handcuffed in their choices of wines. Federal regulations have created a three-tier system of wine sales. Wineries must sell to distributors. Retail shops must purchase their wines from these distributors. Direct sales from wineries to retailers are prohibited.
Distributors are the fulcrum for sales of domestic wines. Large wineries, with plentiful product to sell into the retail markets, are the darlings of distributors, whose business models are built on scale. By definition, small wineries suffer the most.
For consumers, large-scale monolithic distributor channels deny a willing retail purchaser the opportunity to discover excellent wines that may not fit the large distributors’ business model. It’s economy of scale at work in a free market.
Allow me to present a framework around this consumer dilemma. Here are facts I’ve gleaned from several wine industry reports, notably Wines & Vines magazine.
Over 84 percent of wine produced in the United States is centered in 2 percent of domestic wineries. A whopping 75 percent is produced by merely 10 wineries.
At the other end of the spectrum, three-quarters of wineries produce less than 5,000 cases annually.
The distribution channel of the three-tier system has experienced similar contraction. There are about 1,000 distributors serving wineries. Three of these companies control nearly 67 percent of all domestic wine sold in the United States.
This imbalance has been creeping into the marketplace through roll-ups and consolidations. Today’s market channels are inverted from traditional demographic relationships. Twenty-five years ago, there were 3,000 distributors serving 1,800 domestic wineries. Today there are 67 percent fewer distributors serving a 556 percent increase in wineries.
So how is a small winery to survive, let alone flourish?
Many small wineries are owned by entrepreneurial, passionate winemakers. They are constantly seeking ways to (legally) contravene the existing system. Twenty-first century technology has given a number of them the necessary tools.
Here are business models progressive wineries have adopted:
- Sell to brokers. These intermediaries have greater scale to influence distributors. This approach produces the lowest profit margin but greater capacity for higher sales volume.
- Sell in their tasting rooms. This is more lucrative, as the winemaker sells wine directly to consumers at full retail price, producing the greatest margin. Increased costs include the capital investment of building a tasting room and staffing it. The pandemic shut down these tasting rooms. Those that have recently reopened have raised their tasting fees to compensate for lost revenues and escalating post-pandemic costs.
- Sell via the internet. This is the most lucrative: full retail price and the least incremental investment. Start-up wineries may resort to crowdfunding until they establish a solid customer base.
- Sell via wine clubs. Another avenue to garner full retail pricing with an added benefit: a semi-captive, repeat customer base.
Selling directly to consumers is increasing in popularity among small wineries. To understand better the value of selling directly to consumers, it is necessary to understand the pricing structure of the three-tier system.
Consider a bottle of wine on a retailer’s shelf selling for $15. A winery typically sells the wine to a distributor for $6, assuming one is willing to purchase the wine. By culling a direct-to-consumer following, the winery eliminates the other two components of the three-tier system, deriving an additional profit of $9, significantly greater than the profit generated in the traditional channels. Importantly, this may lead to price stabilization for consumers by eliminating the rising costs of the incremental travel, labor and overhead costs borne by distributors and retailers.
Just as technology has disrupted and transformed so many industries, so too for the wine industry. Unlike other industries, however, wine consumers may be the beneficiaries of these changes. The choices are yours.
Nick Antonaccio is a 45-year Pleasantville resident. For over 25 years, he has conducted wine tastings and lectures. Nick is a member and program director of the Wine Media Guild of wine journalists. He also offers personalized wine tastings and wine travel services. Nick’s credo: continuous experimenting results in instinctive behavior. You can reach him at nantonaccio@theexaminernews.com or on Twitter @sharingwine.
