Inventory Days Higher, Grape Prices Headed Lower

Pig in a Python
Here's a late edit to this post: If there are 6 pigs in a 7 pig python and the python doesn't ... pass one of the pigs, how many pigs can the python eat?

To really understand what's going on with inventory, you have to get a handle on the whole chain: Consumer demand, depletions, distributor supply, winery supply, imports, bulk wine supply, forecast harvest yields, and non-bearing acreage. I spend a great deal of time trying to sort through each of those to get a sense of what is coming next for the producers. Its a nerdly existence but it helps the winery clients who bank with me so I take the time, research, read, and talk to a lot of smart people.

At Silicon Valley Bank, we've been collecting financial information for decades now in our own nerdly lives to examine trends impacting the fine wine business. The chart to the left is from our database of wine industry financial statements and is weighted to smaller producers who carry inventory longer and charge higher prices versus higher volume producers.

Our chart demonstrates how in the higher priced segments, inventory days increased from 695 days, to 981 days for a 41% increase once the 2012 harvest was in the cellar. That is a massive jump and looking at the last decade, represents the highest level of wine inventories during the period. The next closest data point was from the period after 2000 when we had a large and very average quality vintage headed into the teeth of the Tech Bubble and recession. We had too much inventory back then because the channels were full, tanks were full, and growth rates in wine sales were going backward.

The chart above shows graphically the impact the 2012 harvest had on grape supplies. The harvest was HUGE and still is sending shock waves into the business even now in the form of flat or declining bulk wine prices, fewer imports going into domestic brands, storage that has been strained going into 2013, and that's leading to a significant amount of re-discussion to tackle the question, "Just how much added acreage is needed?"

Figuring out how much added acreage to plant isn't an easy calculation - especially when imports, varietals, regulations, alternative uses and price points are factored in. Last year we suggested that the reaction to under-planting during the previous cycle might be different this time and growers were less likely to just throw sticks in the ground and speculate. Allied Grape Growers in their Spring newsletter pondered the exact same question. We are all more cautious this time around because nobody wants another decade of oversupplied grapes. This time, history is a little clearer and the information available is a little better from which to make decisions, but planting decisions are by no means easy.

After we released last weeks blog and said grape prices would likely feel downward pressure after this harvest, the following news story came out from Jeff Quackenbush at the North Bay Business Journal: Wine Grape Crop Moderates Pricing. Its a report of the discussion had at the 22nd Annual Wine Industry Financial Symposium. The great Glenn Proctor from the Ciatti Company presented the chart to the left which compliments the Turrentine chart above, but gives a little more information on supply at the varietal level. (Wonder why you can't find a good reasonably priced Zinfandel in Safeway?)

Ciatti reports a 166% growth in overall bulk wine inventory YOY between September 2012 and 2013 and Glenn noted in his portion of the speech that, "There is a concern if the 2013 crop comes in as large as many are expecting, what the price will be to move that volume?" Indeed that is the question at hand to sort out between suppliers and producers.

There is a lot to consider if you are a grower today beyond weather, bugs, and labor shortages. How much to plant? When to replant? Farm for yield again? How to price long and short contracts? What might you do with any grapes that go unsold with this harvest? Are you thinking about crushing them and converting to bulk wine and hoping for a better market next season? While that might have worked out last vintage, I'm not sure about that strategy this year  - unless you expect a quick rebound in consumer demand and expect the 2013's will be as well received as the 2012 vintage.

While we believe the 2012 vintage will be easily absorbed into the three-tier channel given the prior allocations from 2011 and the market anticipation for that vintage, we question if 2013 will get the same reception if harvest continues at this pace and demand remains moderated at the consumer level.

Once again, we might be getting to a point where some growers will get whiplash moving from a position of having only recently gained the upper hand in price negotiations, to a little bit of dancing around in the dark on a tightrope while we all grope for the right long-term planting solutions and in the short term, monitor the consumers reception to the 2012's and 2013's in the three-tier system.

What do you think? Anyone disagree with this perspective? Are we long, short or balanced after the harvest? Any stories you want to add to the discussion? 

Please log in, share this story through your favorite Social Media application if you think its worth pointing others to the discussion - then offer your own perspective about grape prices and plantings in the next year.

Grape Prices are Heading Lower.

Total Wine Sales Continue to Move Higher
About six weeks ago I was asked to speak about the economy, the environment for the US wine consumer, and the fine wine business. The meeting was part of a management retreat for a large wine company and included an acquaintance of mine who we will call "Deep Gullet." It included many of the distributor partners of the company as well so there was quite a wide perspective on the business. This wasn't a client of mine and never will be, but I took the invitation because I thought I might learn something from Deep Gullet and the other presenters. I did and came away with two important perspectives:

  1. The small 2011 vintage was really difficult for fine wine distributors. Allocations were more the norm for their retail accounts because there just wasn't enough wine produced.
  2. Attempting to increase bottle pricing - even in an allocated environment has been like pushing a wet string up the hill.
Overwhelmingly everyone believed 2012 was going to be a lot better from a supply perspective given the large and record harvest, so the allocation issue was probably temporary. The second issue however was about the consumer and that didn't seem to be going away. That got me wondering again about the popular press reports on supply shortages.

In the 2013 Annual State of the Wine Industry Report released in January of this year, I predicted that we were going to see a soft first half of the year economically, but an improved second half. You can read the report if you want to check my thinking. We predicted a 4th consecutive year of lower sales growth in fine wine; something between 4%-8%. It's still growth but growth has been slowing for some time. 

At this stage, we appear to be tracking well to the overall growth estimate but will have to wait to see sales results for Oct-Dec to see if we were correct in our annual prediction. After exchanging some G2 with Deep Gullet we discovered we were of the same belief: What is clear at this point is while wine consumption continues to increase in volume as seen in the lead chart, GDP is stalling and the middle class aren't able to fully participate. Yes .... Americans like wine and are drinking more in volume, but they aren't paying more in price to support winery production cost increases. The following chart is really descriptive of that point.
Source: Nielsen Beverage Group
My friend Danny Brager from Nielsen presented the chart to the right recently at a conference in which he was speaking. While all F&B categories are up 1.7% in price on average, wine is only up 0.20%. Consumers aren't accepting price increases for wine or spirits for that matter. The economy isn't supporting price growth and inflation seems to be well in check. I'll spare you the in-depth analysis of what's happening in the country that's holding back economic growth but here are some high-level bullets:
  1. Housing has indeed recovered most of its value now which is a huge help to the middle class... should lead to a bit of a wealth effect and release pent up demand in sectors, and allow more movement between jobs in different regions. That should have helped support a better second half of the year as I'd thought, but now I have my doubts because of higher interest rates and Sequestration 2.
  2. Youth unemployment rates are still very high in the main industrial countries of the world (Yes Virginia, the Millennials aren't reading the press about how they are driving growth in wine sales. They are a big cohort but have no income.)
  3. Boomers are hitting retirement age. They drove the growth in wine since the middle 90's so that is a big accelerating headwind in the face of fine wine purchasing.
  4. The wealth gap is widening. The wealthiest Americans have recovered their pre-crash wealth and are spending. The middle class while improving off the bottom, need real work to spend and while the unemployment rate continues to decline, the US labor force is shrinking. There are fewer people working than before even if the unemployment rate is falling.
  5. The Fed announced last week they were postponing tapering. While the markets loved it, the reality is we are careening to another 'fiscal cliff' on funding and proving the S&P upgrade of the US credit rating earlier in the year might have been premature. What the announcement means is the economy isn't doing as well as the Fed would like and they are going to keep throwing economic crack at the market until they are a little more certain there is a recovery. In the meantime however, the long bond in the US has gone up dramatically since May and that means the middle class is less able to afford the houses to which they were aspiring. We see that in the sharp decline in new mortgages application rates.

Now move to grape and wine prices over the past 2 years. With most predicting a grape shortage by April/May of 2012, growers began to recover pricing that had been depressed since the recession started. Then we had the 4MM ton harvest of 2012 and the shortage - to the extent there was one, went away. Since non-bearing acres are so low and planting stagnated in the last decade - not even keeping up with vine replacement, most wineries looked through the heavy 2102 crop and still were willing to pay higher prices this year. With the the 2013 harvest now well under way, tanks are full and there is still a lot of bulk wine for sale. It looks like the harvest is coming in large once again. 

Prices Have been Dropping as Volume of Bulk Increased
So where does that leave us with grape prices? Add it up:

  • Current 2012 Bulk Prices are flat to trending down
  • The economy is not seeing the growth I'd hoped for in the back half of the year.
  • Consumers haven't been willing to pay more for wine and based on the recovery sluggishness, I can't see them willing to pay more going into the holidays or even 2014 at this point.
  • Producers have been paying more for grapes and getting their margins squeezed because the costs can't be passed on. 
  • Supply isn't short for wine right now, and it looks like we'll have two back to back large harvests.
That leaves me and Deep Gullet to believe we won't see new grape contract price increases in 2014. Taking all the factors that impact price into consideration, the only question at this point is longer term supply. Are there enough acres planted? Should grape buyers look through the the large 2013 harvest again and view 2014 as likely short? If some of the higher tonnage of the past 2 years is a result of changed farming practices - and there is that possibility - we may not be as short, even in the long term as many have predicted. In the meanwhile while we ponder the balance of grape supply and demand, there are plantings taking place.

My conclusion is all things held equal, at the end of the 2013 harvest we should see downward pressure on grape pricing.

What do you think? Please share this piece in your favorite social media app, and log in to share your views with the community. The wine world wants to know what you think!

IST's 50th Birthday Celebration

Today IST turned 50 and we celebrated the best way possible.... by hosting International Day and eating cake! Here are some photos from the fun-filled event!

Tanzania Booth

Two of our students enjoying the England booth

Sitting on ice in Sweden

Mr. Alton playing a Japanese game similar to Pin the Tail on the Donkey

My friend Gillian and her son from secondary school

Two of my students from last year!

The Grade 3 Team

Parade of Nations

South Africa in the Parade of Nations

Tanzania in the Parade of Nations


Stomach Muscles in Action

 Last week, we learned all about the digestive system. One of our activities showed how stomach acid helps break down the food in the stomach with the help of the stomach muscles. We "chewed" up our food, put it in our "stomach," added some "stomach acid" and used our muscles to break down the food. The kids saw how the liquid helps break down the food into smaller pieces and enables it to be passed down into the small intestine through a valve. They also found that some foods break down more quickly in the liquid and others take more time.

While there were some "eww gross" faces and comments, overall, the kids were excited to give the activity a try. Check out the pictures!


What's the Surest Way To Fail in Business?

This is my 50th post and I'm celebrating by taking a vacation and  am writing this morning from my hotel balcony on Waikiki. That was an unabashed I'm-having-more-fun-than-you comment..... and I'm clearly warped to be writing on vacation.... Anyway...

Going through graduate school I took a class in Organization Behavior. I liked the class because it was high-level and covered a number of important theories, and yet - the title of the course always bothered me. It seems like such a non sequitur. It's as if an organization has feelings or predictive behavior, and of course it doesn't. Organizations and wine producers for that matter are made of people with feelings, perspectives, insecurities, and values. While marketing, sales, production, viticulture, and administration are all important parts of running any wine company, in the end without an established business culture used as a touchstone for behavior and decision-making, the other disciplines will struggle or even fail no matter how awesome the product or strategy. Leaving a company's values unclear or believing everyone just knows what you stand for without talking about it is the surest way to fail.

The Question of Cultures

I was reminded of this on a trip to Hawaii yesterday. We got on a plane out of Oakland for a 5 hour trip to Honolulu Hawaii in coach. Its always a long flight but I try and sleep so I get there quicker. That's a trick I learned as a kid when we drove to Disneyland from Concord. CA. Sleeping wasn't an option this time because there were a group of six Persians in front of us with a beautiful young 5 year old boy. It was a party from the moment we took off. There was laughing, jumping and dancing in the isles, the beautiful child yelling at the top of his lungs participating in his family dynamics. They were going to Hawaii and they were HAPPY and didn't seem to mind if others around them wanted to sleep. The young boy was doing nothing more than participating in his family culture. He was emulating his family.

Then next to me there was a 25 year old graduate of San Jose State from Mumbai. She was second generation and it was her first trip to Hawaii and her longest plane flight ever... really nice girl. Her family of 8 people were all going out on a Norwegian cruise around the Islands. They too were happy and the parents were talking loudly behind us and unconsciously kicking our seats through the trip for some reason. The older folks got together in the isles and were laughing and dancing.... they seemed focused on themselves and didn't seem to mind if others around them were trying to sleep. When the plane stopped, they started to push their way through the isles past people trying to get up. I don't know if it was an cultural behavior or not, but they missed the rule most of us learned in Plane Flight 101 that you wait until the people in front of you get out of their seats before you do.

Some people would take that description as a flight from hell. While it sure wasn't the best, you deal with what is on your plate. You get what you get and you don't pitch a fit. For all I know, to others around me I might be thought of as rude for trying to sleep? Maybe I should have joined in their dance and forgot about sleep. Instead I turned to the drug of choice on flights to Hawaii: Mai Tai's. Everything seemed to be better and in my slightly inebriated state got me thinking about corporate cultures and values.

In this case, we had distinctive and separate cultures on our part of the plane all operating independently. Thank god we didn't have to operate in some sort of a team to get to some common goal, because there was a lack of commonality. How would we make decisions .... even the simplest like should we use the First Class bathroom if the other ones are full?

Organizational Behavior and Hospitality

How does that relate to wineries? We have become an international business. People come from far and near with wide ranging cultural norms and biases. We are their hosts and have to be ready to help them have a memorable time. Its our opportunity to help them leave with a brand positive perspective on your winery, and our Country. You can't judge their behavior by our standards but should be encouraged to understand the cultures of your guests and be long-suffering if needed.

Second and more important, the USA is an immigrant country and is made of diverse families with different norms and beliefs. To be successful in business, we have to establish our own work culture that emphasizes hospitality as a base value.

Some of My Culture Beliefs and Examples

At Silicon Valley Bank I'm very proud of our culture. Its one where everyone tries to do the right thing. Profitability is important, but not as much as our values. Profitability I argue follows BECAUSE of our values. Everyone's viewpoint is appreciated and we've developed accepted ways to behave and make decisions. Debate-decide-deliver. We talk about "the shadow of the leader;" a concept that means leaders of organizations can't take a "do what I say, and not what I do" model or take credit for the success of others in our team. We believe in recognizing others success and that we are not in competition internally. Its not a net-sum-zero game. There is much more to our Bank's culture and we are constantly talking about it and reviewing the fit.

On my specific lending team of 5 people, we have several rules that we adhere to that make behavior more palatable. I believe feedback is an everyday thing and that's what we do: give feedback on the fly when there is teachable moment. We believe that mistakes are tuition and that pretending mistakes don't happen stops continuous improvement on the team and waste that tuition. We are fine with making mistakes. They happen and don't show up in reviews in any material way because they were already covered. Reviews in fact are kept as low-key as possible because they are an administrative thing, not a tool for improvement. They are never motivating (Don't tell HR I said that please).

We believe that we need to be direct and respectful in the way we communicate with each other. That means we hold each other accountable for our failings and speak our mind instead of supporting some circular gossiping sophomoric culture. We support each other in what we do, and support our clients efforts. There is always someone on staff for our clients to reach. I believe I am responsible to my staff and each year ask in a safe manner, what things I need to do to improve and what they like. We believe we are in the hospitality business and our clients and their employees are our guests when they come to our offices.

All of those rules establish a culture within the Bank that is good for decision-making, respects individual beliefs and values, insists on team play, rewards success, inspires evolution and new approaches of doing things, and makes for one great place to work. Given time, the plane of people on my trip to Hawaii could come together develop mutual respect and trust if we started first with addressing The Surest Way to Fail in Business and developed shared values. Our Bank and team are great places to work.

What about you? What are the rules that your company lives by? What are the values that are not negotiable? How are you reinforcing your culture? How do you measure your culture and success in achieving change? What thoughts and experiences can you share with the community about your learnings in building healthy and successful cultures in business.

Please log in and participate in the discussion. Oh ...... by the way, as you can see in the first picture, I made it to Hawaii! Aloha!