The most frequently asked question we receive when discussing our brewery (outside of, “When will be able to drink you beer?!?”) is about how we will distribute our products. If the interested party is expecting a short, simple answer, they are pretty much out of luck! Distribution is one of the most complicated topics for craft breweries, but also one of the most important decisions that will be made during the startup phase.
Beer distribution in the U.S. generally occurs through what is known as the three-tier system. Setup after the repeal of Prohibition, the three-tier system includes producers, wholesalers, and retailers. The structure can vary widely from state to state as a result of the 21st Amendment allowing each individual state to regulate alcohol as they see fit. In general, the system mandates that breweries can only sell to wholesalers, wholesalers can only sell to retailers, and retailers are the only tier that can sell to consumers.
The introduction of the system was initially meant to decrease the possibility of monopolies (i.e. owning the brewery, wholesaler, and the retailer, which gives little incentive to sell products produced by other breweries) and increase opportunities for taxation. The three-tier system has accomplished those original goals, but there have also been negative consequences that were either unforeseen or ignored when the laws were written. For example, selling to a wholesaler instead of selling directly to a retailer reduces profits for producers. It also also decreases the freshness of the product as beer has to be sent to a warehouse on its way to the retailer.
Most importantly, many states also instituted franchise laws in tandem with the three-tier system. These laws generally prohibit producers (breweries) from breaking a distribution agreement signed with a wholesaler. For example, we could decide that we wanted a single wholesaler to sell our beer across the entire Commonwealth of Virginia. Once that contract is signed, our distribution rights would be granted to that wholesaler in perpetuity. Based on previous litigation related to franchise laws, there is almost no offense that a wholesaler can commit that would be enough to break the contract. The wholesaler could stop selling our beer completely and they would still be under no obligation to return our distribution rights.
The Brewers Association has developed a Position Statement on franchise laws and access to market, and it reads as follows:
“BA believes that small brewers and wholesalers should be free to establish enforceable contracts between the parties that both parties agree are fair and equitable. Franchise laws were enacted to protect wholesalers from the undue bargaining power of their largest suppliers. Applying those laws to the relationship between a small brewer and the wholesaler is unfair and against free market principles.Where franchise laws exist, the BA believes that any brewer contributing a small percentage of a wholesaler’s volume should be exempted from those laws and free to establish a mutually beneficial contract with that wholesaler. Without the leverage inherent in being a large part of a wholesaler’s business, a small brewer and wholesaler can negotiate a fair contract at arm’s length.”
The best example of a recent change to franchise law occurred in late 2012. The Small Brewers Bill allows New York State brewers whose annual volume is less than 300,000 barrels and whose sales to a wholesaler are 3% or less of a multi-brand beer wholesaler’s annual business, the right to terminate an agreement provided that they pay the wholesaler Fair Market Value. It would be hugely beneficial if similar law changes occurred in Virginia! Speaking of the Commonwealth, I’ll go into beer distribution in Virginia and our plans for distribution in an upcoming post.