Bob Weinberg examines the market.
The celebrated industry analyst talks with us about the state of the beer business.Every year we buttonhole Mr. Robert S. Weinberg and get his take on what's happening in the brewing industry. Mr. Weinberg has developed a reputation for incisive analysis and off-color wit that is matched by few in the brewing industry today A former Anheuser-Busch vice president (1966-1971), Korean War fighter jock (1951-1953) and Eagle Scout (1942), Mr. Weinberg now operates from the Office of R.S. Weinberg & Associates, a St. Louis, MO-based think tank. Our interview with Mr. Weinberg, conducted in February of this year, follows:
Modem Brewery Age: What strikes you about the beer market at the moment?
Robert Weinberg: If I was to say that John Travolta, Harrison Ford and Sylvester Stallone were conspiring together to keep me from getting a date with Sharon Stone, you would say, "That's it. Weinberg has finally fallen out of his tree." But at almost any gathering of small brewers, you have people constantly saying "The big brewers are conspiring against us." And that bothers me.
The fact is that small brewers still don't come up on the Anheuser-Busch radar screen. Anheuser-Busch is concerned about Miller and Coors. Miller is concerned about Anheuser-Busch and Coors. And Coors is concerned about A-B and Miller.
The first and second tier brewers operate 29 breweries with a combined capacity of about 198 million barrels. Nineteen of these breweries have a capacity of five million or more barrels and account for 84.1% of major brewer capacity. Three breweries have capacity between four and five million barrels; four have capacity from three to four million barrels and two have capacity of two to three million barrels. A brewery with four million barrel capacity represents large scale technology, and any brewery between two to four million barrels would represent medium to large scale technology. At around 1.5 million barrels, a brewery is considered a medium scale technology. Brewers with a capacity of 500,000 barrels or less are a small scale technology, and those below 100,000 are very small scale.
The inefficiency of operating large scale technologies at low production levels are the fundamental reason that big brewers are not competing with micros. It just doesn't make sense. The big brewers realize that specialty brewers have rekindled consumer interest in beer, creating new beer drinking situations and increasing total consumption. I estimate that at least 25-50% of the 4.8 million barrels of domestic specialty volume sold in 1996 represented net new business.
But specialty beers are small scale technology products produced in small production runs. Large modern breweries operating at or near capacity would be at a significant cost disadvantage in this market. Add the retail price premium that specialty products command and the excise tax advantage on the first 60,000 barrels, and that's when specialty brewing operations become economically viable.
Aren't the big brewers concerned about the phenomenon? About 1200 small brewers en masse?
RW: There are a couple of things that come into it. Any brewer with pride becomes annoyed with another brewer that says their beer is the best. Because, in the opinion of a prideful brewer, anyone else who says that their beer is the best is lying. And we just can't tolerate lying in the marketplace [laughs uproariously].
The brewing industry is an amazing industry. Up until the early to mid-1980s, brewers who were losing market share were actually thinking "Can the public be so stupid that they don't realize that our beer is the best? If they are that dumb, they are unworthy!"
It's the only consumer packaged goods industry where this mind-set persisted that late. Any other packaged consumer goods industry, when your sales declined, you'd say "Gee, do I need a new product? Do I need a new package? What should I do?" Brewers, on the other hand, would scratch their heads and say, "Gosh, we didn't think the consumer was that stupid" [laughs].
But you think they've shaken themselves of that particular delusion?
RW: Yes. Now, of course, notions of markets and marketing are entrenched.
Yes, and we've certainly had people coming into the business from other packaged goode industries.
RW: That's exactly it.
Right now, there are three areas that I am puzzled by. One is that beer remains underpriced. This is a product of the fierce competition in the industry. The nature of competition has been such that production efficiencies have been passed on to the consumer.
Anheuser-Busch through the years has achieved various production cost and other cost efficiencies. Come 1997, Miller had also achieved all sorts of cost efficiencies, and they were in a position to take those efficiencies to the bottom line, or else to give some or all of them to the consumer in the form of lower prices. That was the choice Miller faced in 1997: to increase marketing efforts or to decrease price.
Miller's Jack MacDonough had a strategic decision to make. If you look at the consensus of Wall Street opinion, there is something magic about double-digit growth in earnings, and so companies want at least 10% growth in earnings. MacDonough knew that A-B would want an increase in earnings and would be slow to respond to price cutting, and that would give Miller a chance to restore momentum.
Some textbooks would tell you that if A-B was capable of lowering prices, and if they threatened to lower prices, then that's just as good as lowering them. But, in my opinion, if you say, "I'm going to meet my competitor's prices" then you have to do it, otherwise it means nothing.
Do you think they've damaged brands with the discounting?
RW: No, I don't think so. I think it might have short-term negative impact. If you observe something happening in the marketplace, and try to attribute motives, it gets very tricky.
Right now, I am very interested in the high-priced malt beverages, because that's where the action is. And I look at comparative consumption rates. Because as the relative price of beer is going down, people are moving up. This is intuitively acceptable.
In 1966, there were restaurants that didn't sell imports. If they sold them, they had one or two. Now, virtually any establishment will sell many different import brands. You can grow as you fill the pipeline. But once you completely fill the pipeline there is nowhere else to grow. That's very important. You can see that on one saturation curve. What we should have are hundreds of saturation curves, one for each market. And you sum them up to figure out what is actually going to happen. It is no secret that when markets open they move fast and furiously, but then local saturation is reached and they slow down. When you look at the tables we generate, you see how the markets matured. You look at dispersion and it's a good market research tool. You arrange things in homogeneous categories, and you look at consumption in each category and you say, how would we grow if every market became as good as our best market. I might have a matrix showing geographic barriers by population characteristics. And I might have them sorted based on population characteristics, so I now have areas that are as homogeneous as I can create them statistically. And if look at consumption of imported malt beverages, and I see there is a disparity. I ask "why are the high ones high?" And I may discover that I didn't classify my data properly. Perhaps there are major resorts within that market. But if I refine my data, and I ask "why does one area have half the per capita consumption than more developed area?" That's how you find a measure of unsold potential. The real trick when you try to analyze the beer market is to break the market up in a fashion that will allow us to make reasonable comparisons. If you were developing a marketing strategy you would love to find geographic areas where a product was very successful, and similar areas where it has not been, where perhaps you could focus your efforts.
Two people could open identical brewpubs in markets that would be statistically identical. One could be phenomenally successful and one could fail. The only difference being, that one was the fifth player in a market that would take 12 brewpubs, and the other the 14th player in market that would take 12 brewpubs.
The great paradox is that the market research that you can do, walloping data with a computer, is very, very good for large companies that are looking at the total market. But for a small company, I don't know why they do market research. I suspect they do it because they have MBAs and they were told that they should do market research in school. What you should do is ask yourself a few questions. Suppose I want to open a microbrewery, and I turn around and say, "if I want to open a microbrewery, I'll have to invest a million dollars." I'm going to use the principal of inversion. Suppose that to validate the million dollar investment and the risks I would have to sell 15,000 bbls. of beer in a year. Suppose that I think I can get 5% of the market. Now if I divide 15,000 by .05 I get 300,000 bbls. for the industry. If I look at the product category, microbeers, and I say micros can be 7% of the market, I divide the 300,000 that gives me 4,285,714 barrels. What have I just done? I say the product category I'm after is 7% of market, I can get 5% of the category, there's my 15,000. I now have to think of a market area that sells 4.2 million barrels of beer. I can sit down with data like that, and figure I've got to be statewide. If I discover I need more that 150% of the market, I ought to get out. But if I discover that this looks attractive, I should stop studying the damn thing, and do it.
The problem is not total demand, believe it or not, the problem is what the competition is going to be. Right now, the problem that specialty brewers face is too many people coming into the market. This is interrelated to all kinds of stuff. The domestic specialty players have three interesting competitive advantages. One, they have a technology that allows them to produce small production rans which gives them amazing flexibility. Two, the products, to date, command a price premium. Last, they have an $11 federal excise tax advantage. That puts them in a good spot if they can exploit these advantages. Unfortunately, these people don't have a sense of industry history. If they did, they would be contemplating different strategies. Let me give you an example. We have 421 identified traditional brewers operating in 1947. Maybe three or four were born after that. And then the industry shrank down to 27 players. We can tell you what happened to every one of those almost 400 brewers. What happened very often, was that the public became disenchanted, for whatever reason, with a brewer's product. The brewer [TABULAR DATA OMITTED] decides to lower prices to stimulate interest. What happens is the reverse. The consumer, instead of being grateful for a bargain, views the price cut as validation that the product isn't what it used to be. In economic theory, it's a backward sloping demand curve. Instead of demand going up with lowered price, demand comes down with lowered price. And that has happened historically time and time again.
How do the big brewers escape that dynamic when they lower price?
RW: Good question. The trick is this. Suppose historically you're a $4.00 a six-pack brewer. Occasionally you offer that for $3.00 a six-pack, but you limit the number of promotions, so the consumer says "Ooh, Let's fill up." There it is. If you overdo it, the consumer shifts, and says, "Gee there's a $3 beer that used to be a $4 beer." And the edge is gone. In New York City there was a very classy TV and record shop called Liberty Music. There was one on Madison. Every year they had a sale. They would bring in the high-end stuff and discount it for a short period. And they were so successful that they had a second sale, and a third sale, and then they were no longer different. So to answer your question, there is nothing wrong with promoting as long you are sufficiently disciplined that the consumer knows "By God, this is a promotion, this is a deal."
If you look at the history of the industry, there have been some very interesting players. When small brewers were going out of business left and right, the Hertzberg Brothers had a brewery called the Metropolis Brewery, in Trenton, NJ. That became Champale. Other brewers were lowering price, constricting their market to stay in business. The Hertzbergs did the opposite, they produced a distinctive product, very different, and raised the price. So they were selling a product above premium, but below super premium. And they had a very nice run until the novelty wore off. And they sold out, and that was it.
So you can play different games, but price promotions are a double edged sword. Used properly the consumer says this is a bargain, but used excessively it says, "this is a $3 a six-pack beer." And that's the risk. Brewers that successfully promote have discipline.
And some of the second tier brewers haven't had the discipline...
RW: Some of the second tier brewers never had the luxury of being able to afford discipline. But you can still do all sorts of things. Brewers who maintained extraordinary financial performance by acquiring declining brewers. Because what they could do is acquire a declining brewer, that would give them capacity that was relatively inexpensive. Using that relatively inexpensive capacity they might improve their position. You might have a brewer sell the beer in traditional markets at traditional prices, but he has access to markets that the brewer he acquired didn't have, so he plays a whole new game there. That might allow him to sell the beer below its traditional price in non-traditional markets, and still protect the traditional markets. There were situations with the old Heileman where the short intervals of time, I didn't know how he could sell the beer at the price he was selling it. The answer was, he was absorbing overhead. So if we're talking strategy, you have to consider strategy in the total context. And people often won't talk about this. If I am sacrificing a brand, I don't want to talk about that, so you never hear about it.
Another phenomenon is that historically excess capacity was a mill-stone around a brewers neck. And brewers that might have maintained a position as independent brewers for a longer period were forced out by the weight of their unused capacity. Today, brewers can produce beer for other brewers. And this does something very interesting. Why, when you look at the growth of a matched sample of microbrewers and contract brewers, do contract brewers grow at a higher rate? The reason is that these people focus all their attention on marketing. So what are they? They aren't brewers. They are negotiators, quality control experts and marketers. And as long as they can find a brewery to brew their beer, they'll do very well. And they can find a brewery, because many brewers that are not financially successful are still damn good brewers. So you have an opportunity that didn't exist historically. And this is interesting. I might be a micro, and again, let me go back to the example, I need to sell 15,000 bbls a year, but I've never been able to sell more than 10,000. But I can brew someone else's beer to fill my capacity. I'm getting a reduced margin, but my overhead is absorbed. So you have arrangements now that historically would never have been contemplated. And that is one thing that makes the industry very different.
There are three things I mentioned before that interest me. One, as we discussed, beer is underpriced. Two, ff you think about it, there have been very few attempts to convince non beer drinkers to drink beer. This stems from a fear of neo-prohibitionists. We have a legal substance, beer, and of all the alcoholic beverages, it is the one that is most difficult to abuse. In fact, if your objective is to put alcohol in your system beer is not a very efficient way of doing it. If you could convince all the people who could legally and morally drink beer without adverse effect to drink beer it would have a dramatic effect on the future of the industry. But the industry is afraid to try that, because the neo-prohibitionists have them bamboozled.
The third thing that interests me is that we're going to see a series of shakeouts among domestic specialty players. The top five domestic specialty players, based on 1996 numbers, have 46.7% of domestic specialty shipments. The next five have 9.1% of shipments, so the top ten have 55.77% of shipments. The next five have 4.82%, so the top 15 have 60.59%. And the five after that have 3.25%, so the top 20 have 68.3%. And the next 1202 players, those below the top 20, hold the rest. As you can see, this is very concentrated. Only one domestic specialty player has over a million barrels, and everyone else is well below a half million. And that's why they aren't showing up on big brewer radar. The big brewers would have trouble calling someone who makes 50,000 barrels a fellow brewer, much less look on them as competition.
It's a paradoxical situation. You have to respect industry traditions and chart a consistent course. But there are marvelous opportunities for breaking away. Part of me says stay on the straight and narrow, and part of me says, when you're on the straight and narrow, ask yourself whether there are new opportunities.
To me, the smaller brewers should do their damnedest to cultivate joint distribution arrangements. If the economics are there, and I don't know whether they are or not, you could have many brewers selling small quantities of your beer. That could add up and be significant. We're talking about shipping logistics here. That's an unorthodox relationship that could be very profitable.
Similarly, the larger brewers have to aggressively pursue international growth to make sure that when the ultimate consolidation occurs they aren't going to be left out.
If you asked me if there would be a new second tier brewer in the next ten years, I don't think so. You have three brewers in the first tier, and one second tier brewer.
I don't know if people are contemplating this or not, but there are three historic reasons that brewers merged. One, if they needed more capacity. Two, if they wanted to expand geographically and they could buy entry into new markets cheaper than opening the market. And three, if they have excess capacity, they buy brands to fill up their brewery. Those were the three reasons for a merger.
The Stroh acquisition of Schlitz was interesting, because that was the first time that a good sized brewer acquired a brewer significantly larger than it was. There was an asymmetry there. But Schlitz was failing and Stroh needed critical mass to be a national brewer, so it was a precompetitive move.
Today, I think you might be able to achieve some interesting organizational arrangements, contractually. I might have a brewery that I'm not using, so I'll brew your beer in that brewery. Or, you have two brewers, and both brewers have excess capacity, and there are freight disadvantages that make shipping beer into each other's market prohibitive, so they can brew for each other. You could license me to brew your beer, and I could license you to brew my beer. Historically these things weren't done, but now they make sense.
We've seen one micro acquire two other micros, really just the brands, and they now operate their own brewery more efficiently. And that is interesting.
Incidentally, I think we have people not in the brewing industry who are having on a impact on the brewing industry. I think the villains of the excess capacity problem in the micro area are the equipment manufacturers. They come to people with a turnkey proposal, saying "If you could raise 10%, we can help you get the loans." And people are seduced into opening a brewery, because it's too easy to do. You have a strong network of financial intermediaries, who are peripheral to the brewing industry, but who have a great deal of influence. I'm not saying it is sinister, because the irony is that these people are well-meaning and honest, but they are infected with their own enthusiasm. I have found that your biggest enemy is not someone that is trying to do you wrong, but someone that is trying to help, but is inept.
Here's a story. These two salesmen won their company's sales performance contest. And the prize was a stay in New York an extra week after their sales convention, in a beautiful suite at the Waldorf with an unlimited expense account. So they are up in the Waldorf with their expensive dates, having a grand time. And one of them gets up and walks to the window, and says to the other, "Charlie, I'm going to step out the window, fly around the building twice and come back in." So he steps out, and drops, of course. Fortunately for him, there was a set-back two stories below and he just breaks his legs. Next day, his friend visits him in the hospital, and the injured salesman says, "Charlie, why the hell did you let me do that, I thought we were best friends." And the other guy shrugs and says "I honestly thought you could do it." And I think that's the kind of dialogue people are having.
So we're going to see a shakeout. But the thing that is interesting is that the old rules of thumb are wrong. I hate to use the word "paradigm" but we do need a new paradigm that reflects the current situation. And what complicates it is that what might be right in one instant in one place might be entirely wrong at another time in another place.
I think something is happening out in the market right now. I think that the beer drinking population is less homogeneous than before, and I see opportunities for new products. If I am a small brewer, I can turn on a dime and experiment with new things.
Beer is a product that is not necessary, but it can make life more pleasant. I regard beer as part of a recreational process, a process that can also include drinking at some public place. I look at the price of other components, and I think that beer, as a provider of recreation, is priced much, much too low.
MBA: Thanks for your time, Bob.
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| Title Annotation: | brewing industry analyst |
|---|---|
| Publication: | Modern Brewery Age |
| Article Type: | Interview |
| Date: | Mar 23, 1998 |
| Words: | 3910 |
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