Wine Battle Royale in Washington State

Posted by Tom Wark on Dec 22, 2005

Wine & Beer distribution in Washington State is in disarray today after a Federal judge ruled that the State’s law allowing in-state wineries to sell direct to retailers while disallowing out-of-state wineries from selling direct to those same retailers is unconstitutional. The Judge ruled this form of discrimination against out of state wineries violates the Commerce Clause of the U.S. Constitution.

If this sounds familiar, it should. A very similar ruling was handed down by the U.S. Supreme Court in May. That ruling however applied on its face to direct sales to consumers, not retailers. In it the justices ruled a state could not bar out of state wineries from selling direct to consumers while in-state wineries could.

I’ve suggested for some time that while the Supreme Court decision did not specifically apply to retailers, that the reasoning in the May decision logically did apply to winery-to-retail sales. Michigan and California both disagree with this liberal analysis of the Supreme Court decision. In revamping their wine distribution laws both Michigan and California lawmakers stated that they were not compelled to address inequality that applied to sales to retail and restaurateurs because the Supreme  Court case was only directly about consumer sales.

This reasoning emerged out of political considerations rather than legal analysis. In both Michigan and California the states’ wholesaler lobbies were thrown bones by legislators (and even by winery associations) by keeping the interpretation of the Supreme Court decision squarely aimed at consumer sales rather than expanding it.

The Judge in the Washington State case, brought by Costco, didn’t see it this way. However, the judge gave the Washington legislature until April 14 to decide how to remedy the issue. The State’s legislature can choose to open up direct sales to retailers to all wineries, in-state or out-of-state, or they can vote to stop all sales directly to retailers.

This latter choice would be absolutely devastating to Washington wineries who have had this option for many years. Far more sales by Washington wineries are made though this form of "self distribution" than through direct-to-consumer sales.

"That could send some small wineries out of business, though, said Tim
Hightower, president of the Washington Wine Institute. That lobbying
group for state wineries has calculated that the vast majority of the
Washington’s 385 wineries produce less than 2,000 cases a year — too
small, they say, to catch the attention of a member of the distribution
system."

It’s possible that we will see a terrific battle between wineries and wholesalers in the first four months of 2006. On the one hand, Washington’s wineries–particularly the smaller ones which account for the bulk of the wineries in that state–simply cannot allow the privilege of self distribution to be taken away. This would essentially put their sales and brand building efforts into the hands of wholesalers as well as  reduce their revenues by potetially a good 25% or more. That 25% is often the difference between profitability and a loss.

On the other hand, there is no scenario that worries wholesalers more than having big chains like Costco, Sams, Walmart or large Grocery Stores buying direct from out-of-state wineries, particularly the big wineries. This is where the profit is.The sales wholesalers lose via direct sales to consumers is really minuscule. But imagine a 1 Million Case Winery selling 30,000 cases direct to Washington State’s retailers. For wine that sells for about $10 a bottle that’s nearly a $500,000 dollar loss for the wholesalers.

So you can see why this ruling is going to cause a battle in Washington State.

On another issue the same Judge ruled that various regulations relating to pricing of alcohol in Washington State violate the Sherman Anti-trust Act:

"Costco has demonstrated that Washington’s posting, holding,
minimum markup, delivered pricing, uniform pricing, ban on volume
discounts, and ban on credit sale requirements are irreconcilably in
conflict with federal antitrust law."

This ruling relates to, among other things, the regulation that wineries mark up the price of the wines they sell to retailers by at least 10% above cost and the Wholesalers do the same. On this issue there will be a trial. I have more confidence that this kind of regulation will eventually be upheld as constitutional. The 21st amendment that ended Prohibition and set in place the conditions under which states can regulate alcohol sales have been interpreted in an interesting way. The courts have found that in order for a alcohol related law or regulation that might not necessarily pass constitutional muster can in fact be upheld if its rational clearly advances TEMPERANCE. I think its reasonable to argue that minimum mark ups can be viewed this way, though I’m not a lawyer.

This is a battle that California and Washington wineries will closely watch. It will be particularly interesting to see what side California’s winery associations come down on. My bet is that they will not even offer a amicus brief. Both the California Wine Institute and Family Winemakers of California were fine to see a law passed in this state earlier in the year that presumed the May Supreme Court decision did not apply to the retailer tier of the market. I don’t see how they can support the Judge’s ruling here unless they back away from this earlier position.

More here:
Seattle Post Intelligencer
Seattle Times