The Most Signficant Development in wine since 1933

Posted by Tom Wark on Feb 13, 2006

The "three tier system" can be a complicated beast invested and stuffed with a myriad of regulations and special interest mandates. However, at it’s most basic the three tier system mandates that producers sell to distributors, distributors sell to retailers and restaurants and the retailer and restaurants sell to the consumer.

The three tier system is in fact the most efficient way move large quantities of products across state lines from producers to consumers. However, the fact that such a system is MANDATED by most states has resulted in it becoming among the most corrupt and stifling structures currently in place in the wine business.

We are about to find out what happens when the three tier system is NOT MANDATED.

In the most important development in alcohol distribution since 1933, Washington State de-mandated the use of the three tier system and will allow producers of wine anywhere in the country to sell their product either directly to consumers, directly to restaurants and retailers or directly to a distributor.

This is unprecedented. No other state in America allows both in and out-of-state producers to choose how they sell their wines. They demand the out-of-state wineries sell directly to distributors and wholesalers.

It is reasonable to ask: Why do we have a three-tier system in the first place. You have to go back to the years before prohibition to understand why.

WHY A MANDATED THREE TIER SYSTEM
Prior to prohibition beer producers owned or controlled taverns and saloons across the country.They tied the saloons to them through ownership and coercion. And saloons as well as beer producers engaged in activities that promoted problem drinking, such as offering free lunches just to get people in the saloon at noon so they’d buy and drink beer. It was a problem that helped lead to prohibition being instituted.

To deal with the problem of "tied houses" after Prohibition ended most states demanded that producers not own retail outlets or restaurants. They mandated that a wholesaler be put between the two and mandated that the wholesalers have no interest in the producing or the retail side of the alcohol business. Wholesalers would collect and remit taxes to the state and would work closely with the states’ various alcohol departments and commissions and boards. The 21st amendment that ended Prohibition gave the state the right to regulate alcohol sales just about any way they wanted. Since then various Supreme Court decisions have confirmed that right as long as inequities and discrimination were not put in place that stifled interstate commerce.

The problem with the three tier system is not that it prevents cross ownership between the tiers, but that it mandates that wineries, retailers and restaurants always work with a wholesaler.

A winery that must sell to a wholesaler rather than directly to a retailer means they make 25% less by going through the wholesaler. This 25% is enough to stop some wineries from making a profit. Yet the winery can do all the things a wholesaler does, such as collecting and remitting taxes to the state and making sure the wine is not sold to an unlicensed retailer or restaurateur.

In Washington State, as in many other states, local wineries had the right to "self distribute" and go around the wholesaler, while out of state wineries did not. The May 2005 Supreme Court decision as well as a December Federal Court decision made clear that this kind of discrimination is unconstitutional.

Unlike most other states, Washington has decided to de-mandate the use of the three tier system for out-of-state wineries rather than take away the self distribution right from in-state wineries as is likely to happen in Illinois, Indiana, Virginia and Maryland…as well as a host of other states as soon as distributors get their act together and find a legislator to introduce a winery-killing law.

Distributors are willing to essentially destroy the profitability of small wineries in order to protect themselves from the prospect of large wineries in CA choosing to distribute their wines themselves to restaurants and particularly to large retailers. Furthermore, legislators are willing to go along with this business-killing type of legislation in order to protect their own sources of campaign contributions that are liberally offered by distributors. It’s corrupt.

DISTRIBUTORS NEED TO JUSTIFY THE NEED FOR THEIR MONOPOLY STATUS
It’s time for the states and wholesalers to demonstrate why a mandated three tier system is in the interest of the state. They should show how only a wholesaler is capable of collecting taxes and remitting them to the state, but out-of-state wineries are not. The should show how only wholesalers are capable of assuring alcohol isn’t sold to non-licensed entities. And they should show how state licensing of out-of-state wineries to sell to retailers and restaurants is an unfeasible way of keeping track of who is selling to who.

If they cannot demonstrate any of this then the mandated three tier systems should be de-mandated, producers should be allowed to sell to whomever they want and competition should be allowed.

We are about to find out in Washington State that even if the three-tier system is de-mandated that more than 80% of the wine sales will still go through wholesalers because it’s the most efficient way to get wine market. But we will also discover that some enterprising wineries and retailers will be even happier to go around the wholesalers. This is good because it might cause the wholesalers to work harder to keep the business they have and it might make wineries appreciate the wholesalers even more.