Reactions to the U.S. Department of Treasury’s report on improving competition in the beverage-alcohol industry continue to roll in from industry experts.
The report was created at the behest of President Joe Biden after he issued an executive order last summer tasking several federal agencies with helping to “restore competition so that we have lower prices, higher wages, more money, more options and more convenience for the American people.” In response, stakeholders in the beer, wine and spirits industries submitted comments to the Treasury Department’s Alcohol and Tobacco Tax and Trade Bureau (TTB) about the state of competition.
In the 64-page report, the Treasury offered lists of concerns and suggestions and analyzed mergers and acquisitions activity over the last 20 years in the brewery and distributor tiers.
McDermott, Will & Emery partners Alva Mather, head of the firm’s alcohol regulatory and distribution group, and Gregory Heltzer, who specializes in defending mergers and acquisitions, penned a reaction to the report and hosted a webinar about the firm’s takeaways. They noted the three areas that the TTB, Federal Trade Commission (FTC) and Department of Justice (DOJ) are most likely to focus on are anticompetitive conduct, mergers and transparency.
Trade Practice Effects
Within anticompetitive conduct, Mather and Heltzer predict that three areas are “likely to already be under scrutiny by TTB and will chart a new direction for enforcement priorities.” They include category management, which drew “many complaints of large producers and distributors acting as category captains and eroding the independence of retailers (through inducements or simply by controlling the planogram software).”
“This conduct may be hampering competition, reducing consumer choice and resulting in higher prices,” they wrote.
Tying, the practice through which suppliers or distributors require distributors or retailers to purchase certain undesirable items in order to purchase desirable ones, was the second anticompetitive practice likely to receive more scrutiny from the TTB, according to Mather and Heltzer. Although the TTB has historically investigated such arrangements, it has not done so in recent years. However, tying comes into sharper focus in light of the convergence of bev-alc and non-alc brands.
“This could also be an area of future focus with companies using non-alcoholic brands to leverage purchases in the alcoholic space,” Mather and Heltzer wrote.
Mather and Heltzer also called out exclusionary conduct, such as “a dominant distributor us[ing] exclusive contracts with suppliers to impede effective competition by smaller distributors.” Recently, the TTB accepted offers in compromise from wholesalers in Iowa and Illinois for exclusionary practices at venues and events for which those wholesalers had sponsorship agreements.
Middle Tier Effects
Asked for his thoughts on the Treasury report during Boston Beer’s fourth quarter earnings call last week, founder and chairman Jim Koch said the department “noticed and stated the obvious, which is this is a fairly concentrated industry.”
“You’ve got two big players who are losing share, but still have maybe 70% of the volume in the industry, and you’ve got one big one, Anheuser-Busch,” he said. “They average 94% of the volume on their wholesalers’ trucks, so that channel to market is dominated by a big brewer and it sort of forecloses it to independent producers.
“The Treasury Department was biased, maybe as they should be, to protecting the small independent brewers,” he continued.
Koch noted that middle tier consolidation often reduces options for smaller producers.
“On a local basis, the wholesale tier is very consolidated,” he said. “Often there’s only really two viable players that will give you a comprehensive route to market.”
However, Koch added that the Treasury did not lend “appropriate weight to the beneficial effects of a three-tier system,” particularly one with “independent, often family-owned wholesalers.”
“Frankly, without that, if we have the system we have in many, many other countries where the brewer owns the wholesaler and sometimes even the retailer, there probably would not have been craft beer,” Koch said. “Craft beer emerged in the United States in part because of the independent wholesaler tier.”
During McDermott’s webinar, Heltzer called out “whitespace transactions” – acquisitions made by wholesalers in markets where they have no business, for example, the Reyes Beer Division’s acquisitions of Michigan’s Powers Distributing in 2021 and Indiana’s Monarch Beverage in 2020. The Treasury noted that because franchise law varies by state, interstate wholesalers can use deals made with suppliers in states with franchise law as leverage for those suppliers’ contacts in states without them.
“If I’m a producer and I have an agreement with a distributor in a non-franchise state, that means I can terminate them under certain conditions and choose a different distributor if I want,” Heltzer said. “Well, they said the impact of a transaction in which a distributor acquires another in a franchise state, they mean that I can lock you in in that new state. And I can use that as leverage in the non-franchise state. This was interesting because this is not something that necessarily has been expressed before.”
Direct-to-Consumer Effects
The Treasury seemed concerned about the disparity in DTC market access between winemakers, who have long been able to ship to consumers in most states, and brewers and distillers, who cannot.
“Craft brewers are advocating for DTC and one of the key messages is the need for alternative routes to market because they have a hard time breaking into the middle tier when they’re small,” Jeff Carroll, general manager of Avalara for Beverage Alcohol, told Brewbound.
Carroll is tracking the progress of California’s S.B. 620, which would expand DTC privileges for brewers and distillers.
“We haven’t yet seen the amended text of S.B. 620 in California, but based on the Senate hearing it sounds like beer will be dropped from that bill,” he said. “Although California seems likely to fail for breweries, a handful of other states will also look to add a new DTC license for breweries in 2022.”
A “handful” of other state Legislatures are exploring DTC privileges for beer this year, Carroll said, adding that his firm Avalara, which offers tax and compliance services, is watching the topic closely.
Even though it’s a state-level issue, leveling the DTC playing field for beer and spirits seems to be a priority for the Treasury, as expressed in the report, Mather noted during the webinar.
“There was clear indication from Treasury that this was something that, in their view, needed to change in order to better open the market for those small producers,” she said.
McDermott Team’s Takeaways
The Treasury Department’s heightened focus on tying and category management surprised Mather, who expects these practices to be scrutinized more closely. Tying was the subject of a 2012 TTB industry circular, and category management guidance was issued in 2016, but the Treasury has indicated in this report these areas should be revisited.
“The clear message is the 2016 ruling is all well and good, but the fact that there’s been no actual enforcement, there have been no public offers in compromise specific to category management was a signal from Treasury that that needs to stop,” she said.
McDermott partner Lesli Esposito, head of the firm’s consumer protection practice, advised “playing offense” in the face of anticompetitive behavior.
“If you see any competitors or other participants in the industry engaging in this conduct and it’s impacting your business, you have options,” she said.
Companies can pursue litigation by filing complaints in federal court, alert the FTC or DOJ about offending behavior, or engage with state attorneys general.
Other Reactions
The Brewers Association (BA), which represents the nation’s small and independent craft breweries, has “guardedly” praised the report, president and CEO Bob Pease said on the Brewbound Podcast. The Treasury cited several points from the BA’ two comment submissions in its summation of the state of competition in alcohol.
However, other trade groups were not as pleased with the Treasury’s findings. The American Beverage Licensees (ABL), which represents licensed off- and on-premise alcohol retailers, called the report “frustratingly schizophrenic in nature.”
“Vacillating between acceptance of the federal government’s powerlessness to force changes on state alcohol laws, and the evidently irresistible urge to take a ‘father knows best’ approach by foisting a variety of conflicting suggestions onto states, is as dizzying as too many shots of tequila,” the ABL wrote. “Its suggestions are weakened with ‘could,’ ‘might,’ ‘may’ and other language of uncertainty, but it is the report’s ‘We’re just asking questions,’ disingenuity that is most irresponsible and creates a real danger for well-regulated, orderly, safe and competitive alcohol marketplaces.”
The Beer Institute (BI), whose members include some of the country’s largest beer manufacturers, deemed the report “a significant disappointment which ignores the facts about this incredibly vibrant innovative sector of the economy” in a blog post by president and CEO Jim McGreevy.
McGreevy pointed out that the Treasury report “conveniently omits” large brewers’ -17% decline in market share in the last 10 years, and that beer’s price increases have trailed price increases of other products for nearly 40 years, excluding the doubling of federal excise taxes in the 1990s. McGreevy also echoed the ABL’s frustration with hedging language.
“The data is clear: the beer industry is highly competitive,” McGreevy wrote. “It is disappointing that instead of providing an objective look into a thriving industry that has seen more entrants than ever before, Treasury released an analysis that was apparently destined to reach a foregone conclusion.”