The Race to Scale: A New Kind of Deal

FILED FEBRUARY 17, 2016

Dear Client:

Well, it's not really a "new" kind of deal. We've seen it before. Just look at what Rich Doyle, late of Harpoon Brewery, is doing with Enjoy Beer. They even used the same financial advisors (Arlington Capital Advisors).

But as news broke yesterday that Victory Brewing will unite with Southern Tier Brewing under a holding company called Artisanal Brewing Ventures, craft brewers are weighing their options and clearly there is a race to accomplish a few objectives, and here they are:

-Obtain scale. The big brewers -- ABI, Constellation, MillerCoors, Pabst et al -- are getting into the craft space with big resources and big back office capabilities, not to mention buying power with the expensive stuff it goes into making beer: cardboard, glass, aluminum, barley, kegs, and hops. And then there is the front office: relationships with chains, category management resources, feet on the street sales people selling beer, and perhaps most important, focus within distributors.

-Access to capital. Building out capacity is always a chicken and egg proposition, except with beer you may end up with a rotten chicken and an expensive but empty stainless steel egg. Capacity is so expensive and you have to have the balance sheet and scale (aforementioned above) and cash flow to convince the money-people that you're worthy.

-Talent. It's hard to attract top talent if you're a backwater. But if there's room to grow within a much larger organization, you can attract the type of top shelf talent you need to really move the needle.

This is a scale business. It has high fixed costs. As Jim Koch says, this business has low barriers to entry, but high barriers to exit. That means, if you're a middling player in the beer business (like Victory and Southern Tier were, for instance), you need to have a serious gut check and either retreat to being local with taprooms and maybe a destination brewery, or you need to get scale quickly, and be able to have access to the capital and ingredients to make beer at a reasonable cost.

That last part will get harder and harder as larger well-financed players get scale and expand. We're seeing it big time, with Bell's, Oskar Blues, Firestone Walker and others opening states like crazy.

This Victory and Southern Tier deal does indeed give them some scale without, presumably, giving up their autonomy. Together the two brewers produced over 250,000 barrels last year and hold "a joint capacity of over 800,000 barrels of potential annual production." The alliance represents "a new model for craft beer partnerships by preserving brewery independence while pooling deep collective resources."

The mothership is run by John Coleman, previously of Pabst. After Southern Tier sold a stake to the New York investment firm Ulysses Management in 2014 the two parties began to form ABV, unbeknownst to many.

So the craft beer industry is turning out much like quail. We're coveying up. Or as my friend Dan Lust at Golden Eagle tweeted, it's becoming like college football conferences. People are choosing their partners -- whether they be big brewers, importers, venture capitalists, family offices, ESOPS, or as in this case, each other.

No matter what form it takes, what doesn't show up in the press releases is that this is all some form of taking some money off the table for the founders. Which, by the way, I don't blame them for doing. Hard work deserves an end-game.

We expect more announcements in the coming weeks. Don't touch that dial.

BEER PUTS UP A POOR SHOWING IN LATEST NIELSEN DATA

Yikes. The latest scan data brought to us by Nielsen reveals quite a dismal period in the four weeks stretching to February 6. Beer's overall volumes are only down 0.9%, but some of its key growth segments aren't looking so hot.

Let's start off by saying craft is in the red. Yes, you heard that correctly, craft as defined by Nielsen (which may exclude some flavored brands included in others) is in the red, down 0.6%. Craft has been on a bit of a skid in Nielsen especially this new year, it's only up 2.9% YTD.

Imports had a rough go in the latest data as well. The segment is up 4%, but that's small potatoes compared to last year's numbers. Like craft, it's had a tough time finding its groove in the new year as well, only up 7.3% YTD.

The best performances in beer come to us from super premiums and FMBs, up 5.6% and 12.1%, respectively. Every other segment is down low-single digits, except for cider. Cider is now down 17% and YTD it's down 13.5%.

MillerCoors volumes are down 2.5% and saw its category share decline 0.4 points. Miller Lite, which we haven't seen in negative territory in a long time, is in the red, albeit barely, down 0.1%. The brand is up 1.3% YTD. Coors Light is down 0.8%. Coors Banquet, however, continues to work its magic, up 7.9%. The brand is up 9.4% for the year.

MillerCoors now holds two brands in the "top ten growth brands" - Redd's Green Apple Ale and Coors Banquet.

Anheuser-Busch volumes declined 2% in the latest data and the brewer experienced the largest loss in category share down 0.5 points.

Bud Light and Budweiser's struggles in the new year continue, down 3.8% and 2.8%, respectively. Bud Light is down 2.4% YTD and Bud is down 1.6% YTD.

Even Michelob Ultra and Stella Artois experienced slight hiccups in the latest set. Mich Ultra is up 19.4% and 21.7% YTD. Stella's drop was a little more pronounced, up 13.8% and 20.2% YTD.

A-B still comprises half of Nielsen's "top ten growth brands." There's Mich Ultra and Stella, of course, and Natty Daddy is still doing its thing, up 46.9%. Bud Ice still has a spot in the top ten, up 6% for the four weeks. Rounding out the list of five is A-B's new innovation Best Damn Root Beer.

Crown's volumes grew 10.9% in the latest data. Constellation continues to outpace all major brewers in total category share, up 0.6 points. The Modelo franchise is up 20.4% and the Corona franchise is up 5.7%. Constellation holds two brands in "the top ten growth brands" as defined by this data set - Modelo Especial and Corona Extra, up 21% and 6.5%, respectively.

Until tomorrow, Harry

"Twenty years from now you will be more disappointed by the things that you didn't do than by the ones you did do. So throw off the bowlines. Sail away from the safe harbor. Catch the trade winds in your sails. Explore. Dream. Discover." - H. Jackson Brown Jr., P.S. I Love You

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Today's Sell Day: 13
Sell days this month: 21
Sell days this month last year: 20
This month ends on a: Mon.
This month last year ended on a: Fri.
YTD sell days Over/Under: 0
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