Bottoms up! Craft brewers and small-scale producers are thriving as image-conscious locavores seek out quality cocktails and brews. They're breathing fresh flavor into a centuries-old industry, disrupting an established market and triggering a wave of acquisitions.
The tiniest among them, microbrewers and microdistillers, are thriving. That's because the so-called "premiumization" of the market hugely benefits these businesses, which generate small quantities of product--and can command high market prices.
Of the two subsectors, "right now, the real growth is in the craft beer industry," says Esther Kwon, a beverage industry analyst for Standard & Poor's, driven by consumers' increasing preference for small-label brews. The craft liquor sector, though smaller, is less mature and less clogged with upstarts.
Think you have what it takes to come up with the next big thing in beer or spirits? Here's what you need to know before getting started.
According to the Brewers Association, craft brewers sold more than 13 million barrels of beer in 2012, a 15 percent increase from 2011. Craft beer retail value for 2012 was $10.2 billion, a 17 percent increase from the year before and a significant chunk of the $99 billion U.S. beer market. During 2012, the craft beer segment comprised 1,132 brewpubs, 1,118 microbreweries and 97 regional craft breweries.
The craft distilling industry is small in comparison, with just 280 craft distillers in production as of mid-2012, according to the American Distilling Institute. However, the industry is growing, with the addition of 42 new producers in the first half of 2012. According to ADI, the craft distillers were responsible for just 0.3 percent of U.S. distilled market in 2011, selling 600,000 cases.
This should come as no surprise, said Daniel Berch, director of Anything Research, since craft beer is now a mature concept, with a variety of choices and increased awareness of the product, while artisanal alcohol is still a fairly new concept.
According to IBISWorld, key external drivers in the distilling and brewing industries include the price of coarse grains, alcohol consumption, consumers’ disposable income, demand from wholesalers, and demand from restaurants, bars, and nightclubs.
As disposable income increases, consumers tend to shift towards premium spirits, especially in bar and restaurant settings. However, consumers are sensitive to drastic changes in price, so brewers try to avoid big hikes. That means when the price of coarse grains increase, the increase in production costs cuts into the profit of both craft distilleries and breweries.
Public perception is another ongoing issue. At points when popular culture tends toward moderation, the industry might see slight decrease in demand.
Supply Chain and Sales
Brewers operate several ways, depending on the market. There is the traditional three-tier system with the product passing from the brewer to wholesaler to retailer to consumer. Brewers can also act as wholesalers selling to retailers and in bulk to consumers, notes the Brewers Association. Or they can sell their beer directly to consumer for consumption on site via their own on-site-taprooms, restaurants, and carry outs.
Brewpubs make up the majority of the craft beer industry. In order to be labeled as a brewpub, the business must sell 25 percent or more of its beer on site.
Since most states still forbid distilleries from selling directly to the public, most distilleries sell through a traditional three-tier system, via licensed distributors.
The End Consumer
Thanks to longer life spans and an uptick in birthrates in the early 1990s, the customer base for spirits has grown significantly. The artisanal alcohol industry specifically stands to gain from the growth in the older segment of the population--baby boomers--who, as they retire, have a tendency to purchase high-end products like premium liquor.
According to Kwon, the spirits market is also driven by increasing numbers of multicultural consumers, particularly of Hispanic and Asian background. Hispanic consumers, like Millennials, prefer stronger flavors.
Millennials' preference for variety has triggered flavor innovation within the spirits industry, particularly within vodkas and "brown" spirits such as whiskeys, rums and brandies, said Kwon. Large producers have taken note--for instance, Beam Inc. launched two different lines of flavored bourbon whiskey, Jim Beam Honey and The Red Stag collection. The Red Stag collection includes flavors such as honey tea and black cherry. Jack Daniel's Tennessee Whiskey has also launched a honey infused line to appeal to women, noted Kwon.
Within the beer industry, Millennials are driving demand for hard ciders and malt beverages such as Samuel Adams' Twisted Tea, shifting away from seasonal beers that have been in demand in the past few years, said Kwon.
The beer and spirits sectors are both beginning to get crowded, and key producers are getting larger. According to ADI, the number of entrants into the craft distillery market is doubling every three years, and more consolidation may be on the way.
Successful start-ups may find that big established players are interested in gaining the cachet that comes from a niche brand. Indeed, larger companies in the space have already begun to snap up smaller competitors. Large domestic brewers have attempted to launch craft-like beers of their own or acquired small craft breweries, creating craft-focused divisions attempting to capitalize on the growing interest in such beers. After acquiring Goose Island Brewing in 2011, Anheuser-Busch has recently signed distribution agreements with Red Hook Ale Brewery and Kona Brewing Company. Anheuser also produces its own craft-like beer, Shock Top. Similarly, MillerCoors produces Blue Moon and Leinenkugel and owns shares in craft breweries such as Terrapin Beer Company.
The largest four players within the spirits industry--Diageo PLC, at 21 percent, Brown-Forman Corporation, at 16 percent, Beam Inc., at 12.8 percent, and Pernod Ricard SA, at 9.6 percent--have also acquired smaller additional brands and expanded their total market share to 63.2 percent over the past five years, according to IBISWorld. Most recently, Beam Inc. acquired 2 Gingers Whiskey, which was distilled at a Beam distillery in Ireland, and Diageo acquired Mey Içki brand in Turkey and Ypioca brand in Brazil.
There are other options for those who aren’t interested in selling. In January, after attracting interest from Anheuser, Tony Magee, founder of Lagunitas Brewing Company tweeted that he isn’t interested in selling, adding that "selling ones brewery is selling all of ones best friend’s careers, their hearts, the portion of their lives they spent working for you."
Those with a foothold in the market may re-invest profits into growing and diversifying their portfolio. "Mass production reduces average and marginal costs, thereby improving profitability," notes the IBISWorld report.
Barriers to Entry
Despite popular culture-driven images of a one-man basement brew shop, product development can be arduous, spanning years and draining resources--particularly when it comes to certain spirits, like whiskey. The development process includes multiple trials of distilling and aging a particular product.
Whiskey is the most troublesome, because it takes years to properly age. Since start-up distilleries usually cannot afford to wait for up to two years for their whiskey to be mature enough to sell, many diversify their portfolio and include spirits such as gin and rum. Gin, which requires no aging, and rum, which takes just a few months to age, enable distilleries such as Ballast Point Brews and Spirits to launch and enter market with these products, while their whiskey ages.
Furthermore, the competition for both breweries and distilleries is extremely high, with a handful of well-established, multinational companies, notes IBISWorld. Upstarts must also contend with laws in some states that prohibit distilleries from selling their products directly to consumers (this is more common for liquor than for beer).
Overhead costs, including equipment and rent, can be a major hurdle for a new brewery or distillery. Some start-ups within the industry get around this issue by leasing space at an already established distillery to distill their product, like 2 Gingers Whiskey did at a Beam distillery in Ireland.
According to IBISWorld, craft breweries spend an average of 18 cents on capital for every dollar they spend on wages. This capital includes brewing systems, bottling lines and filtration systems. Investment in equipment when the brewery or distillery is launched is not a one-time thing; the equipment often requires repairs and maintenance. Overhead in the distillery industry runs 3.2 percent.
At the moment, distilleries suffer from the lack of marketing and advertising. While giants in the industry are spending as much as 15 percent of their revenue on marketing, craft distilleries spend 2.1 percent of their revenue on such efforts.
Wages account for about 16.2 percent of the craft brewery industry revenue, while in the craft distillery industry, this number is closer to 10.7 percent.
Dry Fly Distilling, based in Spokane, Washington, gets around this issue by allowing 10 volunteers to come in and bottle its spirits on weekends. In exchange for their work, Dry Fly allows the volunteers to sign the bottles and provides them with lunch.
Beer and spirits operations tend to be bootstrapped or funded by friends, family or small loans.
Soaring popularity of the product has made financing easier to secure in recent years. According to IBISWorld, access to credit for craft brewers to invest in machinery and equipment increased in 2012 and is forecast to rise again in 2013. Additionally, the Small Business Administration has issued in the past three years, for companies like Highland Brewery in North Carolina, which received an to build a new production facility and tasting room.
Financing brewers is an increasingly popular cause: New York Senator Charles Schumer to appeal to Department of Agriculture and SBA to provide critical financing to local breweries in the form of federal loans and loan guarantees.
Who’s Done It?
Most notable craft breweries include Dogfish Head Craft Brewery, Sixpoint Brewery and Lagunitas Brewing Company.
Craft distilleries include Tuthilltown Spirits Distillery in New York, Mockingbird Distillery in Texas, which produces gluten-free Tito's Vodka, and Dry Fly Distilling in Washington.
The Quick and Dirty on Breweries and Distilleries
How much? Microbrewery revenue grew 29 percent in 2012, microdistillery revenue 32 percent, says Anything Research.
That doesn't mean it's easy... In a beer and liquor market dominated by juggernauts, fledgling brewers must invest big bucks to stand out. And, watch out for those pesky regulations, which may squeeze interstate sales.
It's getting crowded. Boston Beer Company and Sierra Nevada reign among craft breweries. Dogfish Head and Sixpoint are notable upstarts.
Start small. You'd probably need to bootstrap to purchase a facility and equipment, then hope to catch the attention of established brands. Think Skinnygirl Cocktails, which sold to Beam Global in 2011.
Ideal prior job? Beer or liquor hobbyist with a penchant for marketing
Buzzwords: Craft brewery--independent with annual production of fewer than six million barrels. Microbrewery (and microdistilleries)--even smaller operations, usually run out of a home or very small facility