The wave of wine

By Nick Bryant

Friday 12th March 2004

You've no doubt heard of the Wall of Wood, the massive oncoming stream of timber from forests planted over the past 25 years. All of it needs a home, but much of it has become uneconomic to maintain and harvest.

The next great torrent of commodity product on which many New Zealanders are arguably over-reliant is grapes. Welcome to the Wave of Wine.

Strip away the glamour and emotion of wine and it is still a commodity, albeit one whose market doesn't always behave as rationally as many others'.

Wine is the commodity most affected by brand strength for both individual labels and the industry. Every day people across the globe make impulse and brand-aware buying decisions on bottles, cases, even palettes of wine. Far fewer people would behave similarly when buying a bootload, a palette or a boatload of tanalised timber.

But as a commodity industry whose producing vineyard area has increased three-fold since 1995 and is predicted to increase by a further third over the next three years, New Zealand grape growers and wine makers know full well they've got a lot of grog to push.

But how will they push it? Who will benefit most and why? And will there be major casualties in doing so?

This sort of forecasting is tricky. For years alarmist articles have been spewing off the world's publishing presses hollering about wine gluts and the impending implosion of the industry, only for the global market to do a fair job of soaking up the supposed excess while the per-bottle price at the supermarket edges ever higher.

But take a closer look at the figures. Plantings in New Zealand over the past decade the past five years in particular have been massive. With an average three years in the ground before a vine produces grapes for commercial production, those huge plantings are just coming on stream.

This year, vintage 2004, the New Zealand wine industry will harvest close to 170,000 tonnes of grapes about a third more than in any previous vintage in the country's history.

Next year, if growers receive favourable conditions, the harvest is likely to be about 185,000 tonnes, and vintage 2006 could well see the country breach the 200,000 tonne mark. But while the number of grape vines being grown has increased rapidly, more staggering and illustrating the likely source of industry upheaval is the number of wineries.

Figures from New Zealand Winegrower, the official industry magazine, show in 1995 New Zealand had 204 wineries. By December 2003 that had ballooned out to 421. Barely three months later a quick tally of wineries registered on the New Zealand Winegrowers website www.nzwine.com shows the number has already increased by 55 to 476.

But most significant about the total number of wineries is their breakdown by category they're almost all small:

Category 3 annual sales of more than two million litres: 10 companies, including four Montana subsidiaries and other big names like Esk Valley, Vidal Estate and Nobilo;

Category 2 annual sales of between 200,000 and two million litres: 35 companies, including household names like Cloudy Bay, Delegats, Palliser Estate and Sacred Hill; and

Category 1 annual sales of less than 200,000 litres: 431 companies, including strong, high-end niche brands like Dry River, Ata Rangi and Fromm Winery.

Distribution and supply

Wine companies are usually worth the attention of domestic or international distributors who will see to it that their wine is stocked by the retailers best suited to its production levels and brand only if they have the ability to supply a decent amount of wine.

A major key to industry success is distribution deals that see New Zealand wine continuously stocked in our major markets the UK, the US, Canada and Australia and emerging markets in Europe and Asia.

According to Montana commercial manager Richard Anyon, the likes of his company are well placed to utilise the increased production.

"The big difference with the wall of wood is the big players' distribution networks. You've got some of the biggest beverage companies by world standards controlling some of the biggest names here, so there will be an ability to move much of the wine that comes out of New Zealand," Anyon said.

Peter Scutts, managing director of Marlborough's Vavasour Wines (majority owned by NBR publisher Barry Colman), agrees.

"The larger companies are quite well placed. Montana is part of a global company, BRL Hardy owns Nobilo, and Villa Maria, by virtue of its focus on quality, despite being locally owned, is well placed to continue performing."

Although there are other issues crucial to success, such as price and branding, the solid backing of major distributors basically sees the all-important distribution issue covered for the Category 3 and most Category 2 wineries. Their market visibility is such that if a deal goes awry or a distributor hits choppy waters, someone else is likely to be keen to step in and make a quid off their brand.

So who else should enjoy a smooth ride on the wave of wine?

A few small players are immune to the rule that to attract distribution you need lots of supply, because the stuff practically sells and in some cases distributes itself.

Take Martinborough's Dry River which has a tiny retail presence but generally sells out via mail order or Otago's Felton Road, especially with its Block 3 Pinot Noir. What they and a few other producers prove is if you've got a brand that stands for individuality and quality, you can rise above the supply-demand equation.

All the others, including big names like Esk Valley and Villa Maria, have to make the deal worthwhile to sales and marketing companies although increasingly the big companies aren't having to sing for their supper year in year out, as they're being bought by the distribution companies they used to court.

"If you are smaller, have modest aspirations and make high quality wines, you're reasonably protected too. You're operating in a small part of the market with discerning and affluent buyers," Scutts said.

The important words there are "modest aspirations." Large numbers of the Category 1 wineries now find themselves in a dilemma. They've entered the industry on a rising tide and used large amounts or all of their capital establishing relatively small operations.

If they decide to concentrate on producing high-end niche products, they're battling domestically against established companies that also export small amounts to London or US distributors and retailers. This is a really tough market where buyers really know quality.

The domestic market has limited capacity and industry commentators are already making noises about how much capacity there is for high-end exports, especially pinot noir.

Again it comes back to distribution. If you get guaranteed distribution into some good retailers, things might be looking up. But to do that you need decent supply, and many of the 431 Category 1 wineries out there grow only 2-10ha of grapes. Everyone's telling them they need to get bigger, but many don't have the means to do so.

"If you're reasonably new in Central Otago and you want to sell pinot noir overseas, you're going to have to increase your volume and in doing so it's going to be difficult to maintain prices," Scutts said.

The pressure is coming on the Category 1 wineries from all sides. These pressures affect all wine companies, according to Jackson Estate general manager Belinda Jackson, but they hit home with small producers all the more.

"You do see companies that think their troubles are over because they secure a big contract. But if you get a contract with [British supermarket chain] Waitrose and you put all your eggs in that basket and you trade on the success of that contract, you're immediately falling behind.

"It's easy to get complacent and think that if you've got one of these big customers you're all right. But if you're not talking to the media, being reviewed, winning medals and the other things that add to your brand, you're not giving Waitrose a reason to stock your wine."

But surely your wine's delicious, an individual vineyard expression of sauvignon blanc or pinot noir that simply demands to be stocked? Nope. Not any more.

"We [Jackson Estate] were always known as New Zealand's second best sauvignon blanc, behind Cloudy Bay, but that's just not good enough anymore," Jackson said. "It was okay when there was a couple of dozen decent wineries in Marlborough but now there's over 200."

So you'd best get marketing, right? Yep, but that costs money, which we've already established a lot of Category 1 wineries don't have much of. And marketing to whom? What promises can you make? It comes back to having decent supply or your range of options is pretty limited.

After the flood

So what sort of changes will New Zealand see? The experts say there will be not only more rationalisation but also more mergers, the likes of what Martinborough Vineyard is doing with Burnt Spur.

The value for Martinborough Vineyard is clearly Burnt Spur's listing status, which means better access to capital for growth. The value to Burnt Spur is Martinborough Vineyard's squeaky clean brand and reputation for top quality wine something Burnt Spur, formerly controversial Lintz Estate, does not have.

And that's what we're likely to see more of. Not just two but maybe three or four small-to-medium wine companies coming together and trading under the strongest brand with the greatest international presence. This environment might also provide good opportunities for medium-sized to large wine companies wanting to cherry-pick small, under-capitalised operations with good sites.

Scutts said Vavasour current production 55,000 cases had modest growth aspirations but had all the ingredients to benefit when the squeeze came on small players.

"We want to grow at least in line with the industry, and we might be in a position to take advantage of companies not as strong as us in the next couple of years. The biggest opportunities come at times of stress, and those prepared to invest in products and brands will survive. Those who batten down the hatches will fare worst. You have to take a long-term view."

Jackson Estate is also well placed, despite losing some domestic brand exposure in recent years. Its export sales are still strong, with more than 40% of its production going to the UK, a large chunk to the US and increasing sales in continental Europe, especially Scandinavia.

"Companies like ours are succeeding because we've become market-driven, not production-driven.

"We know what's coming and how we're going to deal with it but it needs planning ... you have to turn your mentality from farming to being a market-led business."

And that's where so many small companies struggling for an export presence are being squeezed again. Because New Zealand's weather is so volatile, they can't go making many promises. Of course, no one knows exactly what sort of vintage they'll have but scale brings options.

As the New Zealand Winegrowers 2003 annual report says: "The production roller coaster of recent years is extremely frustrating for the industry, our distributors, importers, retailers and our customers.

"From an industry perspective, disrupted cashflows, higher fixed capital costs per tonne or litre and lower return on investments are the immediate financial consequences of the reduced harvest.

"Our customers, of course, want consistency of supply. Many wineries will not be able to deliver that this year, a shortcoming of which we are keenly aware."

Indeed, when spring frosts all but ruined the 2003 sauvignon blanc vintage, it made life tough for the big players, as they directed supply as best they could. But it was quite another issue for the industry's smaller companies, as Jackson pointed out.

"Sauvignon blanc is the New Zealand flagship, but because so much is coming on to the market the UK supermarkets are expecting price drops. They know full well what's coming, and if you add to that that so few of us could supply in 2003 because of the spring frosts, we'll be delisted, and it's hard to get back on the shelves. To get back on the shelves you'll have to drop prices ... it's ruthless, but that's how it is."

Similar sentiments came from Anyon.

"If you look at the Hawke's Bay, with two big frosts in two years, there must be some people hurting."

And it's not just weather that's putting a kink in New Zealand wine's dream run. The New Zealand Winegrowers annual report again: "If the New Zealand dollar stays at these levels for any period of time, exporting will be a far more difficult proposition than in the recent past ... profit margins will be squeezed, wine prices will need to increase (depressing sales growth) ... "

A bouquet

With the rising dollar squeezing margins, roller coaster weather wiping out vintages and the number of industry players growing ever larger, you could be forgiven for getting a case of the Chicken Littles. But that's not what New Zealand Winegrowers chief executive Philip Gregan is paid to do.

That's not to say he's not fully aware of the potential woes he and his executive just prefer to knuckle under and find solutions. Take a look at the organisation's website some time, packed with research and evidence of initiatives from marketing to changing legislation it's an example for any industry body.

In January, Gregan told the New Zealand Wine Exporters Forum that the Kiwi wine story was about growth, achievement and stunning international accolades, an industry whose success was only just beginning.

"However, holding that view does not blind me from the real challenges facing us," he said.

New Zealand Winegrowers analysis shows that to continue succeeding, exports needed to lift to about 9-10 million cases a year by 2007. That's a three-fold increase from the current level.

"Let us not underestimate our challenge, or our opportunity," Gregan said.

Considerable effort has gone into market and product (variety) analysis to help guide the big and small industry members. Promoting Brand New Zealand to the markets most able to soak up our increased production may well be the helping hand some small wine companies need. But it won't come cheap.

Gregan's group has a plan but tripling exports over the next three to four years will require significant investment.

"Based on an assumed marketing spend of 5% of export values, the Promotions Committee noted the total industry marketing spend by 2007 would need to be in the order of $35-40 million per annum," he said.

Their plan is to "front load" industry investment in marketing. For generic Brand New Zealand marketing, New Zealand Winegrowers intends to raise its budget from 1% of export values to 1.5%, or $11 million in 2007. And it hopes the 476 wineries will stump up the extra $24-29 million to market their own wine.

"Given limitations on funding from the government and even with strong support from sponsors, it is obvious the majority of this money will need to be derived from wineries on a user pays basis," Gregan said.

Unless Category 1 winery owners have deeper pockets than many think, expect to see the number of companies plateau or even decrease over the coming years.

The Wave of Wine may be different from the Wall of Wood but wine is still a commodity, which means we can expect a few similarities too.

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