pricing

Over the last few weeks the T&T team has been tasting about 100 or so wines on behalf of a client along with a professional sommelier and two other industry persons. The results of the tastings have been revealing:

• The vast majority of the wines are very good – only a couple of corked wines, a couple of over-the-hill wines, and a couple not commercially acceptable.
• Domestic wineries do not know how pricing works in the three-tier sales channel.

The latter point is the most surprising, as it is one of the fundamental “P’s” in a marketing plan, and most of the wines came from producers (wineries) that have been established at least a couple of years if not much longer.

The most common mistake when we reviewed a wine’s pricing was a fundamental one: the supplier left out enough margin for a tier or tiers in the sales channel. We attribute that to a basic lack of understanding the dynamics of the three-tier sales channel. So first, a quick review of the U.S. wine industry’s marketing channels.

Wine in the U.S. comes from either a domestic producer or importer (supplier). Typically, the producer or importer sells to a wholesale distributor, who in turn sells to restaurants and retailers, and those in turn sell to consumers. That’s the basic three-tier sales channel: Supplier > Wholesale Distributor > Restaurant/Retailer > Consumer. Some permutations exist, such as a producer or importer acting as a wholesale distributor in the state they’re licensed in, and of course a winery selling direct to consumers through a tasting room, the internet, or by telephone. But basically the three-tier sales channel is the method of distribution for national sales throughout the U.S.

Each tier wants to make a profit, so each tier must price wine based on the cost of the previous tier. While there used to be somewhat standard margins applied at each tier, pricing has become much more dynamic over the last decade in response to market forces: wholesale distributor consolidation, internet searches, increasing competition, etc. Still, a producer must project pricing for each tier in order to provide a basis for the ultimate price of a wine, the suggested retail price (SRP).

The methodology for projecting pricing is somewhat simple:

Cost-of-Sales (COS; e.g., cost-of-goods) + margin = Wholesale Distributor FOB (FOB; the price of the wine to a wholesale distributor from a supplier)

FOB + laid-in costs (taxes, freight, operations) + margin = Wholesale (WHSL; the price of the wine to a restaurant or retailer)

WHSL + margin = Suggested Retail Price (SRP)

Therefore:

(COS + margin)	+	(FOB laid-in & margin)	+	(Restaurant/Retail margin)	=	SRP
Supplier’s Price (FOB to wholesale distributor)	>	Wholesale Price (WHSL to restaurant/retailer)	>	Restaurant/Retail Price (SRP to consumer)

Now a wine drinker reading this might groan at all those costs and margins being added into the price they pay. What they typically don’t realize is how thin most of those markups really are, especially for the producer or importer.

The complicated part is ascertaining what those added costs and margins are. First and foremost a producer must explicitly know their COS for each wine. Pricing wine without establishing your COS is a non-starter; you will lose money.

Each buyer in the three-tier sales channel is going to have differing operating costs and optimal profit margins, which is dictated by a dizzying number of factors such as the local market, distance from supplier, local taxes, rents, salaries, etc. Often a supplier will add yet another tier, such as a national sales agency or a regional wine broker, who needs to realize a profit out of the pricing of the wine. Complicating the process even further is that each tier typically demands some sort of price support through discounts, promotions, or free goods. These complexities absolutely must be factored in by the producer in projecting a SRP for a wine.

This is clearly much more complicated than the prevailing yet bizarre industry pricing formula myth that half of SRP = FOB. No no no no no.

Pricing therefore is more of an ongoing process than the price-it-and-forget-it practice that most suppliers adhere to. Indeed, for mid-size and larger producers, each market will likely have its own channel pricing. Adding complexity is the practice of setting a national SRP for a national chain; that SKU may have a differing FOB and WHSL price in each market based on the local market and quantity purchased by the chain.

What we quickly discovered in the tasting evaluations was that most producers were pretty much arbitrarily setting channel pricing with far too low margins to be workable on a national scale. Now many of the wines were from exceedingly small producers – under 1,000 cases annually – so weren’t selling nationally, or even selling much wholesale in California. But mis-pricing a wine can lead to complications if a producer has plans to grow production … or it becomes necessary to work with a wholesale distributor or a wholesale broker in-state.

Last, pricing is a strategic marketing asset. Supply and demand do factor in (hence why Screaming Eagle is so very expensive), as do branding. Both may add or lower pricing significantly.

Indeed, in the tasting evaluations the packaging was a key factor. Tasters tasted the wines not blind, e.g., the labels where displayed and reviewed. Pricing, however, was mostly unknown, and each taster was asked to provide a SRP based on the wine quality – and the packaging. In many instances there was a significant amount of opinion that affected perceived pricing due to a wine’s label (and most often, negatively).

The result of mis-pricing wine is that the variations of retail prices can fluctuate greatly market to market; a real issue in this age of easy internet searches. If not enough margin is added for each channel partner, the result is higher retail prices in out-of-state markets, forcing wholesale distributors to work on less margin, or having to provide greater price support. Each of those results can make your brand less desirable to the sales channel buyers; there is also the added resentment from buyers when a supplier clearly favors their home state or tasting room with lower pricing. A wine without adequate supply/demand forces or brand recognition can easily be priced too high, creating slow sales or push-back from sales channel buyers demanding continual discounting – in effect resetting your wine’s market pricing. We noted both instances of pricing imbalance in our tastings, with some clearly mis-priced too low and others too aggressively priced given the lack of brand recognition (essentially none) compared to peers in quality being more sensibly priced, and therefore a greater value to a buyer.

If you are not creating a pricing strategy based on your COS, branding, marketing objectives, the three-tier sales channel, and pricing support, then you are not ready for the national U.S. wine market. Remember, it’s easy to lower pricing but exceedingly difficult to raise prices – so getting it right the first time makes life easier. In our current industry climate the supplier has the least amount of persuasion in pricing through the three-tier sales channel due to wholesale distributor consolidation and competition.

Pricing is a critical component of wine marketing and sales, and therefore creating a successful pricing strategy that is updated with every new release, review, and label change is necessary for success.