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This Merlot's for You


The Louis M. Martini Winery has a proud history, with roots stretching back to the earliest days of California wine-growing. Founded by an Italian immigrant in 1933, it became one of Napa Valley's flagship wineries. On Sept. 9, though, Martini reached the end of the line as a family-owned operation. Hobbled by stiff competition and massive consolidation throughout the industry, the founder's grandchildren announced the sale of their business to E. & J. Gallo Winery, the world's largest wine company. "It has just gotten so hard for smallish wineries," laments President and ceo Carolyn A. Martini. "Most of us don't run that aggressively. So when we're going through a consolidating time or a market downturn, more and more of us are sensitive to it."

It's a common refrain rippling through the $50 billion U.S. wine industry. After unprecedented growth in the 1990s--7% compounded annually for wine under $8 a bottle and 16% for wines over that--the bubble has burst. At the lower end of the market, which makes up 75% of volume, sales have fallen an estimated 6% so far this year from last, while revenue growth for the increasingly popular premium brands has slowed to 12%, says researcher Motto Kryla & Fisher LLP in St. Helena, Calif. "The halcyon days are over," says Jim Barrett, founder of Ch?teau Montelena Winery in Calistoga, Calif.

The bad economy and a slump in tourism are part of the problem. But vintners face other woes. A grape glut caused by overplanting in headier times is raising inventories and igniting price wars. The oversupply has gotten so dire that farmers are pulling up vines and replacing them with crops in higher demand. In addition, consolidation among distributors and retailers is limiting smaller vintners' opportunities to get into the crowded marketplace. And competition from abroad, aided by the strong dollar, is adding to their ills.

The quadruple whammy is hitting winemakers like a 10-ton barrel. And it's bringing shifts that are likely to reshape how the wine business operates. "There are going to be more dynamic changes than ever before," predicts R. Michael Mondavi, chairman of Robert Mondavi Corp. in Napa, Calif., which elevated its first nonfamily member to CEO last year. "We are going through a transition from a cottage industry of gentleman farmers into a consumer-products, luxury-goods industry."

In short, the relatively young U.S. wine business is finally becoming, well, a business. Gone are the days of the ultrarich flowing into Napa Valley in search of a hobby. Mom-and-pop vintners have stopped making wine without regard to the actual demand. And multigenerational families, who operate most of this country's 2,000 wineries, no longer rely only on emotion to drive pivotal business decisions.

Instead, the highly fragmented industry is becoming as dedicated to the bottom line as it is to the American palate. With Americans drinking not even one-tenth as much wine as beer, vintners realize that wine has to move from special-occasion to all-occasion if the industry is to thrive. To that end, vintners large and small are recruiting professional managers. They are launching sophisticated brand-building campaigns and using technology to streamline operations. Perhaps most telling, multinational corporations such as Diageo (DEO), Southcorp, Brown-Forman (BFA), and Constellation Brands (STZ) are battling it out alongside hundreds of small artisanal wineries. "The wine industry is not the young throbbing adolescent it was. It has started growing up and being less experimental, less fun-loving, and less hobbylike," says Vic Motto, a wine business consultant at Motto Kryla & Fisher. "It is now a serious pursuit."

Few things are more serious to winemakers today than getting American adults to drink more wine. For three years, per capita consumption has been stuck just below two gallons a year, after several years of steady growth, according to the Adams Wine Handbook. What gains are being made are due largely to increased drinking among people already converted to wine rather than new, younger drinkers. Barely more than 10% of adults in the U.S. consume 86% of all the wine.

The challenge--and opportunity--is particularly striking when put in a global context. In per-capita consumption, Americans' two-gallon-a-year habit ranks 32nd in the world, according to World Drink Trends, an industry report. By contrast, Americans drink 22 gallons of beer a year. And therein lies the problem: Unlike many other nations, where wine is a part of daily life, the U.S. is a society devoted more to beer and Coca-Cola (KO). "We just don't think about wine when it's Wednesday night with leftovers," says John Gillespie, president of the Wine Market Council.

One way to change that is by transforming wine into, gasp, a mass-market commodity. It's an idea that wine purists abhor. But the business case for doing it is irrefutable. Instead of making oceans of cheap, so-so jug wines, or limited amounts of the priciest stuff, experts say it's time to use basic business principles such as economies of scale, market segmentation, and brand building to produce good-tasting wines at affordable prices. Such a move may be the best way to attract new drinkers to the category and subsidize the crafting of the most expensive, handmade brands.

Joel Peterson, general manager and winemaker at Ravenswood Winery in Sonoma, Calif., says that's what his Vintners Blend is all about. The collection of fruitier, easier-drinking wines retail for as little as $7 a bottle. Peterson makes 400,000 cases a year of Vintners Blend at a cost that is 72% less than his pricier Vineyard Designated Series, which sells for about $50 a bottle (chart).

Segmenting the market, as is done with everything from toilet paper to jeans, enables Peterson to have products at all price points, so that when consumers want to trade up, they can stick with Ravenswood brands. It also generates enough capital so he can reinvest in his company. "The commodity wine for me is what we call Chateau Cash Flow," says Peterson, whose winery grew revenues by 35.5% to $51 million last year, when it was acquired by Constellation Brands. "We had a mandate to figure out how to produce great wine and still be profitable."

Of course, having the right assortment won't help much if vintners don't get their message out. Wine lags way behind other alcoholic beverages when it comes to advertising. Vintners spent $111 million on ads last year, compared with $906 million forked over by beer producers and $404 million by distillers, says M. Shanken's Impact Databank.

Little by little, vintners are trying to change that. Up until three years ago, for example, Mondavi spent zero promoting its 8 million-case Woodbridge brand on television. But this year, it expects to dish out $14 million, mostly for TV campaigns. Gallo and Beringer Blass Wine Estates, acquired in 2000 by Australia's Foster's Group Ltd., also plan hikes in their marketing budgets. Meanwhile, Clos du Val Wine Co., a 30-year-old Napa vintner, recently struck product-placement deals to get its wine featured on shows such as The Sopranos. "We've had to go from being a production-oriented business to being a market-oriented business," says CEO David B. Campbell.

Single-brand promotions are only part of what's on tap. Wineries are also devising strategies, along with restaurateurs and retailers, to get more people to think about wine. Working with suppliers such as Gallo, for example, Olive Garden has been on a crusade to sell more wine at its 490 restaurants, offering extensive training to managers and waiters about wine and food and offering waiting customers free tastings. Last year, Olive Garden gave away some 30,000 cases of wine and, in the past five years, has doubled its wine sales. "Wine can be very intimidating," says William Edwards, the chain's director of culinary and beverage strategy. "But when you get it into the hands of people and let them taste it, they understand that wine doesn't have to be scary."

The notion is true even at Texas Stadium, where drinking beer at Dallas Cowboys football games is a sacred rite. With help from Chicago's Terlato Wine Group, the sports venue since 2000 has been teaching servers which wines to recommend with which foods. The result: Wine sales jumped 16% last season.

The industry is also getting serious about finance. St. Francis Winery & Vineyards in Santa Rosa, Calif., for example, hired its first chief financial officer in January. Although the winery produces 300,000 cases yearly, it was still operating much the way it did two decades ago, when it made just 20,000 cases. So General Electric Co. (GE) veteran Robert J. Aldridge was brought in to instill discipline. Among his first projects was figuring out whether St. Francis should buy barrel-washing equipment or hire people to do the job. Aldridge figured he could pay off the equipment in 13 months, a far cheaper option than hiring six workers. "GE taught me how to base decisions on data rather than gut feelings," explains Aldridge.

These changes are partly a response to shifts in the way wine is sold. Laws harking back to Prohibition require vintners to sell their wines through state-licensed distributors. But these wholesalers have been eating up one another, leaving vintners with few outlets. Industry insiders estimate that the largest distributor, Southern Wine & Spirits of America Inc., now sells one out of every 10 bottles of wine in the U.S.

Not all of their wines are homegrown. Overseas vintners, from Italy to Australia, now account for about 25% of U.S. sales, according to the Commerce Dept. Retailers say high-quality, well-priced foreign wines are increasingly hurting U.S. vintners. "As the American market becomes more mature, we are looking for other products from other places," says David Andrew, director of wine at Costco Wholesale Corp. (COST), now the nation's largest wine retailer, with $500 million in sales annually. "So the American wine industry needs to be more competitive when it comes to pricing."

Small vintners aren't going away. Indeed, the market for handcrafted wines is growing. Increasingly, though, artisanal winemakers are professionalizing their operations or seeking refuge with a corporate parent. Either way, the landscape has clearly shifted, and vintners who don't respond are likely to find themselves--well, over a barrel. By Linda Himelstein in Napa and Sonoma Counties, Calif.


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