None of this is fortuitous for the California wine industry, which worries me. I'd hate to see the state's winemakers get hammered because, in many ways, they've created a model U.S.industry: They make an excellent product that (in moderation) is good for you, and they were leaders in adopting environmentally responsible, sustainable growing techniques. Plus, as evidenced by the fact that U.S. wine exports soared all through the 1990s, they can compete with anyone in the world.
Until recently, the dominant California wine producers haven't faced a rival capable of beating them on their own terms. They got a major wakeup call that things have changed when Australian wine exports jumped more than 50% last year. The Aussies are undercutting their American rivals on price and killing them in overseas markets.
INTERNATIONAL INVASION. This year, Australia will probably surpass France as the No. 2 wine exporter to the U.S. The Aussies still lag behind No. 1 Italy by a considerable margin (10.7 million cases of sold in the U.S., vs. 21.8 million for Italy during the 12 months that ended in August). But that, too, could change if current trends continue: Australian wines recently took over the No. 1 spot in Britain, pulling ahead of those from France.
Indeed, heavy competition abroad from Australia and the continuing relative strength of the U.S. dollar are the main reasons U.S. wine exports peaked at $561 million in 1999. They fell 3% in the following two years, and were off an additional 3.9% in the first half of 2002. "The Australians are giving the Californians fits," says Ronn Wiegand, publisher of Restaurant Wine magazine. "They're producing better quality wines for the price than the Californians can."
One sign that some Yankees are feeling the heat is the new Charles F. Shaw line of California wines sold exclusively in Trader Joe's stores, which came out late last year at the incredible price of $1.99 per bottle. Created by Bronco Winery and dubbed "Two-Buck Chuck" by wine writers, it became an immediate sensation. Trader Joe's sold 1 million cases in December -- enough to make Two-Buck Chuck one of the top 50 U.S. wine labels of the year, even though it was on the market for only a month.
TWO-BUCK CHUCK. Some experts believe the pressures on California winemakers are only temporary. They still dominate their huge home market -- they produced 68% of the 250 million cases of wine shipped in the U.S. last year, according to San Francisco wine-industry consultant Jon Fredrickson. By contrast, Italy, France, and Australia combined accounted for less than 20%.
Vic Motto, another prominent California wine-industry consultant, argues that the state's main problem is the cyclical overproduction that periodically plagues any agricultural industry. The trouble is a temporary oversupply of cheap wine grapes from California's Central Valley -- the kind that go into Two-Buck Chuck. "As an industry observer, I've seen this happen routinely," says Motto. "As the market grows, they speed up production, which leads to temporary oversupplies." It may take a year or two for all the excess grapes to be soaked up by the market, he adds, but he believes that the worst price-cutting is already over.
Perhaps, but I still have doubts. I called six big wine retailers around the country and found that each is continuing to push foreign wines, all of them griping that California wine prices remain too high. Ron Loutherback, president of The Wine Club, a big Southern California wine retailer, predicts that prices of the state's high-end wines will continue to drop.
DEEP DISCOUNTS. In the ultracompetitive supermarket segment, Australian and other foreign producers will force down California wine prices by as much as 20% this year, he predicts. "California producers have to pull their heads out of the sand," Loutherback says. "The French, Australians, and others are offering better value."
Out in the hinterland, heavy price-cutting of California wines is starting to spread beyond Chardonnays, which have been in oversupply for some time. For instance, Kahn's Fine Wines in Indianapolis, has not only just cut the list price on some cabernet sauvignons from top California labels such as Kendall Jackson and Folie a Deux but it's also offering a second case at 75% off. You can probably expect more such deals at stores outside the major California and New York markets.
Foreign competition is getting tougher. "We expect Australian wines to have another very good year," says Tom Burnet, who recently left Brown-Foreman to become CEO of the U.S. arm of Australia's Southcorp Wine, the biggest fine-wine producer in the world (see BW Online, 1/22/03, "The Simple Truth About Australian Wine").
MODEL WINERIES. The success of the Yellow Tail label shows that the Australians aren't letting up. Produced by Casella Wines, a small family-owned winery in the state of New South Wales, Yellow Tail shiraz, cabernet, merlot, and chardonnay were introduced in the U.S. in mid-2001 -- yet they sold an incredible 2 million cases in 2002, according to W.J. Deutsch & Sons, the label's New York distributor. The reason? Listed at $7 per bottle, Yellow Tail wine often sells for just $5 or $6 after discounts, and, says Wiegand, "the wine is very good for the price." Wine Enthusiast magazine rated the 2002 Yellow Tail Shiraz at 86 on a scale of 100.
The Australians have provided a model for others to imitate: Keep costs low by figuring out how to make decent wines from grapes grown on inexpensive land, tailor wines to American tastes, focus marketing on popular grape varieties such as syrah, chardonnay, merlot, and cabernet, keep labels simple, and aim at the fast-growing $5 to $10 segment. They now seem ideally positioned as retail chains, ranging from Wal-Mart and Sam's Clubs to Target Stores and Costco, scramble to expand their wine sales.
Seeing the writing on the wall, Italian winemakers are expanding production in low-cost Southern Italy. Even some French producers have dropped their convoluted labeling system and started churning out mild merlots and fruity chardonnays tailored to the tastes of American supermarket shoppers.
DIRT'S NOT CHEAP. High-end California producers would seem unaffected by such mass-market trends, but some are nervous. For instance, Napa Valley's successful Joseph Phelps Vineyards easily sold out its 2000 and 2001 vintages, despite raising prices. Even so, President Tom Shelton says he's "a little concerned about what we might face in 2003." At the very least, stair-step price hikes appear set to become a thing of the past. Says Shelton: "I have no plans to raise prices on anything this year."
Longer term, rising costs could start to price high quality Napa and Sonoma wines out of the market. Richard Arrowood, founder and winemaker at Arrowood Vineyards & Winery (bought in July, 2000, by Robert Mondavi), notes that top quality cabernet-sauvignon grapes from Napa and Sonoma now go for $5,000 per ton. At that price, he says, the wine made from them has to fetch at least $50 per bottle to turn a profit. And land prices continue to soar, too. Late last year, film director Francis Ford Coppola's Niebaum-Coppola Estate Winery paid $31.5 million -- a record $340,000 per acre -- for a prized parcel of land in the Rutherford area of Napa Valley.
In the nearer term, a lot depends on the weather. Even the optimistic Motto admits that another bumper harvest could lead to a grape glut, one that would pinch many producers. Consumers will cheer if prices come down even further. But you have to wonder if the California wine industry's salad days are ending. Peterson is a contributing editor at BusinessWeek Online. Follow his weekly Moveable Feast column, only on BusinessWeek Online