From the Balcony: Previewing the Next Chapter in the Beer Industry’s Business Saga

Feature by | Apr 2016 | Issue #111
Illustration by Taylor Seidler

Is it time to start filming the Beer Wars sequel? Released in 2009, the documentary directed and produced by Anat Baron outlined the struggle by smaller American brewers against the sales might of multinational macro brewers, a tide that subsequently turned in favor of the craft segment and its impressive growth rates.

North American Breweries, a business that now encompasses Genesee, Magic Hat, Pyramid and Portland Brewing, also appeared in 2009. Less than a year before the film’s release, InBev bought Anheuser-Busch for $52 billion and in the same month, Widmer and Redhook combined to form Craft Brew Alliance. Beating AB InBev to the punch, SABMiller and Molson Coors announced that they would be forming a joint venture, MillerCoors, in late 2007. Little by little, the brewing industry landscape was changing. And it all came to a head in 2015, when large-scale brewers aggressively responded to the prospect of continuing to lose market share to independents. It was a year defined by Big Beer paying incredibly big prices for desirable craft brands.

Ballast Point Brewing & Spirits and Lagunitas Brewing Company, both of which started in California and each with eye-popping growth numbers that gave them enormous valuations, found suitors in Constellation Brands and Heineken International, respectively. MillerCoors picked up San Diego’s Saint Archer while five other independent breweries became part of Anheuser-Busch InBev’s “string of pearls” strategy, including iconic brands like Elysian in Seattle and Breckenridge in Colorado. For many consumers and some in the industry, it was all too fast, too soon.

Yet Beer Wars II (Attack of the Clones) could get underway if independent brewers find their retail access to large grocery chains, convenience stores and other mass marketers is reduced because of the expected growth of the craft brands now in the hands of macros. After writing very large checks to craft brewers, Big Beer expects to get a return on those investments by using their existing distribution strength to increase sales of the newly acquired brands. For AB InBev, it’s a strategy that’s already worked with Goose Island Brewery.

Steve Hindy, chairman and co-founder of Brooklyn Brewery and the author of The Craft Beer Revolution, has been down this road before. For 20 years he fought to establish his craft brand against experienced macro breweries working to keep their brands prominent—dominant even—in major retail markets. To borrow a phrase from another New Yorker, 2015 was déjà vu all over again for Hindy.

“Most independent craft brewers do not have the sales muscle to stand up to the macro-brewers (in retail channels),” he says. “It will be interesting to see if the chain buyers commit themselves to supporting small and independent craft brewers. It would be a shame to see the independents who created the craft segment suddenly disappearing from the shelves.”

In the short term, traffic continues in both directions on this street. Independents keep cutting into macro’s premium brand share and increasingly have access to capital. Growth and success aren’t entirely contingent on selling out, either. The battle lines for Beer Wars II are forming.

Hindy himself sold a controlling interest in the Brooklyn Brewery to longtime partners Eric and Robin Ottaway in 2014. He retains a significant share of the common stock and now serves as the brewery’s chairman. But he also retains some personal risk by continuing to own stock. “This sort of transaction requires a good deal of trust,” wrote Hindy on Brooklyn Brewery’s website at the time of the sale to the Ottaways. “I still have a significant common stock holding in the brewery, so the future success of the company is very important to me.”

There are others on the craft side who believe that wartime should mean no diplomacy with macro brewers. Instead, companies like Oskar Blues and Dogfish Head chose private equity sales or minority stake interests. And Employee Stock Ownership Plans, or ESOPs—which can risk too much leverage when it comes to the borrowed money needed to fund them—are the ultimate statement of commitment to the ideals of craft brewing. In fact, in September 2015, two breweries that went this route, Deschutes and Harpoon, celebrated their decision by brewing EHOP, a limited release Amber Ale. “Craft is creating a new way of doing business, combining capitalism and Marxism,” said one principal committed to the ESOP model.

Other avenues exist, too. Last year fast-growing Firestone Walker Brewing Company elected to sell to craft-sized Duvel Moortgat of Belgium. In doing so, the California brewer became one of three American breweries aligned with the Moortgat family, which includes Boulevard Brewing Company of Missouri and Brewery Ommegang of New York. And the deals are expected to keep coming, both because of the pressure to expand in a volume-driven industry and because of the money needed in a capital-intensive business.

Complicating the situation is the age-old problem of exit strategies. A term used to describe the moment in time when original investors sell their stock, an exit strategy can include principals as well as behind-the-scenes investors who helped to get the founders started. Once in place, exit strategies usually precede the next step of growth. But for founders who have dedicated decades to building a business, what to do next isn’t always an easy decision.

So just how much volume has the craft segment lost? As a result of acquisitions last year, the barrelage moving from the Brewers Association’s Top 50 list of craft brewers, which excludes those with more than 25 percent ownership by Big Beer, was 1.4 million barrels. That may seem like a large number, but it’s less than the anticipated growth in production for the same time period by the remaining BA brewers. Growth in volume and market share by BA member breweries is expected to continue, too, especially on the local scale, but in five years, the national landscape is likely to look different. One reason for that shift is more macro acquisitions.

“I think you’re going to go through a fairly long phase of consolidation,” says Townsend Ziebold, managing partner at First Beverage Group in Los Angeles, which advises macro and craft brewers during acquisitions. However, he expects the rate of deal activity to gradually decline. “You’re going to have people like Duvel, ABI, Constellation and MillerCoors that have really filled out their portfolio.”

In this new landscape, says Ziebold, major brewers will focus on promoting the growth of their acquisitions. Private equity investors, who invariably want to retain the founders to operate breweries, will also continue to invest in growth—and possibly look for other craft acquisitions. The merger of Southern Tier Brewing Company with Victory Brewing Company under Artisanal Brewing Ventures in February and the March purchase of a controlling interest in Cigar City Brewing by Fireman Capital Partners are examples of private equity helping brewers grow and remain independent of macro influence. In order to keep up with macro pressure at the point of retail though, will craft brewers have to choose between expanding, merging or perishing?

Ziebold believes the situation isn’t quite that dramatic. “I do think the guys in the middle—we call it the soft middle—the guys who aren’t at the scale of Sam Adams, New Belgium and Sierra Nevada, the guys who also aren’t truly local or nano, those guys are in a tough spot right now. That’s why we’re seeing as much activity as we’re having now. It’s not expand or perish, [but] rather invest in your business or retreat.”

There’s no doubt that money on a mind-boggling scale is changing the US beer business. According to Brian Mulvaney, senior vice president of Bank of America Merrill Lynch’s beverage finance division, the recent price acceleration started with AB InBev’s acquisition of Goose Island in 2011. That purchase gave confidence to investors in other craft breweries that exit strategies could be successfully pursued. “There was an ability for somebody to sell a craft brewery and get a return on the investment,” he says.

When Constellation Brands, best known for its Corona and Modelo lines, bought Ballast Point, the $1 billion price tag was definitely high by previous standards, but it was influenced in part by the fact that Ballast Point had already announced an IPO. The brand also complements Constellation’s Mexican beer portfolio. With Ballast Point’s 2015 output of 290,000 barrels, the math worked out to roughly $3,500 per barrel (with a micro distillery thrown in for good measure).

Constellation president and CEO Rob Sands says the growth rate and margin of Ballast Point’s six-packs meant the offer was reasonable, citing statistics from retail sales tracking firm Information Resources, Inc. (IRI). “The brand grew over 100 percent (in 2015) and 125 percent in IRI,” he says. “When you look at purchase price and multiple as a function of growth rate, it’s pretty reasonable. We don’t see the growth rate changing much in the short term.”

Mulvaney notes that the range for craft brewery valuation has been $700 to $1,000 per barrel historically, but now is up to $3,000. In some cases, it reaches beyond that sum. “The value is in the eye of the buyer,” he says. “It’s very dependent on the quantitative elements such as the growth rate and the profit, both of which were strong suits for Ballast Point as well as the intangible factors such as a scarcity of options. If an investor is looking to make a strategic acquisition, what are the other options they have and who might be available for sale?”

Based on last year’s production figures, the overall valuations of Firestone Walker and Lagunitas were also in the $1 billion range under current pricing. And as with Ballast Point, their buyers plan to continue rapidly expanding production to make the investment worthwhile. Missouri’s Boulevard, which Duvel Moortgat acquired in 2013, is already well on its way to becoming a national brand with 35 states and counting.

Firestone Walker, which brewed close to 300,000 barrels in 2015, likely commanded a value of more than $3,000 per barrel because of its 40 percent annual growth and its central location in California. “Duvel has always stayed at the top of the pyramid,” says Duvel Moortgat USA president Simon Thorpe, explaining that his company’s motivation was to add another “jewel” to its portfolio. “As you weather these different 10-year cycles of the economy or drinking habits, if you’re always on the top of the pyramid you’re not only survivors. You’ll thrive over the long term.”

Lagunitas, whose barrelage increased dramatically to 825,000 in its first full year of operation at a second brewery in Chicago, decided to leverage sales by going international. Owner Tony Magee sold a 50 percent stake to Heineken for an undisclosed sum, believed to be at least $1 billion. Holland’s Heineken, which will become the world’s second largest brewery following the merger of AB InBev and SABMiller, has used joint ventures to grow quickly in the past. Jonny Forsyth, a global drinks analyst for London-based market research firm Mintel, was not surprised by the deal. “Globally, the craft beer thing is in a very exciting stage and there’s a lot of preference for US craft, which started it all,” he says. “It’s in its early stages. Who can establish distribution into international markets and establish brands? Lagunitas is one of those brands.”

With market watchers and investors such as Ziebold and Mulvaney predicting that exit strategies and lucrative offers will continue to result in craft acquisitions by macro brewers, the battle for shelf space in key segments of retail distribution is bound to be a major part of the plot in Beer Wars II. Meanwhile, one question remains for consumers: Would you like popcorn with your sequel?