The Big Business of Little Brewing

Feature by | Jul 2011 | Issue #54

Any homebrewer knows that the first few batches are just about the beer. But, with some money, a garage system can turn into a laboratory capable of producing barrels and barrels of the stuff. The dream, of course, is that the beer will sell and profits will pour in—and that’s when those one-time garage brewers find themselves scrambling to meet rising demand.

The explosion of popularity in craft beers has forced breweries across the country to confront this situation. As demand increases in newer markets, microbreweries are at a crossroads: take out large loans and expand, or sell stakes to larger brewers and distributors. Factor in that a generation of craft brewing legends is approaching retirement, and these questions become even more complicated.

The Selling Points
“Certainly when brewers expand, when they build to grow, it’s a very perilous moment because typically you’re taking on a lot of debt to build that new plant, and if you don’t fill up those tanks, you’re going to have a tough time paying that debt,” says Stephen Hindy, cofounder of Brooklyn Brewery in New York. “That’s been the end of a number of breweries.”

In the last year, five of the top 25 craft brewers (by sales volume and according to the Brewers Association) in the United States have sold all or part of their operations: Kona Brewing, Anchor Brewing, Magic Hat Brewing, Pyramid Brewing and Goose Island Brewing. Goose Island, which made waves throughout the craft community when it sold its remaining equity to A-B InBev in March of this year, faced the same factors as many other breweries—narrow distribution options, limited brewing capacity and limited financial capabilities.

Greg Hall, former brewmaster of Goose Island, grew the company with his father, CEO John Hall. At the end of the day, Greg Hall told BA in a recent interview, the choice came down to what would be best for them and for the company. “We’ve been criticized a little bit in the beer press with people saying, ‘Why don’t you just take out more debt?’” Hall says. “My father is almost 70. Are you going to take out $50 million of debt when you’re 70?”

For Hall and Goose Island, the issue wasn’t meeting demand or maintaining quality, but being able to put their product on shelves outside their existing distribution range. “Making the beer isn’t the problem,” says Hall. “The problem is selling the beer and distribution. We know we can make the beer. We know there’s people out there that want the beer. The problem is getting it to them.”

To achieve the kind of expansion of distribution and brewing capabilities that Goose Island wanted, A-B made sense, says Hall. “Back in 2005, we looked at our options, and our best option was going with the [A-B] network because they had full coverage, and they also didn’t have a big book,” he says. “They didn’t have 200 other craft beers.”

Goose Island sold about 32 percent of its business to Anheuser-Busch in 2006 and the remaining stake in early 2011. While certainly not the first craft brewer to sell to a major brewery, the sale was met with a mix of anger, disappointment and congratulations. The Chicago Sun-Times asked: “By selling itself to the largest brewer on the planet, has Chicago’s Goose Island sold its craft-brewed soul?” Local Chicago restaurant Hopcat declared that it would stop serving Goose Island products. Still, many within the industry noted that this was the natural evolution of any business that sees the type of popularity explosion that Goose Island, and the craft brewing industry as a whole, had experienced.

But for John and Greg Hall, a father and son who built their business together for more than two decades, it had everything to do with their lives as businessmen, brewers, friends and family. “[My dad] was a total left-brain guy, so he’s all about systems and planning and kind of the business consultant type stuff, and I was kind of the creative guy,” Hall says. “A lot of times, we butted heads in the early years because we thought about things differently, but eventually we figured out that it was an advantage that we had different skill sets.”

At some point, growth meant exploring options outside of Chicago. “What it really came down to was that we wanted to continue to grow the business and our brewery in Chicago is landlocked,” Hall says. “It is in a commercial, industrial area. We’re not like Chico or Fort Collins, where we’re out in a field with 20 empty acres next to us. We’re in a city. We’ve got our brewery and once our brewery is full, we can’t make any more beer.”

The Name of the Game: Sustainable Growth
Before the renaissance of American craft brewing started in the ’80s, small brewers struggled to maintain even the smallest foothold in their limited markets. Richard Yuengling Jr., owner of Yuengling, the oldest operating brewery in the US, started in the business in 1958 at the age of 15. While not a traditional craft brewery, Yuengling has experienced all the highs and lows of the American beer market.

“We were just barely hanging on to our business by a thread,” says Yuengling of his early days in the business. “As time went on, it just continued to get worse. … Everything was slanted against the small brewer.”

During a time when breweries across the country were closing their doors, the Pennsylvania-based brewery survived by paving a road that would be followed by many of today’s most popular craft brewers. Committing themselves to one region—in this case, the Northeast—allowed Yuengling to keep costs low while expanding within their existing market. “We’ve chosen to stay within the confines of the 13 states where we can ship beer economically and keep our beers under the pricing structure that we’ve created,” Yuengling says.

While Yuengling was years ahead on the concept of circumscribed distribution, the 1990s saw many breweries rapidly expanding to meet the meteoric rise in demand for craft beer. That bubble burst in 1996, when demand leveled off, and brewpubs and breweries were forced to sell, close or cut back.

Some craft brewers, like Dogfish Head, survived being on the brink of bankruptcy. Others have come back from the grave, like City Brewing Company, formerly the G. Heilman Brewing Company, which declared bankruptcy twice in the ’90s. But as demand for craft beer returns to mid-’90s highs and microbreweries are again considering expansion, the collapse of the ’96 remains an ardent warning to today’s brewers.

54Feature2Learning from Mistakes
The dramatic growth of the craft brewing industry in 2009 and 2010 has sparked speculation of another market bubble. The numbers paint a cloudy picture: In 2010, overall US beer sales were down an estimated 1 percent by volume. Meanwhile, the craft brewing industry saw an impressive 11-percent growth by volume, according to the Brewers Association. Conventional wisdom, at least among those who think the pint is half-full, is that things are different this time around. For one thing, microbrewers of the ’90s emphasized branding and marketing, and often slacked when it came to quality, which resulted in fleeting success.

“The quality has been a huge priority,” says Hindy. “The breweries that fell by the wayside in the mid-’90s weren’t making the kind of beer, they weren’t achieving the level of quality, that you need to get to 100,000 barrels and beyond.”

This generation of craft brewers is built on a foundation of award-winning products and business acumen. But shelf space is limited. Learning from the mistakes of brewers who grew too quickly, many breweries today are turning to the regional approach that Yuengling’s been practicing all along. In a bellwether move, Dogfish Head, the 22nd largest US craft brewer (according to Brewers Association) and one of the fastest growing breweries in the nation, announced in March that it would be withdrawing distribution from Wisconsin, Rhode Island, Tennessee and Indiana, as well as the United Kingdom and Canada.

“Recently, the most taxing component of this challenge is that having demand so far in front of our supply has gotten [sic] a point where we need to makes [sic] some changes, as we are not even close to meet the requests from our fantastic distributors. This is frustrating to them… and to our retailers and to you, the Dogfish drinker,” Dogfish Head brewer Sam Calagione announced in a press release.

Great Divide, Avery and Allagash, among others, also withdrew from several states, all citing the same reasons. “I’d rather sell 200,000 barrels in half the country than 200,000 in the whole country,” says Hindy, who has been expanding his business slowly but sustainably since the brewery opened in 1987. “I’d rather be deeper than shallower.”

Hindy’s approach is echoed by Yuengling. “We look to improve our market share in existing markets before expanding into new markets,” Yuengling says.

The Next Generation
Paramount to Yuengling’s success was the involvement of two of his daughters, who are poised to take over the business once he retires. The result is a private brewery that continues to thrive. “We’re committed to growth as long as my two children that are here are committed to running the place when I finish,” Yuengling says. “It’s a very important thing to the future of the company that we continue to grow or expand, or improve our market share in existing markets.”

When asked if selling the brewery was ever a possibility, Yuengling didn’t mince words: “I don’t think my personality would be conducive to standing up in front of a board of directors or stock holders.”

But not every brewery is as lucky as Yuengling to have a built-in lineage to take over the business. For some, the question of who will take up the baton of a successful craft brewery is as essential as what goes into the tanks. “We’re getting older,” says Hindy, a former Associated Press Middle East correspondent who cofounded Brooklyn Brewery with Tom Potter. “You begin to look around and think, ‘What’s going to happen for the next generation?’”

With many of the nation’s major craft brewers seeing consistent growth and eyeing expansion, plans for the future are essential, particularly if these enterprises are to remain private. “To me, what’s happening is there are generational pressures on my generation of founders,” Hindy says. “Most of us started in the mid- to late ’80s, and most of us have not taken a lot of money out of the businesses. We have pretty much reinvested everything.

“I think if you look at, like, the top 25 craft brewers, you can pretty much go through them one by one and some of them have plans for the next generation and some do not,” Hindy continues. “Here at Brooklyn Brewery, my partners, Eric and Rob Ottaway, will eventually take over the company. We’ve pretty much agreed on that and probably my role will diminish, say, in the next five years.”

Something Old, Something New
The creativity that’s defined this generation of craft breweries—the experimental, or so-called “extreme” philosophy of brewing that’s upended the traditional approach—doesn’t stop with the product. Craft brewers are beginning to explore innovative means of growing their brands and their businesses, both domestically and internationally. Brooklyn Brewery may be taking some of the more original approaches to expansion. By partnering with a craft brewer on the West Coast, Hindy hopes to share brewing and distribution capabilities, allowing each brewery to access new markets with limited overhead.

“Two independent brewers coming together to do something, to build something,” says Hindy. “It’s a way of tackling that huge investment.” Brooklyn Brewery also exports about 15 percent of its production to 17 foreign countries, including Sweden, England and Italy, according to Hindy. While that type of expansion may not be possible for most breweries, Hindy believes the US market has plenty of room.

“Before Prohibition, there were 17 or 1,800 breweries, packing breweries, and the population was 90 million people,” Hindy explains. “Today, the population is more than 300 million, so I think there’s a lot of room for craft breweries. … Seems to be there’s room for growth for everybody. A lot of those breweries will be chiefly regional players, but a lot of them may go beyond that, too. I’m pretty optimistic,” he adds.

There’s certainly no shortage of breweries in the US. In 2010, there were 1,753 US breweries operating for some or all of 2010, the most since before Prohibition, according to the Brewers Association. With craft brewing continuing to show strong growth in the face of an otherwise flat beverage industry, larger businesses are going to show interest in quality brands. Many have already sold or will sell, but some, like Brooklyn Brewery, have no such plans.

“The priority is to remain independent. We don’t want to be owned by InBev or Heineken or MillerCoors,” Hindy says. “They don’t have a great track record in operating small breweries.”

Whether we’re witnessing the next bubble burst or not, as Yuengling points out, it’s only natural that some breweries will make it and some won’t—that has been the history of beer in America. “It’s going back to the beginning of the history of the beer business, the late 1700s, early 1800s, where people would build a brewery in their community, and some of them survived and some of them did not,” Yuengling says.

The most pressing question for consumers remains about the effect of these sales on the quality of the beer. To Hall, the quality is exactly what larger brewers are buying. “That gets asked all the time and I say, well, logically, why would they buy our brewery? They’re not buying it because we have this big awesome brewery,” he explains. “They’re buying us because of our beers and brand. And to change the beers and brand just isn’t smart business.”