Thursday, January 31, 2013

Taverns and Breweries: Making Sense of the Mess

The Montana Tavern Association's recent attempts to stifle brewery tap rooms touched a serious nerve with craft beer fans.  Comments on this blog and other social media sites ranged from a call-to-arms to the unprintable (which I delete). Yet, commenters raised one common question more than any other:  Why would the MTA want to enact a bill that would harm the brewing industry?

To review, the MTA, working with a friendly legislator, sought to draft a bill which would limit on-premise sales at brewery "sample rooms" to no more than 10% of the brewery's annual production. Montana's Small breweries (defined as producing between 100 and 10,000 bbls annually) may sell 48 ounces per person, per day for on-premise consumption between the hours of 10 am and 8 pm.  Several of Montana's 36 breweries sell 100% of their annual production on-site through tap rooms and growler fills. Most sell at least 85% on-site.    

The effect of the bill would be devastating to most of Montana's breweries, a point the MTA anticipated and sought to counter by preparing numbers demonstrating how breweries could still be successful.  No doubt some could, but it begs the question. When the breweries have been built and operated within the laws as they've read since 1999, why should they?

Because they are violating the "intent" and "spirit" of the law, claims the MTA.  It's a comical argument with no defensible position.  The law says small breweries can sell 48 ounces per person per day between the hours of 10 am and 8 pm. The law neither limits the number of people who may request their 48 ounces nor limits the amount of fun they can have while enjoying them.  At the legislative hearings in 1999 to consider the  bill to allow breweries to sell pints (within the 48 ounce limit, etc.) there was NO opposition.  In fact, the MTA supported the bill and thanked the brewers, distributors and tavern owners who came together in compromise.  

So what happened?  Brewery tap rooms became an attractive nuisance to the MTA.  People like them.  Really like them.  They largely provide an atmosphere missing from most bars.  The craft beer boom reached heights anticipated by no one and coincided with a new-found sense of place - call it the drink local equivalent of the eat local movement.

In short, they started competing with the tavern owners.  The MTA says the competition isn't "fair."

Competition, you say? When Starbucks moved into downtown Missoula in 2006, the local news media ran the predictable story asking local coffee shops like Break Espresso and Liquid Planet what it would mean for their business.  The same story ran recently when Einsteins Bagels announced it would open its first Montana location less than a block from Missoula's bagel institution, Bagels on Broadway.

In each instance, the response was predictable.  Answers ranged from "there's plenty of room for everyone," to "the more the merrier," to "national brands raise the interest in the product," to "we are proud/good at what we do and will see how things shake out."  What else are they going to say?  Competition is a fact of life for every business. (Incidentally, Starbucks closed it's downtown Missoula location three years later. It's now a Jimmy John's sandwich shop competing with downtown's other lunch favorites.)

Things are different in Montana's world of alcohol.

When prohibition ended in the 1930s, Montana chose to enact a quota system for liquor licenses. For the most part, there aren't any licenses left in the places you'd most want to get one.  Thus, these quota limits have created an artificial system that significantly increases the value of the licenses.

Want to open a bar in Missoula? You can't run to the Department of Revenue and pay $400 for a license.  You must purchase it from someone who already has one.  Supply and demand at play.  As demand increases, so does the price. Add more licenses, and the value of the existing ones decreases.

The quota system also provides a built-in limit on competition.  With only so many licenses, there can only be so much competition. 

The MTA's bill to limit tap room sales to 10% of annual production is about competition. It's about the MTA's attempt to preserve value created by an artificial system.  Never mind that many tavern owners paid from a few hundred to a few thousand for a license, not the hundreds of thousands the MTA would lead one to believe.  For them, it is merely about prohibiting Starbucks from moving in down the street. 

To the MTA's way of thinking, the breweries are unfairly competing with the taverns because the breweries did not have to shell out hundreds of thousands of bucks for a license to sell alcohol. Apparently recognizing this argument doesn't hold up for many of their members, the MTA has more recently created another "unfair advantage" argument.  Not only did the breweries not have to buy a retail license, but they get to sell their beer without the markup added by the breweries and the middle men, the distributors.  If it cost the brewery $60 to make a keg and the bar has to buy it for $120, that creates an un-level playing field. 

While the numbers might represent some generalized average, the argument is far too simplistic.  For one, it ignores the fact breweries are only allowed to sell alcohol for on-premise consumption between 10 am. and 8 pm., not the 8 am to 2 am for most retail licenses (not to mention the max of 48 ounces per person).  How level is that playing field? Breweries are also only allowed to sell the beer they brew onsite and cannot serve wine, liquor or beer from another brewery.  Mash tuns, fermenters, and bright tanks aren't cheap, either.

At the 2011 legislative hearing to shift the tap room hours, a proposal by the brewers that was dead on arrival, tavern owners who opposed the bill made this oft-cited argument:  if the breweries want to act like bars, they should buy a retail license like the rest of us.

Except they can't.  Montana law prohibits a brewery from also owning a retail license.  That's why you see breweries like Kettlehouse going through complicated gyrations to split the brewery off from its tap room to make it work.  It's a good model when it pencils out and in many places it has where license values are low.

One legislator has even been working on a bill to allow "stacking"of licenses so a brewery could own both a brewery license and a retail license. Yet, craft beer fans and tavern owners alike shouldn't be too quick to embrace this model.

Let's say there are 50 retail, on-premise licenses available in Missoula. (Totally making up that number for illustrative purposes.) If there are also five breweries in Missoula, there are 55 places (in theory) where you can purchase adult beverages for on-premise consumption.  As the breweries purchase a retail license (either because "stacking" becomes legal, or the brewery goes the Kettlehouse route), the tap room is replaced by a retail business.  Fifty five locations get reduced to 50 locations. Thus, each retail license purchased by a brewery results in one fewer bar, taproom, restaurant or similar place to purchase alcohol for on-premise consumption.  That decreases choice and decreases competition among alcohol retailers.  As a side effect, it increases the value of the licenses which remain.

This is not a positive situation for anyone but the 50 license holders. 

"Let's just get rid of the quota system, then," is the common response to this mess. Unfortunately, it isn't that simple.

Some people who own taverns did pay hundreds of thousands of dollars for the retail license.  Some bought a license decades ago and are counting on the increased value to fund retirement. Banks have lent money using licenses as collateral. There is no guarantee that any given license will retain its value  (just ask someone in Butte), but there is a lot invested in the system.

Like it or not, it is the system we have. These are the rules the tavern owners must play by if they want to get into the game.  And just like the brewers, they've played by the rules of the system Montana created.  

Which makes it ironic that the MTA wants to change the rules on the brewers and pull the rug out from under them. There is nothing but politics standing in the way of the Montana legislature adding thousands of licenses to the system, thus immediately dropping the value for everyone down to nothing more than the application fee.  But is that fair?

I don't think so. The quota system decreases competition, decreases choice, prevents a free market from operating, and creates turf wars, legislative battles and hard feelings.  There's nothing there to like if you're an outsider looking in. Or just a craft beer fan looking to enjoy a pint.  Yet these are our rules.

They suck, but we're in it together. If we're going to create a better system we're going to need to do it together.  And by "we" I mean the brewers, tavern owners, distributors and consumers alike.  Eliminating the quota system is the preferred way to go, but we're likely going to need to provide some form of compensation to those who have paid dearly to play by the rules. That's the political and practical reality of the mess we're in.  It won't be easy or fun, nor will it likely be fair to all, but does anyone think the current system can survive another fifty years?

In the mean time, we could all save a lot of heartache if we'd just call a truce, accept the rules as they stand, and start working together to find a new model.    

For all our articles pertaining to the 2013 Montana Legislature, click here

13 comments:

  1. Enact the same legislation that Idaho did in 2009, they got rid of a very similar quota system with great results. http://www.spokesman.com/stories/2009/mar/23/idaho-committee-clears-liquor-license-bill/

    ReplyDelete
  2. tread, that Idaho bill did not pass. Idaho continues to operate on a quota system.

    ReplyDelete
  3. Alan, congratulations on a well written and informative article. There is one key point that you didn't cover and isn't being discussed in the media, and that is the impact of gambling on liquor license availability and cost. When Montana legalized video gambling in the late 1980's, the Legislature attached the gambling license to the beer & wine or liquor license, which just happened to be on a quota system.

    What has happened since is the license values have skyrocketed because of gambling revenue and the number of establishments that truly serve as a pub/tavern/restaurant have fallen. Every casino that we now have in this state is taking up a license that would otherwise be available for a "real" on-premise establishment. The majority of casinos could care less about the alcohol, they usually just give it away. The Town Pump chain of gas station casinos will pay almost anything to purchase a beer & wine license if one becomes available in city where they want another casino. The actions of that one single company have impacted the value of beer & wine and liquor licenses more than any other factor.

    The gambling aspect is what the MTA is not talking about when saying how breweries are unfairly competing. Tavern owners get the following abilities with their license:

    Sell any brand of beer & wine (and liquor if its an all-beverage license)

    Serve as much alcohol to an individual as they want, providing the customer is not visibly intoxicated.

    Operate between 8am and 2am.

    Ability to cater public events with alcohol away from their premises.

    Operate up to 20 video keno, poker, and Line-game (slot) machines.

    Breweries get only one ability: to sell only their own beer that was made on the premises, between the hours of 10am and 8pm, and no more than 48 oz. per customer per day.

    Doesn't seem like there is any unfair competition going on here...the brewers have earned every bit of their success.




    ReplyDelete
  4. I agree with Alan on the gambling part that really inflates the cost and further limits competition. Why can't the State come up with a program to buy back the licenses based on fair market value in that town and then re-sell them. This would guarantee the license owner gets his money and wouldn't have to worry about competition.

    ReplyDelete
  5. Well said, Anon No. 1, and thanks for adding an important component to the discussion. My post was already in danger of being too long to hold anyone's attention, but the gambling side of things has a significant effect. The consolidation of licenses into casinos and away from bars and restaurants will eventually lead to a groundswell of support for changing the system. People already wonder why "x" favorite restaurant hasn't come to town and, in many cases it's because of this mess.

    ReplyDelete
  6. I posted this earlier, but had way too many typos so I had to correct my post. Anyway, I think the solution is to eliminate the quota system.

    There are ways it could be done slowly over time, but no one is guaranteed anything they own will retain it's value. Many people lost a lot of money when their house value dropped suddenly and none of us are getting that money back even if we played by the rules the entire time.

    If any business owner is banking on the value of their license as their retirement plan they are a foolish business owner. Nothing is guaranteed to hold value and it's time for Montana to support the brewing industry that brings jobs and clean industry to the state and stop propping up the bars and casinos that are a DRAIN on our state.

    ReplyDelete
  7. Dennis HimmelbergerFebruary 1, 2013 at 9:56 AM

    Congratulations on the most educated forum I've seen on the topic(s). A couple of points; It's interesting that the MTA refuses to aknowledge the windfall (the License holders at the time) received when gaming came on board. Many of those license holders are some of the biggest advocates of further restrictions on breweries.
    Second, the primary reason that I spearheaded the effort to create the 99 legislation was because there was a real resistance by many many taverns back in the early brewery days to put our beers on tap. I knew we needed to be more in control of our own destiny if Montana craft beers were ever to flourish. Places like Tiny's in Billings who still refuse to support local breweries but are some of the biggest complainers of the current brewery successes. Third/ there was much discussion in the many many meetings that took place to hammer out the 99 bill. There were only 2 & 3 people involved in most all of those meetings. For anyone other than those present to now talk about "spirit & intent" is speculative at best.

    Thanks for the forum

    ReplyDelete
  8. Dennis,

    Thanks for your comments and thanks for lending your insight and expertise to the discussion. I remain amazed at the sense of entitlement the quota system has created along with the unreasonable and unsupported arguments/efforts to preserve it. There are many who remain blind both to the windfall they've received and the opportunities they are missing by refusing to cooperatively advance the industry as a whole.

    I look forward to getting over to Billings and checking out your new location.

    Alan.

    ReplyDelete
  9. Thanks for a great article on these issues. One point you touched on should be amplified: while some license holders have paid significant sums for their respective licenses, many have not. We can certainly question the fairness of eliminating the artificial value of licenses by ending the quota system. One thing that is undeniably unfair, however, is that many license holders obtained their licenses directly from the state for $400 to $1,200, only to have the value instantly increase to whatever the market will bear. If we’re going to treat licenses like commodities, they should be treated like commodities at every level. That means the State should sell licenses to the highest bidder, not award them in a lottery to a lucky recipient of instant wealth.

    While I understand license-holders’ consternation with ending the quota system, I tend to agree with Randy B’s sentiments. Short of regulated utilities, I’m at a loss to think of any other profession or industry where the State is obligated to limit competition and do nothing that might be deemed a threat to the value of a license. In fact, I can’t think of any other state-issued license that is treated like a commodity. We don’t artificially limit the number of grocery stores, lawyers, barbers, doctors, contractors, drivers, or anything else. With any other license, so long as you meet the statutory requirements to obtain the license, you can get one. It is then up to you to make your way in the market with no State-sanctioned guarantee that you’ll turn a profit.

    I also understand that people have invested heavily in buying licenses and that banks have loaned money with licenses for collateral. As Randy B points out, however, there are no guarantees of profit. Most people in business have invested heavily in their respective businesses with nothing more than hope – certainly no guarantees - that they’ll recoup any of that investment. The ultimate purpose of a beer/wine/liquor license is to allow the holder to serve beer/wine/liquor. The purpose of the license is not – or, at least, should not be - to become its own wealth-creating asset. Regardless of whether a license holder paid $400 or $400,000 for the license, the end of the quota system would not affect the holder’s ability to continue to operate a business that serves beer/wine/liquor. That is all the license is supposed to do.

    Unfortunately, the MTA has been myopic when it comes to any issue that it deems a threat to the status quo. Just as the breweries are not the threat the MTA paints them to be, the end of the quota system would not be the death knell of bars and restaurants in Montana. To be sure, the artificial value of licenses would be eliminated. But with that would come opportunity for all, including current license holders in maxed out quota areas who would be free to open new businesses without having to first come up with hundreds of thousands of dollars for new licenses. Think your Bozeman bar would do great in Missoula or Billings? Eliminating the quotas would allow it to happen. License holders also would no longer have to rely on gambling to pay the loans associated with their licenses. In the end, while there would be some initial pain, we will all be better off if the quota system is eliminated. And that includes the current license holders.

    ReplyDelete
  10. tavern owners have paid 175,000 on average for a liquor license because of the quota system. the beer pubs cracked the door and now they're trying to fling it wide open. grow up growl babies. if you want to play with the big boys then pony up and buy a liquor license.

    ReplyDelete
  11. Anon No. 2,

    What is the basis for your calculation? Plus, I'd me more interested in knowing the mean price, not the average. That would be much more revealing, particularly since the publicly disclosed price is often reflective of how the parties allocated it among assets, not necessarily the market value of the license itself.

    Alan.

    ReplyDelete
  12. Great summary of the situation, Alan. I'm late to the party; just had a chance to read it. I'd like to add one key point to the discussion.

    I've been around for long enough to see all of this madness play out, and as far as I'm concerned, the brewers have the MTA to thank for their success. If the taverns (especially after getting the gaming bonus) would have recognized that they were only serving 20 percent of the population and created the conditions that the 80 percent wanted (aka pretty much what you see in the brewer's taprooms), we would only have a half-dozen breweries in Montana, and they would be selling most of their product in taverns.

    It was all there for them to sweep up for themselves, but were they smart enough to see the opportunity. Hardly.

    Instead, the taverns (not all of them but most of them) insisted on providing only neon-filled, smoke-filled, dimly-lit casinos with nothing but crappy beer for decades, even when they could see the popularity of taprooms mushrooming. They could've had it all, but they were too busy complaining about "unfair competition." My favorite is the MTA's long-term fight against laws banning smoking. Hello! No taproom has ever allowed smoking in Montana and look what happened.

    So, if the MTA wants to know how this all happened, they should look in the mirror. They created their own competition.

    Okay, one more point. I have to wonder if the distributors are really the force behind wanting to destroy one of they (if not they) most rapidly growing industries in Montana. They have gotten used to control; always happens when you have monopoly, you know. Now, they see growing small businesses being able to be successful, provide jobs, and even, OMG, self-distribute. You'd think that was un-American, a small business not wanting to sign one of the onerous distributing contracts. Get a copy of one and you'll be aghast.

    Keep up the good work, Growler Fills

    Bill Schneider

    ReplyDelete
  13. to "Anonymous": Interesting that you chose to make a negative comment like that & not let us know who you are. Montana is the only state that does *not* have a brewpub law. You can call them "brew pubs" if you like, but they aren't. Montana Brewing Company, for example, is 4 separate businesses, owned by different people. The brewery has to *sell* the beer to the bar. The bar is the one taking in the profits.

    ReplyDelete