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The announcement that none of the potential pivate equity bids for TWE has come to fruition does not entirely surprise, although the purported attitude of some shareholders toward the price previously offered is curious. The nature of the due diligence and bidding process instituted by the TWE Board appears to have been designed to get just this result. The reports from TWE that both bidders supported the company’s strategy rather supports the hypothesis that this backing was a prerequisite for bid support, notwithstanding the fact that it likely reduced the value of the bids (unless both KKR/Rhone Capital and TPG really were clueless, which I doubt although without knowing who has advised them I can’t help but feel their wine industry nous is open to question). What remains to be seen is whether the agreement KKR and TPG will have signed up for in order to gain entry to due diligence now precludes them from returning with a new or revised unfriendly (i.e. unrecommended) bid. If so, this transaction appears to have been cynically managed to preserve the status quo, potentially contrary to the interests of TWE shareholders.

There have been many comments in recent weeks regarding the implications of private equity bidding for TWE. I do not believe that comparisons with Accolade are helpful. Accolade is a much simpler business and, as a consequence, its private equity owner CHAMP has been able to institute a much simpler strategy to add value.

By contrast, if I were a private equity buyer for TWE I would definitely be aiming to gear up as high as possible for the simple reason that I would be planning to sell assets quickly to reduce debt with a view to ending up with enhanced equity in the assets that remain after debt has been repaid from proceeds. The value adding process would not be a vainglorious attempt to grow earnings of the whole but rather an attempt to get the business back to a state of simplicity and focus. These are the hallmarks of the most profitable wine businesses worldwide, which TWE is not. Paradoxically, I also believe that the current wine conglomerate incarnation of TWE requires more capital and working capital investment than a smartly run smaller business cherry picked put of the balance of relatively unloved or undersupported brands.

Some media and industry commentators would have us believe that break up of TWE would be some sort of disaster for the Australian wine industry. I suggest this couldn’t be further from the truth, although part of that is a spectator’s desire to see how some of TWE’s famous brands could perform if actually set free and properly loved. Another paradox: it could be better for the Australian wine industry AND consumers AND investors. That would be a rare combination, but none are possible under the present configuration.

 

The ongoing takeover saga concerning what is now Treasury Wine Estates goes back to the misguided strategies of previous owners, made worse during the era of Fosters ownership.

Nevertheless, it appears that there may be some perspectives missing from the public discussion around the actions taken by Treasury, the manoeuvrings of the parties involved and the implications of change. In particular it always astounds how little the wine media understands the philosophies and the tactics of private equity (let alone the position of investors in public companies as Treasury presently is). By the same token, the financial industry and media often seem to display extraordinary naiveté concerning the business models and drivers of wine businesses. In this respect the fact that wine businesses are so markedly different to beer or spirits brands in terms of capital intensity, working capital seasonality, competitive pressures, brand and portfolio requirements and elasticity of demand are commonly misunderstood or ignored.

This was a problem for the now Treasury businesses during the Fosters era and long before that. Some would argue that the rot set in even before the Southcorp and Rosemount merger in 2001, when the two different business models collided in a catastrophic case study of what can happen when the new managers completely misunderstand both the drivers and the key relationships then underlying the business. The weakened Southcorp fell into the Fosters fold in 2005 and the process of value destruction continued for similar reasons.

Part of the problem is the nature of the key Treasury businesses. Penfolds virtually invented the icon-halo effect business model, centred on the image of desirability that spreads from Grange to the Bin series wines and then down to the mass market labels. This was a model that Rosemount had tried (with its Balmoral Syrah and Roxburgh Chardonnay) but never mastered. Its success had been driven by producing large volumes (especially of chardonnay) to a set formula using low price Riverlands fruit. Other brands within the portfolio had similar top labels, but these never achieved the same relationship perceived in the case of Penfolds (whether or not the so-called halo effect ever produced an economic benefit, which is open to argument).

This misunderstanding has been perpetuated through the Fosters and then Treasury corporate structure and hiring practices. For a long time Fosters wine divisional structure was based upon the end markets, which probably works well for beer but only created a gulf of separation from the production side of the business. Subsequently the structure has moved slowly back towards the production side as the imbalances between production and sales have become exaggerated. Even so, the company has still been caught doing what all of the other international drinks brand companies have done building up stock levels in China in anticipation of a boom, only to have found that the market was not as predictable as expected. For all the good ideas they may bring, both Fosters and Treasury hired consumer brand managers to run the business, not wine people with a deeper understanding of the industry (with consumer branding experts under rather than over them), and this has been a telling factor. It is a mistake that it is quite plausible private equity owners will also make if they have misunderstood the business.

Part of the problem is that Penfolds (and several but definitely not all of the other Treasury brands) is really an oversized boutique wine business. Its drivers aren’t entirely in common even with other mass market wine businesses. In its efforts to boost short-term profitability (partly based on the China blue sky myth) Treasury has been through a phase of aggressively lifting prices of Penfolds products and creating a range of new luxury Penfolds wines – possibly trying to emulate some of the value add strategies of spirits producers in recent years. The unsurprising consequence is that not all customers are happy with the perception that their loyalty is taken for granted. Even Penfolds Grange has lived in denial of certain realities: it is a multi-region blend at a time that the Australian wine industry is turning back to industry marketing based on provenance, while at the same time production levels are massively higher than they used to be so that Grange is far from being the rare luxury it once was. Once a mainstay of the independent wine trade it is now readily available (at a price) in supermarkets across Australia and New Zealand.

As a consequence many of the actions taken by Treasury in recent times have been misunderstood by both the financial and the wine press, albeit for different reasons. To many the changes in the Penfolds release calendar and the recent initiative to sell discounted wine fridges to boost wine sales have been perceived as attempts to boost short-term profitability in order to save the business from predators. This completely misunderstands the relationship between short-term profitability and economic value, especially since the most obvious consequence of both initiatives is largely to shift the timing of profits rather than the quantum. It was no surprise when a new bid emerged after all.

To state the obvious, the price at which KKR made its original approach to Treasury will not have been its best price. It was, nevertheless, rejected by the board. Few of the changes made by the company since, whether on costs, process improvements, marketing changes or sales initiatives, will have materially increased the value of the overall business. Nor are any of them things that a private equity buyer could not also do if it chose.

Moreover, it is clear that private equity buyers will have some options available to them that the present board either is unwilling to do or considers unpalatable. That means that private equity buyers may have the ability to enhance the value of the business in ways that the company cannot do.

The sum of the parts?

The simplest way of all is to recognise that the value of the parts of Treasury today is likely to still be greater than that of the whole (notwithstanding the fact that some of Treasury’s historically valuable brands have been neglected to the point they are already as good as worthless). This factor is most likely the reason why the takeover competition has developed the way it has. The fact there are two competing bids at the same price indicates that for TPG a matching price was really about having a seat at the table. This implies that the process may devolve into a behind the scenes auction of some of the parts to be followed by a formal offer being made (and recommended by the board) for the balance of the company. It is worth noting that while often competing, TPG and KKR have a long history of partnering on investments as well.

Treasury (and Fosters before it) has been a problem for Australian wine, but not always in the ways perceived in the media. It has simultaneous promoted the virtues of Australian wine but also unconsciously undermined the global market for Australian wine as well as for many of its own brands.

In a world of brands, brand hoarders often destroy value. The value of a brand is heavily dependent on both use and potential, but the lack of one of these can undermine the other. It can simply be impossible to maintain the level of marketing prioritisation required to maximise the potential of each of a portfolio of brands once a certain level of brand hoarding has occurred. Inevitably some good brands will be utterly devalued. By way of contrast LVMH is an example of a company owning a large collection of luxury brands that has developed clear strategies for what it adds to its portfolio and how it will seek to promote and add value to each brand.

Paradoxically, one of the most value additive strategies open to Treasury, or to a future owner, may be to sell Penfolds – the clear jewel in the crown. The problem with Penfolds is that its influence over the Treasury portfolio has continued to grow, and to assume increased internal prioritisation, so that it has become a dead weight on top of the rest of the business. The emphasis on marketing and selling Penfolds products has come at an enormous cost to sales of other brands. It is not inconceivable that the US stock glut, a consequence of poor market information, planning and inventory controls, was accentuated by the internal marketing priorities (whether of Penfolds or other US brands) suppressing demand for many competing products.

Treasury’s Australian wine portfolio alone includes more than 30 brands, a mix of famous old names and newish names somewhat obviously invented by marketers. Some of these brands, once household names in Australia, now either languish as homes for cheap supermarket bargains or are rarely seen. Even those brands receiving a little more love from the marketing department are still often competing against sibling brands or worse, have been formally de-prioritised in some markets. One of the difficulties with a demerger of the brands will be the extent to which previous management has closed down many smaller regional wineries, originally attached to individual brand companies, in the pursuit of a phantom holy grail of scale and lower costs.

The roll call of brands that once held significant (often quality-driven) positions in the domestic Australian and export markets, but which have now been relegated to bit rolls as multi-regional blends or price point gap fillers, is extensive. Some of these brands could recuperate and flourish with some love and investment. For others that could no longer be said, even for names with significant historic resonance.

Treasury Australian brand Roll Call (not comprehensive): Annie’s Lane, Bailey’s of Glenrowan, Coldstream Hills, Devil’s Lair, Great Western, Heemskerk, Ingoldby, Jamieson’s Run, Leo Buring, Lindemans, Maglieri, Metala, Mildara, Penfolds, Pepperjack, Robertson’s Well, Rosemount, Rothbury Estate, Rouge Homme, Saltram, Seaview, Seppelt, St Hubert’s, T’Gallant, Tollana, Wolf Blass, Wynns, Yarra Ridge, Yellowglen.

Even so, the parts are still worth more than the whole because the way the whole company works stifles the real potential of too many brands. New owners of parts might change that.

CBA is the reverse of ABC

Ten years ago in 2000, New Zealand not only grew more hectares of chardonnay than any other grape, but that year (for the last time) it was also the largest variety by tonnage harvested, about 30% of the total industry output.

Today, even though still the third largest variety by plantings, chardonnay seems almost a pariah grape, especially in Australia and New Zealand.

The coining of the acronym ABC – “anything but chardonnay” – has famously passed into the consumer conscious along with “if anyone orders merlot, I’m leaving…”. Both are, of course, exceptionally unfair generalisations justified only because each grape variety has developed a ubiquitous reputation for overly fruity or oaky, mass produced blandness. If ever a style deserved to go out of fashion it was this! However, the generalisation ignores the facts that in the right hands and from the right locations, both chardonnay and merlot provide pinnacle examples of wine.

The Australian wine industry has recognized this in the form of moves to re-invent chardonnay from a marketing perspective. The problem it faces is that Australian chardonnay – the highest production volume white wine grape – has two very different faces. It remains the white wine lynchpin of the hot irrigated hinterlands, where the possibility of producing good volumes of qualitatively unique or expressive wines seems remote. However, the industry has to keep trying to sell such wines, regardless of whether so doing undermines the marketing of Australia’s other chardonnay voice: classically Australian wines from cooler climate districts that faithfully reflect their sources with not only power but also elegance and a sense of style.

The names of Giaconda, Leeuwin, Shaw & Smith, Tiers, Yattarna and others are deservedly having their new day in the sun.

Ironically, New Zealand does not have the same issue of having to contend with huge volumes of cheaply grown chardonnay, even if it does produce more, relatively inexpensive volumes that are still difficult to sell. Even many of the Gisborne vineyards that have focused on production of grapes for lower-priced labels in the past (ignoring grapes grown in volume for sparkling wine), could potentially be harnessed to produce better with yields restrained.

What New Zealand also has, a result of its wide latitudes of largely maritime conditions, is almost exclusively cool climate chardonnay, from every district. There is no comparison to the warmer climate areas producing volume chardonnay in Australia, California, South Africa, or even the South of France.

What New Zealand doesn’t do widely enough is to plant its chardonnay on the best or ideal sites (thankfully there are exceptions), and to act as if it really is in the quality game. If we believe the ABC press, failure to perform becomes self-fulfilling.

How to Sell New Zealand Chardonnay

The first step is so simple but at the same time so difficult: make better wine.

There is an overwhelming sense that shines out of some of the larger published tastings of recent months (including Decanter and Cuisine magazine tastings) that chardonnay has not received due attention from many winemakers. Perceived to be a “hard sell”, it has become an obligatory part of a portfolio to satisfy those few poor souls who still ask for it. Perhaps the fact that it is considered a hard sell is one reason why it is these days often accorded a lower priority in the vineyard and the winery. In other words, it can become self-fulfilling.

The thing is that if grown with care, not over-cropped or over-ripened, and then made with restraint (not over-oaked or handled) by winemakers, Chardonnay can be one of the most emphatic varietal portrayers of its terroir (not unlike that other oft-misunderstood grape, riesling). Perhaps what chardonnay and riesling also have in common is abuse by larger volume wine producers who seem to believe that consumers are only interested if these wines fit into a specific profile with upfront fruit and sweetness on the palate – styles of wine that set out to remove their intrinsic and unique qualities.

What chardonnay needs then, is stylistic clarity. This is not to say that every region should try and make the same styles, as that would be wrong. However, chardonnay is competing with other varieties and styles that make a virtue of cool climate freshness. By ignoring or denying that it also can reflect these hallmarks chardonnay may yet be able to let its own statement be heard.

A word should also be added regarding the clonal make up of the New Zealand chardonnay vineyard. New Zealand chardonnay is still dominated, as it has been for most of the last two decades, by clones 15 and Mendoza. Together these fairly similarly behaved clones, noted for their propensity to “hen & chickens” bunches – favourable for big upfront flavours and sugars – make up about 55% of all chardonnay vines. The balance comprises a mix of Californian clones and occasional imports, although the revolution in chardonnay clones began with the importation of clone 95 which I believe makes a contribution to a disproportionate number of the younger among the leading wines here. With newer and highly reputed French clones 548, 121 and 1066 now in the country and being sought out by several growers for replanting purposes, the revolution will likely change even further.

A New Zealand Chardonnay Classification

Rather than resort to slogans or other desperate ways of attracting consumer attention I have felt that the interests of chardonnay might best be furthered by drawing attention above all to its qualities – especially when these are not at all out of keeping with “fashionable” modern wine styles.

By focussing on quality, above all, chardonnay’s value quotient can also be enhanced.

As a step toward this goal I felt it might be useful to assemble a classification of New Zealand’s top chardonnay labels. I also felt that this exercise might enhance discussion regarding some of the specific characteristics of different regions and their climate and soils, reflected in the wines.

Aware of the risks associated with personal taste, I have attempted this exercise by relying not just on my own (relatively wide) exposure to these wines, but also on checking for consensus with published notes from other much more experienced tasters, including Michael Cooper, Bob Campbell and Geoff Kelly.

I have adopted some other notable methodologies that might not be preferred by others.

1. I have organised my selection of a Top 50 into 3 star ranking categories, with the pinnacle being 3 stars, the next level 2 stars and the balance of New Zealand’s best chardonnays receiving 1 star.

2. I have selected these on a regional basis, such that they are represented from 9 different regions.

3. I have chosen no more than 1 label per producer, from each region. This does result in the situation where producers with wines from multiple regions (notably Villa Maria and Pernod Ricard as it was) have multiple labels selected, whereas other producers with several labels that might otherwise justify representation have just the sole selection named. In several cases I have had to debate which wine to include when others have presented strong cases. In my view, the best producers, as represented here, tend to make solid chardonnays through their range.

4. I have preferred labels where there have been several representative vintages of consistent quality, although I have reserved the right to make exceptions and have not been a slave to this rule.

5. I have also checked most, and in some cases used, market prices as a tool for representation but not necessarily of ranking.

6. Several labels have attracted lower rankings than have sometimes been attributed to these wines based on other tasters in the past on account of my personal impression that either styles have changed, standards have not been maintained or else simply that other labels have overtaken them on a straight comparative basis.

7. I expect arguments, not only over omissions (I hope there are plenty!) but also over the implied rankings. I suspect there may be fewer arguments (but not no arguments) over my list of 3 star wines than over the other categories! Here then is my classification of New Zealand’s Top 50 Chardonnays.

Region

***

**

*

       

Northland

 

Marsden Black Rocks

 

Auckland

Kumeu River Mates

Man O’ War Valhalla

Villa Maria Ihumatao

 

Te Whau

   

Gisborne

 

Millton Clos de Ste Anne

Kim Crawford SP Tietjens

   

Montana “O”

Odyssey Iliad Reserve

     

Spade Oak

     

TW Reserve

     

Villa Maria Reserve BF

Hawke’s Bay

Craggy Range Les Beaux Cailloux

Babich Irongate

CJ Pask Declaration

 

Sacred Hill Riflemans

Church Road TOM

Coopers Creek Swamp Res

 

Clearview Reserve

Morton Coniglio

Esk Valley Reserve

   

Te Mata Elston

Ngatarawa Alwyn

   

Trinity Hill Homage

Stonecroft

     

Villa Maria Waikahu

Wairarapa

Ata Rangi Craighall

Dry River

Martinborough Vineyard

   

Escarpment Kupe

Nga Waka Home Block

     

Palliser

Nelson

Neudorf Moutere

   

Marlborough

Seresin Reserve

Cloudy Bay

Foxes Island

   

Dog Point

John Forrest Collection

   

Fromm Clayvin

Saint Clair Omaka Reserve

   

Mahi Twin Valleys

Spy Valley Envoy

     

Staete Land

     

Villa Maria Reserve

Waipara

Bell Hill

Pegasus Bay Virtuoso

Black Estate

     

Greystone

     

Mountford

Central Otago

 

Felton Road Block 6

 

In truth I considered narrowing down a four star range with obvious contenders being Neudorf and Kumeu River. The only problem was that there were wines I feel can, on their day, argue a right to stand toe to toe with these icons – whether on long-term achievements, or on out and out pinnacle moments. It got too hard and I wimped out in favour of the perhaps oversized three star list above. In other words, there is a good argument for 2 tiers among these wines and I just wasn’t able enough to split them.

As a further aside, I find it interesting to note how many of the producers listed from Wairarapa south (but with the exception of Central Otago) are also among the leading pinot noir producers.

Overall my point is that the wines I have listed range from the merely excellent to the exciting. The best way to re-energise the market for chardonnay is to shift the perception of drinkers from stodgy sameness to intrigue. There is no better way to achieve this than by highlighting the excitement factor in the best chardonnays, and by giving consumers the tools to reliably find the styles that they want to drink by better clarifying regional taste characteristics.

Ultimately this means taking a leaf out of Australia’s book, as this is very much the strategy that Australia is trying to implement. In New Zealand the lack of the flabby hot climate chardonnays means we are not dealing with an immediate conflict to undermine such a programme. Most of all we need to get out and ask consumers who say they don’t like chardonnay, “well, have you actually tried one lately?”

Regional Chardonnay Notes

Classification Representation (and some additional useful information)

Region

Total

Hectares (2010)

Area Rank

Tonnes (2009)

Area Rank

Yield/ha

Northland

1

 

3

44

1

 

Auckland

4

122

1

490

1

4.4

Gisborne

7

1056

1

13283

1

12.6

Hawke’s Bay

14

1161

1

8787

2

7.6

Wairarapa

6

70

3

325

3

4.6

Nelson

1

121

3

909

3

7.5

Marlborough

11

1075

3

9959

3

9.3

Waipara

5

71

4

302

5

4.3

Central Otago

1

67

3

276

4

4.1

Total NZ

50

3865

3

34393

2

8.9

Northland

Northland carries a reputation of being warm and humid; less than ideal for growing grapes. This is a half truth. Parts of Northland are indeed warmer than most of the country in terms of accumulated degree days, and especially winter temperatures. However, Northland is also amongst the most maritime regions of the country with most vineyards quite close to the sea. It also has a wide and variable range of distinct sub climates and soil variations. The result is a very long growing season, often with greater disease risks despite being relatively windy, and occasionally being drought prone when the country is subject to predominantly south-westerly weather conditions. Chardonnay is the third most widely planted grape variety in the region.

Marsden Estate is located in Kerikeri on the East Coast. It has a decade long history of producing consistently high quality chardonnays under the Black Rocks label (winning several awards in the past). Chardonnay’s relatively early ripening means that, as in Gisborne, it is less at risk of autumn rain. The Kerikeri soils are predominantly free draining red volcanic clays, relatively unique in New Zealand and (unusually for the generally young soils of Northland) amongst the oldest soils in the country.

Other Northland flagbearers include Okahu Estate, Karikari Estate and Lochiel – all widely dispersed through the region.

Auckland

The wider Auckland region has for some time ridden Kumeu River’s coat-tails as a chardonnay producer, often viewed as a curiosity because of its high annual rainfall. However, like Northland, it seems to benefit from the relatively early ripening of chardonnay after an early start to the season, reducing some of the risk associated with the variety. Reduced frost risk also improves the economics of chardonnay as a variety in the northern regions. Moreover, despite Auckland’s top chardonnays coming from diverse corners of the region, all are on clay soils of historic volcanic origins. A problem I had here is that there are quite a few people who think Hunting Hill is even better than Mates. Close call (or should I have plumped for the impressive Coddington). Aside from Villa Maria’s individual style from Ihumatao, Waiheke is also starting to make a reputation with chardonnay. Producers from the Matakana district (such as Mahurangi River’s Field of Grace) are also starting to forge reputations with the variety.

Gisborne

Is Gisborne’s self-proclaimed status as New Zealand’s Chardonnay Capital a help or a hindrance to its reputation? It has advantages and disadvantages in growing the variety. Like other more northerly regions its soils are often clay-rich, ameliorating climate warmth, providing steady access to water through the growing season and providing palate breadth to the wines. Gisborne chardonnays have a naturally riper flavour profile than other regions and I am convinced that the soils are as much a factor as the climate (which can certainly get very warm up the Valley).

For all its reputation as a producer of large volumes of lower priced chardonnays such as the over 30 year old Montana Gisborne label (itself often an exceptional value for its quality), the region has also an established group of stars, as well as a latter day group of up and coming labels – some made elsewhere in the country but using grapes from established high quality growers.

The Montana “O” label may have an unclear future following the sale of Pernod Ricard’s Gisborne assets, but it has never really achieved the wider recognition it has deserved as a regional flagship drawing on some exceptional quality-managed vineyards. Other established producers such as Millton and Villa Maria have produced consistent exemplary examples for over two decades. Newer examples (relatively speaking) include the Tietjen Witters TW label (the same vineyards contributing to Kim Crawford’s SP Tietjen), Steve Voysey’s Spade Oak and Rebecca Salmond’s Odyssey Label. There are arguments for other candidates, including the likes of Matua’s top chardonnay Ararimu, usually made from Gisborne fruit.

Hawke’s Bay

Hawke’s Bay is geographically very close to Gisborne and often shares similar climatic factors (temperatures, sunshine and rainfall) but its chardonnays are quite distinctive despite being grown in a variety of different sub-regions , soils and exposures. Half of the 14 Hawke’s Bay chardonnays I have listed are grown in the Gimblett Gravels. The balance are spread between the Te Awanga coastal area, the Ngatarawa triangle, the hillside vineyards of Havelock North (with some limestone), the Tutaekuri River valley and inland toward Mangatahi. This says as much about how the industry in Hawke’s Bay is taking shape as it does about the individual sites or producers.

The three wines I have ranked highest all come with well established reputations that have not diminished in recent years. In my opinion the styles of both Sacred Hill’s Riflemans and Clearview Reserve, both of which showed as high-powered wines early in their existence, have added more complexity and verve to balance the power. Craggy Range’s Les Beaux Cailloux may have emerged more awkwardly but reflects the degree of commitment and investment expended by the company on all its top labels with an elegance that belies the ripeness that comes easily in the Gimblett Gravels.

Stylistically all of the other labels illustrate the Hawke’s Bay ability to produce fruit that can handle reasonable oak treatment and retain a fresh acid spine. This style is more linear than that of Gisborne and to a certain extent seems to reflect the usually gravelly and always free draining soils. Another point of note is that it seems to me Hawke’s Bay growers lead the country in terms of upgrading the chardonnay clonal material, in part a measure of the importance of chardonnay among the white grapes of the region. This suggests that even better will be achieved in future.

Wairarapa/Martinborough

Two things stand out in considering the Wairarapa contingent, all from Martinborough. One is the level of commitment these producers show toward chardonnay, something noticeable among those that did not make this list as well (including contenders such as Voss and Alana). The other feature is that Martinborough, like Hawke’s Bay and most of Marlborough, is based on gravel-based soils, in contrast to the clays that dominate in several other districts. I believe this influences the style of the wines in ways that cut across the climatic story. The standout, in my experience, is Ata Rangi for consistency, age ability, and stylistic clarity. Its chardonnays are paragons of elegance, in arguable contrast to the more powerful approach of Dry River. Most of the Martinborough wines seem to fit into a spectrum between the two, which to me makes the district extremely interesting and far from boring.

One other feature of the district is the relative age of its chardonnay vines, especially alongside more southerly districts.

Nelson

Neudorf rules, not only for style but also for consistency. While its style has evolved slightly with time, Neudorf continues to exemplify the role of sympathetic winemaking and the fact that all of the country’s best chardonnays do indeed age well. Neudorf’s Moutere vineyards are based on soils with a mix of clay and gravel. The Nelson climate, with high sunshine hours and moderate rainfall clearly plays its part. Interestingly, some of the other contender wines from the region, such as Greenhough’s Hope Vineyard, Te Mania Reserve and Waimea Bolitho are grown on the alluvial sols of the Waimea Plains.

Marlborough

Marlborough, it should be stated, is not just about stony river gravels, just as it is not only about sauvignon blanc. As one would expect for a large district with more producers than anywhere else, the chardonnays are produced in a range of soil types including the stony river gravels the region is famous for and the clay slopes of the hillsides, ranging also from near the sea to several kilometres inland. Interestingly my list of the best of Marlborough has very little representation from the Awatere Valley – whether this is because there is relatively little chardonnay grown in the much newer plantings of the Awatere or owing to other factors, is not clear to me. (Note that Vavasour and Villa Maria’s Taylor’s Pass were candidates considered).

The Marlborough style, as would be expected given its latitude, windiness and positioning is typically lighter than that further north and with more pronounced acidity. In keeping with most South Island chardonnays it is much more a statement of freshness and pristine flavours, with the best makers lending some gentle oak assistance but avoiding excessive oak uptake that can unbalance the style.

The “promotion” of Seresin may, I admit, be one of the more controversial aspects of my classification. I justify it on the basis of the depth, purity and personality of the wines – not something that can be said of many higher production competitors, with the fruit showing through and representing the soil aspects. Seresin’s chardonnay grapes come from both clay and gravel soils and so are not easily pigeonholed in that respect. The Seresin Reserve is also built to age, not really coming into its own until it has as much as five years bottle age, and it reflects conscientious selection policies.

In total 11 Marlborough chardonnays made my list. I know of several Marlborough producers who have grafted over older chardonnay vines, regarded as not worth the effort. To me the first point of note is the rise of newer producers putting a real effort into the variety, such as Dog Point and Mahi (Kevin Judd’s Greywacke will surely be of interest), while the others I have listed are largely established operations whose knowledge of the district and the variety is surely a large factor in their success.

Waipara

The Waipara district of North Canterbury, and surrounding areas, produces New Zealand’s most starkly unique style of chardonnay. While the base of the Waipara Valley features alluvial and limestone gravels washed down from the hills and mountains of the hinterland, the hills feature levels of limestone only occasionally encountered elsewhere. All of the wines I have listed have varying degrees of the distinctive mineral nose and flavour profile of limestone soils, sometimes quite reminiscent of the wines of Chablis in France, always matched to fine fruit and a clean spine of acid that together makes them very distinctive.

The wine I have ranked in front is the Bell Hill chardonnay, made in tiny quantities at Waikari and drawing widespread extraordinary reviews for its ethereal personality. I have not tried (and therefore can not comment on) the two even smaller production wines grown biodynamically at nearby Pyramid Valley.

Which is not to belittle the consistent quality being produced at the producers listed in the Waipara Valley proper. From the superb fruit and balance of the Pegasus Bay wines, exemplified by the slightly more concentrated qualities of Virtuoso as well as the excellent estate label, the beautifully constructed Greystone and Mountford, and the extreme minerality of Black Estate. It is interesting to note that until this year there was fractionally more chardonnay grown in Waipara than one of its signature grapes, Riesling. In my view it is quite wrong that these should have fallen so far behind sauvignon blanc in a region that shouts its terroir and is best suited to grapes that will reflect this.

Central Otago

Central Otago’s soils and climate are a clear departure from the rest of the country. The fact that chardonnay and pinot noir co-exist so well in Burgundy might have meant that more Central producers would make the effort with chardonnay (as occurred in Martinborough and Waipara, for example). This does not seem to have been the case as it languishes far behind in plantings – perhaps in part on account of the higher spring frost risk.

Felton Road has progressed markedly as a chardonnay producer over the last decade to earn its place with consistently stylish wines that highlight the minerality of the soil with a strong acid spine.

Other chardonnays from the region have impressed in the past, including examples from Michelle Richardson, Peregrine, Chard Farm, Akarua and Mt Difficulty, although seasonal variation appears very pronounced and it is not clear to me if the region understands the style that suits it or really puts the effort in.

Behind the Actual Announcement 

Early last week global drinks giant Pernod Ricard announced that it had decided to base its global wine business in Sydney.  Not surprisingly this announcement attracted some attention, including some rather mischievous statements interpreting the announcement along the lines that Pernod Ricard New Zealand’s (the former Montana Wines, in the process of being rebranded as Brancott Estates) head office was being shifted to Australia.  The latter comments were swiftly and categorically refuted by Pernod Ricard.  They were very clearly beyond the scope of Pernod Ricard’s actual press statements.

However, the brazen misstatement with regard to PRNZ “abandoning New Zealand” obscured the reality that in fact the base of decision-making with regard to New Zealand operations has been shifting offshore for some time, and that the latest global re-organisation was very likely to continue the trend.

The reality also has its base in the history of Pernod Ricard’s wine business, and in the changing directions that have consequently resulted.  It is interesting that the press coverage of the Pernod Ricard changes mentions the four key regional volume brands (Jacob’s Creek, Montana/Brancott, Graffigna and Campo Viejo) involved and the comment that Pernod Ricard “acquired” Montana Wines in 2001. 

Of course Pernod Ricard did not in fact “own” any of the brands mentioned other than Jacob’s Creek until 2005, when it acquired Allied Domecq.  Allied Domecq had itself acquired Montana, Graffigna and Campo Viejo as part of a series of acquisitions in 2001.  Unlike its entry into New Zealand, Allied Domecq already owned other operations in both Argentina and Spain beforehand.

More importantly, the change of ultimate ownership of these three (and other associated) brands resulted in several significant operational and directional changes, especially in terms of marketing and distribution.   All were export-oriented brands, even though in all three cases the domestic market dominated sales.  Under Allied Domecq the philosophy was to augment existing successful international sales channels with Allied Domecq distribution into new or under represented markets.

By contrast, the Pernod Ricard way was to bring most international distribution “in house”, and then to focus more heavily on core products.  To some extent this change was necessitated by the increased level of intra-portfolio competition that resulted from combining the Allied Domecq brands with the existing Pernod Ricard wine brands. 

This is where the Pernod Ricard global decision really starts to acquire meaning.  It says that five years after the Allied Domecq acquisition, Pernod Ricard still views the world from a “Corporate Wine Australia” (as distinct from a wider Australian industry, or elsewhere) perspective.  From a similar perspective to Constellation and to Fosters/Treasury, where the keys to wine profitability are low cost base (exemplified by the hot irrigated vineyards of inland Australia), big scale wineries and lots of marketing and advertising dollars pushed in behind a limited number of brands aimed at a wide range of markets.

The next implication is that decisions regarding international marketing of the New Zealand, Argentine and Spanish businesses are being driven by the team responsible for Jacob’s Creek and what used to be the Orlando Wyndham organisation.

In practice this has already been happening.  Pernod Ricard New Zealand has for some time been reporting to Pernod Ricard Pacific, based in Sydney.  It has long been assumed by most in the industry that this was where decisions were actually made, including the huge de-stocking round of discounting that squashed domestic supermarket prices from late 2008 until earlier this year, single-handedly pummelling the profitability and cash flows of most of the rest of the industry, large and small alike, far more than export price pressures ever did.

Looking even deeper, the change in philosophy has meant that many of the old Montana’s virtues became vices.  In truth the company was to some extent burdened by old inherited assets and an unwieldy set of brands from its own past acquisitions, including duplication of facilities from the Penfolds NZ and Corbans acquisitions.  With the wider Montana portfolio, originally developed to support a portfolio that targeted the breadth of the NZ domestic market, what was a relatively balanced portfolio now became an unbalanced portfolio. Translation: too much product other than sauvignon blanc.

Moreover, previously Montana products were very successfully sold through a range of distributors in many markets.  While it is likely true that Allied Domecq substantially boosted sales in some markets, it also failed to deliver in others.  However, under Pernod Ricard stories are occasionally heard of successful distributors in several markets losing the brands they had nurtured owing to decisions to shift handling to local Pernod Ricard offices.

This was where new problems appeared.  Local sales people with a history, affinity and rewards systems built around selling Jacob’s Creek were always going to be slow off the mark selling competing products from New Zealand.  This may be one reason why PRNZ also seemed to get caught out by the sudden explosion of exports of New Zealand pinot gris – could it be the that fact Jacob’s Creek already shipped a pinot grigio label, largely sourced from early picked hot climate irrigated grapes, created confusion as to where a New Zealand Montana label might fit into the portfolio? In a similar vein Montana’s long standing Gisborne Chardonnay label, frequently cited internationally for its quality to price ratio, was a clear internal competitor to the much higher volume (and lower production cost) Jacob’s Creek chardonnay label.

The conclusion to this is not that what has happened to the Montana/Brancott labels is a consequence of overseas multinational ownership.  That is not a direct causal nexus.  What is more subtle and pervasive is the way that ownership and other changes can directly or indirectly change the business models used by producers in export oriented businesses, sometimes for better (and it must be stressed that Pernod Ricard has brought a number of positives to its New Zealand business) and sometimes not.  The implications of those changes can be very significant and lasting, and can affect other corners of the industry that would not normally have tended to consider themselves direct competitors.  Down the track, when restructuring results, the changes start to reach the people level.  In the case of Pernod Ricard in New Zealand it is well worth asking whether some of the enormous base of local knowledge and skills built up in the Montana and Allied Domecq eras, is now starting to dissipate. 

Whether Pernod Ricard has made the smartest call as to the ideal business model for its global wine business will be interesting to follow.

Lindauer – A Case Study?

Montana Wines introduced the Lindauer sparkling wine brand in 1981. Over the last three decades it has won a reputation for a level of consistent quality that can compete with much more expensive products while selling at a low price point for a traditional method wine (technically most Lindauer is made, however, through the more economical transfer method). 

The 1990s and early 2000s were a period of rapid export growth for Lindauer, especially in the United Kingdom and a number of smaller and European markets.  Indeed, export growth in the period after the Allied Domecq acquisition was rapid.

Under Pernod Ricard this growth rate was not maintained, leading directly to the situation in 2008/2009 where PRNZ identified that its stock levels were too high and the subsequent moves to cancel grower contracts and to severely discount Lindauer in the domestic market.  The two reasons most easily identified for this change of fortunes were:

  • The severance of distribution arrangements with some highly successful offshore agents, in order to bring distribution “in house”; and
  • A decision, whether tacit or otherwise, that Lindauer would play second string to the Jacob’s Creek Sparkling range.  The advantages of Jacob’s Creek in this situation were much lower fruit and production costs (and therefore higher margins at similar price points), plus the leverage of brand spending on the multi-faceted Jacob’s Creek brand versus the smaller and sparkling wine only Lindauer brand.

There is a considerable additional irony in the treatment of the Lindauer brand, and that relates to the events around the original acquisition of Allied Domecq by Pernod Ricard.  In each country affected by this acquisition Pernod Ricard had to deal with domestic competition authorities, in New Zealand the Commerce Commission.  In its original application to the Commerce Commission, reflecting what one assumes was an original analysis that there would be competition problems, Pernod Ricard entered into a voluntary deed of undertaking to sell the Lindauer brand (and certain other brands also) within 12 months.

The implication of this undertaking was very much that Lindauer would be competing with Pernod Ricard’s own sparkling wine brands (inter alia Jacob’s Creek).

Within less than 12 months Pernod Ricard came to its senses once it realised just how foolish and damaging the undertaking would likely prove to be – not to its export business, but rather its domestic market.  What it realised is that Montana Wines had built a domestic on premise distribution business that dominates the lower to middle end of the domestic on premise market.  It is widely estimated that this distribution system controls more than 60% (and in some regions as much as 80%) of the on premise licenced cafes, wine bars, theatres and restaurants in the country.  It achieved this through a portfolio covering all major styles likely to be required, excellent service (brought about by having a level of scale advantages that smaller on premise distributors cannot compete with), and perhaps most important of all, Lindauer. 

Lindauer is the anchor product without which the system most likely would not exist.  What Pernod Ricard most of all realised during that few months when it was staring at the possibility of losing Lindauer was not just how difficult it would be to replicate, because Jacob’s Creek simply would not have been accepted as a replacement, but rather the potential damage to the market share and profitability of whole distribution system that might result if it was forced to sell Lindauer to one of the several companies that had opted out of the mass on premise market for the simple reason they did not have a Lindauer substitute product.

In short, regardless of how it was itself priced, Lindauer underwrote the profitability of a very significant part of the entire domestic business.

During 2006 Pernod Ricard went back to the Commerce Commission with an application to be released from its undertaking to sell.  The Commerce Commission’s analysis looked only at the broad market for sparkling wines and found that competition would not be unduly affected by allowing the acquisition of Lindauer.  Whether the Commission even thought to ask questions about other implications of the transaction, rather than just a largely perfunctory analysis of market share numbers dominated by retail, may never be known.

At the beginning of any year there is a surfeit of reviews of the year past (2009) and forecasts for the year ahead (2010).  As I personally tend to perceive 2010 and 2011 as still highly transitional years for the global wine market, with discounting and stock reductions likely to continue for a time, uncertainties in terms of pricing, values and consequently financial support, I have instead shifted my focus ahead to 2012. This is the closest thing to a shift to a “new normal” (give or take six months or so).  As global economic conditions are likely to be more stable (rather than the present mix of positive and negative factors), consumer behaviour and market structure are more likely to settle, at least to the extent that this ever really happens for the wine industry!

What has happened?

2007-2010            Global recession and its impact on wine demand (with some something of a lag?)

2007-2011            The “credit crunch” and its impact on capital financing

2008-2010            High levels of discounted exports of bulk wine

2009-2010            Heavy domestic discounting/de-stocking

2010-2011            The bumpy, uneven process of finding the new “normal”

In recent years the failure of some existing offshore distribution networks, including the fact that for most (but clearly not all) brands this has not created defensible brand loyalties in the face of discount pressures, has been a significant driver of the level of volumes directed to bulk exports.

The Impacts

Consumers

Consumers have gone cheaper.  In part this has been because of the sheer weight of discounting in much of the retail world (itself often reflecting the power of the retailers to dictate to over-stocked producers); but also, and quite related, is the tendency of consumers to tighten belts and trade down in price points.  The extent of the discounting has simply allowed consumers to maintain (and sometimes upgrade) quality of purchases at the lower prices.

The big question on everyone’s lips is: if the major economies are healthier, job worries have eased, incomes are stabilised where they were for many consumers and the array of labels available is closer to what it was before the crunch (i.e. most of the short-term discounting brands have disappeared), will consumers revert to earlier purchasing behaviour or will they adopt a new normal of lower prices and reduced demand for wines representing conspicuous consumption?  Will the shape of the pyramid have changed, with a smaller tip and fatter low-end footprint?

Of course, one of the related issues is whether consumer tastes have changed in the interim and, if so, will it affect decisions regarding price or other factors?  By 2012, the period of the crunch, of the global transition that I have referred to here will have been five years.  Five years is a long time in a fashion sense, especially for certain wine styles. 

The New Age Global Consumer

The next generation of wine drinkers is on its way.  The same as has always been the case.  This next generation will have cut its teeth on cocktails, spirits, RTDs or beer, just as previous generations have done.  Wine as a beverage has never appealed to everyone.  It has long appealed to a small number of early drinkers (late teens and early 20s), to a growing number of drinkers in the mid to late 20s, and found its way to become beverage of choice to a steady core of drinkers from the late 30s on when other demographic factors become more significant.

… and the New Temperance

Given the unavoidable effects of the New Temperance movement, wine more than any other beverage has both an opportunity and an imperative to both differentiate and distance itself from other alcoholic beverages.  In particular it must fight to avoid being associated with beverages that are themselves associated with binge drinking.  To date wine, across the world, has singularly failed to send an unequivocal message that it stands for moderation, for consumption with food, for traditions that are not a threat to health and safety of consumers or society.  If it fails to do so by 2012 it will experience the economic consequences of the tool of choice for legislators around the world that are determined to place all alcoholic beverages as a category of ethical problem on a par with tobacco: materially higher excise or taxation.

Red or white or rosé?

Will the wine market become more like the beer market?

Anyone who follows the beer market in different parts of the world will be aware of the impact that the weather has on beer consumption.

The more that wine displaces beer as a beverage of choice in certain markets, does it mean that wine may also slowly assume some of beer’s characteristics?

Similarly, if climate change ultimately means warmer weather, will the wider wine market (as distinct from the fine wine sub-set) tend to shift towards styles that may be regarded as more “refreshing”, featuring the cut of acidity over “fatter” or more overtly wooded styles, for example. 

It is far from a secret that climate and temperature influence the styles of wine grown and consumed in many parts of the “Old World”.  Is it therefore a coincidence that as the world has experienced what the WMO has cited as being the warmest decade since temperature records have been kept globally, the post-“French Paradox” swing to red wines appears to have stalled or even reversed in many markets, and sales of rosé wines have surged?

Will this have reversed in the face of a string of long and bitterly cold northern hemisphere winters?

Weather and climate does influence consumer behaviour.  What will the weather be like in 2012?

The stalled hunt for a Plan B white

In Australia the Alternative Varieties Show has served as a showcase for the ongoing moves to diversify the varietal scope of the Australian industry, highlighting and promoting new grapes and winestyles.  Whether those varieties are even truly at home in some of the very warm, dry climates they are being planted in is not the point.  The Australian industry has identified the need to develop alternatives and actively supports this, resulting in quite disproportionate media coverage, for example.

The same cannot be said for New Zealand.  There have been voices for several years promoting the need to find varieties that can serve as foils in case sauvignon blanc slips out of wider market favour. However, unlike Australia, the tendency is to look at varieties already growing in New Zealand as candidates for “promotion” (e.g. pinot gris), rather than to find and experiment with new varieties.  There are exceptions, of course, with companies such as Coopers Creek and Trinity Hill actively marketing new alternative varieties. 

It is arguable that far more attention in the last 10 years has gone to finding alternative red varieties, rather than whites, for experimental purposes.  This may, also arguably, be something of a lingering consequence of New Zealand’s subconscious tendency in the past to perceive itself as an inferior or marginal producer of red wines (in contrast with its growing tendency to regard itself as a world-beater with almost all white grapes).

Of course most of the world’s wine consumers are more likely to want to drink either a white or a red as a separate preference, so the chance of consumers fleeing sauvignon blanc for pinot noir or for syrah is very low – these are completely different markets. If sauvignon blanc were for any reason to go out of favour with consumers, the majority of those consumers would be expected to migrate to other white wine flavours and styles.  This has the potential to expose not just New Zealand sauvignon blanc, the vast majority of which is made in a very specific style, but also all of the producers of copy-cat sauvignon blanc styles elsewhere around the globe.  Of course if a drinker buys a Marlborough sauvignon blanc today, the chances are that they will get a wine in a style they are quite familiar with, just as a buyer of an Italian pinot grigio would generally expect, for example.  On the other hand, as it is often commented, buy a New Zealand riesling or pinot gris and there is considerable doubt that the same can be said given the relatively wide variety of sweetness levels and styles in which these wines are made.

During 2009, the year Australia found out its albariño grapes were in fact savagnin blanc, the first commercial plantings of albariño occurred in New Zealand. Given that the fruits of these first plantings will be on tasters lips in 2012, are they likely to inspire dramatic expansion in the future if people like what they taste – a maritime grape being grown in a very maritime country that, arguably, has its own unique characteristics (and winemaking technology) to bring to the originals?

Increasingly the answer looks like no.  Growers are paring back yields all over the country.  There is now something akin to a stigma attached to new plantings or to replanting when the industry mantra is balancing supply and demand – never mind the fact that the new can create its own demand if it is good and distinctive enough.  New Zealand’s attitude to trialling the new and different is much more tentative than Australia, which may even manage to have more real albariño planted by 2012 than New Zealand, despite its 2009 setback and despite the avoided question mark over why such a grape is even grown in Australian conditions.

The Role of the Multinationals

Inevitably the role of the large multinational wine and liquor companies within the New Zealand wine industry has become the subject for increased scrutiny given both the degree of importance these companies have in terms of the industry as both buyers of grapes and sellers of wine to both the domestic and export markets; combined with the wider implications of sales statistics suggesting increased discounting during 2009.

By and large the large companies, most of whom are multinationals, have been good corporate citizens in New Zealand.  There is, of course, the risk of over-generalisation since many overseas investors in New Zealand have much more limited scope and scale than some of the larger global wine companies.  Overall, however, they have mostly tended to reinvest profits back into their New Zealand investments.  They have generally been good employers and trainers, as well as active sponsors and benefactors of the community and the arts.  They have brought both structure and management disciplines, often lacking in smaller companies, to the industry.

Of course they have also made significant investments in the industry, both in vineyards and also in processing and marketing infrastructure.  In support of this investment they have actively promoted New Zealand wines offshore.

As a further generalisation, they have tended to emphasise larger volume production and volume-oriented strategies with a relatively token investment at the boutique or ultra premium end of the market, where New Zealand has only rarely succeeded in replicating the sort of icon-centred marketing strategies employed by several companies in Australia.

Accordingly, the multinationals have for the most part been good for the industry and the economy, that is while the global economy and global demand has been strong, but the market changes of the last couple of years have exposed certain weaknesses of the multinational model. 

A lot of the industry export growth expectations have been predicated on the strength of the networks built up over the last 10 years, including those of the multinationals. These have been found wanting.

In particular, the New Zealand arms have become subject to global weaknesses.  Should an overseas parent have financial imperatives (and this is not to speculate or to state that New Zealand winery parent companies have been in financial distress) that dictate global requirements for cost controls or for balance sheet restructuring, by way of examples, the investment heavy New Zealand operations may become subject to pressures not necessarily created by domestic performance.

Now it is the multinationals that have ended up most obviously exposed to excessive stock levels and difficulty moving them since they have been more reliant overall on exports than most of the smaller players.  Yet they have also been more limited in terms of bulk export options (owing to the risk of cannibalising the offshore networks) and so have had to discount domestically to aggressively drop stock volumes.  Cutting contract exposures means that they will end up with a smaller overall share of the pie by 2012 (maybe as much as a 5-10% smaller share of production/sales in 2012 than 2007).

Moreover, New Zealand is often perceived as a product slot in a global portfolio, serving a very particular purpose.  This is often not conducive to product evolution – a particularly important issue with respect to Marlborough sauvignon blanc; and can also become a serious handicap when competing with products from other countries in the same stylistic slots within the portfolio.  When competing within one’s own portfolio in any given country within a company’s sales system, the decision of which product to back locally can become a complex issue, often decided by the local profit margin.

With respect to sauvignon blanc, provided sales continue to flow this is rarely a problem as the product tends to have a priority position.  If sales fall below projections, resulting in a disproportionate increase in current or forecast inventory levels, the financial pressure to discount in order to reduce stock levels increases.  Despite the 66% production increase in 2008 from 2007, and the similar level of production in the clearly superior 2009 vintage, the domestic and export statistical evidence is of a greater increase in overall sales volumes driven by discounting as well as market growth.  Consequently, the experience of the last two years suggests that the level of de-stocking may have been even greater, suggesting cash flow pressures have been an equal or greater driver behind discounting behaviour if bulk sales might otherwise have been sufficient to shift the volume increment.  In this context New Zealand’s small overall size is such that its total bulk wine sales are relatively insignificant against those of other large producers.

As a consequence, there are grounds to believe that should New Zealand producers move beyond the current cash flow driven discounting imperative, the country could be closer to finding the supply/demand balance than many think to be the case.  The question then is whether by 2012 the key brands will have survived intact, or whether they will have been compromised by discounting behaviours.

Mergers and acquisitions occurring offshore have sometimes proven detrimental, even if the consequences have rarely been understood within the country.  Such acquisitions frequently result in the realignment of offshore distribution networks, sometime causing dislocation in the transition process and disruption to existing end customer relationships over and above the issues that new brand managers may have fitting acquisitions into their portfolios.

The current wine glut in other product areas has more severely exposed the impact of intra portfolio competition as a serious constraint.  In styles such as sparkling wine and varieties such as chardonnay there has been a clear lack of willingness to necessarily promote some NZ wine styles against those of other countries in the same portfolio, notwithstanding the efforts of New Zealand management to make headway within the international systems that they work in.

Perhaps ironically, the outcome is a reinforced, excessive and arguably unhealthy default focus on sauvignon blanc.

Similarly, New Zealand has traded heavily on the quality of its pinot noir credentials. While justifiable in many respects, the risk that has been exposed is that of limiting the global exposure of other New Zealand reds, and of reducing their market access, despite simultaneous growing international acclaim.  The generally smaller independents are left to try and push this opportunity.

The other key issue with regard to the multinationals is the degree of influence they hold over grape growers.  The multinationals have been by far the largest buyers on a contract or spot basis from the grape grower section of the market.

In recent times, when either offshore indebtedness or other cash flow pressures have forced rapid heavy discounting to reduce stock levels, it has been the multinationals that have led the way – especially in domestic supermarket sales.  Other domestic producers have been forced to match discounts or else experience diminished sales and stocks languishing on shelves.

In a 2012 future where global price points have shifted downwards for the long haul, the large companies have limited scope to gain sufficient additional economies of scale or other opportunities to reduce production costs – so logically the long-awaited squeeze on grape prices, showing signs of appearing in 2010, will be in full “new normal” mode over the next 2-3 years.

M& A and Industry Structure

In a world where debt is severely constrained, even merger or acquisition (aka M&A) options that make excellent commercial sense may not be feasible. By 2012 the new normal will still be a far more conservative lending environment than that of 2007.  However, the extreme risk aversion phase of the bank economic cycle will have started to pass so that the issue for most banks will still be that of capital rationing.

In this environment the past perceptions of the wine industry as being riven by glut and discounting will not be helpful to the lending process essential for much M&A activity.

Even for those with the necessary resources, there are concerns around the three key rationales for operational expansion of wine businesses through acquisition:

  1. operational improvements,
  2. security of supply, and
  3. brand expansion.

The concerns surrounding these three factors are:

  1. Without adequate controls the operational improvements may exceed the costs;
  2. Cancellation of existing contracts plus the sharp drop in the price of grapes means this will no longer be a key issue; and
  3. brand expansion may not be a universal or fashionably desirable strategic goal, especially for larger multinationals (as compared with brand profitability).

So, those second tier firms with a shareholder value strategy based on being taken out by a global player have: (a) lost value; and (b) a serious need for a plan B.

M&A in the smaller end of the market will continue, with a mix of new entrants and mergers among peers. Transaction rationales will vary considerably, as they have always done.

In 2012 the historic normal will continue: some firms will get bigger and others will get smaller.  In terms of industry structure, the main growth will be in the middle.

It is already apparent from NZ Winegrowers data that for the first time in several years the number of wineries has declined slightly.  NZ Winegrowers classifies its members within three tiers: Category 1 small wineries with sales up to 200,000 litres; Category 2 with sales up to 4 million litres; and Category 3 with sales above that level.  At the time of writing there are 6 Category 3 members (three locally owned/controlled and 3 offshore owned),  61 Category 2 members and 608 Category 1 members.  Numerically it has been category 2 that has grown most quickly, doubling in numbers over the last 5-6 years as a number of smaller companies have taken the opportunity to expand export sales.

It is in terms of share of volume that most changes will take place between 2009 and 2012.  During that time it is likely that total Category 3 and Category 1 litreage volumes will decrease, in relative share terms if not also in actual amounts, meaning that the present Category 2 members will expand volume and share of production and sales. (Note that the list of 61 Category 2 wineries includes 34 Marlborough-based, 9 Hawke’s Bay-based, plus 6 Auckland-based companies, all of whom draw more grapes from Marlborough and/or Hawke’s Bay than from Auckland).

Between 2012 and 2020, at least 3 to 5 of the current Category 2 companies will expand into Category 3.  The question is therefore whether this happens through brand and sales growth, or through acquisition.  It should not be ignored that there are companies within the higher tiers that have expanded aggressively in recent years through asset or business purchases, have higher than advisable levels of debt, and that have constrained cash flows and limited asset sale options with which to materially reduce debt gearing.

Land values

The overhang of properties for sale tells its own story.  In the period to 2012 the trend in land values will be downward.  To the extent that high sauvignon blanc yields and grape prices together justified the value of Marlborough land, together with the shortage of grapes when demand was rising, the logical effect in a world of yield limits and lower prices is a fall in both economic and actual values.  This has already happened but the real fallout will be when cash flow pressures force more sales at lower prices, since these factors rarely hit “overnight”.

Overall the impact may well be greatest in those vicinities where viticulture has become a monoculture, i.e. where grape growing has in recent years become a significantly higher value land use than alternative crops or land uses.

The silver lining?  The pressure will increase for greater production efficiencies, and the viticultural contracting sector, able to dictate pricing in recent years, will be under greater pressure although grape buyers will ensure that this does not mean short cuts and diminished quality.  The days of taking the comfortable easy options are over.

The Rising Regional Imperative

The other story that will gain strength by 2012 will be the increasing importance of the regions as the heart of the new New Zealand industry.

The history and development of the wine industry in Marlborough, Central Otago and Hawke’s Bay over the last 5 years is the key indicator of this trend.

Each of these regions has developed a regional story and identity to take to export markets.  Once New Zealand’s geographic indications system is bedded in place, regional identity, which has been the essence of “brands” such as Marlborough Sauvignon Blanc and Central Otago Pinot Noir, will become pivotal to the attempts of other regions to establish, define and protect their identities.  The regional story will become more important to export producers than the New Zealand story, although this process will take a lot longer than 2012 to fully mature.  Some regions will lack the identity to develop further in this environment, accepting that their place is more about a largely local niche market.

The impending demerger of Fosters Group’s global beer and wine businesses has been long expected.  The general consensus of the financial community has long been that the wine strategy was flawed, especially in terms of the mismatch of assets with beer and the resulting overexposure to wine assets at the top of the market.  Most seriously of all, whether deliberately or not, it bought its wine assets just prior to the big beer merger binge of the last few years, effectively denying its shareholders the ability to materially benefit from a period of high beer business valuations.

Above all, timing has run against Fosters on at least three counts: the wine acquisitions were made in the lead up to the global financial crisis and recession; regardless of whether its acquisitive behaviour contributed to the “asset bubble”, Fosters acquired its Australian assets at the top of the market shortly before the market fell out of love with mass market Australian wine styles; and the Australian dollar has moved immensely against it during the same time period.

On a different level, there are grounds to argue that the execution of the wine strategy has also been flawed, and that this is at least as significant in terms of its implication for values.  In particular there is a sense that the acquisition of Southcorp was heavily predicated on cost savings, rather than market opportunity factors (and to a certain extent Fosters only ended up repeating some of the costly mistakes made by Southcorp after the Rosemount merger), while the response to currency pressures and the pressures from large offshore supermarket purchasers was also to try and drive down costs. 

This cost focused approach ultimately sacrificed quality, and in particular the unique aspects of many of the brands collected through the various mergers, increasing the market sense of a collection of largely indistinguishable fruit driven carbon copy wines and a loss of the sense of substance that had been associated with several of the key brands over their respective histories.  Names such as Wolf Blass have been devalued and simply no longer have the cache associated with them 10 or 20 years ago.

An arguable exception is Penfolds, the one brand that has not lost the ability to leverage off the reputational power of its icon labels such as Grange, St Henri and Bin 707.  What has happened, however, is that through the series of mergers of the last decade Penfolds has ended up as an ever smaller portion of the overall company portfolio, such that the quality of icon-leverage branding has been progressively diluted even when the quality of its wines has remained strong.

The market imperatives of the Australian wine industry have changed, thanks to changes in global consumer tastes.  The cost-driven approach, which implies that Australia’s goal is to compete with South American producers or, worse, California Central Valley producers, is doomed even before taking into account its reliance on hot climate irrigated grapes when the water that produces them is not reliable at all.

This leads to the key question.  Analyst reports have pinned an enterprise value of A$2.1 billion on the wine business.  Is this based on the assumption that the wine business can, or even should, be maintained as a single business?  Would this value be different if the brands and assets were instead further separated?  The rationale for doing so would be that for all that might be lost in terms of synergies, including global marketing channels, the freedom for individual brands and their winemakers/marketers to properly focus on quality and to sell their own stories without the compromises implicit in big brand portfolios, might actually create more value and reverse the value destruction of the policies of the past.

As an aside, from a New Zealand perspective there will be intrigue as to the future position of Matua Valley, which has grown under Fosters to become one of the six largest producers in the country.

The role of Pinot Gris as a growth product to complement sauvignon blanc and pinot noir has been the subject of much recent discussion.  It is reported that winemakers seem to loath handling the grape, but consumers can’t get enough.

Globally, pinot gris seems to have been touched to some degree by the magic associated with the word “pinot”.  But not without its own grey clouds.

Under the guise of pinot grigio, primarily from Italy, pinot gris is the largest selling imported varietal wine in the United States.   However, pinot gris has already experienced multiple periods of (sometimes brief) fashionable popularity.  In the broader sense pinot gris suffers from twin identity issues: like pinot noir, there are only a limited number of countries that grow it successfully and, more importantly, it suffers from a significant lack of a global benchmark.

In fact, there are several different regions of the world that tend to be identified with pinot gris/grigio in the minds of winemakers and of the consumer – and rarely do these seem to align.

Within the winemaking community, when an effort is made with pinot gris it seems that the benchmark in the past has tended to be that of Alsace in France, where pinot gris (until quite recently often labelled as “Tokay d’Alsace”) tends to be made primarily as a fuller, rich, mostly but not always dry style, sometimes with an unctuous or oily texture not unlike many viogniers.  However, it must be said that this style has never become especially popular with consumers and Alsatian wines in general (including its rieslings, gewürztraminers and pinot blancs) have experienced declining sales during recent years – especially in the Anglophone countries that are also New Zealand’s major customers.

The largest producer in the world today is Italy, primarily in its northern regions, where the wines are labelled pinot grigio.  The vast majority of pinot grigio is made in a relatively light, usually dry style, not notably fragrant but suited to consumption with food.  Although demonstrably popular with consumers, especially in Europe and the USA, this style is often viewed with disdain by New World winemakers.

The third main European style is that of Germany, where the wines are commonly labelled under the local names for the variety: rulander and grauburgunder. German rulander may be dry or offdry through to sweet and typically has slightly higher acidity than the Alsatian and Italian pinot gris wines; and it has a flavour and palate profile arguably falling somewhere between those two styles.  This style is not widely exported, having little international profile, and it is largely consumed in the German domestic market.  Within Germany rulander is, after all, very much a minor grape variety.

The most successful New World producer to date has been Oregon in the USA.  Oregon Pinot Gris wines also tend to vary between mimicking the Alsatian and Italian styles depending on the producer, but are more likely to be labelled as “gris” than as “grigio”, and this template has been largely adopted elsewhere outside of Europe.

New Zealand plantings are still relatively small in the context of the wider industry, but have grown fast as a consequence of its increasingly disproportionate importance.  Sales have increased strongly, exports have followed, and many producers have struggled to keep up with demand so that grape prices have been relatively robust until only recently (when downward price pressure on other varieties has unavoidably affected pinot gris).  It remains to be seen what impact later plantings will start to have.

It is only recently that exports of pinot gris wines from New Zealand have started to threaten domestic sales – only five years ago sales were almost completely domestic.  The largest export market is Australia, where almost as much is sold as in the 2nd and 3rd largest markets, the USA and United Kingdom, combined.  It is not clear if the widely commented on stylistic divergence of New Zealand pinot gris wines contributed to the initial slow export uptake, although this now appears less of an issue.  Most New Zealand pinot gris tends to range from just off-dry to medium sweetness, but even within this band there is wide stylistic variance.  While there are some producers aiming to emulate the dry fuller-bodied Alsatian style, others use pinot grigio labelling and a nod to the Italian style.  In between, and especially from the more southerly regions, there may actually be a closer affinity to the German rulander styles.

The export growth of the last 2-3 years definitely suggests potential for New Zealand pinot gris, notwithstanding the stylistic issues.  There are still only a few countries in the world that possess the climate conditions suited to the grape – notwithstanding the fact that it is grown in Northern Europe and yet also in Italy.  This is hardly surprising given its pinot noir genetic origins.  Even so it is grown from the very north of the country to the very south (and in fact the regions that grow more pinot gris than sauvignon blanc are Northland, Auckland, Gisborne and Central Otago).

Interestingly, plantings in several of the Southern Hemisphere producers that are perceived as competition for New Zealand in several grape varieties, such as Chile, South Africa and Argentina, are relatively small.  Australia grows twice as much pinot gris as New Zealand, most grown either in cooler southern regions (Victoria, Tasmania) or else picked early in the hot irrigated regions.

World Pinot Gris Hectares Year % Share
Argentina 347 2008 0.7%
Australia 2835 2008 5.7%
Austria 293 2006 0.6%
Canada 230 2006 0.5%
France 2360 2008 4.7%
Germany 4413 2007 8.8%
Italy*1 11600 2007 23.2%
New Zealand 1460 2009 2.9%
USA – California 11958 2008 24.0%
USA – Oregon 2600 recent 5.2%
USA – Washington 500 recent 1.0%
Other*2 11300 various 22.6%
       
Total World 49896    

*1  It has been estimated by Attilio Scienza that based on production and sales data Italian plantings may actually be closer to 14,000 ha

*2  Estimate – Includes unverified data regarding plantings in Eastern Europe (esp. Moldova, Romania, Hungary, Slovenia, Ukraine) as well as minor producers

The Market Question

So the real question is that of the market for pinot gris, both in New Zealand and internationally.

In my opinion a quite complex (and concerning) issue is that of the “palate polarisation” of the mass white wine drinking public. This is the situation where a large number of sauvignon drinkers profess dislike for pinot gris and chardonnay, chardonnay drinkers profess dislike for sauvignon blanc and pinot gris, and where pinot gris drinkers profess dislike for chardonnay and sauvignon blanc. These preferences can seem even to verge on snobbery.

Whether or not they actually do becomes increasingly moot.  It could be argued that there are similar issues within red wines, but I suspect these are far more limited given the wider range of red varietal and blended wines readily available.  The same cannot be said for white wines in much of the New World, with alternatives such as the aromatics and Rhone varietals both either less available or terminally underappreciated by the majority of people who want to drink the “big three”. (As I have posited in previous posts, there is a sense that riesling, for example, is more likely to be liked or appreciated by a pinot noir drinker than by most other white wine drinkers).

The absence of alternatives looms as a huge problem if palate boredom leads to changes in fashion, because socially acceptable fashion drinking is very much the demand driver here.