Globalization, Wine Value and the Two Buck Chuck Index

Has the globalization of the wine industry given us the best of wines, as many wine drinkers believe, or the worse of wines, as the film Mondovino suggests?

Two economists from the Whitehead School of Diplomacy at Seton Hall University address this question in the December 2007 issue of the Journal of Wine Economics (see full reference below). Their conclusion? Globalization has benefited American wine drinkers, who have a broader choice of quality wines at lower prices.

That's pretty much what my supermarket empiricism leads me to conclude, but can it be proven scientifically? Here's how the article's authors arrived at their results.

First you need to define what it is that American wine drinkers are buying. The authors decided to focus on the Wine Spectator annual Top 100 list of wines. This has the advantage of limiting the study to a reasonable number of widely available wines. The Top 100 list is chosen each year on the basis of price, wine rating, availability and "excitement." Many people use rankings like the WS 100 to guide their purchases, so I suspect that there really is some correlation between what is on the list and what is on store shelves and restaurant wine menus. The disadvantage of limiting the study to the Top 100 is of course that most of the wine sold in America -- the inexpensive Gallo, Yellow Tail and Two Buck Chuck wine -- does not make it to this or any other "top" list. If we want to know if globalization has improved choice at the middle and bottom of the market we will need more research.

The authors examined the WS 100 lists from 1988 - 2005 to determine (1) where the wines came from, (2) how much they cost and (3) their quality as measured by the WS ratings. They then calculated measures to determine changes in the geographical concentration of the wines (more or less choice in terms of countries of origin), the average quality rating and the relative value to consumers as measured by rating points per dollar.

What we learn from this is that the overall quality of the top wines has stayed relatively constant over the years, but the real price has fallen and the range of offerings has increased. It cost $4313 (in today's dollars) to purchase the entire WS100 in 1988, for example, but just $2622 to buy the Top 100 wines in 2005. The cost per "point" of ratings in 1988 was 46 cents, so a hypothetical average 90-point wine cost $41.40. The per point cost was 28 cents in 2005 and so a hypothetical average 90-point wine cost just $25.20.

The top wines came from just six countries in 1998 versus 11 countries in 2005, an indication of the globalization effect. A great majority of WS100 over the years have come from four core wine countries: Australia, France, Italy and the U.S., but the proportion of non-core wines has increased, too, from just 5 percent in 1988 to 24 percent in 2005.

The authors divide the wine world of this study into Old World (France, Italy), New World (Australia and the U.S.) and "New-New World" (New Zealand, South Africa, Argentina and so on). Globalization has brought American wine drinkers more and more excellent New World and now especially New-New World wines that provide the same quality at lower average prices, according to the study.

Research like this is interesting both for the questions that it answers and for the new questions that are raised. It would be interesting, for example, to find how important the four criteria for selection are -- price, rating, availability and "zing" -- and if the relative weight they are given has changed. As the wine market has expanded, for example, greater emphasis may have been put on price and availability, leading to a Top 100 that leans more toward (global) good value wines.

It would also be interesting to see if the editors respond in any way to external forces. A lot of people read and study the Top 100 list, so perhaps they use it as a way to build the wine market (and thereby indirectly build their potential subscriber base). A focus on value would be consistent with this goal. A Top 100 list that you can't find or can't afford doesn't build the wine market and won't sell many magazines. The fact that there are more New-New World wines might reflect rising quality and availability of these wines or it could indicated that the WS editors desire to add these wines to keep costs down, value up and the market growing. In other words, the WS100 might show more choice and continuing good value because that's what the WS editors want it to show. I suspect that the truth is that the market has evolved toward global good value and that WS has been part of that process, encouraging people to try New-New World wines by putting them on the Top 100 list.

Exchange rates could also play a role here. The dollar has fallen against most currencies (increasing the cost of imported wine), but the depreciation is not uniform. The Euro is much more expensive but the Argentine peso has not changed as much. If would be interesting to see to what extent the WS100's New-New World globalization has offset exchange rate driven increases in Old World wine costs.

Another interesting question relates to the idea of value in wine purchases. It does seem to me that people often find themselves buying WS points or Parker points more than the wine itself because they are unsure of their ability to judge quality. One local wine merchant had a sale of wines rated 90 points or more for $20 or less. The idea was that the wines must be good value because of the low cents per point ratio. But there is more to wine than rating scores, as anyone who has tasted high-scoring wines will tell you.

It might be interesting to try to put together a slightly more sophisticated wine value index using WS and other ratings. I don't think that cents per point is a good measure because it assumes a linear relationship between money and quality -- and we all know that is not the case. Very expensive wines frequently receive much lower ratings than their cheaper competitors. I understand that a $100 Chardonnay came in last at the tasting where Two Buck Chuck won the Gold Medal.

Even where price and quality are correlated, the relationship isn't necessarily linear. The average price difference between an 86 point wine and a 88 point wine may be pretty small, for example, but it might cost a great deal to go from 92 to 94 points if the demand for the very best wines is particularly strong as is often the case in winner-take-all markets.

The price-quality relationship, even using imperfect wine scores as a measure of quality, is certainly non-linear. No wonder wine buyers are so confused -- and depend so much on ratings and lists like the WS100.

Here is a simple alternative to cents per point as a measure of value. Let's adjust price and quality for a baseline wine: Two Buck Chuck. You could call it the TBC index. Suppose that you can purchase a 70-point (to just make up a number) TBC Chardonnay for $2 (or $3 here in Washington State). The question we want to answer is how much does it cost to improve on TBC? A wine that gives you a lot of additional value for only a little additional money is a good deal.

In other words, the TBC index would be a relative index of value calculated by asking would be how many points in excess of 70 (or whatever the quality of the baseline wine you choose) you can buy for the dollars you spend in excess of the baseline cost. Here's a numerical example. A 88 point wine for $20 would have a TBC rating of (88 - 70 points)/($20 - $2) = 18 point/$18 or a dollar a point. An 86 point wine for $10 would be a better value because (86 - 70)/(10-2) = 16 points /$8 = two points per dollar. It seems to me that this is a better (but still badly flawed) indicator of relative value. (Economics students have already realized that I am applying the principle of decision-making on the margin to this problem).

Perhaps I will find some students to work on the TBC index, perhaps using a different base wine for each varietal or wine type. I predict that their research would find that the "optimal" TBC point is being pretty close to the heart of the premium wine market -- right on the center shelf in the supermarket -- where so many wine brands compete for your wine dollars.

Wine ratings are very important in some parts of the wine market and very controversial, too, so I think I will see what I can learn about them. With this in mind I have subscribed to six different wine-rating publications: Wine Advocate (Robert Parker), Wine Spectator, Wine & Spirits, Wine Enthusiast, the British Decanter and Wine Press Northwest (for Washington/Oregon wine news and ratings). Watch this space for a comparative analysis of these influential publications.

References: Omer Gokcekus and Andrew Fargnoli, "Is Globalization Good for Wine Drinkers in the United States?" Journal of Wine Economics 2:2 (December 2007) pp. 187-195).

The End of Cheap Wine?

It is becoming increasingly clear that a golden age of sorts (for American wine drinkers) is coming to an end. Good quality wine has been amazingly affordable for the last several years and New World wine consumption has risen as a result.

This is changing (or has already changed, as Jancis Robinson writes in Saturday's Financial Times) and a quick look at the economics of the wine market explains how and why.

The demand for wine in the United States has increased for a number of reasons. Studies that show that moderate consumption of wine (especially red wine) is healthful gave consumers license to experiment with table wines. The existence of Two Buck Chuck (the Charles Shaw wines sold at Trader Joe's stores) and other value brands made this experimentation affordable.

The increasing emphasis on wine brands helped demand grow by making the wine purchase itself somewhat less mysterious. The wine aisle is the most complex choice space in any grocery store -- there are more options at more price points than anywhere else. Brands reduce uncertainty and so encourage consumption. The enormous success of [Yellow Tail] brand wine from Australia is testament to this fact. Costco, the nation's largest wine retailer, has used limited selection and its Kirkland Signature own-brand wine to achieve spectacular results.

The demand for wine has not just increased it has also evolved as many consumers have moved to higher quality (or higher price,anyway) and developed specialized wine expertise. Wine is more than a beverage, it is a lifestyle for many people who collect wines, take wine tourist vacations and subscribe to wine publications such as Wine Spectator or The Wine Advocate and read the wine columns now found in many newspapers. There is a pretty steep learning curve when it comes to wine. Knowing more about wine and having more experience with it increases the pleasure that wine provides and makes further learning more efficient. In economic terms, the specific investment in wine knowledge makes the demand for wine more inelastic -- less sensitive to changes in price since buyers are less likely to switch from wine to other products or beverages where they have less expertise.

The supply of wine has also changed to create higher prices. The falling U.S. dollar has increased the cost of imported wine, which contributes to rising domestic prices both directly, as those costs are passed along to consumers, and indirectly, as higher import prices allow domestic producers to raise price, too. I don't think that we have seen the full pass-through effect of the exchange rate changes yet, so expect dollar-driven price increases to continue.

But domestic prices would have increased even without the dollar's decline. Wine buyers in recent years benefited from a global surplus of wine grapes that drove down price and pushed up quality. Faced with accumulated surpluses that sometimes amounted to a year or more of sales, winegrowers held back on expansion plans (except for hot varietals like Pinot Noir). Demand has slowly grown into the existing supply and may soon exceed it for some wine types. Falling prices due to surpluses are coming to an end and rising prices seem likely, even in Australia where drought and disease have further reduced production. The new EU wine regime, if it is effective, should further reduce wine surpluses and tighten supply.

When you combine these factors along with a few others, such as growing interest in wine in Asia, the result is a new market environment and it will be interesting to see what happens next. The latest round of wine magazines seem to take higher prices in stride. The Wine Advocate reports that the cellar door price of California cult wine Screaming Eagle is now $500 per bottle -- if you can get some -- and a long list of wines are listed with prices above $100 or $200. Wine Spectator and the wine columnists in the Wall Street Journal and the New York Times all seem to be struggling to keep a lid on their definition of an inexpensive or good value wine -- a $12 or $15 or even $20 ceiling no longer provides much choice! You can still buy cheap wine, but the good value bargains are disappearing.

It will be interesting to see how the American wine culture, which has been built in part on good quality at low prices, copes with this new world of wine. In the meantime, enjoy those bargains and good values when you find them, but don't count on your good fortune lasting forever.

Chateau Ste Michelle

I gave a brief talk to a university group at Chateau Ste Michelle in Woodinville, Washington yesterday and it gave me a chance to think at bit about the Washington wine industry in general, now with more than 500 wineries and growing, and Chateau Ste Michelle (CSM) in particular.

Sue and I were fortunate to be able to spend a couple hours in the afternoon with CSM Enologist David Rosenthal (pictured here) , who is a 2001 marine biology graduate of the university. He's worked at Mondavi as a chemist and at Oregon and Australia wineries and he now helps make the white wines at CSM. They produce about 400,000 cases of Chardonnay and 750,000 cases of Riesling in addition to smaller amounts of other white varietals. It is quite an operation and David was nice enough to answer all of our questions and take us through the cellar room, sampling wines starting from unfermented juice that had just arrived from Eastern Washington on through the various stages of fermentation and aging. I learned a lot -- thanks, David.

I've read that CSM uses its large scale wisely, treating size as a resource that permits experimentation and diversity, and I could see this pretty consistently through our tour with David. CSM's scale is tailored to give its winemakers a great deal of choice when it comes to blending their high volume wines and also to facilitate limited production products, including of course the single vineyard bottlings.

Chateau Ste Michelle is part of Ste Michelle Wine Estates (SMWE), which owns several other Washington brands, including Columbia Crest, Snoqualmie, Domaine Ste. Michelle (sparkling wines), NorthStar (which began as a high end merlot specialist label), Red Diamond, Stimsom Estates Cellars (up-market jug wines), 14 Hands (the manditory critter wine -- the critter on the label is a horse that stands 14 hands high) and the boutique Walla Walla producer Spring Valley Vineyard. If you've been reading this blog you know how important brands are in the wine market today and SMWE's strategy reminds me of the old Robert Mondavi company -- to have competitive brands from the popular premium shelf on up to the icon level, leaving the low margin bulk wine market (the bottom shelf) to Gallo, Yellowtale and Charles Shaw. CSM and Columbia Crest are the leading brands, with 3 million cases produced between them.

Although everyone associates CSM with Washington, the company's reach is much broader. Other brands in their stable include Erath (Oregon), Villa Mt. Eden and Conn Creek (Napa Valley) and Distant Bay (Monterey). They are the exclusive U.S. distributors of Antinori wines and have partnerships with both the Antinori family (to produce Col Solare, Washington's answer to Opus One) and, with the Mosel's famous winemaker Ernst Loosen (to make Eroica, an exceptional Riesling). SMWE is the largest producer of Riesling wines in the U.S. and possibly in the world! Together with the Antinoris, SMWE recently purchased Stag's Leap Cellars in Napa Valley, one America's most distinguished wineries.

In other words, this is big business, both in terms of volume and quality. Altogehter SMWE's brands produce 4 million cases a year, which is about two-thirds of all Washington wine, and it is a correspondingly huge influence on the whole industry here. Of course, Washington is still tiny, in quantity terms, compared to California. People say that Gallo produces about 70 million cases all by itself. (Since Gallo is family-owned, it doesn't report as much data as publicly-traded wine producers do, so we have to guess what's going on in the big warehouses in Modesto.)

SMWE makes a lot of very good wine, which is perhaps more important that quantity in today's market. SMWE's brands account for the largest number of Wine Spectator 90+ wines (and the most total top 100 wines) of any producer in the world. It is an interesting fact that Washington doesn't compete at all at the very bottom rung of wine ladder -- the very inexpensive bulk wines that account for much of the total volume in today's market. You know what I am talking about -- Two Buck Chuck and the lesser wines that make that brand look so good. Of all the New World wine regions, only Washington and New Zealand have been able to build a wine industry from the popular premium level up.

But it makes sense: Washington cannot hope to compete with California's Central Valley producers when it comes to cost-sensitive bulk wines, so it doesn't try. New Zealand is in the same position with respect to Australia. In both cases, I believe, this actually works to the smaller, higher-cost producer's ultimate benefit, since all of the focus is on quality and on the growing upper-tier of the market.

300 Million Bottles of Two Buck Chuck

Two Buck Chuck (a.k.a. Charles Shaw wine) celebrated its fifth birthday recently, so this is a good excuse to for a new initial thoughts about what the success of this bargain wine says about the wine market today.

Charles Shaw is the brand of very inexpensive wines that Fred Franzia's Bronco Wine company makes for exclusive distribution through the Trader Joe's chain. The wines sell for $1.99 in California ($2.99 here in Washington state), which accounts for the "two buck" nickname. Total sales over five years: 300 million bottles.

Two Buck Chuck (TBC) is made possible by the current worldwide glut of wine -- something that I will write more about later. There is a lot more wine made today than people will buy and so bulk prices have fallen, creating a profitable opportunity for someone, like Fred Franzia and the Trader Joe's people, who know how to distribute and market it efficiently. Franzia is part of this glut of course, with perhaps 40,000 acres of vines. TBC aimed to find a big demand for a big supply, and it did it.

Some of my friends buy TBC and they are always amazed by the relative value: it may not be great wine, but it's lot better than a $2 or $3 wine, they say. I think that's true, but I wonder how they know -- have they drunk a lot of $3 wine? I doubt it! Most supermarket wine buyers judge a wine by its price, or at least that is what the research says. They don't know for sure what is in the bottle and so they are guided by price more than any other factor. I know some $8 wine buyers, for example, who probably wouldn't buy a $5 wine under normal circumstances, because they assume that it is lower quality. And they probably wouldn't buy a $12 wine, either, assuming that it wouldn't be worth the extra cost. So they stick to that $6-$8 wine shelf (you know where it's at in the grocery store), not looking higher up and not looking much lower on the rack either. They know what they like, and it costs about eight bucks.

So the trick isn't making an inexpensive wine -- that's doable in this market environment -- it's getting people to buy it. Once you have made a decent wine that you can sell for less, the hard part is to get buyers to look down from their accustomed price points and try it -- and to serve it to their friends without humiliation. If you put a TBC clone in Safeway, for example, it's entirely possible that no one would buy it because they would assume low quality based upon the low price. That's where Trade Joe's comes in. Trader Joe's has a reputation for selling upscale products for a bit less -- for providing relative value. Only Nixon could go to China and only Trader Joe's could sell Two Buck Chuck -- for two bucks.

In fact, if you look around, you will actually see a lot of TBC clones in your grocery store, but they sell for more than two bucks. I am talking about the generic "critter wines" (more about this in future posts). They are also a product of the global wine glut and they provide good relative value. But no one would buy them for $2 -- how could they be any good? So they sell for a bit more.

By the way, the Charles Shaw brand is actually a good deal older than the five year birthday suggests. The Charles Shaw winery was founded in the Napa Valley in 1974 by Charles F. Shaw for the purpose of making Beaujolais-style wines. Fred Franzia bought the brand from Shaw in 1991 in order to take advantage of its solid reputation. But that's history -- no one pulling a TBC cork today remembers that original Napa winery, they are only thinking about the bargain price.