From Wine Business Monthly July 2003 The State of California's ~ Sales and Acquisitions Katie Sample Winery buyers who have been in the acquisition mode for a while know that as a general rule just about any winery is for sale at any time for the right price: Translation-at a price far higher than it's worth as a business entity, based on industry-standard cash flow models of valuation. That axiom is gaining credibility due to the coincidental timing of several market factors that are creating a paradigm shift and record turnover in California's small to medium-sized winery ownership. In the past, interest levels of winery buyers and winery sellers have been on separate tracks, and supply versus demand has been dominated by more buyers than winery sellers. But the phone and e-mail inquiries to my office have increased dramatically since January 2003, with balanced interest from both sides. Like pebbles tossed from opposite edges into a pond, the separate ripples eventually meet and intertwine-causing significant crossover that becomes a trend in the marketplace. In the case of winery sales, the timing of the pebbles' ripples is coinciding with focused media attention on the wine glut and therefore leads many to believe it to be the primary cause. In fact, that does not appear to be the case at all. One of the primary causes for the increased activity in the turnover of winery ownership stems from an aging base of winery patriarchs. The majority of the state's wineries were started as pioneering adventures and family focused businesses. The wine industry has evolved to such a level of sophistication that the survival-of-the-fittest bar has been raised to a challenging height-making the next generation of winery owners rethink their desire for taking over the 'family' business. Also, many winery and vineyard owners have more equity value in their real estate holdings than most have netted out over the lifetime of their business ventures. Vintners are sitting on multimillion dollar parcels and hold coveted winemaking and tasting permits with million dollar values in counties that are putting the brakes on new winery and vineyard development. These winery pioneers have become equity millionaires with hesitant heirs and so are now asking themselves, "Why struggle with this? Let's cash out and move on." Another contributing factor is the dynamic of the big fish eating the little fish-a common business concept that caught up with the wine making industry several years ago and gained major steam in the last year. Add to this the simultaneous consolidation of wine distributorships and you no longer have a level playing field, taking the independent winery pretty much out of play in the distribution game-unless they are an extremely well known, highly-touted brand. Competition for retail shelf space and restaurant wine lists has become a full-time sales and marketing effort for wineries-many of which have limited staff and budgets. Sell through has become a nightmare for small and medium-sized winery owners who love to make wine but dislike the task of sales and marketing in an ever-tightening market. The onslaught of foreign competition from countries like Chile and Australia, who are making quality wines and selling them for reasonable prices to US wine consumers and further fueling the fire on distribution and shelf space competition, is also contributing to the transition of individual winery ownership to corporate ownership. The dot-bomb side effects have lent a hand as well in increased winery and vineyard offerings around the state, particularly in Napa and Sonoma where it was considered the place to have a winery for newcomer winery entrepreneurs during the fairy tale 1990s, when record prices were paid for real estate. Debt financing was based on idealistic business models that assumed the excesses of the technology-driven economy would go on forever. When times got rough a few years ago, some winery owners who had based their business or expansion plans on selling out their wine at a record price found themselves on the business end of a lenders' open hand. The grape glut, which is now being reclassified by many industry experts as a cyclical market correction, plays a minor role-a camel's straw if you will-for those winery and vineyard owners teetering on the edge of decision making. "What's the point of it all?" is a reaction I hear frequently from winery owners whose children don't want the family business, or whose budget can't support a full-time wine sales team that needs to pound the pavement daily to keep distribution channels flowing, or whose vineyard contract has been canceled and the list goes on. Who then are the buyers in today's active winery and vineyard real estate market? The obvious buyers are the current owners of winery conglomerates-the acquisition pros who are expanding market share and/or proprietary brands at various price levels under the umbrella of one large holding company. In order to take advantage of the higher end wine market current winery buyers recognize the trend of producing less volume at a higher quality. Large winery empires are diversifying and expanding as appellations in other regions become known for producing high quality fruit. It is not uncommon for a large wine producing company to ~ hold interests in several small to medium sized wineries peppered up and down the state with different identities and market niches. Some buyers are indeed bean counters looking for underperforming operations with turnaround opportunities. Conglomerates can apply their vast resources, expertise, cash and/or distribution networks and administrative costs to improve an underperforming winery's profitability quickly. These buyers are rigid in their price versus profitability formulas and they are NOT motivated by a winery's real estate equity growth potential. Not that they don't look for resale profit in the winery's real estate, they simply don't acknowledge future real estate value in their offering price because there is no return-on-investment formula for it and it is, technically, an unknown factor. One significant change I've noticed recently is that a few years ago when I showed a winery and vineyard, the decision-maker buyers would bring their winemakers, who appeared to have a dominant influence over the decision. Now, a buyer (if he or she is not the person writing the check) brings the check writer along and the focus is on the cash flow potential and less on soil and drainage issues. Very few buyers are looking for lifestyle wineries, which are characteristic of many California wineries and happen to be predominant offerings right now. Current buyers don't want substantial vineyards or residences to be a major portion of value in a winery. If a buyer is specifically vineyard shopping, they want producing hillside reds. In other words, cash flow or a vineyard producing enough of the area's renowned varietals to make an estate quality, vineyard designate label. The words "plantable vineyard" or "winery potential" are discarded by experienced buyers as fantasies in most counties where environment-driven ordinances and restrictions make planting a vineyard or starting a winery a torturous and often fruitless investment risk. The overlapping ripple effect from these pebbles, and a few others, that have been tossed into the wine industry's pond is creating the paradigm shift in winery ownership from a family-based to a corporate based ownership throughout the state's wine regions. Katie Somple is a real estate broker and founder of WineryX Real Estate, specializing in the confidential sale and acquisition of California wineries. Her office is located in St. Helena and she can be reached at 707-968-9100 for more information.