In November 2001, Patricio Middleton, CEO of Vina MontGras, a $7 million Chilean winery, was driving through the Colchagua Valley to meet American journalists from Wine Enthusiast magazine. Looking at the endless vines that surrounded him, he wondered how those newly planted grapes would find a market.
Chile, the world’s 10th-largest wine producer, had enjoyed an export boom in the 1990s and had grown to become the fourth-largest wine exporter, its wines positioned mainly in the lower end of the fine-wines price range. (See Exhibit 1 for world wine production and exports, and Exhibit 2 for price ranges. ) MontGras, an early 1990s winery born into this boom, tackled its business entirely from the perspective of export growth. However, the international context looked gloomy—there was projected worldwide and domestic overproduction, intensifying global competition, and ongoing consolidation in the distribution channels.
Middleton had been charged with presenting to the next board meeting a five-year export strategy, consistent with the overall marketing strategy of positioning MontGras as a producer of high-quality fine wines (see Exhibit 3 for the MontGras portfolio). The winery had already achieved significant market share in Ireland and the United Kingdom, but it was focused on the United States as the key market to achieving the sales growth required by the increases in production planned by 2005. After two disappointing experiences with U. S. istributors, Middleton had little time left to close a new distribution agreement for 2002. He had initiated conversations with two potential distributors that had diverging views regarding the positioning of MontGras, and this raised fundamental strategic dilemmas. Should they focus on volume and stick to the “value for money” proposition that had underpinned the success of Chilean wines abroad, or should they advocate a margin strategy, based on the fact that MontGras was producing high-quality wine? The picture was complicated by an unanticipated offer to participate in a U.
K. supermarket promotion that would certainly boost volumes, but at reduced margins. In addition, he had the opportunity to invest in a joint-marketing effort undertaken by the whole Chilean wine industry designed to upgrade the image of the country and its wines abroad. What would MontGras gain from such a campaign? How would it impact the marketing strategy and budget? Those were some of the questions that had to be answered before the company formulated the export strategy. ____________________________________________________________ ___________________________________________________ Professors David Arnold and Howard Stevenson and Latin American Research Center Senior Researcher Alexandra de Royere prepared this case with the assistance of Professors Matko Koljatic and Andres Ibanez of Pontificia Universidad Catolica de Chile. HBS cases are developed solely as the basis for class discussion. Certain data have been disguised. Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. Copyright © 2002 President and Fellows of Harvard College.
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MontGras The Global Wine Industry The global wine industry had been transformed in the 1980s by the entry of new producers from outside Europe. A number of large “New World” producers had challenged traditional European practices in both production and marketing and had enjoyed considerable success. Nevertheless, the industry remained fragmented, with the largest player, Californian E&J Gallo, accounting for 1. 5% worldwide market share. 1 The industry was also in transition at the consumer and distribution levels. Old World versus New World
The Old World wine industry, centered on France, Italy, Spain, Portugal, and Germany, was characterized by long-standing traditions of wine production, industry fragmentation, high levels of regulation from production to labeling and marketing, and strong domestic markets. Most Old World wines were made from a blend of different grapes and were named after the growing regions themselves, such as Bordeaux, Chianti, or Rioja, which resulted in considerable complexity of designation—for example, the French regulatory system included 450 different apellations d’origine controlees (AOCs, or registered origin names).
The Old World philosophy of wine production was based on the importance of terroir (terrain), which assumed that every vineyard was unique because of differences including soil, microclimate, topography, and the skill and practices of the winemaker. The New World wine industry, dominated by Australia, the United States, South Africa, Chile, and Argentina, was more concentrated and more focused on exports. In addition, the lack of stringent regulation in the New World had spurred innovation in production processes and a more scientific approach to operations.
Compared to the European wine regions, these producers were located in hotter and less variable climates and so enjoyed more regular harvests that produced more consistent vintages. New World wines were usually single grape rather than blends and so were often designated by grape variety (“varietals,” such as cabernet sauvignon or merlot) rather than by place of origin. The New World wine industry also differed in its approach to marketing, with several large players supporting varietals with substantial promotional budgets to create international brands. We’ve converted from being a cottage industry into a competitive consumer luxury goods industry,” commented Californian R. Michael Mondavi, chairman of Robert Mondavi Corp. , the world’s ninth-largest winemaker with more than $500 million in annual sales. 2 Drink Less, Drink Better At the consumer level, consumption of table wine (below $5 retail price) was in decline, while consumption of fine wine (above $5) was increasing.
There was also a relative shift in world wine consumption from traditional wine-producing countries to import-dependent countries, driven by both declining per capita consumption in traditional producer countries such as France, Italy, and Argentina and increasing per capita consumption in markets such as the United Kingdom, the United States, Scandinavia, and emerging wine markets such as Japan (see Exhibit 4 for main consumers and 1 Private presentation from Vina Santa Rita on the wine industry, slide number 9, 2001 ( information in table provided by Rabobank International). William Echikson in Bordeaux, with Frederik Balfour in Sydney, Kerry Capell in London, Linda Himelstein in San Mateo, and Gerry Khermouch in New York, “Wine war. Savvy New World Marketers are devastating the French wine industry,” BusinessWeek Online, p. 2, http://www. businessweek. com/magazine/content/01_36/b3747001. htm, October 22, 2002. 2 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 Exhibit 5 for main importers). In addition, the publicity accorded the “French Paradox”3 spurred a change in consumer preference toward red wine (70% of worldwide consumption in 2000).
The world wine business was valued at $150 billion in consumer value and at $60 billion in wholesale value. 4 International wine trade had grown at a 4. 3% compound annual rate between 1995 and 1999. However, during the same period, trade volume growth from the New World countries reached an 18. 3% compounded annual rate,5 as the spread of fine-wine drinking beyond the upper class created a market for American, Australian, and Chilean wines mainly focused on light, fruity flavors of low-price fine wine. World Market Scenario in 2001
The wine industry was entering a period of grape oversupply. The World Wine Report projected a yearly increase of consumption of less than 1% up to 2006. 6 Despite a reduction in planted areas in the Old World, increases in the New World countries would generate an estimated worldwide overproduction of 2,080 million gallons7 by 2006. 8 David Combe, a former Australian trade commissioner and wine industry executive, predicted that the wine industry would be marked by fierce competition, leading to a drop in overall prices.
Combe also quoted a winemaker at NeibaumCoppola, one of California’s prestige wineries, as saying, ”Guys who used to sell wine easily for $50 a bottle will find things going sour. . . . Before long, I am certain that you’ll see wine that used to sell for $40 going for $30. ”9 Another trend was the growing concentration in distribution. According to the Wine Institute (the Californian wine trade organization), the number of wine wholesalers in the United States had shrunk by close to 75% between 1963 and 2000,10 and about one-third of all wines were sold through just five of them. 1 Distribution concentration was even greater in the United Kingdom, where most wines were no longer bought in specialty liquor stores but in supermarkets, which now accounted for 60% of wine volume. Supermarket purchasing executives favored suppliers that could provide large volumes and contribute to marketing budgets, and they preferred to deal with a small number of 3 “The French Paradox” refers to the coincidence in France of lower-than-average mortality rates from cardiovascular disease and higher-than-average consumption of saturated fats, such as butter and cheese.
In 1991, before 35 million American TV viewers, Doctors Curt Ellison and Serge Renaud presented research findings that attributed this to the beneficial effects of the higher-than-average consumption of red wine. Red wine sales jumped dramatically after the airing. 4 “Wine Business. Drivers are reshaping the industry,” Food and Agricultural Review, Rabobank International, October 2002, p. 3. 5 Private presentation from Vina Santa Rita on the wine industry, slide number 9, 2001 (information in table provided by Office International de la Vigne et du Vin, 2001). 6 “Strategic
Vision of the Chilean Viticulture Industry and Strategic Plan for Vines of Chile 2002–2006,” Interbrand, October 2001, p. 10. 7 1 gallon = 3. 85 liters = 5 bottles of 750 ml = 0. 43 cases ( of 12 bottles of 750 ml). 8 “Strategic Vision of the Chilean Viticulture Industry and Strategic Plan for Vines of Chile 2002–2006,” Interbrand, October 2001, p. 10. 9 John Schreiner, “The Barbarians are at the gates,” http://www. newssgurus. com/index. cfm? do=display_articles &stories=4722, article number 5043, October 10, 2001. 10Matt Kramer, “Wines Changing Landscape,” http://www. winespectator. om/Wine/Main/Feature_Basic_Template/ 0,1197,1078,99. html, November 1, 2001. 11 Barry Bedwell, “Wines & Vines: Grapes Supply Trends Has the Tide Turned? ” http://www. findarticles. com/cf_dls/ m3488/3-81/60904325/p1/article, October 23, 2002. 3 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. 503-044 MontGras wholesalers offering a comprehensive selection of wines from around the world. The consequent difficulty experienced by small and medium-sized wineries in accessing distribution had resulted in a number of alliances with larger players.
There were, however, different opinions on where these trends would lead. The Australian wine industry, in a document called “Strategy 2025,” forecast: Global product branding with multi-variety and multi-country sourcing will develop, but on a micro-scale there will be a paradoxical interest in premium wines with a specific regional and sub-regional identity. Globalization also will see the widespread extension of wine company alliances and joint ventures across national boundaries. . . The expectation is that while the volume of wine sales will drop (by 2025), the value of the world wine market will rise as consumers demonstrate a willingness to pay more for consistently higher quality wines. 12 The Australian wine industry was often cited within the trade as the role model for transforming an agricultural commodity into a quality, branded-image product. In order to secure a growing share of the international wine market, the Australian wine industry, which enjoyed considerable government support in its export drive, undertook a five-year strategic-planning process.
Its latest report concluded that the Australian industry’s future lay in branded wine products, reflecting the distinctiveness of variety, region, and producer and aimed at maximizing the advantages of wine in capturing complementary business growth in tourism, food, and lifestyle products. Chile Government and Economy Stretching 2,666 miles north to south between the Pacific coast of South America and the Andes Mountains, Chile was colonized by the Spanish in 1536 and formed its first independent government in 1810.
In the mid-1970s, the military regime of Augusto Pinochet pioneered trade liberalization in Latin America, eliminating nontariff barriers and simplifying Chile’s tariff structure to a single import tariff rate. Successive democratic governments, restored in 1990 after 16 years of military dictatorship, maintained these liberal economic policies in view of their success in promoting economic growth. In 2000, goods and services exports accounted for 32% of gross domestic product (GDP).
The largest copper, fruit, and farmed-salmon exporter in the world and a growing player in the international wine trade, Chile was negotiating with the United States and the European Union free-trade agreements that it hoped to conclude by 2002–2003. The population of Chile in 2001 was approximately 15 million (see Exhibit 6 for country macroeconomic data). The Chilean Wine Industry Chile was the oldest wine producer in the New World. Through four centuries its optimal natural conditions for grapevine production had attracted many migrant European winemakers.
Because of the natural barriers surrounding the country (the Pacific Ocean to the west, the Atacama Desert to the north, the Andes to the east, and Antarctica to the south), Chile had been the only country not to 12 Wine Titles Web page, http://www. winetitles. com. au/strategy2025/2025-6. html, November 8, 2001, p. 1. 4 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 suffer from the phylloxera epidemic that swept the vineyards of the world in the mid-1800s. 3 The three main wine-growing regions of Chile, shown in Exhibit 7, enjoyed a temperate Mediterranean climate of warm days, cold nights, and well-defined seasons. For most of the twentieth century, Chile had produced low-quality wines of blended grapes, with the planting of new vines and the building of new wineries inhibited by protectionist laws. Deregulation in the mid-1970s soon led to new plantings and to a technical upgrading led by the Spanish entrepreneur Miguel Torres. Soon, many other vintners followed him, improving planting and irrigation and incorporating stainless steel tanks and French oak barrels.
Production volumes soared until the crisis year of 1983, when overproduction and a significant reduction in domestic consumption produced a sharp decline in prices. 14 Middleton recalled: The crisis led to industry consolidation. Prior to the crisis, there were 60 to 80 wineries. Most of the small players used to sell bulk wine to larger wineries that bottled it, branded it, and distributed it under their own labels. The number of wineries fell to 15 in 1990, as the large players bought the smaller ones and others went bankrupt. This also led to crop replacement and a drop in vine acreage.
The Export Boom of the 1990s By the mid-1980s, Chilean wineries, many now under foreign ownership or management, started to produce higher-quality varietal wines for export. Middleton explained: At that time, focusing on exports was a matter of survival because of domestic overproduction. Selling wine in Chile was not profitable anymore—the price of a liter of water was higher than the price of a liter of bulk wine. Compared with the local consumer, who was mainly buying inexpensive low-quality wine, the foreign consumer was more sophisticated and had greater buying power and was therefore consuming finer wine. . . It took around five years for the industry to upgrade its production process, adapt its style of wines, and improve marketing techniques such as labeling, by which time it could compete in the export market. In 1996 to 1997, when many wineries were ready, there was a shortage of wine in California and in Australia,15 so American and Australian wine producers came to Chile to buy in bulk to make up their volumes. The price of grapes went up 400% between 1992 and 1998. This drove people to continue planting in Chile.
Matias Elton, general manager of San Pedro, the second-largest Chilean winery, recalled that other markets also became attractive export destinations for Chilean wineries: In 1998, Chile benefited from the boom of the Japanese market, where consumers were ready to pay high prices for good wine. Some Chilean wineries stopped supplying some of their existing customers in order to take advantage of this opportunity. But then the Japanese market contracted significantly, and those wineries had difficulties restarting their previous commercial relationships, since the trust had been lost. 3 A type of small insect of the genus phylloxera that spoiled grapevines. Winemakers lived in fear of phylloxera, which could quickly decimate whole wine regions, as it had done in Europe in the 1850s. 14 The two main reasons for the decline in local consumption were a domestic recession and a significant shift from wine to beer and soft drinks. 15 The Californian shortage was due to a phylloxera outbreak. In Australia, the change in consumer trends toward red wines had left wineries with a surplus of white chardonnay and a shortage of red wines. Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. 503-044 MontGras Elton estimated that the Chilean wine industry as a whole generated operational margins of around 15% and a return on capital employed of around 7% (see Exhibit 8 for estimates of total investments in the Chilean wine industry). Chile was a low-cost producer, mainly because of land prices: the price of the land could vary from $2,000 to $20,000 per acre (unplanted), some six to 60 times cheaper than in California’s Napa Valley.
Middleton added: “Chile’s production cost will be really unbeatable once the cost of dry goods [which included cork, bottle, capsule, and carton] drops to the level of other competing countries. ”16 Chilean wine had achieved a “value for money” reputation across all price points, and although it was usually positioned at the low end of the fine-wine range, most commentators agreed that the quality of Chilean wines had improved constantly through the 1990s.
This had partly resulted from increasing investment by French, Spanish, and Californian wineries in joint ventures with Chilean vintners, which not only increased quality but also opened new marketing channels (see Exhibit 9 for a list of foreign investments and joint ventures). By 2000, Chile exported almost $600 million of wine (up from $51. 5 million in 1990) to 90 countries on five continents (see Exhibit 10 for the breakdown of Chilean wine exports and Exhibit 11 for export destinations).
The number of export vintners had grown to more than 80 in 2000, and the planted acreage of fine wine had nearly tripled since 1990 (see Exhibit 12 for the evolution and breakdown of planted area by main grape varieties). In 2000, the four top industry players accounted for 45% of exports. 17 Smaller “boutique” wineries, such as MontGras, focused on exports of higherquality wines. The boutique wineries were represented by Chilevid, an industry association founded by six firms in 1992 with the sole objective of developing export promotions.
Chilevid, of which Middleton was chairman in 2001, had 35 members, representing 10% of total Chilean wine exports. The association invested around $1 million annually in international fairs (e. g. , The London Wine Fair Trade, Vinexpo in Bordeaux), wine-tasting events, and contests. Elton, besides being general manager of Vina San Pedro, was the marketing director of Vinas de Chile, the larger and older industry association with 39 wineries representing 90% of bottled wine exports and around 90% of the domestic market. Vinas de Chile also strived to promote sales abroad, investing $1. 3 million a year in similar efforts.
Wine Industry Challenges Chile was expected to suffer the same grape oversupply as the rest of the world. The Asociacion Vinas de Chile forecast a surplus of some 30 million gallons of Chilean wine by 2006, based on new planting rates and assuming 10% annual export growth and static domestic consumption. Oversupply had already caused downward price pressure—according to Middleton, the price of grapes had decreased by 40% between 1998 and 2001. Grape growers who had not secured contracts to sell to wine producers, and wineries without a strong brand and distribution, were especially vulnerable.
According to Vinas de Chile, this could generate an increase in exports of bulk wines with competition based on price, which could in turn result in Chilean wines being perceived only as a low-price alternative. 18 The silver lining to this cloud for MontGras was that consumption of highquality brands was steadily increasing, while the consumption of more traditional lower-quality brands had fallen significantly (see Exhibit 13 for local consumption per capita of wine versus beer and soft drinks). 16 The high cost of dry goods in Chile was due to the limited number of suppliers. 7 Vinas de Chile’s estimates. 18 “Strategic Vision of the Chilean Viticulture Industry and Strategic Plan for Wines of Chile 2002-2006,” Interbrand, October 2001, p. 11. 6 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 In Middleton’s view, the key challenge facing the Chilean wine industry was “to build an image that differentiates us from our competition. ” He added that Chile had to take advantage of the quality of its grapes, developing premium wines across a wider spectrum of varieties.
Elton added: “The key question is whether the Chilean wine industry will be able to achieve a 10% export volume growth over the next five years without having to reduce its prices. ” At the initiative of Elton, Vinas de Chile had retained Interbrand, an international marketing consulting firm, to develop a strategic plan for the whole Chilean wine industry. The stated objective was to grow 10% a year in exports and reach sales of 5. 46 gallons per capita in the domestic market by 2006.
According to the market study that Interbrand conducted in some major export markets,19 the country of origin was one of the key variables in the consumer decision process when it came to purchasing wine. 20 The study indicated that Chile—as a country—was barely known and had no specific image. However, it confirmed that Chilean wines had built a solid reputation as “good value for money. ” Elton explained: From a customer standpoint, the country of origin is key in the selection process of a wine, especially a fine wine. Think of the sensation that is produced by having a fine French wine on your dinner table.
Meanwhile, Chile does not have an attractive image as a country, and the only selling tool the Chilean wine industry has which has any leverage with the consumer is price. Interbrand’s proposal was to develop a new positioning for the whole Chilean wine category through a “Wines of Chile” marketing program designed to upgrade the image of Chile and its wines. The proposed brand-building effort was an aggressive five-year promotional plan in target markets, including the opening of promotion offices in the United Kingdom, Germany, Japan, and the United States, and the organization of yearly events such as ” Wines of Chile Week. The cost of the five-year campaign was estimated to be $18 million. Vinas de Chile and Interbrand were trying to convince all the industry players, including Chilevid members, to combine efforts and cofinance the project. The industry plan would be implemented from a new organization that would replace the export promotion efforts of both Vinas de Chile and Chilevid (which would continue to exist as industry associations). Discussions were in progress in the industry. Luis Felipe Edwards Jr. a winery owner, commented, “It will be difficult to make all the industry players agree and pay for an industry plan unless its cost is distributed in proportion to the current export sales of each company, so every player would invest in accordance with its financial capabilities. ” Elton added, “I believe that the small and medium-size companies have more to gain than the large companies like San Pedro that are already strongly installed in the key exports markets. ” MontGras Vina MontGras was founded in 1992 by Hernan Gras, a third-generation winemaker with international experience; his brother Eduardo; and Cristian Hartwig.
With the objective of producing export-quality wines, they bought vineyards in the Colchagua Valley and built a state-of-the-art winery. Vina MontGras grew to be one of the largest winery “boutiques” in Chile with production of 234,000 cases21 in 2001 (see Exhibit 14 for financial data). It ranked 20th among the Chilean wine exporters and, as with most of the other boutiques, its goal was not to compete against the larger 19 Including the United States, the United Kingdom, Germany, and Japan. 20 The other variables included price range, type of wine (red or white), variety, terroir, and vintage year. 1 One case contains 12 bottles of 750 ml, equivalent to 2. 34 gallons. 7 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. 503-044 MontGras Chilean wineries but instead to produce higher-quality wines that commanded premium prices. Table A shows how MontGras managed the mix of varietal wines, priced $7–$8 a bottle at retail, and reserva wines, in the $12–$25 retail price range. Table A Year MontGras Product Mix 1996 1997 1998 1999 2000 Varietal Reserva Source: MontGras. 84. 6% 15. 4% 92. 4% 7. 6% 1. 4% 18. 6% 62. 1% 37. 9% 55% 45% While Hernan Gras was president and chief winemaker of MontGras, Middleton, not related to the Gras family, ran the company as CEO from 1995, having joined the firm as export manager. Middleton had been working in the wine industry for 10 years, after previous marketing experience at S. C. Johnson and with a local salmon company. His entrepreneurial spirit and his passion for the wine business were reflected by the fact that he and his wife founded a chain of liquor stores in Chile, which she continued to manage.
MontGras employed 97 people, only 13 of whom worked at the headquarters in Santiago, with the remainder located at the vineyards and at the winery in the Colchagua Valley. The Vineyards The first MontGras vineyards were planted in 1993 on 124 acres, using foreign clones and cuttings from the oldest wineries in the region. During the following four years, additional acres were bought and then planted with cabernet sauvignon, merlot, carmernere, chardonnay, and sauvignon blanc vines, until the vineyards reached 500 acres.
The first harvest took place in 1994. The original objective, of selling 150,000 cases by 2005, soon proved to be far too conservative, with 220,000 cases sold in 1996. New planting continued, and the estate was expected to expand to 650,000 cases by 2005. The vineyard manager—Alejandro Hartwig—supervised 42 people and contracted temporary labor, of which there was an ample supply in the valley, for pruning and harvesting. Harvesting took place between February and April, and grapes were handpicked. 2 It took one to two years for vines to begin producing a crop and five years to reach full production. As Middleton commented, “Growing grapes is based on trial and error, and you can only run one experiment a year. ” The vineyard manager faced decisions about which grape variety to plant, how to arrange and tend the vines, and exactly when and how to harvest. MontGras vineyards produced 62% of the winery’s grape supply. This degree of self-sufficiency was particularly important for reserva wines as a way to control quality.
For external supply, MontGras purchased grapes from Santa Laura, a vineyard that belonged to the Hartwig family and entered three- to five-year supply contracts with independent growers from the Colchagua Valley. The Ninquen flagship During the 1990s, MontGras invested over $3 million in vineyards on the Ninquen hill, within the estate. This hill constituted an unusual terroir, with soil of loam and 22 Lower-quality wines used machine picking. 8 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 oam clay and subsoil of decomposing rocks, and it was expected that this would produce low yields of ultra-premium-quality wine. 23 As this was the first hilltop vineyard in Chile, MontGras had been advised by a winery from California’s Napa Valley in California with expertise in this field. Several varieties of vine were planted on the hill, and they were expected to produce 15,000 cases a year. The Winery and Winemaking Winemaking was capital intensive, in terms of both fixed assets and working capital. Processing equipment and buildings were costly but were utilized for only a short period of the year after the harvest.
Holding wine inventory, which was part of the production process, called for substantial working capital. Finished wine was stored for a minimum of 12 months, and sufficient inventory had to be kept to supply the next 12 months of sales. According to Middleton, annual working capital was equivalent to one-time annual sales. The more upscale fine wine MontGras produced, the more working capital it would need in order to finance aging. Cumulative investment in the installations of the MontGras winery had surpassed $15 million, producing one of the most modern wineries in Chile with a total capacity of 1. million gallons. The quality of MontGras’s products was determined by the quality of the soil and the grapes, the experience of Hernan Gras as a winemaker, and the collaboration of Paul Hobbs, a renowned Californian consulting winemaker who had been refining the MontGras wines since 1999. Different styles of wine required different fermentation and aging processes. For the lower-quality varietals, the company used 158 stainless steel tanks. By contrast, oak barrel aging was critical for the premium lines, and the company owned more than 3,600 French and American oak barrels.
These barrels were used a maximum of four to five years, and the replacement rate was approximately 20% a year. The overall MontGras gross profit margin had improved over time due to a change in product mix toward higher-quality wines and vineyard maturity producing better yields (see Exhibit 15 for cost structure of grape production and winemaking). The expansion and improving profitability of the winery had benefited the local community—as Middleton remarked, “We had to expand the winery’s parking lot since a growing number of our employees are trading their bicycles for cars. Export Strategy Ninety-eight percent of MontGras’s annual production was exported, to a total of 24 countries in 2000 (see Exhibit 16 on export destination by country and product range). In 2000, MontGras ranked 20th by value among the 200 Chilean wine exporters. Although the United States was the largest export for Chilean wines, MontGras’s largest export market was the United Kingdom. Middleton commented: “The top export markets for Chilean wine are the U. S. , the U. K. , Canada, and Germany, in that order. At the moment we only really do decent business in the U. K.
We could easily double sales if we could develop these other markets. ” In the early years, MontGras had relied on selling to third parties’ private labels for up to 60% of shipments, but by 2000, the company managed to exit completely the bulk-wine business and sold exclusively wine under its own labels, which had won numerous awards. 24 The average price per case achieved by MontGras had increased gradually (see Exhibit 17). 23 Although not universally applicable, the conventional wisdom in the wine industry was that vineyards with low yields (usually caused by poor soil) produced better grapes and therefore finer wines. 4 For a list of awards, visit http://www. montgras. cl. 9 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. 503-044 MontGras MontGras’s sales department consisted of an export manager, Benjamin Silva, and three support staff. In addition, Hernan Gras and Middleton made important contributions by participating in activities such as trade shows and wine-tasting events. In each country to which MontGras exported, distribution was managed by an independent local agent, usually contracted on the basis of reciprocal territorial exclusivity (i. e. the agent was the only MontGras distributor in the country or region, and MontGras was the only Chilean wine on that distributor’s list). MontGras and the agent jointly developed a strategic plan that covered five-year sales forecasts, product mix, positioning, pricing, and the channel mix between off-premise and on-premise sales. 25 The agent then prepared and submitted for approval a marketing plan, including trade promotions, media, public relations events, wine tastings, price promotions, and sales force incentives. The marketing budget was usually funded in equal parts by the agent and MontGras.
In 2000, the company invested around $400,000 in marketing (see Exhibit 18 for the MontGras marketing budget). Its marketing investment per case varied according to the type of wine (it was twice as high for the premium line than for the varietal line) and according to each destination. Middleton believed that the on-premise channel accounted for 15% of MontGras’s export sales, compared with 10% for Chilean wines overall. Based on continuing new planting on the MontGras estate, Middleton had a clear objective of export sales of 350,000 cases by 2005. The focus would be on red wines, and 240,000 cases would be reserva.
MontGras management had prioritized penetration of the U. S. market, particularly the offpremise channel, as the key to achieving this target and expected a minimum of 100,000 cases of this total to be sold in the United States. Tables B and C give historical data on export sales in the United Kingdom, MontGras’s largest export market, and in the United States. Table B 1995 4,030 Source: MontGras. MontGras Export Sales to the United Kingdom (cases) 1996 13,981 1997 26,425 1998 41,611 1999 88,596 2000 80,384 2001 est. 117,125 Table C MontGras Export Sales to the United States (cases) 996 1997 104,937 33,985 138,922 1998 10,011 36,064 46,075 1999 11,730 32,885 36,970 2000 0 17,886 17,886 2001 est. 0 8,394 8,394 Private Label MontGras Label Total Source: MontGras. n. a. n. a. 37,837 25 “On premises” referred to distribution channels where the product was consumed on the premises, such as restaurants, hotels, and bars. “Off premises” referred to direct consumer purchase for consumption elsewhere, such as supermarkets, wine shops, duty-free shops, and wine clubs. 10 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 The U. K. Market The U. K. arket—the major export destination for MontGras—was one of the most competitive in the world and had experienced significant growth in per capita consumption, from 2. 51 gallons in 1981 to 5. 02 gallons in 1999. With the larger Chilean wineries such as San Pedro already strong in the lower price ranges, MontGras had made the strategic decision to offer only its reserva lines there and had grown to be one of the top 10 Chilean wine exporters to the United Kingdom by value. Middleton visited the United Kingdom five to six times a year to meet with journalists and to work with the importer, reviewing the budget and the marketing plans.
He believed that MontGras’s success in this market had as much to do with having built a strong relationship with this distributor as with the quality of the wines. This distributor, with whom MontGras had worked successfully since 1996, enjoyed a strong penetration in restaurants, and since restaurants did not like to see the same wine sold in supermarket chains at one-third of the price, he had persuaded MontGras to allow sales to the onpremise channel to be branded as DeGras, with the MontGras label used exclusively in the offpremise channel, which represented 75% of MontGras’s sales. U. K. arkups were typically 10%–15% for the national importer and 20% for a retailer. Although these were lower than in the United States, this was not reflected in retail prices because of the higher taxes levied on alcoholic drinks, which in 2001 were ? 11. 50 per case. 26 Middleton commented: “The high fixed tax makes this a great market for reservas. Because the tax is fixed at ? 1 a bottle regardless of retail price, lower-end wines are relatively expensive, and a ? 7. 99 wine might be at least twice the quality of a ? 5. 99 wine in terms of quality of the wine itself. ” The most distinctive characteristic of the U. K. etail market was the dominance of the leading supermarket chains, the top four of which accounted for 75% of all grocery and 60% of all wine sales. Their dominance of wine sales was recent but still growing, with specialty liquor stores closing weekly, and their success was attributed not only to their dominance of food shopping but also their aggressive promotional marketing of wine; Middleton estimated that 75%–80% of their wine sales were made on promotion. One of the export dilemmas facing Middleton was an offer he had received from Tesbury, one of the leading supermarket chains, to include MontGras in a forthcoming promotional program.
This featured MontGras in two two-week promotions three months apart. The first was based on the gold medal that MontGras had recently been awarded in the leading U. K. wine magazine’s annual survey of the wine market. MontGras had won the gold medal for “Best Value Wine” for its Merlot Reserva 2000, which usually retailed for ? 6. 79. Tesbury was planning a “Gold Medal Wines” promotion in which 10 medal-winning wines would be offered at a “? 1 off” price. In addition, three months later the store was planning a “South American Wines” promotion, featuring six wines (three each from Chile and Argentina) offered at 15% off regular retail.
In both cases, the promotion would be supported by ? 100,000 of press advertising, direct marketing to regular store customers, and point-ofsale materials. Middleton had consulted the U. K. national distributor as well as other contacts within the market and reported: The numbers are staggering. One export manager told me that in a similar promotion last year they had sold 55,000 cases in the first three days of the promotion. That’s higher than our bottling rate! It was just before a holiday weekend, and they moved 50% of the promotion volume in those three days. Normally we sell about 300 cases a month through Tesbury.
It also appears that they simply take the ? 1 or 15% straight off our invoice and pass it all straight 26 ? 1 = $1. 50 in November 2001. 11 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. 503-044 MontGras through to the consumer. This time around, they’re not asking us to contribute to the promotional campaign—I suppose they must be very keen on bringing us in, since we won the overall gold medal. But I assume that once we got into the system and got to feature regularly in their promotion program, we would have to stump up some of the promotion budget too.
It’s all down to relationships and being in the system. If we developed a close relationship with Tesbury, we could expect to be featured in two promotions a year and to be at or near the top of their list of Chilean suppliers. Middleton also reported that the U. K. distributor expressed mixed feelings about these promotions. Although MontGras would ship direct to Tesbury, the distributor would still receive a drop-shipment commission of 10% on the promotion volumes. While this offered a windfall in the short term, he expressed concerns about the damaging effect on the rest of the U.
K. business, and Middleton also sensed a worry that deals made directly between MontGras and Tesbury would threaten the distributor’s position over the long run. Middleton summarized: This is tempting, but risky business. The extra volumes would transform our business in the United Kingdom, and thus our export volumes this year. The promotions would also raise our awareness, because of the press ads and in-store merchandising, and would help us competitively, since we would become one of the best-known Chilean wines.
But all this would come at the expense of undermining our positioning strategy, because of the lower price points and the strong price message it gives to the market. The U. K. distributor was simultaneously developing a marketing plan for the first vintage of the flagship Ninquen wines, which would be available in the U. K. in early 2002. He proposed a ? 20,000 contract with a public relations firm to generate coverage of the new wine and was aiming at 5,000 cases in the first year, 80% of which would be in the on-trade segment. Tesbury had also agreed to take 50 cases with a retail price of ? 5. 99. This was expected to spearhead a drive into specialty stores, such as delicatessens and gift shops—DeGras had recently been stocked in Harrods’, the London department store with strong tourist traffic, at a ? 12. 99 shelf price. The U. S. Market Unlike the U. K. , the U. S. market was still fragmented at the retail level, mostly because of regulatory restrictions that stipulated a three-tier distribution system: the producer had to sell to a state-licensed wholesaler, who had to sell to a state-licensed retailer, who was the only one allowed to sell directly to the consumer.
Companies could vertically integrate from production to distribution over no more than two layers. In the case of imported wine, it had to be sold to an importer who would in turn sell it to a state-licensed wholesaler. In some states, liquor store chains were prohibited, and in some cases supermarkets and other food stores were not allowed to carry alcoholic drinks. Middleton explained: Imported wines rely on 10 markets: Florida, New York, Connecticut, New Jersey, Massachusetts, Georgia, Texas, California, Illinois, and Oregon. There are 50 to 60 wholesalers in total.
However, you would have to spend two years speaking to 200 people to have a fair view of the U. S. market, since there are no big retail chains, whereas you would only need to talk to five supermarket wine buyers to understand the U. K. market. A large wholesaler can handle a portfolio of approximately 2,000 brands and have a sales force of 100 people. With such a broad portfolio, the sales force are mostly just order takers, so the importer’s salesperson has to visit the retailer to motivate them to place orders with the wholesaler. See Exhibit 19 on the economics of exports to the U.
S. 12 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 Previous distribution agreements in the United States MontGras had already experienced two unsuccessful partnerships in its attempts to penetrate the U. S. market. In 1996, MontGras entered a distribution agreement with a Napa Valley winery after the owner visited Chile and proposed itself as an importer. MontGras was enthusiastic, believing that the two family-owned wineries would work well together, both in distribution and in exchanging winemaking expertise.
In addition, MontGras was not big enough yet to appeal to a large importer with a nationwide sales force. This Californian winery had a small national distribution operation focused on wines above $15 retail price and was already acting as an importer for wines from Australia, Argentina, and South Africa. Although the long-term focus for MontGras was in the $10–$15 range, production was still primarily at lower value points, and so the entry strategy was built around varietals in the $6. 99– $7. 99 range.
Sales grew rapidly, and by 1998 MontGras was the distributor’s largest brand by volume, justifying an invitation to the entire sales force of 12 to visit Chile to learn more about MontGras. However, in June 1998, after more than two years of collaboration, the distributor changed strategy and terminated the contract abruptly. MontGras was never informed of the reason for this change, but Middleton speculated that the U. S. winery had decided to enter these lower price points with its own wines and terminated MontGras to avoid conflict of interest in sales and distribution.
In 1999, after talking to several importers, Middleton set up a distribution agreement with the fine-wine division of one of the largest distributors in the United States. This distributor handled a portfolio of high-volume spirits and wines through a sales organization of 100 people, with a separate sales force of 16 focused on selling fine wines. A short while after the agreement took force, the distributor unexpectedly merged the two separate divisions, as a result of which the fine-wine sales force was converted into wine consultants to the other division.
Middleton realized quickly that the sales were not moving and that the sales force did not even know that MontGras was in their portfolio. MontGras then decided to end the relationship by the end of 2000. Selecting a new U. S. partner In 2001, Middleton hired a consultant to help the winery in the selection of an importer for the U. S. market. This was a tougher challenge than in 1995, since the number of Chilean wineries exporting to the United States had increased from 25 to 65 in that period, while the number of national importers remained at about 15. In 2000, imported Chilean wines accounted for 11% of U.
S. wine shipments by volume, but only 6% of dollar sales. Middleton believed that MontGras’s focus on the over $10 segment would appeal to an importer, although it would mean having to compete with Californian wines. The consultant spent three full days at the winery, understanding the brand and developing potential strategies, and then together with Middleton drew up a list of criteria for selecting a partner that included the quality of its brand portfolio, the quality and size of its sales force, its commitment and ability to build the brand, and above all shared common objectives with the winery.
By November, MontGras was in negotiation with two importers that showed genuine interest in the project. The first, World Wine Importers, was already representing a Chilean winery in the varietal segment but was interested in working with MontGras, especially in the reserva line. It ranked among the fastest-growing sources of premium imported wine and spirits, selling 200 different brands from seven different countries; had a 60-strong sales force; and expected 2001 revenues of around $200 million. It proposed a “value for money” positioning to compete against Californian wines, recommended retail pricing at $7. 9–$10. 99, and on this basis forecast volumes of 40,000 cases in the first year rising to 120,000 cases by the third year, with a forecast mix of 70% varietals and 30% reservas. The other importer, Cabo Imports, had been founded in 1978 as the importer of a single Italian wine and by 2001 had grown to a portfolio of 50 brands, with 70% of its sales still coming from Italian imports. It sold 500,000 cases annually of its largest brand, an Italian import, and 5,000 cases of its 13 Copying or posting is an infringement of copyright. [email protected] arvard. edu or 617-783-7860. 503-044 MontGras smallest brand. The firm had a sales force of 35 and expected 2001 revenues of $112 million. It also already carried a lower-end Chilean brand, aiming at the $5. 99–$6. 99 retail price point. Cabo had a different view of MontGras’s potential in the United States, arguing that it was possible to raise the perception on MontGras’s quality and therefore raise the price in order to maximize the return for all parties. To that end, Cabo proposed that MontGras create the position of a “brand champion,” a full-time
MontGras employee based in the United States who would be the face of the brand for retailers and customers and would organize tastings in wine shops and promotions and incentives for the sales force. This idea was described by Middleton as “creative and appealing,” and he estimated that such an initiative would cost some $120,000 annually. Cabo recommended a range of retail price points from $7. 99 to $14. 99 and on this basis forecast sales of 25,000 cases in the first year increasing to 60,000 cases by year three, with an expected mix of 60% reservas and 40% varietals.
In addition, Cabo was interested in Ninquen as a flagship for the line, targeting a $24. 99 retail price, at which it forecast sales of 1,500 cases by year two. MontGras had earlier in 2001 exported some sample wines for review by U. S. wine journalists, and the results had just been published. In the Wine Spectator, which used a proprietary pointsscoring system out of 100, MontGras wines had been rated between 85 and 87 and received favorable written reviews. These ratings placed them well among the higher ranks of Chilean wines and justified prices of up to $15 at retail. Marketing Challenges
The export strategy had to be formulated in the context of the broader marketing objectives of MontGras. Critical to this was the establishment of Ninquen as a flagship for the brand, with the clear objective of raising the perception of quality, and thus the price, of the whole portfolio. Middleton explained: Most consumers know little about wine; to them, price serves as an indicator of quality. I think that Chilean wines that are sold for $10 a bottle at retail are much better than Californian wines sold at $15 to $25, and blind-tasting results always put us on a level with wines priced quite a bit higher.
Why is the consumer ready to buy a Californian wine for $15 to $25 rather than a Chilean wine for only $10? My only answer is image, the better perception they have of the Californian wines in general. They know them better than Chilean wines. We know that for most consumers the sequence of criteria for selecting a wine is red versus white, then country, then price, then grape variety, and only then brand. And then he added: There are two ways to promote your wine: either you spend millions of dollars, like E&J Gallo, to build your brand, or you make your brand known through wine journalists and opinion leaders.
Wine should be promoted like cars—you promote your ultra-premium wine, and it has a halo effect on the whole range. That is why we are focusing right now on Ninquen. To be perceived as an ultra-premium wine, it has to be priced above $20 and has to be strong in the on-premise channel. If we are able to make Ninquen an exceptional wine that we will retail for $25 and get it known that it is as good as many bottles selling for $50, buyers and journalists will get excited. In this business, if you get good word of mouth and recommendations by wine writers, volumes can increase quickly—consumers are looking for guidance.
We are investing lots of money to invite journalists and buyers to Chile. We invite them through Chilevid, the Vinas de Colchagua winery association, or a selected group of wineries that agreed on a specific program. 14 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 Pricing strategy was the critical element of positioning, and there were concerns that the value positioning of all Chilean wines was undermining MontGras’s value proposition.
While Ninquen was a vehicle for achieving higher prices, Middleton was mindful that the international and local oversupply of grapes would put pressure on prices, especially at the lower end of the fine-wine segment. In addition, within the icon and ultra-premium segment, the recession that started in 2001 in the United States could drive consumers to trade down to less expensive wines. That could be an opportunity for the labels and the MontGras reserva lines if they were priced aggressively. Middleton had already conducted a price elasticity test in the United Kingdom.
The price of one carmenere reserva wine had been increased from ? 5. 99 to ? 7. 49 per bottle in a chain store over four months, and no impact on volume was recorded. Based on this, Middleton estimated that MontGras could achieve an average price of $35 free on board (FOB) per case in five years. However, he was still analyzing whether he could reach a higher target. He recalled the case of Montes, a Chilean boutique winery that enjoyed an average FOB price of $44 per case. The business strategy of Montes was somewhat different.
It sold 220,000 cases a year, with a sales force of nine people covering 45 countries, since the potential volume per country at this price level was more modest. Positioning Chilean Wines Middleton also had to make a recommendation to the board regarding the initiative of Vinas de Chile to create an industry plan to build an image around Chile and the “Wines of Chile. ” He agreed that the Chilean wine industry lacked a proper image, and he pondered how the investment in an industry plan would add value to MontGras’s strategy.
He recalled that the guest speaker at a recent dinner, a business school professor who had investigated the wine industry, expressed concern about building an image around “Wines of Chile,” since it raised the risk of standardizing the image of all Chilean wines. Certainly, while Chilevid members exported at an average $26 per case and were enjoying 24% annual growth, Vinas de Chile members achieved an average $21 and were growing at only 4%. Nevertheless, they represented 85% of all exports and therefore drove the perception of Chilean wines abroad.
Once Middleton ended up his meeting with the Wine Enthusiast journalists, he had to work on MontGras’s export strategy. He knew that the MontGras shareholders had differing views on the issue. How should they enter the U. S. market? With which distributor? Should they focus on a margin strategy or look for volume, or could they achieve both simultaneously? How would the “Wines of Chile” campaign impact MontGras strategy? Middleton could not delay the reentry to the U. S. market; however, he wondered whether the search for a joint-venture partner should not be a priority. 15 Copying or posting is an infringement of copyright.
[email protected] harvard. edu or 617-783-7860. 503-044 MontGras Exhibit 1a World Wine Production 1996 1,560. 962 1,528. 067 790. 426 490. 802 329. 706 219. 718 224. 692 175. 096 246. 480 99. 416 1,463. 860 7,129. 225 1997 1,432. 548 1,314. 641 863. 642 680. 576 351. 008 210. 979 220. 865 160. 519 153. 768 118. 279 1,463. 122 6,969. 947 Year 1998 1,411. 046 1,485. 650 785. 824 533. 000 329. 508 200. 265 281. 680 192. 802 93. 080 142. 344 1,475. 476 6,930. 675 1999 1,636. 310 1,509. 893 849. 264 539. 500 413. 080 207. 179 319. 435 221. 297 204. 334 124. 969 1,489. 783 7,515. 044 2000 1,553. 266 1,405. 16 1,086. 530 650. 000 325. 962 285. 551 262. 102 222. 405 174. 031 173. 525 1,530. 438 7,669. 526 % Share 2000 20% 18% 14% 9% 5% 4% 3% 3% 2% 2% 20% 100% 1 2 3 4 5 6 7 8 9 10 Wine Production (millions of gallons) France Italy Spain United States Argentina South Africa Germany Australia Portugal Chile Others Total Source: Adapted from Food and Administration Organization of the United Nations (FAO). Exhibit 1b World Wine Exports in Volume 1996 336. 365 348. 787 174. 962 52. 876 33. 714 41. 982 64. 092 50. 630 31. 193 32. 597 257. 567 1,424. 765 1997 391. 682 326. 304 225. 651 83. 659 40. 142 53. 053 57. 59 63. 689 26. 550 35. 527 274. 002 1,578. 218 Year 1998 425. 479 394. 967 266. 482 90. 909 50. 025 65. 523 57. 875 58. 440 27. 982 30. 996 237. 952 1,706. 630 1999 412. 834 476. 317 217. 080 91. 254 56. 030 68. 223 60. 198 49. 499 21. 128 25. 213 159. 393 1,637. 169 2000 385. 453 381. 558 202. 099 104. 611 80. 830 72. 005 62. 774 48. 763 44. 200 23. 951 157. 836 1,564. 080 % Share 2000 25% 25% 13% 7% 5% 5% 4% 3% 2% 1% 10% 100% 1 2 3 4 5 6 7 8 9 10 Wine Exports (millions of gallons) France Italy Spain Chile Australia United States Germany Portugal South Africa Argentina Others Total Adapted from FAO.
Source: Exhibit 1c World Wine Exports in Value 1996 4,824. 017 2,130. 132 1,094. 021 429. 337 293. 743 304. 491 537. 378 485. 185 186. 713 67. 678 1,161. 044 11,513. 739 1997 5,143. 070 2,098. 590 1,130. 678 535. 808 423. 990 394. 632 523. 396 413. 807 189. 307 128. 250 1,420. 822 12,402. 350 Year 1998 5,890. 723 2,365. 195 1,286. 912 611. 429 510. 422 512. 140 528. 281 435. 238 184. 969 152. 482 1,341. 429 13,819. 220 1999 6,101. 171 2,463. 772 1,313. 676 793. 650 523. 652 518. 921 520. 075 436. 314 121. 965 141. 007 1,176. 021 14,110. 224 2000 5,044. 48 2,229. 584 1,126. 106 903. 594 576. 822 530. 596 468. 958 352. 331 244. 753 148. 771 1,100. 856 12,726. 719 % Share 2000 40% 17% 9% 7% 5% 4% 4% 3% 2% 1% 8% 100% 1 2 3 4 5 6 7 8 9 10 Wine Exports (US$ millions) France Italy Spain Australia Chile United States Portugal Germany South Africa Argentina Others Total Adapted from FAO. Source: 16 Copying or posting is an infringement of copyright. [email protected] harvard. edu or 617-783-7860. MontGras 503-044 Exhibit 2 Price Ranges in the United States High Icon Price range:>US$50 volume market share: