Case Australian Wine (A) – A Global Challenger Professor Örjan Sölvell at the Stockholm School of Economics, Center for Strategy and Competitiveness, prepared this case based on public sources. The “old world” part of the case was carried out in collaboration with Professor Chris Bartlett at HBS in 2001. The case is developed for class discussions in the course “On Strategy and Competitiveness”. All parts of this case may be reproduced, stored in a retrieval system and transmitted in all forms: electronic, mechanical, photocopying, recording, or other. The case may be lent, resold, or hired out without the publisher’s consent. An accompanying textbook “On Strategy and Competitiveness – 10 Recipes for Analytical Success” can be downloaded for free at: http://www.clusterobservatory.eu/index.html#!view=documents;mode=one;sort=name;uid=77c78ae7-ec99-45a8-bfbf-ad89640f250b;id= 1 “The trick is to demystify what is in the bottle - simple labels, colorful packaging, and distinctive bottles” Keith Lambert, CEO Southcorp, Australia Europe with its leading ‘old world‘ wine producers — France, Italy, Germany, Spain and Portugal — had dominated the world wine industry since medieval times. However, during the last decade or so European grape production had moved from a 62% share of world vineyards in 2000 to only 39% in 20121. The global wine market was supplied by a highly fragmented and heterogeneous industry. The so called ‘new-world’ wine producers — from the U.S., Australia, Chile, and South Africa — had been gaining market share in the major markets around the world. Many old world producers argued that in their drive for efficiency and consistency, the new world producers had lost the depth, character, and unpredictable differences that came with more variable vintages made in traditional ways. Within the wine producing nations, vineyards, wine making and blending companies and other related firms and organizations, were naturally clustered around particular regions, hills and valleys, such as in the case of Bordeaux in France, Napa Valley in the U.S. and Barossa Valley in Australia. 1 http://www.bkwine.com/debate/world-wine-market-implications-for-winemakers-consumers-and-policy-makers/ 2 Figure 1 A Typical Wine Cluster Specialized Consumers Winemaking Publications Equipment Wholesale/Retail Barrels, tanks and wine storage Grape stock fermentation Fertilizer, Pesticides, Wineries/Processing supplies Herbicides Facilities Bottles , closures, Grape Harvesting Bulk wine trading labels and brokerage Equipment Growers/Vineyards Transportation and Irrigation Technology logistics services Marketing and Tourism advertising. Legal and financial Education, Research services. Agricultural and food processing Organizations State Government For Collaboration After decades of being dismissed for their attempts to compete with exports from France and Italy, the new-world wine companies had begun to win international respect also in the medium and premium segments. However, in spite of recent successes by the new world wine producers, French and Italian wine makers dominated world production and exports (Appendix 1 and 2). Global consolidation had begun in the 1990s and Australian wine companies were particularly active. Out of the ten top selling brands in the world in 2013, five came from Australia (Appendix 3). 3 The Old World Grape growing for wine making had been central to human culture at least since the ancient Greek and Roman civilizations. Particularly in Mediterranean countries almost every village had its local vineyards and winemakers. In the Christian era, as wine became part of liturgical services, monasteries began planting vines and building wineries. Eventually, the Benedictine monks raised viticulture to a new high level, making wine not only for religious use, but also to show hospitality to travelers requiring lodging. By the Middle Ages, the European nobility began planting vineyards as a mark of prestige, and a niche market for premium wine was born. Red wine from Bordeaux, referred to as “Clarets”, took a leading position. Following the French Revolution in 1789, the government seized many large estates, broke them up, but within a few years sold them back at auctions, often to rich wine trading families. Vineyards were often small and few farmers had the volume of grapes, or the time available, to make wine professionally. This became a specialist task undertaken by local wine makers and traders. For example in Bordeaux, the steps in the value chain from grapes to final markets were strictly regulated. As grapes were sold by weight, the growers’ emphasis was on maximizing yield. Only the large estates made their own wine, and were sometimes willing to sacrifice quantity for quality. To gain more control and compete with the larger estates, some small growers formed larger cooperatives. By sharing communal winemaking and bottling equipment, and sometimes pooling resources to distribute the finished product, they were able to participate in winemaking’s downstream profit. Regulation and Classification The industry’s cultural and economic importance attracted a great deal of political attention, and over the years laws, regulations and norms controlled almost every aspect of winemaking. Germany introduced a wine classification scheme in 1644. By the 1830s, these regulations had expanded to encompass 65 classes of quality, legislation prescribing ripeness required for harvesting, definitions of minimum sugar content, and penalties specified for those who added sugar. Even as late as 1971, laws were passed in Germany requiring registration of each vineyard and the appointment of a government panel to taste each vineyard’s annual vintage and assign it a quality level. Similar strict laws exist in France and Italy to this day. Within the industry, regional producers often added to the classification schemes and regulatory controls, as a way of differentiating their product in an increasingly complex market for wine. The classic French classification system was created by the Bordeaux Event Committee in preparation for the 1855 Exposition in Paris. To help traders and consumers recognize different qualities of wines—and to help distinguish Bordeaux as the region most notable for fine wines—they classified vineyards on one of five levels, from premier cru (first growth) to cinquième cru (fifth growth). This marketing tool immediately gained wide recognition. As a result, the government later codified much of the 1855 classification in the Appellation d’Origin Controllée (AOC) laws that extended the original Bordeaux concept by defining boundaries and setting the standards for vineyards and winemakers in France’s 4 other major wine-growing regions. These laws came to prescribe almost all aspects of production, from the permissible types of grape to the alcohol content of the wine. Later, other wine regions of France were given official recognition with the classification of Vins Delimités de Qualite Superieure (VDQS), but these usually regarded as of lower rank than AOC wines. Below VDQS were Vins de Pays or country wine primarily producing “vins ordinaires.” There was almost no movement within or between the hierarchies created by these classifications, since the French nurtured the concept of terroir, the unique and almost mystical combination of soil, aspect, microclimate, rainfall, and cultivation that they believed was at the heart of the unique taste of each region’s — and indeed, each vineyard’s wine. But terroir could not always guarantee quality. As an agricultural product, wine was always subject to the vagaries of weather and disease. In the last quarter of the nineteenth century, a deadly insect, phylloxera, devastated the French vine stocks. From a production of over 5 million hectoliters in 1876, output dropped to just 2 million hectoliters by 1885. Government and industry mobilized, eventually finding a solution in an unexpected quarter. Phylloxera- resistant roots of vines from the upstart Californian wine industry were imported and French vines were successfully grafted onto them. It was the first time many in the old world acknowledged the existence of a wine industry outside Europe. But in fact there were already a number of established wine clusters in the “new world”: Chile (1500s), South Africa (1600s), and Australia (1700s). Still in the 1980s and 1990s classification schemes were contested and there had been several scandals. Burgundy’s most famous vineyard, Chambertin, had its 32 acres divided among 23 different proprietors, and while a few had earned grand cru status, others were riding on that reputation to sell at $150 a bottle, legitimately labeled Chambertin, that according to wine critic Robert Parker was “thin, watery, and a complete rip-off”. Meanwhile, in Italy, the standards prescribed in DOC regulations were so often violated that the government was forced to introduce a DOCG classification in 1980 (where the G stood for guarantita) to restore consumer confidence to the most notable wine regions. And in Germany, government standards had become so diluted that, even for average vintages, over 75% of wine produced was labeled Qualitatswein (the German QbA quality standard) while less than 5% earned the more modest Tafelwein (table wine) designation. Microeconomic Conditions Although vines had a productive life of 60 to 70 years, they typically took 3 to 4 years to produce their first harvest, 5 to 7 years to reach full productive capacity, and up to 35 years to produce the best quality grapes