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Hedonic Price Analysis: a View of the Wine Industry in Kentucky Jiaji

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Hedonic Price Analysis: a View of the Wine Industry in Kentucky Jiaji Hedonic Price Analysis: A view of the wine Industry in Kentucky Jiaji Liang, [email protected] Selected Paper prepared for presentation at the 2018 Agricultural & Applied Economics Association Annual Meeting, Washington, D.C., August 5-August 7 Copyright 2018 by [authors]. All rights reserved. Readers may make verbatim copies of this document for non-commercial purposes by any means, provided that this copyright notice appears on all such copies. Hedonic Price Analysis: A View of the Wine Industry in Kentucky Abstract Many world-famous wine zones have been estimated through hedonic price method. Indeed, some objective attributes like grape varieties, vintage are significant in many former works. However, it is still necessary to continue to use this method to study in different regions because there are many reginal-unique attributes. Unlike most previous studies build in wine developed regions, this paper determines the local retail price influence from objective and subjective attributes of wine by estimating hedonic price functions in a wine developing region-Kentucky. Due to most local producers do not have world-wide reputation (or national reputation), it is difficult to figure the ranking effect from those wine celebrities which could be an important attribute variable to determine prices. The hedonic model need to be re-designed by those local attribute variables. The empirical result indicates wines made by single red vitis vinifera are 23.5% higher in retail price than American blend style wine. Compared to the Lexington- Frankfort area, prices of Louisville based wines are 11.8% cheaper and the price discount is 15% for West Kentucky. Compared to dry wines, off dry wines, semisweet wines, and sweet wines are associated with a discount of 16%, 20%, and 13%, respectively in their recommended retail price. A medal of some award adds 12.7% value to the retail wine price holding all other factors constant. For unique local attributes, bourbon barrels used to age wine adds 15% to the price compared to other aging vessels. Finally, holding other factors constant and on average, wine produced in dry counties is 8% cheaper than wine produced in wet counties. Key Words: Hedonic function, Kentucky wine, Local wine Introduction The American Wine industry has developed rapidly since the revoking of the nation-wide prohibition on wine-selling. The trend continues on till today. According to the International Organisation of Vine and Wine, the U.S. total wine production increased from 18,688 thousand hectoliters in 1995 to 23,089 thousand hectoliters in 2014. Meanwhile, the U.S. has the largest wine consumption in the world, which means a sizeable market potential for wine business to develop. Kentucky, among several other states, has planned to expand their wine industry for a long time. Although the state doesn't have the perfect natural conditions to plant high value vitis vinifera (European original grapes) wines as areas in California or Oregon, American local grapes, hybrid grapes and berries are planted successfully and have made quality wine. Kentucky has a long wine making history. Before the civil war, it was on the top three states to produce fine grapes for winemaking. Following the lifting of the dry law, the local winery owners began to prepare their “renaissance”. In 2016 the Kentucky Wine Association announced that local production reached 100,000 cases or 450 hectoliters (each case contains 6 “750 milliliter” bottles), even though it is still small compared to the country’s current top wine-producing states. Kentucky laws have protected local wineries from heavy outside competitions for decades. However, to earn a position in the broader market for future development, local producers have to learn how to compete domestically and internationally. Price strategy is one of the top priorities for the local producers to consider. The primary goal of this work is to determine how subjective and objective winery and wine qualities may be correlated with recommended retail price, especially attributes marking unique characteristics of being a Kentucky product. Through this research, we intend to describe a pricing strategy to offer insights in local producers’ current marketing practice. The value associated with the unique features of Kentucky wine will also be calculated to guide future development. In this study, hedonic price functions will be used to analyze the relationship between objective, subjective wine attributes and local wine price. Section 2 introduces several previous works and history of hedonic model applying in wine topic research. Section 3 briefly shows data description in this study and section 4 interprets empirical result based on hedonic method. Literature Review Hedonic models (Rosen (1974), who build the first theoretical framework of hedonic model) are popular in the last 30 years in wine pricing analysis. Huge number of articles through hedonic models to explain the influence between prices and attributes of wine. Oczkowski (1994) used hedonic model with ordinary least squares(OLS) method to analyze price deviations of premium table wine in Australia. They found rating, cellaring potential, grape variety/style, regions, vintage and producer size were statistically significant to determine wine price. Later, Oczkowski (2001) found simply using OLS method would have measurement error when estimate attributes like quality and reputation. They suggested applying two stages least squares(2SLS) method to avoid bias in measurement. Schamel and Anderson (2003) evaluated wine quality and reginal ratings in Australia and New Zealand. They claimed price premiums based on sensory ratings and winery ratings were significant in those two countries. Basing on hedonic method, some certain wine attributes also have been specified. Schamel (2002 and 2005) examined medal awards, quality regulation and wine objective attributes for California and German premium wines and argued the critique of wine from awards have significantly influence on quality wines. The reputation of wine from specific regions can play an important role in world wine market. Guillermo, Brummer and Troncoso(2008) evaluated the influence of wine attributes on price by analyzing Argentinean wines performance in the U.S. market. They find grape varieties may have more weight to price when compare to expert ratings or oenological wine improvement. Schroeter, Ritchie and Rickard (2011) employed those cool-climate grown grapes and confirmed consumers would like to pay more for good quality wines. Experts’ rating was a tool to reflect the reputation. Cardebat, Figuet and Paroissien(2014) assessed experts critique on the price of Bordeaux wine. They designed a model to measure price associating with expert's score and find subjective and objective components showed significant effects in wine prices. Oczkowski(2016) based on Cardebat, Figuet and Paroissien's work argued subjective quality may dominate objective quality in explaining Bordeaux wine prices. Recently, the edge work of wine hedonic models is focusing on price difference. Another Oczkowski(2016) work answered, are using market price and recommended retail price matter when estimating a hedonic wine price function? They mentioned producer size and quantity discounting might affect the price choices in the model. Plenty of former works (Oczkowski(1994), Schamel(2002, 2003) and Schroeter(2011)) have already proved Hedonic price analysis function well in those primary wine making zones (Australia, France, German and California of the U.S.). However, few people concern about those relatively smaller and developing areas. Winery in Kentucky region, as a target, is selected in this study. Kentucky had a long wine-making history and has huge potential to develop its grape wine just like what it did to build reputation of world famous bourbon whisky. Data In this study, data collected from website-Kentuckywine.com. It composes 70 wineries’ information. According to their list, canceling wineries without enough data, total 58 wineries with 542 observations are included in this study. Through their list, Retail price, single wine attribute information can be searched. Even though most family wineries have their discount prices, recommended retail price is employed in this study. Oczkowski (1994) mentioned that the discount price consistency and producers setting price with full knowledge are reasons why applying recommended retail price in hedonic price analysis functions. In addition, different wineries may have various discount types. using recommended retail price can minimize the difference between different price systems. Meanwhile, the website information dictates many objective attributes of wine, what can be relied as regressors in the price functions. Note that most of variables are dummy variables to determine attributes of wine. Due to the data limitation, this study does not include any natural or sensory wine attributes. Compared with other works, experts’ rating is also unavailable. The proxy used for wine reputation and quality includes medal award. Tables are given below, where table 1, shows the definition of different attribute variables in the hedonic model and table 2 with basic statistic of each variable. Table.1: Variable description Name Description Original retail prices, obtained from wineries online shop or Recommended retail price third party wine shop. Dummy variable. Initially, the author hopes to apply American viticultural areas (AVA) to define this variable.
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