Scotch Whisky Global Expansion: Market Analysis for Small Distilleries

Introduction

The market for Scotch whisky in the UK is a mature market. The first written record of whisky occurs in 1405 in Ireland (Celtic Whisky Campagne, 2003). However, it is suspected that the process of rendering grains into whisky originated with the Picts (Celtic Whisky Campagne, 2003). This makes Scotch whisky an integral part of Irish and Scottish culture. Whisky from Scotland that has been aged for at least three years is referred to as "Scotch" whisky. Although Scotch is a cultural staple of Celtic culture, sales in the UK have been steady or declining for several years.

The Olde Distillerie in Dumfriesshire, Scotland was once a top whisky producer. However, like many other small producers, their sales have been on a steady decline. The distillery traditionally relied upon the UK as its key market, but can no longer depend on domestic demand alone to sustain operations. They are considering the global market as a potential resource to reverse their slump and return to profitability. Recent years have seen the closure of many smaller whisky producers, and the Olde Distillerie does not wish to be next.

Entry into the global marketplace is particularly challenging for small producers. There are many barriers to entry, such as excise taxes and value-added taxes, that can significantly dampen profits. The Olde Distillerie cannot afford costly mistakes and must be certain of their next move. Global expansion will be a capital-intensive endeavor with little margin for error. Due to these factors, the Olde Distillerie has retained the services of World Consultants to help identify the proper market and ensure that the project succeeds.

World Consultants has identified four potential markets for the expansion project: Sweden, Italy, the Czech Republic, and Ireland. There are advantages and disadvantages to each of these choices. This report explores each possibility and recommends the option most likely to result in success for the Olde Distillerie.

Scotch Whisky Market Overview

The Olde Distillerie produces a line of whiskies aged between 5 and 15 years in oak barrels from local Scottish trees. This process is not unusual in the industry, but the distillery produces unique product lines based on the aging duration. Each whisky has its own distinct flavors and aromas, and different price points attract different demographic groups. Malts are a growing market among younger consumers, while older clients typically prefer longer-aged products. Younger consumers are less willing to pay a premium price, so products targeted toward them are sold at lower prices.

After the initial distillation process, the cost incurred across all products is relatively equal — barrels simply need to sit and mature. There is little energy consumed once the spirit is in its mellowing barrels. Therefore, the highest profit margin is obtained from whiskies aged the longest and sold at the highest price. However, lower-end whiskies provide essential steady cash flow for ongoing operations.

One key problem plaguing the Scotch whisky segment is that large chain retailers create artificial price competition among various brands. Retailers have a profound influence on the sales and popularity of a brand — they can position products to draw more or less attention and adjust prices at their discretion. This is not good for the producer, who retains little control over sales volume. There is no suggested retail markup, meaning retailers can discriminate or show preference as they please.

The Olde Distillerie must gain control of its final selling price. Currently, pricing varies based on distribution method, and little has been spent on advertising to position the product in a higher-priced category. As a result, the Olde Distillerie brand is perceived as expensive yet must compete with discount brands — a likely contributor to lagging UK sales. The distillery cannot simply abandon these domestic problems and concentrate fully on international expansion. It must resolve its home-market positioning and branding issues before attempting entry into a global market, or it will carry those problems overseas.

The Scotch Whisky Association is a consortium of producers that has agreed to a set of standards governing the production and sales of Scotch whisky in the UK and abroad. In order to be labeled and sold as Scotch whisky, a product must meet several defined criteria. All of the Olde Distillerie's products meet these criteria, yet the company has not joined the Association. Failure to join this trade organization means they cannot take advantage of the prestige associated with membership. Joining is an important step toward establishing their image as a premium product; without this endorsement, backing up claims about quality becomes significantly harder.

There are several categories of Scotch whisky: single malt, single grain, blended Scotch, blended malt, and blended grain (Scotch Whisky Association, n.d.). There are almost 2,500 brands of Scotch whisky sold globally, yet only around 200 are readily available in the UK (Scotch Whisky Association, n.d.). Many producers have established small local niche markets based on regional geography and tastes. The Olde Distillerie needs to combine this targeted approach with a broader global perspective, establishing its niche in the upper-end market and then expanding that niche into the selected target country.

The Scotch whisky market is locally saturated but offers room for expansion globally. On a global level, established markets already exist in the US and France, where even modest-quality Scotch commands a premium price — demonstrating that demand exists and that supply is relatively short. The UK typically ranks third or fourth in world Scotch whisky consumption; France and Spain frequently appear at the top, with the US also among the leading consumers (Ludo, 2006). Although it is surprising to see France — where Cognac is so popular — ranking first, Scotch whisky complements rather than replaces Cognac. This distinction will be an important consideration in the current marketing campaign: Scotch whisky is unlikely to displace culturally entrenched alcoholic beverages in the target countries, but it can generate considerable sales alongside them.

Expansion Candidate: Sweden

As a member of the European Union, Sweden must comply with EU rules and regulations governing trade. These rules are designed to level competition and prevent countries from creating unfair advantages through preferential tax treatment. In January 2004, Denmark and Sweden were required to remove import restrictions on alcohol purchased for personal consumption (EPHA, 2007).

A recent decision by the European Court of Justice (ECJ) found that Sweden had established a monopoly on alcohol retail, partly in an attempt to limit overall consumption and curb underage drinking. Alcoholism is considered a serious social problem in Sweden, and lawmakers have taken measures to reduce overall consumption of alcoholic beverages.

The effects of this decision are two-fold for Olde Distillerie's expansion prospects. On the one hand, the ruling confirms that alcohol has a large and culturally embedded market in Sweden. On the other hand, the decision signals a concerted government effort to shrink that market. The Swedish government is likely to launch anti-drinking campaigns in the coming years, which will reduce alcohol sales for both domestic and foreign producers. The ECJ determined that the new rules would not discriminate against products from other EU states, but overall alcohol sales will still be affected (EPHA, 2007).

Commercial imports of alcohol are governed by the alkohollag, which controls all aspects of trade and production of alcohol and maintains a retailer monopoly (EPHA, 2007). Although individual consumers can circumvent these restrictions by importing alcohol for personal use via the internet, the Olde Distillerie would still be required to comply with commercial laws and would be restricted by the Swedish retail monopoly.

Sweden has a total estimated population of approximately 8,878,085 (CIA, Sweden, 2007). The largest segment — 65% — falls between 15 and 64 years of age, and 17% are above 65 (CIA, Sweden, 2007). The potential consumer pool is significant. However, the government's crackdown on drinking may negatively affect the target audience over time. The customs rate in Sweden is 25% of the final product value (FedEx, 2007). Because the plan is to market Olde Distillerie whiskies as a premium brand, they will be subject to a higher customs tax in absolute terms than lower-priced brands — though the higher profit margin on premium products partially offsets this burden.

Despite currently strong market potential due to the ingrained nature of drinking in Swedish culture, anti-drinking campaigns and high customs taxes make Sweden a poor long-term prospect. These factors eliminate Sweden as the final candidate for expansion.