By fully understanding what kind of DTC markets are out there, and the different regulatory rules for each, wineries can position themselves to succeed and grow.
By Alex Koral
In the Internet Age, with our global networks and vast international conglomerates, it might seem ironic that direct-to-consumer (DTC) markets have also been ascendant. However, the vogue for buying DTC reflects a widespread desire among modern consumers for “authenticity,” that special sense of connecting with something unique and real. By letting consumers connect with far-flung producers, the internet only makes DTC more accessible and profitable.
In this manner, the wine industry, as a bastion of small and artisanal producers, is uniquely positioned to benefit from these trends towards DTC sales. However, when you dig into it, there are many different versions of what “DTC” can mean for wineries — and, as with so many things in the beverage alcohol industry, not all of them are equal.
Wineries, then, are well-advised to exercise caution when they engage with DTC sales, whether that be entering a new market or expanding existing offerings. By fully understanding what kind of DTC markets are out there, and the different regulatory rules for each, they can best position themselves to succeed and grow. There are three primary DTC channels.
Ultimately, all wine sales require some kind of “direct” interaction between a consumer and the business selling the wine. What makes wine and other beverage alcohol products unique is that, by law, the consumer is often restricted as to which businesses they can make that direct purchase from. In the classic three-tier model, consumers are supposed to purchase only from licensed retailers. Indeed, one of the key “ills” that early proponents of the three-tier system sought to resolve was the undue pressure that (it was believed) alcohol producers put on consumers to over-consume. Fixing that ill, it was thought, required the strict separation of who could produce alcohol and who could sell it.
Within the wine industry, this has led to the rise of boutique wine retail stores, which specialize in providing a catered experience for consumers to explore, sample and learn about what wines are out there. And the unique joy of going to a favorite wine shop for a direct purchase should not be overlooked.
However, when DTC is used these days, it’s intended to mean a direct sale between the producer and the consumer, and in that way, wineries have excelled over the years. The tasting room is one of the more quintessential DTC experiences out there in any market, and the idea of traveling to bucolic settings with luscious vistas and warm weather to enjoy along with the local varietals is something that most other businesses think of with envy.
But as ingrained as the tasting room experience is in talks about DTC, it shouldn’t be taken for granted. Wineries should always keep in mind that regulators view any sale of wine — from a single glass to multiple cases — as a privilege, not a right. While wineries largely can operate tasting rooms by means of their production licenses, they need to always be mindful of their responsibilities in maintaining a safe, healthy market and environment as they build out these direct sale opportunities.
DTC Shipping of Wine
When people use the phrase DTC in relation to wine sales these days, by and large what they are referring to is the direct-to-consumer shipping of wine. While this realm of DTC sales commands a lot of attention (and for good reason, being a $4.2 billion market), it does need to be differentiated from other forms of DTC.
The key distinction between DTC shipping of wine and other direct interactions between a consumer and a winery is that direct-to-consumer shipping inherently involves the use of a third party intermediary — the common carrier. Unlike a sale in a tasting room or a wine specialty shop, the consumer does not take immediate possession of the wine, instead relying on a carrier to transport the wine, often across state borders, to their home.
The modern state of DTC wine shipping was born out of decades of legal wrangling, in courts and legislatures, to establish a legal framework for the market. Following the 2005 Granholm v. Heald ruling by the U.S. Supreme Court, which declared states cannot discriminate against out-of-state wineries when it comes to DTC wine shipping laws, wineries can now ship their products to 47 states. In exchange, the wineries agree to get licenses in the states they ship to, to pay those states’ taxes, to restrict sales to minors, and to otherwise abide by the jurisdiction of those destination states.
DTC shipping of wine is not inherently easy. It requires a lot of investment of money and time to build out online marketplaces, to advertise to consumers around the country, and to manage the myriad regulations and tax filings necessary to stay compliant with each state’s laws. But many wineries find the effort well worth it, not merely for the monetary rewards but also for the chance to make that direct connection with their fans and admirers, wherever they live.
Recently, we have seen the rise of the so-called “three-tier DTC” market, which promises to provide the value and connection of DTC with the “inherent legitimacy” of the three-tier system. How these entities actually operate, however, can still be a little unclear, and wineries looking to engage in this market should take care that they thoroughly understand what they are signing up for and what their potential risk might be.
On its face, three-tier DTC combines the two systems. Accordingly, a winery would still market and advertise its products to its consumers, but any actual sales would not be fulfilled by the winery but instead would be funneled to a partner package store to complete. Because the partner package store has locations across the country, it can fulfill orders to consumers all over and remove the need to work with a carrier to ship packages of wine. Per its proponents, three-tier DTC has the potential to offer the rewards of DTC shipping without the hassle of logistics or the headache of compliance.
Not so fast.
When one digs into these three-tier DTC offerings, some real questions arise.
First, if a winery has a partnership with a specific retailer, and is directing consumers to go to that one retailer to purchase wine, that seems to be a clear violation of state and federal tied house rules, which were designed to restrict collusion between members of the different tiers.
Second, it’s unclear how a package store can fulfill orders to consumers across the country. Only about 14 states allow for DTC shipping of wine by retailers, so a package store would need a location in every state to fulfill an order to residents of all states (as many three-tier DTC programs offer). Even then, not all states allow retailers to make deliveries (not even locally). So even the largest, most widespread retailers would still leave some gap in the consumers they can service.
Even barring those other considerations, a winery working within a so-called three-tier DTC system is still operating in the three-tier system. This means it will need to comply with those regulations, including licensing, brand/label registration, distributor agreements, and filing shipping reports. This may not be a concern for a California winery only working with California partners (as most of those concerns are met by having a California wine production license), but the question remains: How does a California retailer fulfill an order to a Utah resident?
This is not to say there’s anything necessarily wrong with three-tier DTC systems. It’s very possible that they’ve addressed and dealt with these concerns. However, it’s important for a winery looking into using a three-tier DTC market to ask these questions and understand exactly how the retailer is operating. (It’s almost impossible to get those answers just from the websites, even if you read through the terms and conditions.) At the end of the day, a winery partnering with a third-party marketplace to make DTC sales will still be subject to enforcement action if it turns out that something improper was taking place.
The future of DTC
The value of a direct-to-consumer model is readily apparent. Consumers want a connection with the brands and producers they love and are increasingly willing to go to lengths to seal that bond. We can see this in the millions of visitors to the various wine regions around the country and the almost meteoric rise of DTC shipping from a niche market to more than $4 billion in annual revenue within just a couple of decades.
But it’s essential to recognize that not all DTC markets are the same. They bring different opportunities, but also different responsibilities and different risks. Wineries need to understand what they’re getting into when they seek out one form of DTC versus another.
Alex Koral is Regulatory General Counsel for Sovos ShipCompliant. He actively researches beverage alcohol regulations and market developments to inform development of Sovos’ ShipCompliant product and help educate the industry on compliance issues. Alex has worked with the company since 2015, after receiving his J.D. from the University of Colorado Law School.