External Analysis and the Wine Industry* Analyzing the External environment is important in the strategic decision making for the organization in that these factors will affect the company’s choice of direction and its internal processes. There are two specific categories of the external environment factors that will be discussed, the remote environment and the industry environment. The remote environmental factors important to the success of the organization are the economic, political, technological factors.
In order to create their strategic action plan, the company must also have a clear understanding of its competitive forces included in the industry environmental factors. The factors the company must look at are the entry barriers including capital requirements and policies regarding distribution channels. Remote environmental factors are created without the actions of the company. These factors may present the organization with opportunities, threats, and constraints that the company has no control of. One area of the environment that directly affects the company is the economic trend factors.
As an example wine may be considered a luxury item, the health of the economy is important to the company. In an economic downturn, consumer spending is lowered and therefore, consumers are less willing to spend their money on a luxury good, and more apt to buy products that are a necessity. For example, California is the largest market for many wineries in the California market. During the 2001 – 2002 timeframe, the economy in Northern California has weakened based on the failing dot. com and other internet businesses.
Restaurants in these areas that were once prospering because of the strong economic forces are now closed. Also, retail stores in these geographic areas are not turning inventories as fast, and therefore, not purchasing the wine at the same levels. In effect, wine case sales in Northern California are down 5% over last year to date. Other remote environmental factors of great consideration to the formulation of company strategy are the political forces. Two political factors influencing the company include the “three-tier system” and direct shipment regulations.
The alcoholic beverage industry in the United States is regulated on the state level. Each state is responsible for designing how it will conduct business and in what format. Since prohibition in the 1920’s, California for example, has been operating under the “three-tier system” which means that the supplier sells to the distributor and the distributor sells products to the retailer. The retailer then sells alcoholic beverages to the end consumer. The politics of this system is based on the historical power of the distributors.
This middle man was created after prohibition to regulate the industry so that suppliers and retailers could not create monopolies or partnerships in the market place. Distributors spend millions of dollars each year lobbying to keep their position in the industry. As a supplier, the winery is at the mercy of their distributors. They can make or break a brand based on their commitment to the brand and their commitment to their customers. Another political factor is the direct shipment regulation. As with the “three-tier” system, the state also decides on how direct shipments are made from state to state.
Since the emergence of the Internet, direct shipping from wineries in California to other states in the nation, has become a topic of controversy. Some states are reciprocity states, defined as: shipments can occur back and forth between two states as long as each state involved follows the same reciprocity rules. Other states command that it is illegal to receive a shipment of a California wine. Again, the distributors in each state lobby their governments to stop direct shipments due to the fact that they lose money each time a shipment occurs without their involvement.
As a supplier, the organization is in favor of direct shipments in that they can interact directly with the consumer, give the consumer a better price, and also make more profit by cutting out the middle man. By utilizing the Internet channel, the winery could open up doors to new business. Another remote factor of mention is the need for increasing technological advancements in the wine industry. The organization is constantly looking for ways to promote innovation in the vineyards as well as in the winemaking process to decrease production costs while increasing production.
Forecasting for technology is a necessity for increased quality and profits. For example, the company has invested in infrared vineyard technology that when downloaded to a computer, can generate valuable information regarding the ripeness of the grapes from vineyard row to vineyard row. This infrared camera is used from an airplane to capture this data, allowing the winery to pick the grapes at their optimal ripeness, thus producing higher quality wines. Another technological advancement in the vineyard is the use of the “pressure bomb”.
This device measures the water content in the vine so that the vineyard manager can gauge when to irrigate and when not to. Again, this technological device is working to produce higher quality grapes. The company has also purchased a “double grape sorter”, a new invention which will re-sort the grapes for inferior grapes and stems that can add negative elements to the wine. By forecasting for technological instruments, the company can stay on top of the industry trends and increase quality production. Besides remote factors, the organization must understand the contending forces within the wine industry.
One area of industry forces which effect the strategy formation for the company is the entry barriers it may face. Within the wine industry, there are many entry barriers for a new competitor. The seriousness of the threat of entry is determined on the barriers present and on the reaction from the existing competitors. If the entry barriers are high for a new entrant, the newcomer will not pose a serious threat to the industry by entering. In the California wine industry alone, there are over 1000 wineries competing for market share.
To enter into this arena, one must understand the industry and the financial commitment it entails. There is a need to invest a large sum of capital in resources in order to be competitive in this industry. Capital is needed for fixed assets such as vineyards, winemaking equipment, buildings, and experienced winemakers. These assets can cost millions of dollars even before a winery can produce and then sell one bottle of wine. For example, one acre of planted Cabernet Sauvignon in a prime Napa Valley location is now selling for $120,000.
This acre may produce two tons of grapes, which will only produce 120 cases of finished product. In this industry’s case, government policy regarding the distribution network is another barrier to entry which can be very limiting and even detrimental to a start-up winery. As mentioned earlier, the “three-tier” system policy was initially set up by the government. This system acts as an entry barrier because in order for a winery to sell their wines into the market place, a distributor is needed. Smaller wineries do not produce enough quantities for large distributors to represent them.
Therefore, many wineries are not represented at the retail level. Also, once the distributor takes on a product, there is no guarantee that they are going to give that brand the attention that it may need. Distributors usually have hundreds of wine brands to sell. Whichever winery gives that distributor the greatest amount of pressure will usually come out with the best distribution and sales. Because of this system, smaller wineries have found a new and more profitable channel, the Internet. It is estimated that 10 percent of wine sales will be done from the Internet channel by the year 2003.
In order to predict and survive these environmental changes within the industry, the organization must understand these forces and adapt to create opportunities for growth and profitability. Before a prediction of significant environmental information can begin, an evaluation of key variables must be considered. To aid in this process, the company should take the following steps: 1. 2. 3. 4. 5. Select the environmental variables that are critical to the firm. Select the sources of significant environmental information. Evaluate forecasting techniques. Integrate forecast results into the strategic management process.
Monitor the critical aspect of managing forecasts. A few key remote variables for the organization to consider are: economic conditions, ecology, politics, and technology. Within the industry environment, key issues to research are: bargaining power of suppliers, bargaining power of buyers, and new entrants into the industry. In the operating environment, key variables to consider are competitive position, customer profiles, supplier relationships, and the labor market. To obtain sufficient data, the company should ask themselves questions focusing on the future and changes in direction within each specific category.
For example, regarding the operating environment, the company should ask, “Are potential employees with the desired skills (grape pickers) available within the Napa Valley area in which our vineyards are located? If not, how will we entice workers to come from surrounding towns? ” To gain other specific information on these issues, the company should utilize the information in periodicals such as The Wine Spectator, The Beverage Journal, Harvard Business Review, and other publications relating to the industry.
Once the sources of data have been collected, the company should move on to the third step, evaluating forecasting techniques. By looking at the different techniques, you can choose three alternatives best suited for the company to utilize, the Time series model, Juries of execution opinion, and technological forecasts. Time series models attempt to identify patterns based on combinations of historical trends and seasonal and cyclical factors. Because of the nature of the wine industry, trend analysis is practical and efficient.
Trend analysis assumes that the future will be a continuation of the past, following some long-range trend. Since sufficient historical data are available from the company, the annual sales by brand, item, and region, for a 10 year period, a trend analysis can be done quickly and at a fair cost to the company. Currently, the company might use trend analysis. Another method valuable to the company is jury of execution. This method involves the averages of the estimates made by executives from marketing, production, finance, and purchasing. No elaborate math or statistics are required.
For a company that is small, this method may prove to be an accurate way of determining the on-going strategy of the company. Because technology plays an important role in the success and profitability of the company, this method is a must for the company. Knowledge of probable technological advancements in the vineyard and winemaking technologies helps the strategic managers of the company prepare the company to benefit from these changes. Innovations in communications and other devices can aid the company exponentially. The writer would recommend continued research and study for the manager in this area.
After the alternatives for the forecasting techniques have been chosen and the forecasts been made, the results must be formulated into the strategic plan. This is important to the company to close the gaps or inconsistencies between the company’s desired position and present position. The results will help the strategic managers of The organization design or reformulate goals and objectives to achieve success. By combining all three of these forecasting techniques, the company can realize a wellrounded way to look at its business.
The trend analysis can identify goals for specific markets based on historical data. The juries of executive opinion method will bring the company’s executives together in brainstorming activities to generate realistic objectives. Finally, the technological analysis can aid in bringing innovation and experiences from the outside that may not have been thought of on the inside of the company. Beyond the forecasting by the strategic managers, integrating risk and flexibility are both imperative for the organization to obtain a high level of insight needed to achieve their objectives. —————-**Stephen Tvorik