In North Carolina, there is currently a heated debate over whether or not to raise the state-imposed production limit for self-distribution of beer by brewers. Under the current law, breweries producing below 25,000 barrels of beer per year are allowed to self-distribute, but those producing above this limit must use a distributor. Craft breweries are leading the effort to raise or remove the cap, while their opponents, mainly distributors, are fighting to keep their role in the state’s alcohol supply chain. This debate is far from unique to North Carolina, as the rise of craft breweries across the country has put a spotlight on the traditional three-tier distribution system, where beer flows from breweries to distributors to retailers. The system’s future is unclear, given the valid arguments for and against changing it to reflect today’s beer industry dynamics. This article explores the development of the three-tier system and the key arguments regarding its future from both sides.

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Evolution of the Three-Tier System

The inception of the three-tier system is widely attributed to the 21st Amendment, which repealed Prohibition in the United States – the ban on alcohol production, transportation and sale – and delegated authority over alcohol regulation to the states in 1933. However, the system actually evolved from the passing of multiple pieces of federal and state legislation following the amendment and subsequent changes to forces in the beer industry throughout the greater part of the 20th century. The nearby graphic highlights the key events in the three-tier system’s development.

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The three-tier system has historically provided two overarching benefits to the beer industry, government and public:

  • Promotes free market principles: Tied-house practices in the pre-Prohibition era discouraged competition. Retailers received incentives from breweries to exclusively sell their products, putting competing breweries at an inherent disadvantage. The inclusion of distributors encourages healthy competition in the marketplace by providing all breweries with the infrastructure and network needed to get their products shelf space at retail outlets. By giving retailers a wide variety of products to choose from, distributors, in turn, provide the public with their choice of beer from the big national breweries to the small craft enterprises.
  • Affords a clear chain of custody: Distributors, licensed by both federal and state governments, purchase beer only from breweries registered with the federal government and sell solely to retailers that hold licenses from the states in which they operate. These required licenses and registrations ensure all beer supply chain participants maintain compliance with the most updated alcoholic beverage laws and give the industry, government and public accountability if there were to be a defective product in the market. Additionally, state governments often look to distributors for tax collection purposes since they have the best understanding of the movement and sale of beer as it leaves the breweries and arrives at retailers.

Across the United States, 16 states are bound to the three-tier system by law, 17 allow self-distribution, and 17 allow self-distribution with some sort of volumetric, barrel or regulatory limit. However, across the country, approximately 75% of the beer sold at retailers is provided by distributors associated with either Anheuser-Busch InBev or MillerCoors, evidencing the prominence of the three-tier system even in states where it is not legally enforced.

Balancing Act

The most important trend in the beer industry today – the rise in market share and influence of craft breweries – has called the merits of the three-tier system into question. Craft breweries operating in states with self-distribution limits, like North Carolina, argue that the presence of such limits is a free market violation in and of itself. Additionally, proponents reference the seemingly arbitrary process employed to determine such production limits, with a North Carolina senator saying in reference to a new bill proposing to raise the limit, “We came to the proposed production cap number the same way the previous legislature came to the previous production limit: We picked a number.” Craft breweries wishing to deviate from the three-tier system also contend that distributors have an unfair amount of negotiation power in the current system. Franchise laws were originally meant to correct an imbalance between large brewery conglomerates and small independent distributors; however, now that distributors have mostly consolidated under either Anheuser-Busch InBev or MillerCoors, an imbalance exists between large distributors affiliated with national brands and small craft breweries.

Yet the three-tier system continues to have some positive effects: It provides the key benefits detailed earlier, and distributors can be valued partners to craft breweries that are not allowed or choose not to self-distribute their products. There are tremendous costs associated with self-distribution, from purchasing fixed assets like trucks and refrigerators, to management adapting, to employing a new business model in the transportation and logistics space. By partnering with distributors, craft breweries can have their products sold in areas of the country, or even the world, that would have been seemingly impossible to reach with an in-house distribution system. Moreover, the three-tier system still provides the industry, government and public with transparency for alcohol regulation and safety purposes, even though the relevance of this system for tax collection is lower because of the robust nature of sales monitoring practices used today.

Because alcohol regulations are decided by state legislatures, this debate over the three-tier system is largely a political battle, with significant lobbying efforts from both sides. In the case of the recent push to increase the production limit in North Carolina, the state’s distributors have contributed $1.5 million over the past four years to protect their interests. Craft breweries, on the other hand, are reminding lawmakers of the positive economic effect their businesses have on the state and local communities. Last year, North Carolina’s 190 craft breweries had an economic impact of $1.2 billion, and the segment provides more than 10,000 jobs with signs of growth.

Conclusion

In 2003, craft breweries in North Carolina were successful in raising the production limit to 25,000 barrels. Two years later, they won another political battle by passing a law allowing for higher alcohol content to make beers such as IPAs. However, the most recent proposal to bring the cap to over 100,000 barrels annually will not pass without a fight from distributors protecting the three-tier system in the state. There is much left to be seen with how North Carolina lawmakers balance these interests, but it may set a precedent as to how other states’ lawmakers view the application of the three-tier system moving forward.


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