Trouble Brewing for Craft Beer Makers

There are 90 million beer drinkers in the U.S., and chances are most of them will crack open an ice-cold beer this Fourth of July while they enjoy any number of seasonal pursuits, from grilling hot dogs and watching a ball game to lighting a Roman candle or two.

But to beer industry watchers, the real fireworks are happening right in the backyards of craft brewers. Rapidly rising commodity prices, industry consolidation, and a slowing economy have conspired to make this the most difficult business environment since the beginning of the craft brew revolution in the late 1980s. More than ever, brewers must spend less time brewing and more time running their businesses.

"Profitability is something a lot of companies watch closely," says Paul Gatza, director of the Brewers Assn.

Main Ingredients

The small brewer's first concern is commodity prices. Gone are the plentiful hops and cheap malt that made it possible for any basement brewer to develop a distinctive recipe and launch a brand. Just look at the list of ingredients on the label: Barley supplies have been hit by droughts in Australia, too much rain in Germany, and the rush to plant corn for ethanol, pushing the price for the grain up 100% over the past 12 months.

But barley looks plentiful compared with hops, the green, brussels sprout-like herb that gives craft brews their distinctive, bitter taste. Brewers had a surplus of hops just a few years ago, but now the world is short about 10% of its supplies. Prices per pound have jumped from $5 to $30 in some commonly used varieties over the past year. As a result, craft brewers are being forced to sign long-term contracts at these prices, just to guarantee supply.

If prices drop, there will be problems because brewers will be locked in for the next few years. "That's essentially the risk," says Hook & Ladder Brewing's John Timson. "But even worse is not having a product at all."

Handling the Economic Climate

Companies are looking to all manner of solutions to deal with the rising prices, including consolidation. Anheuser-Busch's (BUD) battle with InBev gets all the attention, but smaller companies have been riding the consolidation wave as well. On July 2, Burlington (Vt.)-based Magic Hat Brewing announced its tender offer for Pyramid Breweries (PMID), which will allow it to tap the West Coast market. Similarly, Redhook Ale Brewery and Widmer Brothers Brewing cited the production advantages of merging into one larger-scale company called Craft Brewers Alliance (HOOK) on July 1.

"Our resources will allow us to compete more effectively," says Craft Brewers Alliance co-CEO Terry Michaelson.

Many of the brewers will be raising prices to pay for the added costs—Brooklyn Brewery says it has passed about two-thirds onto its customers. They're aided, however, by an unlikely source: the falling dollar. With the dollar down sharply over the past year, foreign beers have become more expensive, providing some cover for U.S. brewers to charge more without driving away their customers. It's small consolation—but an important one—in this environment.

"We have to realize that the economic climate is more challenging," says Craft Brewers Alliance co-CEO Dave Mickelson. "If it were easy, we'd all be rich and bored."

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