Transactional costs & the hop market

Hop growers and merchants are having trouble keeping up with the craft industry because it’s growing so fast, but not for the reason you may think. The American hop industry is big. Americans like things big, so this should come as no surprise. The farms are big. The picking machines are big. Growers like to sell in big quantities when they sell their hops. Merchants like this too. Bigger is not always better. Most hop merchants try to optimize their business focusing on transactional costs … which is the fancy way to say that they prefer to work with big customers because it costs less to work with them. The result is that some merchants screen out brewers that need less than a certain volume of hops. Those brewers are not worth their time.

It’s true that it can take as much time, effort and paperwork to sell 44 pounds of hops as it does to sell 44,000. In fact, it can be more difficult to sell 44 pounds. The company buying 44,000 pounds probably has somebody dedicated to the job of buying raw materials. The brewer who needs 44 pounds of hops is also probably the accountant, the janitor, and the bartender. For that reason, it is easier for merchants to focus on big customers … transactional costs. That’s the way the hop industry has worked traditionally. The infrastructure to handle smaller and medium sized orders doesn’t exist among the largest companies. It’s a different business model. That has fit well with the way big breweries bought hops in the past. It has worked well for the craft industry so far. Third party retailers, traditionally buy hops from bigger merchants and service smaller brewers. There’s nothing wrong with that business model. The problem is while they demand a higher price, not all of them provide a high level of service. All that will change in the coming years with the rise of the long tail.

If you didn’t read our previous blog, you can read it now 47hops.com/revolution so you know what we’re talking about when we talk about the long tail. Growers and merchants will find new ways of dealing with smaller brewers around the world because they want to continue growing their market share. The same old ways of doing things won’t be good enough in a world with 10,000+ craft breweries. We’re likely to see more hop merchants and growers satisfying the demand of smaller brewery customers. We may also see the pooling of orders from the brewer side. If they can organize, brewers can act collectively to get the size necessary to fit the current system. We have already seen both of those things happening. Meanwhile, the merchant companies that once enjoyed a strangle hold on the hop industry are losing their power and influence. Some have yet to realize that there’s a hop revolution happening too.

The old guard will fight to maintain the status quo like empires always do. That’s as true in the hop industry as it is in the beer industry. The hop empires of the past still possess a lot of power and money, but they lack entrepreneurial spirit. How will the market change in a world where smaller breweries become the norm? The focus on quality hops is no less important than it ever was. In the long run, the fight is not just about quality hops. Quality of service and the quality of the experience will be vital to success. Smaller brewers will not accept being treated like second-class citizens once they realize they comprise the majority of the industry. The next several years will be a particularly chaotic time as both the hop and craft beer industries struggle to come to grips with their new future.

Everything you read about the craft revolution being over is wrong

There is no shortage of brewers who, in recent months, have the courage to claim a day of reckoning is coming, the sky is falling, or a shakeout is happening in the craft beer industry. Jim Koch’s infamous interview in which he stated, “The end of the craft beer revolution is near” got a lot of attention. From where Jim sits, I imagine it looks that way. Jim’s empire is worth less than $2 billion today. Only a couple years ago, it was worth nearly twice that. Given that perspective, It’s not hard to imagine why he and other corporate craft brewers at the top of the game think the revolution is ending. With all due respect to Jim and the others, they are all wrong. The real revolution is just beginning.

From where Jim and other corporate craft brewers sit, their world is definitely changing. They take that to mean that preferences for craft beer are also changing. They can’t see the forest for the trees. Today’s big craft breweries strayed a long way from what originally fuelled the craft revolution. The most successful craft breweries today are not so different from the big multinationals. They just don’t have the Super Bowl commercials … yet. Maybe that’s what they aspired to be all along, or maybe they let opportunity get the best of them. What does it mean to drink an 805 in Berlin, Germany? I grew up in the 805. Back then, most people in Southern California didn’t even know what that meant, but times are changing.

Craft beer is also changing. There are 5,300 craft breweries today. That’s an awfully long tail that gets longer with each passing day. It’s the rise of the long tail. I can imagine a day when there are 10,000 craft breweries in the U.S. For that day to come, not everybody who starts a brewery can be the next nationally or globally distributed beer. If that’s the reason people get into the business, then the revolution is already over. The first generation followed a well-worn path of getting as big as they possibly could until what they produced became commonplace. Spins data, grocery store shelf space and the other macro statistics collected by companies like IRI and Nielsen reflect their sales well. That data won’t accurately measure when craft continues to grow from the bottom up. The revolution is far from over. It’s just evolving.

 

Photo: www.craftbeer.com 

Of course, nothing is guaranteed. For the craft revolution to continue to evolve and flourish, it must be filled with brewers who don’t have ambitions of world domination. To survive, the next 5,000 craft breweries will need passion, and lots of it. They will need to aspire to have 2,000-3,000 loyal customers who stop by for a beer or two a couple times each week. If they get more than that … great! Their sales will cannibalize sales of the big craft beer companies that make the news. That will continue to create the impression that the craft revolution is dying. It’s in the interest of every big craft brewer to perpetuate that myth that the craft revolution is over so they can draw new borders, circle the wagons, protect the empires they’ve built and prepare for a period of greater stability. The same is happening in the hop industry. It’s never in the big guy’s interest for the little guys to get stronger and more numerous. Think American Revolution and the success story that followed.

The best time to kill any revolution is in its infancy. The next generation of craft brewers threatens to jeopardize the existence of the current empires in the same way that corporate craft brewers threaten the existence of the multinational brewery empires. Economies of scale allow the biggest guy on the block to produce for the cheapest price. The smaller players have something with which the big guys can’t compete … local. You can’t scale local. That is a trend that will disrupt the craft beer market. It will disrupt the hop and malt industries along with it. We’ll talk more about that in an upcoming blog.

Private equity firms don’t like to invest in local business with no prospects for hockey stick growth. Famous business journals don’t usually report on local success stories. Being local isn’t a business model that will make anybody a billionaire. To be successful, the next generational of craft brewers must bring craft back to its roots or be content drinking somebody else’s beer. Thousands more craft breweries will create hundreds of thousands of jobs, resurgence in locally produced quality products and a sense of community for millions of people. That’s a real revolution!

Brewer question: hop pellets vs. bales

Question:  Doug & Crew; Can you comment on the shift in the industry from whole hops to pellets? In the old days, I have been brewing for 20+ years, all that was available was whole leaf hops. In the last couple of years the industry seems to have completely embraced pellet hops to the point where I have to seek out online sources of whole leaf hops. It’s a hassle dealing with pellets at the homebrew level and yet, it’s the only thing that’s available now at my local home brew shop. Is it just the stability and commercial use of hops tha is driving this shift? Your insights are always appreciated.

 

Dear Steve,

Thanks for your question.  There are still some commercial brewers who use baled hops, but you’re right, with each passing year the trend toward using pellets and other processed hop products grows. That is definitely a trend, but it is not necessarily driven by brewers looking for the best quality experience with their hops.

With 47Hops, for example, we sell hops in bales to some brewers. The volumes are small, but they’re out there. We need to know about the order before harvest is finished in September for us to be able to offer that product. Once we begin pelleting in October, we like to pellet everything we can. We prefer not to leave bales sitting around in the warehouse in the hopes that somebody will come along looking for bales to buy. That’s risky. Hops degrade quickly and they would soon be worthless. Strictly from a business standpoint, that doesn’t make sense. You can’t use old hop bales for much once they have no brewing value. 

There are plenty of reasons why the industry has shifted to using pellets. They are not all what you might imagine though. Shifting to pellets simplifies storage and shipping due to reduced volume and an easier form factor relative to bales. That’s particularly important when you consider that hops are grown primarily in the Pacific Northwest of the US and in Bavaria, Germany, but they travel all over the world. 

Pellets also make brewing a less technical process in that people can more easily just follow a recipe. Not all brewers today have 20+ years of experience. Many don’t understand, or care to understand, all the nuisances associated with using raw hops. I was recently talking with a very talented brewer friend of mine who mentioned that he prefers to use pellets and whole cone hops rather than oils or extracts because the complexity and fullness of the flavors are much greater and richer the closer you get to the raw product. There are hundreds of oils interacting with one another in raw hops and you may not even know which is acting with which to give you that special something you’re looking for. The more processing that takes place, at least with today’s processing methods, the fewer of those oils remain. In some cases, that might be the desired outcome, but it’s more likely a negative, but accepted, side effect of a process that offers many other benefits.

The most common reason stated for using pellets is that they preserve the characteristics of the hop due to the ability to package them in inert gasses. You don’t need to pellet hops to get that effect though. You could pack raw hops in Mylar foils with inert gasses and have a similar result. We have done that for customers. Again, if we find out about the order at the right time of year, we can do that sort of stuff.  It just takes a little planning ahead. Raw hops packaged in boxes and foils takes up quite a bit of space, but it can be easily palletized and moved around the warehouse and shipped.

I’m not trying to make the case for pellets … or bales. Honestly, as a hop merchant, we just respond to the demands of our customers. In fact, every hop grower and merchant would probably prefer that all brewers use raw hops. Having a more perishable product would make the hop industry less prone to over supply problems that can linger for years. Everybody will tell you that raw hops are less efficiently utilized in the brewing process. I suppose that depends on what you’re using to measure efficiency. The Apple industry has made the red delicious apple variety much more efficient over the years. They stay red longer and can ship across the country without spoiling, but while they are red, but they are not very delicious! In my opinion, you’re better off eating the box they come in. The flavor you can get from some heirloom varieties is much better! Of course, that’s a subjective opinion and not the metric the industry is trying to optimize for in apples. Hop varieties and products have also been optimized for a process, but what or who is driving that process and is that in line with your goals?

Considering the fact that raw hops would make the hop industry much less volatile, it’s ironic that hop merchants have been the ones responsible for all the innovation in the industry. Of course, they’ve done all that to get the attention of the big brewers over the years. Due to fierce competition with one another, they are constantly inventing more and more ways to process hops better or more differently than their competition. 

At the end of the day, the customer dictates what the market offers. If everybody wants 20 pound boxes of raw hops packaged in Mylar foils in inert gas, and they are willing to pay the costs associated with packaging the hops that way, that’s exactly what we and everybody else will provide. As the customer, you need to make your demands known. If your usual homebrew shop or merchant won’t give you what you want, look somewhere else. Just because it’s not out there now doesn’t mean it can’t be. Anything is possible! Maybe you’ll start the trend of using raw hops in beer again.

Regards,

Doug

 

I want to provide as much value as possible to our readers. So … If you have a question and would like it answered, please send it to 47Hops by any one of the millions of ways you can reach us. It will make its way to me pretty quickly. If I can answer it right away, I will. If I can’t, even better. I’ll dig around for the answer and let you know when I find it. If you like these posts and haven’t subscribed to the blog yet … SUBSCRIBE!  

2017 State of the Hop Industry

April 2017

Today, the hop industry enjoys a popularity the likes of which it has never before enjoyed. Hop varieties appear on beer labels. Brewers swarm to hop farms at harvest time to catch a glimpse of hop harvest. Nearly the entire crop is contracted. Craft brewers talk of sustainability of the hop industry. On the surface, it would seem that the state of the hop industry has never been better. The truth is quite different. The hop industry sits at a point of equilibrium, something many have idealized for decades. Equilibrium has not brought stability and balance to the industry as the word might suggest. Instead, it brings uncertainty and the continuous fear of shortage. The state of the hop industry is fragile. Just beneath the surface the seeds of a potential crisis are being sewn.

 

The Backstory

Many larger craft brewers contracted significant amounts of hops for sustained growth in the craft beer market, which did not materialize. Fueled by the ambitious goals of 20% of the American beer market by 2020, craft brewers and hop industry members fell victim to confirmation bias. The craft industry has grown beyond anybody’s wild imagination in just 10 short years. The possibility of craft reaching 20% of the domestic beer market by 2020 is dead. Brewers contracted hops for that growth. Growers expanded infrastructure based on that projected growth. The hops contracted to reach that goal are no longer necessary. A fully contracted oversupply exists. Most craft brewers continue to honor their contracts in 2017. Most are working closely with merchants and growers to renegotiate more favorable conditions for future years to lessen the impact of a potential future surplus. The problem exists today, but there is good reason to believe that in the coming years continued growth in the craft industry will alleviate the pressure.

For anybody involved with hops for less than 10 years, this might seem like something new. To those who have been around a while, it’s like watching an old familiar movie again. They know how it ends, but hope the ending will be different this time. Craft brewers say they are interested in the sustainability of the hop industry. That attitude alone may make a difference. When times are good, it’s easy to talk that way. When money gets tight, will they abandon those ideals? Several craft brewers and smaller merchants are already showing their disregarding for contracts. If the ugly side of human nature takes over and hops once again become just a commodity sold to the lowest bidder, the movie will, again, end the way it has so many times before. Something is different in 2017. 

 

Sit Rep

In the aroma hop market in 2017, supply and demand are tracking well save for the recent decline in the growth of craft beer. Although the corresponding adjustment needed in the hop world today is less than ideal, it is not so dire as in the past. The difference is the growth. The worldwide preference toward craft beer continues to grow bringing a disproportionate demand for American aroma hops. That growth provides the unprecedented opportunity for the hop market to navigate the current situation avoiding extreme surplus and shortage and the price fluctuations of the past. We are, however, in uncharted territory. Anything is possible, but there are no guarantees.

The hop and craft market today is more segmented than ever before. Although many brewers are long on hops, there is not a surplus of hops in general. Many brewers still need to buy hops. Then there is the alpha market, which is on the verge of deficit. For craft brewers who were proactive and already renegotiated contracts, future supply problems are largely resolved. For those who chose to kick the can down the road or were not flexible, the options remaining are greatly reduced. Excess inventories from the 2015 and 2016 crops linger, but brewers are slowly working it into their production. Others are quietly selling their surplus, careful not to dump prices so as not to harm the hop market or the value of the inventory they purchased. We’re all hop merchants now.

 

If there enough hops, why are farmers planting more?

The simple answer is because there are breweries that still need hops. The market is much more complicated than it appears on the surface. Some merchants will not allow breweries that over bought to renegotiate contracts. Rather than shuffling existing inventory between the “haves” and the “have nots”, they keep contracts in place. They sign new contracts with new customers. In theory, there is nothing wrong with this, except that it delays the problem of dealing with excess inventory until another day. On paper, this creates the perception that sales are growing. This looks great to investors and banks. Sustaining massive lines of credit to finance hop inventory for longer periods, now commonplace among hop merchants, is the likely reason.

Brewers are also throwing up roadblocks in the renegotiation process. It takes two to tango after all. Brewers must be willing to let go of current inventory. Many are not. They must be willing to extend contracts further into the future in exchange for relief of current obligations and think they can dictate the terms of their contracts now that they don’t need the hops. Many don’t want to seek a compromise that works for both sides. They fear they will not find the varieties they need again so easily in the future and want to completely abandon the hops they contracted believing they can just buy them on the spot market for less.  Every year, due to the hop industry producing at capacity, there are variety specific shortages and no way to predict from year to year which variety may be short as that depends largely on the weather. The certainty and stability of the supply of a variety is jeopardized while the market is so near the point of equilibrium, as it is today. When brewers move away from contracting, which is already happening, it leaves growers with no guide as to the varieties the market needs. 

 

The Catch-22

Prices for hops remain stable at a historically high level due to the cost of expanding infrastructure. Coincidentally, many breweries feel that pain too, having recently finished financing expansions of their own. The market for which they expanded, however, has not materialized meaning many will be laden with debt and producing below capacity. Revenue from beer sales has slowed in 2017 further restricting cash flow causing many brewers to withhold payment for hops until absolutely necessary.

Brewers’ lack of payment for contracted hops increases the costs and risks associated to carry each crop from the time it is produced until the time it is delivered. Despite the slowdown, growers still expect to be paid on time. Many brewers do not take this into consideration, or simply don’t care. If this additional expense continues, hop prices to brewers should increase. That is not likely to happen due to the competitiveness of the hop market. Prices, however, are also not likely to decrease anytime soon due to the additional expenses inherent in the industry today. 

 

When perception is not reality

To a Koi in a shallow pond the world is very simple. She doesn’t perceive the world on the other side of the water. She may not even realize she is swimming in a manmade pond. Similarly, many brewers believe they understand the hop market. They are convinced hop prices will plummet soon because they hear oversupply exists. After all, that is how the market behaved in the past. That perception is overly simplistic. They see the market in two dimensions, supply and demand. The hop market has at least a few more dimensions. Cost of producing a crop and the debt associated with it provides depth to the picture. How the market behaves over time adds breadth. The increased complexity introduced by the larger number of players growing, selling and buying hops increases the randomness of the path forward making the path forward less predictable. Sustained growth and a state of equilibrium has never existed in the hop industry before and it is proving to be a very precarious place. 2017 will be a pivotal year for the hop industry. Beyond 2017, the future of the hop industry is murky and unpredictable.

 

 

 

 

 

The ROI of CBC

If we’re being honest isn’t the purpose of a hop merchant having a booth at the trade show to sell hops? If you think it’s just to say hi to everybody and shake hands with customers, I’ve got some Hopi Luwak™ to sell you. This year, we took a second look at whether there could be enough hop sales resulting from the CBC to pay for a cool booth. With so many large brewers well stocked on hops, the chances of them buying much more are virtually non-existent. The odds of paying for CBC by making sales to small brewers who can afford to attend are slim. Three days just isn’t enough time to do so many deals. A lot of small brewers can’t even afford the thousands of dollars it would cost to attend. We don’t want to do CBC just because everybody else is doing it. It has to pay for itself one way or another.

We asked ourselves, “How could we do this whole CBC thing better than we’ve been doing it?” The answer we came up with was fun and a little crazy. We decided it might be possible to chuck the whole idea. Why mess around with baby steps, right? Go big or go home. To figure out if we were on the right track, we asked some brewer friends if they thought the booth was a necessary part of the merchant / brewer relationship. We searched for a compelling reason to spend several times the average American’s annual salary in just three short days. For the 2017 show, we couldn’t find one.

Responses from our brewer friends varied. Some were surprised. Others were encouraging. In general, they supported our plan. Most take it for granted that every merchant will have a booth at the show. Nobody seemed to think that having a booth at the CBC was all that important. The consensus was that it was just nice to see your hop supplier. Brewers with whom we have the most candid relationships shared with us that they had always wondered, how much they were over paying hop dealers so they can afford those booths. We decided that there was so much more we could do with that CBC booth money.

“How much are we over paying hop dealers

so they can afford those booths?”

So … We’re experimenting in 2017. Whether we exhibit at the 2018 CBC will depend on how it all goes. We’ll be at the show. We’ll attend the presentations. We plan to roam the show like gypsy hop merchants. If you see one of us walking around in a 47Hops shirt and want to talk hops, say howdy. The deepest discounts and opportunities are reserved for people who buy online or who stop us in person at the show. We’ll still offer sale prices during CBC week for people stuck in the 20th century who prefer to email or call. So … If that’s how you roll, don’t worry. Since we’re not blowing a small fortune on a booth this year, we can offer a metric butt load of discounts. Take advantage of that! 😉

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Who sets hop prices – Part 2

Welcome back! So now you know how hop prices can change and what makes them change. What can you do to keep the cycle from affecting you? Here are some practical tips that will help you save money. They can also keep the cycle from recurring to the extreme that it happened in the past.

It seems some new brewers don’t understand the history of contracting. For years, this was the normal buying strategy was something like this:

When the craft beer revolution happened everybody started contracting at 100% of anticipated growth for 5 years into the future. Bankers and growers required that stability to lend hundreds of millions of dollars to the hop industry. It’s hard to know what you’re going to do 5 years in the future. Of course, when the market slowed the imbalance between supply and demand caused everybody to shudder to a stop. The zero cost of signing a contract mistakenly led brewers to believe that it was easy to hop in and out of contracts. While contracts are too easy to sign, they are difficult to unravel.

How do brewers growers and merchants move forward now in a way that will keep the market from getting out of control, in either direction. Here are some ProTips to consider.

 

ProTip #1: Always be in the market for hops, even if you think things will be better tomorrow. That doesn’t mean buy hops until they are coming out of your nose. Quite the contrary … It means regulating your buying habits so you never have to buy all your hops at once. Plan to buy some every quarter, or even as often as every month. You’ll get a mix of some high prices and some low prices. The mix will beat the market in the long run. If you always base your future purchases on your current needs, you won’t end up with a surplus. If you buy 20% for each of the next 5 years annually and further spread that 20% throughout the course of the year, you’ll pay far less than the guy who has no hops when the shortage happens and has to buy at peak pricing during a shortage.

ProTip #2: Timing the market is impossible so don’t try. After that first ProTip, you’re probably thinking, “yes, but I’ll be paying more than if I buy when the market is cheap”. That’s true, but very few (if any) people are lucky enough to buy all their hops when the market is at its cheapest. If you try to be that person, the odds are not in your favor and you will not likely succeed.

ProTip #3: Don’t be afraid to buy old hops. You’ve been taught that fresh is always better. I don’t mean you should buy those cheesy old hops that Lambic brewers love … unless you’re brewing a Lambic. What I mean is that you can buy 1-2 year old hops so long as they have been kept in cold storage at a constant temperature. If they have, the only difference you’ll likely notice is a slightly reduced alpha value. If the hops have not been stored properly, don’t consider taking this route.

ProTip #4: Don’t ever be dependent on one hop variety. In this age of variety specific shortages, none of your beers should rely upon just one variety. Diversity is strength. If you can’t get one variety, you can easily substitute something for it and nobody will ever feel the difference.

ProTip #5: Know your hop vintage. What?!? Hops don’t have a vintage … do they? Typically, nobody thinks of it that way, but there can be big differences between crop years. Depending on the weather, an old crop can be better than a fresh crop. Most recently, that happened with German Magnum and Herkules from the 2014 crop. They were much better than those from the 2015 crop due to the weather in 2015. You might not want to waste the time to know all about each crop year, but you should know enough to ask the person selling you your hops. They know.

ProTip #6: Remember that hops are a sensitive agricultural product. You NEVER know what the weather can do to the crop tomorrow.

 

If you follow the ProTips in this article,YOU will be the one who sets your hop prices. If brewers leave the market en masse now because they perceive an oversupply that may or may exist, their actions will send the market down an old familiar path.

In the end … We are all just actors.

Who sets hop prices – Part 1

Events unfolding in 2017 will determine the course for hop prices for the next generation. In the past growers, merchants and brewers always traveled a well-worn path. When standing at a similar crossroads, they followed the animal spirit. That path leads to boom and bust cycles. It is a path that brings shortage causing skyrocketing hop prices. This is the one time when that cycle can be interrupted and at no time in history has it appeared more likely to happen. It will determine whether craft brewers are different from the big multinational brewers against which they rebel and who have dominated the scene for generations. Now, it is the craft brewers’ turn at bat. The hop industry is eager to see how craft brewers will play their cards differently.

 

All the world is a stage,

And all the men and women merely players”.

   – William Shakespeare, As You Like It, 1599

 

If, brewers perceive an oversupply and move to exploit the market to their advantage, it guarantees the next cycle will resemble previous cycles. By buying only on the spot market instead of contracting forward for their hops, and by relentlessly driving prices lower, craft brewers will virtually ensure the future direction of the market. When we see that happening, we will know they are following a well-established path of events, and there is good reason to fear it. At that point, growers would be powerless to stop the cycle.

Without contracts, growers don’t know what demand exists. They cannot know what to produce. They will remove acreage more slowly than necessary hoping to sell their hops on a spot market that may or may not exist. When they produce too many hops they will sell them at a discount to push them into the market. After a few years of doing that, family farms will go out of business. Equity will slowly drain from the hop industry. True, brewers will save some money on hops, but at what cost? Companies will go bankrupt. Growers will remove more acreage. Annual production deficits emerge and grow eventually leading to shortage. It’s a transfer of wealth from farms to breweries. 

That’s not the end of the world by any means. Life goes on if the cycle continues, as will the volatility in the hop market. By the time the next hop shortage occurs, the hop industry will be so drained physically, financially and mentally, growers have no choice but to recover as quickly as possible. Prices will skyrocket. Brewers will feel they’re getting screwed. The whole process is unpleasant for everybody. We all like to save money wherever we can. I get that. If you could know with absolute certainty you would pay as much as 40 times more in the future for something you need every year, would you still try to save 30-40% today? If you can save $1-2 per pound for the next few years, will you be equally as happy when you have to pay $20 more per pound. That’s where this road leads.

How can I be so sure that this can be the path for the future? Each cycle is slightly different, but basically this is how every cycle played out for most of the 20th century when the multinational brewers dominated the industry. The beer market is different now, that’s true. Will the fact that craft breweries dominate today’s market make any difference?

We already see a few craft brewers foregoing contracting in favor of buying hops on the spot market. We already hear their perception of oversupply as a justification for the low prices they expect. What else should anybody expect? Can anybody do anything differently to avoid repeating the mistakes of the past? We’ll provide some more insights and options in our next blog.

 

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The crisis that can destroy the hop industry

The March 1 Hop Stocks report collected by the United States Department of Agriculture National Agricultural Statistical Service (USDA NASS) is typically not fully appreciated by anybody and therefore only given a cursory glance. In 2017, however, this is very likely the most significant report you will read until harvest numbers are released. Hidden in the numbers is evidence of a trend, which, if it continues, will turn into a crisis of massive proportions with the potential to forever change and even destroy the hop industry as we know it today. Let’s take a deeper look.

Figure 1: The data from the most recent March 1Hop Stocks report

Figure 2: A graph of the 2007-2017 March 1 Hop Stocks data:

Less than a decade ago, brewers held more stocks than growers and merchants combined. That all changed in 2009 with the growth in popularity of the craft beer industry. Craft brewers clearly love their hops and they don’t mind contracting for them either. At first, that trend seemed to be great news for hop growers everywhere. Unfortunately, the way craft brewers are expressing their love lately has shifted the burden of financing the crop for an additional year before being paid. Some financing is traditionally built into hop prices, but not that much. Two things are troubling about the current trend:

  1. The gap of stocks and who is holding them is widening in the direction of growers and merchants, and
  2. The cost of and risk associated with that gap is growing.  

A quick look back in history reveals the scope of the problem. In March, 2007, growers and merchants held 40% of total stocks. Based on the season average price for the 2007 crop year of $2.99 per pound as reported by the USDA NASS, inventory held by growers and merchants in March 2007 represented approximately $83 million at a time when the entire industry production was valued at just under $180 million. 

Figure 3: A representation of the 2007-2017 March 1 Hop Stock data expressed in percentage of ownership of those stocks.

Fast forward to the most recent hop stocks report from March, 2017. Today, growers and merchants hold 200% more inventory than brewers, which equates to over a year’s worth of inventory. The season average price for 2016 was $5.72 per pound of hops. The increased price compounds the problem facing the industry by drastically increasing the risk associated with holding inventory. The total inventory held by growers and merchants today represents $600 million dollars. That’s represents a 722% increase in the value of stocks growers and merchants finance over the past 10 years alone. You can find the season average price data and do the math for yourself at the Hop Growers of America homepage

Hopefully you can see by now that the USDA March 1 Hop Stocks Reports is much more than a benign report that shows who is storing the inventory regardless of ownership. Typically, inventory does not sit long in the grower or merchant warehouse if the brewer needs it and has paid for it. Some does, but that’s the exception rather than the rule. Therefore, we can infer from the data not only who is storing the hops, but who needs it, who owns it … and more importantly who has not paid for it

Prices for hops surged over the past decade. Today, the USDA estimates the crop is worth roughly $500 million. According to the Brewers Association, the value of the craft beer industry in 2015 by contrast is $22.3 Billion. The natural question that arises in my mind is … Why is the industry worth $500 million financing the industry that generates over 40 times more revenue?  Something has to change or this will come to a bad end.

Hop prices increased to pay for investments in infrastructure incurred as the hop industry quickly ramped up in response to increased demand by craft brewers. Today’s prices do no cover the added responsibility of providing soft financing for brewers. It seems brewers are using growers and merchants as bankers of last resort. The current risk/reward ratio is not high enough for the hop industry to also act as banker. That is one reason we will see little interest in the short term by growers or brewers to soften prices. If the trend of financing continues, prices in the future will increase. Only once the ratio of stocks returns to a more balanced level, or if bankruptcies are imminent, will prices begin to soften.

Some brewers see the surge in hop stocks and hope prices will crash soon. They don’t understand the consequences of what they are wishing for. Hop prices crashing today will cause chaos in the hop industry. It would lead to countless hop farms going out of business. Say goodbye to creative new varieties. Sustainable business practices will take a back seat. Many of the features craft brewers say they appreciate about the industry today will disappear. Those go away when the money to pay for them goes away. Growers too should realize the seriousness of the situation. They cannot act without impunity. Ultimately neither they nor their neighbors will get paid if they continue to plant additional hops in the current environment. Ironically, it could be the craft brewers’ love for hops and their willingness to contract them that causes a catastrophic failure in the hop industry. 

 

Why homebrewers pay more for hops

A comment regarding homebrew shops from a friend on Facebook inspired this blog. I thought rather than answering his question in Facebook it would be worthwhile to share the answer with everybody since it applies not just to homebrew shops, but to everybody who buys hops. Enjoy!
 
…. specifically for home brewers. 3.00/ounce for some varieties in the homebrew shops. What is the shops’ wholesale price from the supplier. How many times do the hops get sold before they reach the end user? I’m working on connections to local growers in upstate ny to source hops, and be free of an inflated market price for hops. Supply and demand.
 

Good question. You are paying for several conveniences that apparently you don’t fully value or appreciate. If you are buying a 3 ounce package of hops, it seems you don’t want to buy any more than you absolutely need at the moment. You are paying extra for packaging and labor to put hops in 3 ounce packages. That’s just one thing that increases the price of the hops as they make their way from the farm to you. You probably have a freezer at home where you could store a pound or two of hops at a time. Are you not willing to use that as your own personal cold storage in order to save a little money?  If you buy in larger volumes, you’ll get a cheaper price. That’s the Costco business model.

Secondly, you’re going to a home-brew shop. The owner of that shop invested their time and money to collect a little bit of everything just for you so you can buy everything in one place … in person at a storefront. That involves rent and somebody’s salary to run the shop. When you go there, you probably like to ask questions from time to time to take advantage of the owner’s experience. That’s a convenience you’re paying for in that price  that it seems you don’t appreciate. That’s also another way price is increased on its way from the farmer to you. 

Yes, that homebrew shop probably bought those hops from at least one hop dealer so there’s an additional layer, or possibly two, of the supply chain adding to the price. Have you ever been to the grocery store? It’s the same situation there. Did you know the grocery store adds 100% margin to most of the goods it sells? I wouldn’t be surprised if your homebrew shop has to do the same. Do you feel the need to contact a carrot grower to buy your carrots or a cattle rancher to buy your steak? That sounds a little ridiculous, doesn’t it? That extra margin doesn’t mean the store is making a mint. There are just a lot of expenses involved in that business model.

If you want to buy at cheaper prices online, you can check out the store on the 47Hops web site.  We sell one pound resealable packages that you can stick in your freezer. If you can figure out a way to make that work, you’ll cut your hop bill way down … but you won’t get that same experience as at your homebrew shop. If enough people do that, the homebrew shops go away forever. That might not be a good thing, but that might be the way of the future. We’re definitely not going to hold your hand or have all your brewing supplies, but the price of your hops will be lower.

You shouldn’t make the mistake of judging everything by price alone without factoring in the value of all the other things you’re getting along the way. Nevertheless, brewers large and small do this all the time. I haven’t even mentioned cold storage, processing, financing and shipping, all things that add to the value of the hops you’re buying. There are a lot of people who have families to feed who touch that little convenient package of hops before it gets to your local homebrew shop.

Sure, growers sell hops for less than you can buy them in a homebrew store. Do you want to, or are you even able to, buy 13 or 130 or 200 pounds of raw hops at a time and pay for them in September? Do you have a freezer big enough at home to handle that?  Do you even use raw hops? If so, what are you doing buying 3 ounces at a time in the first place? Most growers don’t sell pellets. They don’t have storage facilities and they won’t package into 3 ounce packages. Very few growers are set up or are inclined to deal with somebody wanting a retail style product like what you are getting at the homebrew shop. All in all, you’re already getting a pretty good deal at that homebrew shop, but no … It’s NOT the cheapest price.

If you all you are looking for is cheap prices and nothing else matters, there are probably some really nasty old hops floating around out there. I imagine you can probably buy them for less than a $1.00 per pound if you’re lucky. Good luck making good beer with them though.  You should be careful driving your decisions based on price alone … you might actually get what you pay for. 

How to know the weakest hop companies from the strong ones

Now is the time of year when hop growers and merchants are digging roots and planting new hop fields. The past few years brought with them the longest running bull market in the hop industry. That market created strengths and weaknesses in a lot of companies. Unfortunately, that type of money facilitates a lot of careless mistakes and can hide fatal flaws. Brewers, merchants and growers were all shocked when the increase in craft beer sales slowed so drastically in 2016. Most people anticipated the market would continue on its run through 2020 or longer. Many planned accordingly. Obviously, that was not the case. It was confirmation bias at its finest. If you’re a brewer or a hop merchant, of course you want to know which companies will be around for the long term, and which won’t … but how can you know?

 

If everyone thinks one way, it’s likely to be wrong.

     – Jim Rogers

 

The abrupt slowdown of craft sales slowed the flow of money into the hop industry. That caused a wave of contract renegotiations with merchants, but very few at the grower level. Through it all, the worst pain most growers felt was not being able to sell their spot hops. Despite the fact that the talk in the industry is about the craft slowdown, some hop companies are still expanding. They claim their plans are already in motion and cannot be stopped. Expanding in the face of a drastic slowdown … That doesn’t make any sense … or does it? Actually, it makes perfect sense. It’s a tell! You might think the strong companies are expanding because it takes capital to expand or because there is strong demand. The truth is counterintuitive. The companies expanding “because they have to” are very likely the weakest companies. They lack the financial strength to do anything but chase growth and sales on their books. They lack options. Growth looks great on paper and investors expect to see that. 

I am sure you are thinking to yourself … “The craft market is still growing, albeit at a slower rate. There’s got to be some legitimate demand out there for new hops?” That’s true. Based on the rate of payment and deliveries to breweries in 2016, however, the overall market appears to be extremely well supplied from the 2016 crop. The USDA collects statistics on hop stocks. They are collecting them now, in fact. The report will likely depict an increase in brewer and merchant stocks over last year. Statistically, that is how the slowdown manifests itself. Still, there are no reports of growers removing acreage. We expect a net increase in production in 2017 over crop year 2016. That is a net increase that is very likely not necessary. So why is it happening?

Strong merchants and growers are pausing now to see what comes next. The industry is nearing a tipping point and they realize it. There’s no incentive to get caught heading in the wrong direction unless you don’t have anything to lose. The weakest companies, on the other hand, aren’t concerned with the long-term effects of their decisions. If they don’t get through the short-term, there is no long-term for them. They lack options. For sure, they can get lucky and survive the next year or two.

Sometimes, the difference between surplus and shortage can be just one bad crop away. That’s the case in 2017. The weakest players can capitalize on that misfortune and potentially make a fortune … or not if there’s a bumper crop. It’s pretty rough when your best chance of making money in your chosen field comes only after a crop failure.