13 things every brewer should know about buying hops

  1. Don’t buy more hops than you know you need.
  2. Renegotiating contracts is usually possible. In a successful renegotiation, both sides will compromise. Nobody ever gets 100% what they want.
  3. Weather determines the price of a variety on the spot hop market. Weather can create shortages or surpluses of supply of every variety in any given year.
  4. Buying on the spot market requires more flexibility. If you are not able to find the variety you want to buy, you will need to substitute.
  5. Contracting for hops in the future guarantees supply and limits options for changing varieties.

  6. Brewers should buy hops on the contract and spot market, not 100% on one or the other for  price stability.
  7. Hops are perishable and lose value over time … but, when stored properly, not as quickly as brewers think.
  8. Stay in touch – Communication & relationships will get you through difficult times.
  9. No variety is absolutely necessary unless the name of the variety appears on the label. Varieties with similar flavor profiles blended together can substitute for other varieties.
  10. The hop industry is small and there are no secrets – It’s just a question of the time it takes something to become common knowledge. Everybody talks to everybody else.
  11. Proprietary varieties are private property. Somebody owns them and collects a royalty on every pound sold. The owners may choose who produces, buys or sells their varieties and they can change their mind at any time.
  12. Public varieties are open source and freely available for all growers to produce.
  13. Never buy 100% of hop needs for your anticipated growth for future years.

 

Anatomy of the current surplus-shortage-surplus cycle

The anatomy of the current surplus-shortage-surplus cycle is not entirely unique. There are many similarities between this and cycles of the past. 

 

  1. A massive oversupply occurs in response to over contracting. Spot hop prices plummet. Once it is clear a stable exists, brewers try to renegotiate expensive contracts into less expensive longer-term contracts.
  2. Contracted demand decreases rapidly. New contract prices (if available) plummet accordingly.
  3. Growers remove acreage (growers never remove acreage as quickly as they plant).
  4. After several years of acreage removal, an annual production deficit quietly develops. Surplus hides the deficit from the market. This is one of two times when equilibrium between supply and demand exists in the market. The perception of surplus, however, dominates.
  5. Recurring annual production deficits erode the accumulated surplus. Brewers believe a surplus of hops still exists. Prices are depressed further, which leads to further acreage reduction.
  6. Increasingly larger annual deficits diminish the surplus to the point where merchants must juggle inventory held by their customers to keep them all supplied. Brewers remain unaware of any potential shortage.
  7. Merchants buy the cheapest inventory far into the future at low prices and reluctantly increase prices slowly. They entice growers to plant slowly so as not to cause a panic in the market. This is a gamble. Agriculture is unpredictable. Success means delaying the shortage until they reach a point of equilibrium. The chances of that happening are very small. Short crops and bumper crops are equally likely in any given year. This is a risky strategy.
  8. Some irregularity occurs somewhere in the market.    8a.) If the crop is short, some brewers become aware of the presence of a supply problem sooner than others. It will not be possible for the market to quickly correct the deficit, which is now far below equilibrium.   8b.) If, on the other hand, the crop continues to be average or long for several years, merchants can delay the day of reckoning. They slowly increase prices to develop inventory. Some brewers become aware and may reduce their reliance on spot inventory positions. (there is no precedent for a balanced hop market).
  9. Let’s assume 8a occurs at some point. Brewers en masse become aware of a shortage … a rush on the hop market ensues. They fear not having the hops they need to brew beer since they buy a significant portion of their hops on the spot market.
  10. Prices increase. Anybody who has unsold hops hoards them, exaggerating the effect of the shortage. Some people break contracts to sell on the spot market. Higher prices prevail.
  11. Brewers, fearful of more hoarding and a multi-year shortage, contract more than 100% of their needs to be sure they have ample supply for future years.
  12. Growers plant more hops than they sold to satisfy 100% of their contracts at the new high prices. They dump extra production at whatever prices they can find. This is the other time when equilibrium occurs, although growers plant so many hops at this point that nobody notices. … A surplus of inventory quickly develops.
  13. Rinse and repeat.

 

 

Hop Farming: 6 things to consider when starting a hop farm today

1) You’re a little late to the party. Had you planned your new hop farm a few years ago, you might have had it paid for by now and you’d be enjoying this article from a different perspective. Today, there’s no need for new hop farms, or even new acreage. Anybody planting hops commercially today is missing the bigger picture and contributing to oversupply. For all you passionate small growers just getting started … No, I don’t just want to keep acreage out to keep prices high just so I can get rich. Hop merchants can make money if prices are high or low. It’s growers who will take it in the shorts if the price drops below the cost of production.

 

2) Quality and service matter, but they’re not the only things that matter! There are very few brewers who are loyal to a certain supplier regardless of whether or not the price is competitive. Cue defensive brewers who want to argue to the contrary! I’m not saying they don’t exist, but, in general, brewers buy hops the same way they buy milk. Think about it … you don’t look for a certain variety of milk, do you? Unfortunately, price plays way too important a role in the hop industry. That’s the fault of the industry itself (a topic for another post). Grow what you have sold instead of selling what you have grown.

 

3) The industry feels big today with all the attention, but everybody in it is still in a very small boat. You may lose. It may not be something you do that brings you down, but something somebody else does. That’s why you need to know what’s going on in the industry and understand what that means for you. Everybody rises and falls together with the tide. Come to think of it, that doesn’t just apply for the small hop grower.

 

4) Nobody owes you anything! Sometimes the idea of sustainability alone isn’t sustainable. If you’re a small local producer, that doesn’t mean your local brewers have to prefer your hops. I know of a larger brewer who was excited to support their local hop growers. They bought local hops at $17 per pound really just because they were local. They thought they were doing the right thing. Sounds like a great sustainable thing to do … right? Unfortunately, quality and consistency were all over the place. By supporting their local hop industry they were supporting the wrong behavior. Fast forward to today … the brewery is back to buying hops from the Pacific Northwest. Being local in and of itself won’t be enough.

 

5) You have to know your market and know your place in it. If you produce hops in Michigan, Montana or Florida, your hops aren’t local in Illinois. Once you go out of state, you lose that competitive advantage. You may have high quality hops, but your local advantage is gone. Once you go out of state … guess what … all of a sudden you’re competing with Pacific Northwest growers. If you’re going there, you better be ready for a fight. Those guys are the big league. They could care less if you go out of business. In fact, they might even enjoy it a little bit. That would justify their business model and there are some sadistic mofos in the industry.

 

6) There’s no room for idealism in the hop industry. It’s a cutthroat business. That means you might have to do things you didn’t consider doing when you started to make money. Maybe you only want to sell organic hops. You can try to specialize, but at the end of the day you have to do everything possible to survive. You can’t live on enthusiasm and you can’t eat hops.

17 Predictions for 2017

  1. The American craft beer industry will continue to grow, but at a slower rate. (Yes, I decided to start with the most obvious one first. The juicier ones are down below.
  2. An increased rate of brewery closures in the U.S.
  3. The alpha hop market will remain extremely tight and on the verge of shortage meaning that prices will not weaken during 2017. (Caveat: If growers foolishly plant any available acreage into alpha hops, alpha prices will crash as a result unless there is a very short crop.)
  4. A net gain on the number of breweries in the U.S., but the rate of brewery closures will increase. 
  5. Crowded shelf space, poor distribution opportunities and cash flow will be cited as reasons for brewery closures and slower than anticipated growth. 
  6. Continued domination of traditional distribution channels by the big brewers.
  7. Development of craft distribution alternatives will become more common. Growth will be very slow. 
  8. American hop growers will continue to expand acreage of proprietary aroma hops
  9. The growth and industry awareness of a “fully contracted” surplus of proprietary aroma varieties. (More on what a fully contracted surplus is and what it means for the industry in an upcoming blog … stay tuned
  10. Continued strategic purchases of craft breweries by big brewers
  11. Sales of contracted hops by brewers on secondary markets will increase.
  12. Maintaining cash flow will become a serious issue in the hop industry. 
  13. The international craft beer industry will begin to grow, following the path blazed by the American craft beer industry. International craft will take on local flavors and practices further developing the art.
  14. The make up of the craft beer industry will continue to evolve. Old commonly accepted principles will not work going forward. (More on what a fully contracted surplus is and what it means for the industry in an upcoming blog … stay tuned.
  15. A rebellion against proprietary hop varieties will begin. Driven by the desire for more open source hops that can be purchased royalty free from any grower, brewers will lead the charge. Growers will also quietly be in favor of the change.
  16. Hop merchants will become less willing to renegotiate hop contracts with brewers who have over contracted.
  17. There will be at least one lawsuit in which a hop merchant takes a brewer to court for lack of performance on a contract.

 

The Seven C’s: How to Navigate Hop Contract Renegotiations

The last year has seen a slow down at the top end of the craft beer industry resulting in the need to renegotiate many contracts. Thankfully, in most cases it is possible to resell the hops in question. The process of renegotiating a hop contract is a bit tricky, but there are some simple things you can keep in mind if you’re a brewer needing to make some changes.

 

1) Connection: Relationship is important between any two people doing business together. That seems painfully obvious, but it is often ignored. At the end of the day, the hop merchant and the brewer who get along well will work together well in good and bad times. It’s simple. We want to help our friends. If you’re a brewer and contract for hops and then the next time anybody hears from you is a year later when you send an email saying you don’t need all the hops you contracted, guess what … it’s not going to go so smoothly for you. There are a few things you can do to make sure that doesn’t happen. You can reach out to chat about what’s new in the hop world a few times during that year, even if it’s only for 10 minutes. You can stop by the office when you’re in Yakima and say hi. You can send a bottle or two of that new beer you’re so excited about that was made with hops from that merchant thank them for being a part of the process. I can count on one hand the number of brewers who do those types of things. All those things are small pieces of a puzzle, but they will make a huge difference if you find yourself needing a favor down the road.

cpwmobilebeer

2) Communication: Renegotiate early and often

As soon as you think you might have a hop position that does not match your needs, either over or under, that’s the time to bring up the topic if you hope to get it resolved smoothly. The sooner you can contact somebody about adjusting a contract, the better. If you’re preoccupied with other things and honestly didn’t notice that you have over or under contracted, you can lead with that, but that is not very confidence inspiring. It tells the person on the other end that you might have some other problems lurking.

 

3) Clarity: Remember that you are not doing anybody a favor by asking to renegotiate a hop contract. Quite to the contrary … You are asking for a favor. Be nice. Don’t expect that anything has to be done to make you happy or to correct the situation you’re in. True, it’s better for everybody if contracts reflect actual demand, but getting there is not free and it’s not easy either.

sketch14443275659104) Compromise: Be ready to compromise. The contract began with the mutual desire to work together. More than likely the merchant will want that relationship to continue. As a brewer on the other side of that contract, you should be ready for some sort of contract to continue in some form. The exception to that is if you’re giving away a valuable position (i.e., low priced or difficult varieties that are not stable producers or a variety that can easily be resold because it is highly desirable). The merchant has invested in the hops already and changing that contract in any way may cost them money. There are ways to make up for this. Prices can change. Terms can change. The length of the contract can change. If you’re requesting a contract adjustment, all the variables are in play. It’s not typical to just cut the volumes and move on unless the merchant has a waiting list for those particular varieties.

 

5) Candid: Honesty is worth its weight in gold, and unfortunately sometimes just as hard to find. If your contracts are not where you would like them to be, honesty will go a lot farther than a story. Please don’t make up a story about how your head brewer went rogue and contracted a bunch of hops without your knowledge and that you can’t be held liable for contracts that he signed. The hop industry is very small. Most likely the person who sells hops knows a lot of other people. If your story doesn’t pass the sniff test, they can easily fact check any story you may give.

 

6) Cherry Picking: You’re a brewery with a contract for several varieties and want deep cuts in all but one. Let’s suppose that one variety you want to keep is a very hard to find variety. Perhaps, it’s the only one with a lower price than the current spot market. Maybe neither of those are actually the reasons you need to renegotiate. The perception on the other end will likely be that that is the reason. Maybe the real reason is that the beer you brew with that variety is the one that’s taking off and has left all the others in the dust. Without some of the other C’s mentioned above, particularly communication and connection, it will very likely look like you’re trying to cherry pick the most attractive parts of your contract.

55de07d94d913-image

7) Cash: Be ready to pay some sort of compensation if you can’t find a common way to proceed. Yes, you may have to pay to get out of a contract. On the other end, those hops are already purchased and reserved for you. A contract with a hop merchant represents a volume of hops that has been purchased from a grower. In many cases, the grower and perhaps the merchant, has gone to the bank with those contracts and borrowed money against their value. That’s true regardless if it’s 2016 or 2020 and you want to renegotiate. If you want to change a contract, those hops will need to be resold or removed all together.

 

Some of the things mentioned above sound painfully obvious. Unfortunately, all of the suggestions above come from real life situations we have experienced within the past year or two. Our grower and brewer relationships are very important to us, so please keep these Seven C’s in mind if your thinking about contract negotiations. 

PS:  Please subscribe using at the top right if you enjoyed this blog. We’re preparing something new for later this year that will also be free and insightful, but only available by email. We plan to share it, and other fun projects we are working on, with the people on those lists first. To put yourself on one of those lists is free of course.

5 Things that can Destroy the Hop Industry

You would think times are good in the hop industry with prices at their current level. Hop growers are rock stars. People buy beers with the names of hop varieties on the label just because they love that variety. Being involved in any way in the hop industry makes you instantly the person with the coolest job in the room. In fact, I’m sitting in a hotel breakfast area as I write this wearing my 47Hops shirt and a stranger just asked me what the shirt was about. When I told him, he thanked me for doing my job. We proceeded to talk about hops for the next 10 minutes! I love talking to hop enthusiasts! This happens more and more lately. It’s easy to get distracted by the popularity of hops these days. Despite the positive juju out there and the high prices, the future of the hop industry has quietly slipped deeper into jeopardy than ever before. The only time in recent history when the industry was in a similarly precarious position was about 12 years ago when nobody wanted hops and they sold for less than the cost of production.  Let’s take a look at five of the most serious threats to the industry today.
 
Debt
How can the glory days of 2016 and the biggest craft beer boom ever possibly be compared to 2004, a time when few people knew or cared about hops? One word … DEBT. The hop industry is spending money like a drunken sailor to keep up with brewers who are trying to keep up with the public’s craving for craft. One of our competitors reportedly just spent $4 million on a pellet mill! All of the infrastructure development in the hop industry costs millions of dollars. Because of the chicken and egg nature of the hop industry somebody has to take a blind leap of faith, take a risk and go first. Back when nobody appreciated hops, everybody was losing money in a neglected industry, and it showed. Expectations were low and the future of the industry looked grim. Today’s industry is managing the biggest expansion in history. All that growth has caused a lot of financial stress. It is just well hidden from view behind a flurry of expansion projects and high prices.  There’s a lot of money coming in, but there’s a lot of money going out too.  There is more debt in the industry today than at any time in its history. Nobody is going broke today, but all that is keeping that from happening is the stability and durability of high priced contracts. 
 
Right now, you’re probably thinking, “Oh geez, an article from a hop dealer supporting high prices. Surprise surprise! Of course he’s saying that. This guy wants high prices because he can make more money.” I hear that a lot. Actually, that’s not true at all though. In today’s market there are no opportunities to find bargains.  Today, every grower wants top dollar for their hops. With low contract prices, there’s much less risk involved with taking a speculative position. With low contract prices, the ROI is much higher than it can possibly be today. Some brewers and most growers seem to think that hop merchants just take hops from growers at dirt cheap prices and sell them to brewers while adding a $h!t ton of margin along the way. If it were that easy, a LOT more people would be doing it.
 
Instability
It will take years of stability to repay the debt the industry has amassed. In theory, that’s why we have hop contracts, so everybody can estimate who needs what and when and so they can agree what they will pay for them.  That’s hops 101.  The American hop industry is more heavily contracted today than ever before, which on the surface seems like a great thing. So, what’s the problem? A lot of brewers don’t seem to understand or don’t care about the effects of a contract beyond fixing the price of hops for both parties. Some are hoarding quantities they don’t need and later ask to renegotiate the contract or sell them on secondary markets. For the moment, there’s no cost to sign a contract. Some brewers have figured out they can get the merchant to reserve their hops for them at no cost.  One problem with this strategy is that hoarding and over contracting sends the wrong signals to the market, cost hop growers millions of dollars and can cause result in low spot market prices, which can be a dangerous thing.
 
Renegotiating Contracts
Why are low spot market prices so dangerous? Everybody likes a good deal. The problem is that nobody wants to think they are paying more than their competitor. When breweries with relatively high contracts prices see the price on the spot market decrease, which it does when there is even a slight surplus of hops, naturally, they want to escape from their high-priced contracts to save a buck. In a market as opaque and unregulated as the hop market, a contract serves the purpose of creating stability, price discovery and guides the market so growers and merchants can know how to scale their businesses. All of those things are actually of greater value than the money received from the contract. Stability helps the hop industry to finance the creation of all those fun new hop varieties everybody seems to enjoy today. It finances the high quality of the hops brewers receive. It pays for the thousands of people who work in the industry to produce the hops. If you’re a brewer and you want to contract for hops, you should only contract for what you need. It’s a contract after all. It’s a binding agreement. 
 
The instability created by contract renegotiations and unsustainable prices has a ripple effect all the way to the bank. Why?  Infrastructure and debt! The US hop industry collectively invested over half a billion dollars in infrastructure during the past 3-4 years. To keep pace with the craft industry between now and 2020, another $500-700 million investment is necessary. Most of that money will be borrowed and must be repaid with interest. Everybody is banking on the current prices sticking around for a while and for existing contracts to be honored. If you’re a brewer and want to renegotiate your contract because you see lower prices for the varieties you have contracted, keep that in mind.
 
Short-Game Players
Traditionally markets that create high hop prices don’t last long. Like kids grabbing candy as it falls from a piñata, hop growers and merchants are used to grabbing all they can while it lasts. Nobody in the hop industry is accustomed to being the prettiest girl in the room and having all the boys chasing them. It seems to be a new reality that will take some time to which to acclimate. When you’re the prettiest girl in the room, you don’t just share your cookies with everybody who comes along. You also don’t go walking around on every corner asking people if they want some of what you’ve got. You let the people who want what you’ve got come to you and sort through the noise. What does all this have to do with hops?  Plenty! The hop industry needs to adjust from a one-night stand mentality to a long-term relationship. If I were still Executive Director of Hop Growers of America, the theme for the 2017 convention would be PLAY THE LONG GAME.  We would have a mix of economists, football and baseball coaches who can talk about the value of playing the game all the way to the end. I’d invite bookies and professional gamblers in to talk about how to evaluate the risks of gambling, strategy and how to read your opponents. I’d bring in archeologists … what?!? What? No, I’m not smoking recreational marijuana. Archeologists are masters of patience! Imagine you’re an archeologist and you’ve just found what seems to be a lost city from ancient Sumer.  What do you do? You painstakingly scrape away each layer of dirt revealing the city beneath in an operation that could take decades. It’s definitely not as dramatic as Indiana Jones grabbing the gold statue and making a run for it, but in the long game the short term gain is not the goal. Imagine the patience and vision necessary to restrain yourself like that. It’s the long game that counts. Why?  The long game is infinitely more valuable than the short game.
 
This is a common theme you’ll see when you start looking for it. There’s a great scene from the movie Colors in which experienced cop Robert Duvall tells new cop Sean Penn a joke to convey to him the value of focusing on the long term goal rather than being distracted by short term gains. It’s an awesome lesson and reflects the thinking hop growers and merchants need to have in today’s hop market.  
colors
 
 
Speculators & Hoarders
Does it sound bad to suggest that everybody in the hop market should forego their own personal greed in the short term and work to keep prices stable in the long term by only planting and selling for the demand in the market, and not an additional pound? No, I haven’t been reading Das Kapital, but a little unity among growers would make a huge difference. Does it sound bad to tell brewers they shouldn’t hoard hops and should only buy what they plan to use and not a pound more? Do what you want, but you’re destroying the hop industry if you’re a hoarder.
 
During the 2016 CBC, several hop growers approached us asking if we wanted to buy any hops.  I told them all that we are just fine for now. Growers offering hops was a change from the pattern of the past few years so I did a little digging. What I learned is that some growers have planted a little more than they had contracted. They are starting to speculate on the market, which is why I am writing this article today.
 
sawing-branch
 
If you’re a hop grower and produce a little extra to speculate on the market, you’re sawing off the branch that you’re sitting on.
 
 
A potentially good crop in Europe and articles proclaiming slow growth of the craft beer industry and the return of equilibrium to the hop market can create the perception among brewers of surplus all by itself, regardless of the facts. That, in turn, could create isolated opportunities for discounted hops. The perception of a shortage or deficit can cause as much damage as the real thing.
 
During the time of low hop prices, some growers left hops hanging in the field.  They couldn’t afford to pick them so they didn’t. When times are good, growers harvest extra hops because they believe they can afford to. They figure they have made their money on that field with what they’ve already sold and that anything else they get from it is like icing on a cake. Harvesting that over production is more costly than harvesting hops when prices are below the cost of production. What if they just left them hanging? That sounds like a crazy idea, but why should a farmer produce a surplus for a market that will punish him later when they can afford to regulate his own production.
 
poop-emoji 
The Irony of the situation is that $h!T rolls downhill. Low prices are attractive and we are designed to respond to them. The money in the industry comes from one source and flows in one direction. If low prices emerge on the spot market in today’s market, it will have a ripple effect and there will be less money flowing through the industry. Those low spot prices will act like a cancer undermining the strong contracts financing the growth and variety of the industry. If you’re a grower or a merchant, that means you can’t pay your bills.  If you’re a brewer, you are jeopardizing the source of a very important raw material. Either way, it’s a lose-lose. If people can’t resist the temptation of low prices, that will be the fall of the hop industry.

 

 

 

 

 

 

9 Hop Trends For 2016

Now that we are done looking back at 2015, we can focus on the year ahead and how it will affect the hop and beer world. Here are some of the things on our mind at 47Hops as we get 2016 started.

  1. We believe 2016 will mark a turning point in the market. Before you exhale a sigh of relief at the thought of hop prices finally on the decline after the past three years of rapid increases, wait a minute. We didn’t mean prices would be heading downward just yet. This is just getting started. Sales of craft beer in 2015 were up by 20% according to the Brewers Association. That will make those buying hops feel even more comfortable about buying for the future. It seems this trend has a long way to go before things slow down and prices decline.
  2. Despite all the good news in the hop and beer world about increasing demand, risk is on the rise. Never has the market been in a more precarious position due to supply and demand. The hop industry is seriously undercapitalized and suffering from a lack of infrastructure. The inability to respond quickly to demand with existing infrastructure causes prices to rise. The rising prices slow the willingness of merchants to sign any speculative long-term contracts at higher prices. Speculative and anticipatory merchant purchases traditionally create a buffer against poor crop performance and shortages. The buffer financed by the merchants is shrinking. That responsibility will likely shift to growers and brewers.
  3. It is our view that a real shortage of hops is inevitable for the Emptyfirst time. The question at the moment in our minds is whether we see evidence of it in 2016 or 2017. We believe that will most likely happen in 2017, but there is a good chance it happens in 2016. Agriculture is inherently unpredictable. A poor crop could trigger just such an event, but a worldwide bumper crop could just as easily delay it. “Hang on … Didn’t we just have a hop shortage in 2008?” you’re probably thinking to yourself. Well, yes, and no … Not really. There were hops in the market back then. They just weren’t where they needed to be when they needed to be there, which drove prices upward. Then people got greedy and prices went crazy. Perception creates a powerful reality, even when it’s false.
  4. In 2016 and beyond, the American hop industry will need to Gekkofind creative ways to finance new growth. As they say, “Cash is King”. Cash flow is governing how much banks are willing to lend to American growers to finance new operations. Make no mistake about it, American farms are leveraging their futures to finance the current expansion, another risk added to the pile. Only a few completely new farms are now under construction in 2016 and 2017 to handle the growth going forward. The industry needs more. In addition to that, warehouse space for all those bales during harvest is at a premium these days. The hop industry is running up against capacity issues for the first time in living memory.
  5. In 2016, we already see that there won’t be enough aroma hops to satisfy the growing craft appetite. That’s kind of a no-brainer, but we had to include it anyway. The best the American industry can muster at the moment seems to be another 3,000 and 4,000 acres. We estimate there is demand for an additional 5,000 – 6,000 acres. With craft growth at 20% for 2015 and still continuing to grow, expect a very tight hop market with little or no spot hops available.
  6. We believe German growers will realize in 2016 what American growers realized in 2013 … They need more money if they’re going to grow with and stay relevant in the hop market going forward.
  7. As Will Rodgers once said, “Buy land. They ain’t makin’ any more of the stuff”. It seems in 2016, any land within comfortable driving distance of an existing hop farm in the U.S. or Germany will become much more expensive as future expansion plans ramp up.
  8. Opportunists with little understanding of the hop or beer market will continue to jump into what looks like a never-ending rising market in 2016. They’re here for a quick buck. This will happen on the craft beer side as well as the hop side of things. While competition is good for any market, there will inevitably be some who cannot deliver on what they promise. They will be the first to jump ship when the sea gets rough.
  9. Last, but most certainly not least … Alpha acid will become a Tsunamiserious concern in 2016. “Who cares” You might think if you’re a craft brewer not using alpha hops in the first place. You should care if you are anywhere near a brewery. The alpha cycle is rearing it’s ugly head again. The surplus from the previous surge in production, back in 08, is nearly to the point where it has triggered a reaction in the market during past cycles. We estimate there is currently an annual production deficit of approximately 1500 metric tons of alpha. For those of you trying to quickly do the math in your heads, that’s over 22 million pounds (10 million kilograms) of hops at 15% alpha! That’s BIG when you consider an average American hop farm can only produce 1 million pounds of hops. The average European hop farm produces much less than 10% of that number. Imagine it like a tsunami. If we weren’t seeing a flood of demand for aroma hops from the craft industry, this would be the point where all the water recedes into the ocean and the passers by, unaware of the stages of a tsunami, are amazed and distracted by the fish left behind on the beach. Whatever aroma hops aren’t contracted now will be swept away by the fury of a wave of alpha demand fueled by Mega Brewers with very deep pockets.

5 Reasons Why The Next Hop Crisis is Coming & How to Avoid it: Part 2

In our last blog, we presented 5 reasons why we are headed for a hop crisis. Today, let’s explore the solution.

Bank support is dwindling. A grower friend of mine is having trouble getting financing from his bank as we speak! He has hop contracts for almost everything he plans to grow … still problems. The bank tells him they’re not comfortable with the level of risk. Merchants have financed some steps are unlikely to finance the next step of expansion. There are few financing options that allow for a rapid increase in production capacity. Venture capital and private equity would be other options that could enable a quick expansion. Some of those guys read this blog. Unfortunately, even with the current market, hops don’t provide the type of returns that attract most professional investors. They’re more likely to invest in breweries.

So why does everybody think there so much risk? This market looks like a no brainer for people from the outside looking in. It is anything but simple. Enduring a risky high priced spot market during a shortage is one thing. Deals come and go quickly. You’re in, you’re out … badda bing, badda boom! It’s a spot market so you’re only gambling with the chips that are on the table. Usually, the buyer has his money on the table and ready to buy when you’re buying the hops. A high-priced contract market based on brewery projections for growth and farms that are stretched to the limit, on the other hand, that lasts for years. That is another game all together. Sure, there are profits built into the prices at both the merchant and grower levels. Those potential profits represent only a fraction of the potential losses though if the market falls apart. For that reason, some people are getting a little nervous at the speed of the expansion as we approach this next very expensive step of expansion.

To A Mouse

But, Mousie, thou art no thy lane [you aren’t alone]

In proving foresight may be vain:

The best laid schemes o’ mice an’ men

Gang aft a-gley, [often go awry]

An’ lea’e us nought but grief an’ pain,

For promised joy.

– Robert Burns 1786

robert-burns_with_sun_glasses

As with the mouse’s nest in the poem above, the problem comes and the house of cards falls apart if the grand plans for the future are not realized. For that reason, some are cautious. The length of the market and the risk involved creates chronic risk, the type the hop industry has not seen before. Rather than a card game, it’s like playing Russian roulette over and over and over again. The longer you play, the more likely that something can go wrong.

FORWARD PAYMENTS

Without banks that are willing to finance growth, the next step in the evolution of this high stakes game is very likely forward payments. If growth and infrastructure expenses continue, risk will continue to grow as the industry falls deeper and deeper into debt. That debt is only repaid when everybody down the line fulfills their obligations. Some people certainly won’t have an appetite for so much risk and will take only the risk with which they are comfortable. That risk needs to be minimized for the industry to continue to grow as a whole. The safest way to do that is to transfer that risk to its source, hence the idea of forward payments. Forward payments are just what they sound like, payments prior to receiving the product. Any people 35 or older out there might remember when stores used to put something on layaway. Forward payments are like a layaway program and will curb the temptation by brewers to buy hops speculatively on growth about which they are not certain. There is some of that going on right now. In addition to reducing risk, forward payments for hops inject stability into the system so the brewer can be sure he will receive his hops. Mother Nature can still turn the table over and mess up everybody’s cards, but that can happen with agriculture at any given moment. In the worst-case scenario, if a crop was severely short, a farmer might have to return some of the money to the merchant, who might have to return some to the brewer, but that’s as bad as it gets.

Forward payments could be structured as follows:

Payment of a 1% signing fee at the time of signing the contract,

Pay 33% of the contract value in the spring before the harvest,

Pay 33% of the contract value in the summer just prior to harvest, and

Pay the balance of the contract value by November 1st, after harvest.

pay-it-forward-dvd-cover-56

 

I guarantee you … right now, after reading those 5 lines above, EVERY hop grower and EVERY hop merchant out there is thinking what a relief that would be, but how unlikely it is to happen. See how happy Kevin Spacey and Helen Hunt are in the picture above. Obviously forward payments makes you feel good too … so there’s that too. Many brewers say they care about the hops they purchase and want to support the industry. This would be a concrete way to demonstrate their concern for the sustainability of the hop industry and make a difference. Sure, it can just be that nobody has asked for forward payments yet, which is why nobody is paying this way. Maybe it’s an idea that will take some time to digest. It’s not all about money either. The closer relationship that would develop from this payment system would increase communication and stability as hop growers, merchants, brewers and beer drinkers will all be in the same boat. It would create a type of partnership between growers, merchants, brewers … and the beer drinkers. In that way, it’s a bit like crowd sourcing for the hops used by a brewery, but with an immediate deliverable to the end customer, the beer they’re drinking. That’s better than the promise of something down the road that may or may not materialize such as on Kickstarter. Granted, all of this seems like a pretty big leap from where we are today, but every idea must start somewhere.

Complicating things is that it all needs to happen very quickly given that the hop industry is quickly approaching a cliff. Continuing down our current path does not mean the end of hops as we know them of course. That would be ridiculous. There are other ways for the industry to grow, but they involve drastically higher hop prices and more extreme sharper turns down the road.

If brewers want to continue to receive a secure supply of hops as the craft market passes 20% of the U.S. beer market by 2020 forward payments or something very similar will be necessary. Unless some other source of money steps in like venture capital or private equity, banks are the only option at the moment for the scale of financing necessary at the moment. Remember that $1 billion dollars I mentioned the hop industry would invest by 2020? Conservatively, the U.S. hop industry spent $200 million for the growth in 2015. We’re well on our way and the expensive part hasn’t even started yet. Another $500 million must be spent in the next 2-3 years by hop growers to keep pace with the craft industry.

dr-evil

The reward for this shift in the payment schedule will be lower prices than are available on the regular market and, of course, guaranteed supply. In the old days, merchants used to advance growers money in the spring and prior to harvest. In the apple industry, packing houses give advances prior to harvest. Today, merchants financing farms where banks will not take the risk is happening. That’s not enough! Some merchants are getting low hop prices in exchange for that financing, making interest from the grower on the money borrowed … and a wider margin from the brewer at the same time. While that’s a great way for a merchant to make a side investment in the hop industry, it’s not a sustainable solution. It adds even more risk into the equation and puts both merchant and grower at risk. That’s a strategy that could work indefinitely if the industry was stable, but not at the current levels of growth. Not even the wealthiest hop merchant can finance 8-9 new hop farms at $20 million each. That’s how many new farms we need each year for the next few years.

ONE WAY OR ANOTHER

Brewers will pay the price to sustain the growth in the hop industry one way or another. They can choose to pay as they go, or they can pay all at once. I know that sounds harsh, but the money only flows from one source and that’s the way it always happens. Some will choose the former. Others will choose the latter. Who can say which is more correct? I suppose that depends on where you sit. Chances are though that if you don’t like $15-20 per pound of hops for the next 5-7 years, you really won’t like the idea of $100 per pound for those same hops for a year or two. It’s harder to make such high prices cash flow. Somebody has to take the next step. It would be nice if that step was one that reduced risk instead of increasing it.

It all starts at the beer drinker. Are consumers willing to pay 5-10% more for a glass of beer to finance the expansion of the hop industry? Honestly, I have no idea, but that’s all it would take to finance the necessary expansion. Can brewers collect that extra money and pass it along? I’m sure that can happen. If not, we better get used to drinking less hoppy beers, and forget about that whole craft revolution thing.

hop revolution

5 Reasons Why The Next Hop Crisis is Coming & How to Avoid it: Part 1

Last weekend, while at dinner with some hop friends, an interesting scenario came up during conversation. Granted, it’s partly hypothetical at this point, but the possibility should concern every brewer in the world.

WHAT IF?

The question was this … “What if, due to the risk involved with expanding quickly, growers and merchants let their own appetite for risk drive the pace of growth instead of letting the demand from the market dictate the pace … and what if those two things are not aligned?”  What??  That’s crazy!!!  Right???  Hop prices are going up.  Why wouldn’t everybody grab the new business? Isn’t it the American way, or capitalism, or greed … or something inherently in people that makes us naturally crave more, or for a better life for our children … or something like that?  Why would anybody in their right mind not take full advantage of the current market?

It’s not as crazy as it might seem on the surface to envision a situation where the market enters a perpetual state of shortage of necessary varieties.  It comes down to a question of RISK … Who is willing to take it, how much, when and what will it cost to for growers and merchants to be compensated adequately for taking that risk. Everybody has a certain risk/reward tolerance level. The next step of development in the hop industry is about finding the comfort level for the two powerhouses of the global hop industry, the American and German hop growers, so they make the investments necessary to expand.  Everybody from brewers to beer drinkers should care about this next step as it affects hop availability in the future.

In case you think I’m heading down some hypothetical rat hole exploring this line of thought, there already exist concrete examples of the appetite for risk affecting supply in our hop world. The reason our Czech grower friends seem unwilling to plant more hops is reason #1 why we’re headed for a hop crisis.

They are not confident in the longevity of this market.

What they want, it seems, are 10-year contracts at sustainable prices before they’ll consider expanding acreage.  Some of the Czech merchants are starting to get what they wished for but only after 2 years of near zero availability on the market.  We recently learned that some volumes of Czech hops are now contracted until 2025! Even with these new contracts, there are no grand plans for acreage expansion, although some excess capacity remains.

Another example I like to mention from time to time concerns our hop friends from New Zealand and is the reason #2 we’re headed for a hop crisis.

They won’t get too excited and ramp up for just one popular variety.

They seem to be relatively content with their current level of production. I have to admit, I thought that was crazy when I first heard it (no offense Doug Donelan). Since then, I’ve come around. Now, I understand exactly what they’re talking about. What would they like before they increase acreage?  They want customers interested in their entire basket of varieties, not just one. That makes sense! You wouldn’t marry somebody just because they think you have a nice smile. Similarly, you can’t build a new farm for one popular variety that people may or may not like in a couple years. Whose to say three years from now preferences won’t change yet again? People’s tastes change pretty quickly these days.  Do you even remember “What Does The Fox Say?”  New varieties can take 5-10 years to develop. With a market that prefers new flavors, can you blame growers for being cautious about assuming risk? So, if you want Nelsons, you better also start liking Dr. Rudi, Motueka and a few other New Zealand varieties.

what-does-the-fox-say-video

35 MILLION BARRELS

There was a statistic floating around the CBC that there are roughly 35 million barrels of beer production capacity in the US.  There are roughly 22 million barrels produced now. At the current growth rate, they proclaimed that entire capacity should be used within the next 3 years.  If that much more beer will be produced in that short of time, American growers need 12000-13000 more acres by crop 2017.  That’s a LOT of new farms … inconceivable you might say. If I had to guess, I’d say there are 3-4 new farms in the works for 2015. They are the talk of the industry because nobody else can afford to think about doing that yet despite the fact that prices have risen quite a bit in the past few years. To keep pace with that level of demand, we should be already know of plans for 8-9 new farms going in for 2015 with enough extra financial capacity and plans on the books to do it again for 2016 and again in 2017.  The fact that that growth is not there represents a risk for brewers.  The hops they think will be there might not actually be produced. Then, of course, there’s the inherent threat of water and Mother Nature.  It is agriculture after all, not a Apple iPhone factory in China.

Brewers assume that hops will be there when they need them. They assume the main variable is price. Sure, hops may cost more, but they’ll be there if you pay the price. Sure, higher rewards make everybody more willing to take risks. The rate at which prices are increasing has been enough for growers and merchants to assume the necessary risks the past couple years.  A more serious level of expansion is upon us in the next 12 months and with it comes more risk. There’s a need for higher prices or greater stability to make people willing to assume the risk associated with the next step.  Do you remember the blog where I mentioned that between then and 2020?  I claimed American hop growers would need to invest $1 billion? I still stand by that number, but the spending necessary in the next 3 years are the cause for reason #3 we’re headed for a crisis.

In the next 2-3 years, the U.S. industry must spend over $500 million.

If they don’t spend this kind of money on infrastructure, brewers will need to adjust their expectations and their recipes. An actual hop shortage, a time when there may not be enough hops to brew all the beer that needs to be brewed, may soon be upon us.

teamamerica

TEAM AMERICA

OK, Czech and New Zealand are just two extreme examples, you say. Surely, it can’t be that in the good ole US of A though, where cash is king and where people eat risk for breakfast, that growers are reluctant to take advantage of an opportunity to expand.  There may still be more appetite for risk in the U.S. than in Europe, but even American growers are starting to reach limits, which is reason #4 why we’re headed for a crisis.

Some of those limits are being imposed upon them due to a lack of money available.

To brewers paying more now for hops now than in recent memory, that may seem hard to believe.  For growers in other countries who covet the American prices they only dream about, that must seem ridiculous.  Hops are profitable now to be sure at current prices.  If there was no growth necessary, every grower would probably have a new truck. The growth, however, is eating up all that profit and more. The current profits are not enough to finance the growth necessary to meet the current demand.

The supply chain is only as strong as its weakest link.  It seems hard to imagine, but there are also growers delaying expansion. Those may, at the end of the day, be the strong ones.  They have acres they can plant in 2015, but don’t. Instead, some are waiting until 2016 when, they say, prices will be higher.  When I first heard that, I thought, “Those greedy bastards! They just want more money”.  Maybe you’re thinking the same thing now. That’s not the whole story though. Sure, some growers are just greedy bastards, there’s no denying that. You can’t throw them all in that group though.  Some want to expand, and can’t find ways to finance it. That’s a bigger problem than you’d imagine. Others are waiting because they don’t want to stretch the farm and their finances too thin.

All that needs to happen now to continue the growth is for everybody’s financial projections to materialize in the real world. Can everybody deliver on the promises they’ve made? More farms today are like a house of cards on a creaky table hoping there are no storms on the horizon. Costs to expand are fixed. Plans for expansion in the future require commitments today. Today’s profits are committed toward tomorrow’s expansion. If somehow, the current step doesn’t happen as planned, it’s impossible for next steps to happen at all. All of this means, more than normal, that there is no room for a misstep in the 2015 crop. Talk about risk!! Pull out one card and the rest of the house of cards tumbles. Loads of risk on the farm translates to loads of risk for everybody.

houseofcardsshutterstock_2130029

As hops get more expensive, the bets that merchants place and the consequences on those bets failing increases together with price.  As the risk of them losing everything grows and the reward relative to the size of the bets placed gets smaller, those bets become less attractive. As the situation gets more extreme, will some merchants lose their incentive to participate so aggressively to supply the market? Of course, all these bets are “calculated risks”, but at the end of the day they’re still bets.  At some point, without higher priced long-term contracts, there is less incentive for a merchant to ante up for every hand that is dealt at the table. I’m not saying they’ll sit out the entire game, but they may decide not to play a hand or two. The risk/reward ratio is a factor.  There is one sure fire way to fix the problem with expansion that plagues the industry today. We’ll get into that in Part 2 of Why The Next 5 Reasons Why The Next Hop Crisis May be Coming & How to Avoid it next week. Hint: It doesn’t involve shortage-style prices or contracts that last until forever.

Wait a minute … I promised 5 reasons and that’s only 4.  Reason #5 we’re heading for a crisis, which proves that these reasons are in no particular order (if you were wondering) is simple:

World alpha acid inventories are decreasing quickly, but demand is not.

OK … maybe you’re into craft and you don’t care so much about alpha. Start caring! Hops are hops and when there’s an alpha shortage even a Cluster with 5% alpha that is available when others aren’t becomes the sexiest variety around.  The alpha market is cyclical and the stars are lining up again.  I won’t get into that in too much detail unless you want me to. Send me an email at blog at 47hops.com if you’d like to read about that.

STAY TUNED FOR PART 2:

5 Reasons NOT to Become a Hop Farmer in 2015

We’ve all read the stories about the impending hop shortage thanks to the craft beer boom. Before you get the idea of becoming a Hop Farmer in 2015, here are five reasons NOT to get into the hop-growing business.

IMG_6123

  1. 5. I can make a ton of money growing hops! Sure, hop prices are higher now than they have been for a while. That has everybody thinking they can get rich quick. That doesn’t mean that it will be profitable though. Small scale may be cheap, but quality is inconsistent, expenses can get out of control (if they’re tracked at all) and customers are picky. To start at scale requires a huge upfront capital investment. There is money in hops, but it’s not easy money.

Just like gold in California. In 1849, it was sitting around all over and you just had to pick it up. Today, you have to dig deep to find it. There may be some little nuggets lying around you can pick up easily, but don’t mistake that for a gold mine.

  1. It’ll be a really cool marketing strategy for our new brewery! Are you a brewer, or a farmer? Focus on your strengths. Growing a serious volume of hops near your brewery is a great way to waste a lot of money, time and effort on something that, in the end, is only going to be a cool novelty. There are larger brewers who have done it, but it hasn’t become a sustainable part of their hop supply.
  1. I’ve got a lot of brewers in my area! That’s pretty much the case all around the country these days. Chances are, they’re all used to a high level of quality. Some of them may be willing to pay a premium for local or fresh hops. If that’s the case, and if they don’t care as much about quality, lucky you! Unless you can guarantee quality that matches the big boys out in Yakima, Wash., or in the Hallertau and be willing to take the loss if you can’t, maybe you shouldn’t jump into the biz.
  1. Nobody else is growing hops in my area! Maybe that’s for a reason. Hops will grow most anywhere, but they only thrive in certain areas under certain conditions. If you don’t live in one of those areas, you’ll have a lot more challenges than the average hop farmer, which means a lot more expenses … which means a longer way to go to break even. That said, if you can market to the niche local and fresh hop crowd, you may be able to keep your head above water while the high prices last for a few years. Don’t expect that to last forever though. Change is the only constant in the hop industry.

1. I had a hop plant in my garden that did really well last summer. Congratulations! You bought a rope and now you want to be a cowboy. It doesn’t work like that. Doing a one-off is a totally different ball game than doing something at a commercial scale. You have no idea how much work goes into producing quality hops at scale. Oh, you have a bunch of friends who said they’ll help you hand pick the hops at harvest? They won’t be your friends for long after that. Producing quality hops at scale consistently requires a sizeable investment, a lot of time, energy and labor … and even then you may only break even after 5 years.

Writer’s note: The list comes from real questions we’ve received. During my years as Director of Hop Growers of America and still to this day as a hop merchant, I get questions all the time from people who think they want to grow hops, but who don’t know the first thing about it. They’re lured in by the money and what they think will be a lot of fun. I should probably go now.  In the past couple days, I’ve received two emails from guys who think they want to become hop farmers and I should probably get back with them. Oh wait … I just did.