three-tier system from the frontlines

In class, we talked a lot about the costs (and occasionally, the benefits) of the three-tier system. This summer, I worked on developing a new alcoholic beverage in an internal accelerator at ABInBev. There, we were trained on lean startup methodologies and the kinds of approaches we learn in Startup Garage. However, the three-tier system had a real, material impact on our ability to fully embrace the entrepreneurial process we take for granted in tech here in Silicon Valley. So this week I thought it would be helpful to share a few reflections on how the three-tier system affected our work this summer to offer a perspective on a less-covered “cost” of the regulation: inhibiting innovation.

• Abstraction from the customer. For most CPG companies, the producer has an incredibly difficult time knowing who their customer is. Nielsen and large store chains will sell their market data on who buys their product, but there is no way to know who is the end-user or consumer. But this is exacerbated with the three-tier system as intermediaries abstract the producer even farther from the need, making it more difficult to create new, innovative products. With even fewer direct customer touch points, it’s difficult to develop go-to-market strategies, customer-centric marketing and branding, and market sizing.
• Rapid iteration. In Silicon Valley, you can often create a quick digital prototype to rapidly test product-market fit. Unfortunately, the three-tier system makes this incredibly difficult to do for alcohol products. A real example: a entrepreneur this summer came in to talk about how he used digital wireframes and landing pages to “sell” his bone broth product. He used these assets to sell the idea of his bone broth while he hadn’t produced a single package. But he’d use the order as market validation (“someone will pay for this!”) and then directly contact the interested buyer to learn more about their interest, pain points, and how his still-hypothetical product could help. This ultimately informed his marketing strategy, his branding, and his go-to-market strategy. With alcohol sales in the three-tier system, this is impossible and illegal. We did it at times, but we ran a big risk.
• Crowdfunding. Because producers (incumbent or startup) cannot sell directly to the consumer, they cannot access the advantages of crowdfunding, removing a potential capital source in an industry that is particularly capital-intensive (liquids are heavy). This further advantages big, established players like ABInBev or Constellation who have distribution relationships and/or dedicated sales teams.
• Distribution. As Amanda shared in class, startup brands have a particularly difficult time getting the attention of distributors. And if you can’t get your product to the customer, you’re dead in the water. This is one of the big reasons why you have to pay $5 for that new matcha iced tea: startup beverages (whether alcoholic or not) need to offer fatter margins to the distributors in an effort to buy mindshare and shelf-space. But, as microeconomics has taught us, these price increases often reduce the overall market for the startup brands and make the row startup beverage brands have to hoe even harder since they’ll have less cash flow flowing back to them to invest in their businesses.

What does this all add up to? The three-tier system is costly for everyone, but regulations are particularly onerous for startup brands and hamper the kinds of innovation in beverages that we often see in tech. These real and often overlooked costs make our drinking experience a lot less exciting than it could be otherwise.