Thursday, October 13, 2022

Industry Sentiment Index Turns Decisively Negative


We've created a Sentiment Index and have run with the idea in our State of the Industry Report for the last 6 years, gaining some interesting insights along the way. The headline slide is an early read of how the industry participants feel presently, as well as an indicator of the relative impact of pain points and success factors. 

The Net Sentiment Index as it stands today is -15.78 compared to -2.08 last year. The maximum low is negative 100 and the maximum high is positive 100. The calculation employs the Michigan Consumer Sentiment methodology and subtracts negative responses from positive responses, and ignores neutral responses. The methodology makes it difficult to have a reading above 50 in either direction. For example, if 50 people believed the economy as they define it had a positive impact on their operation, 20 believed it was neutral, and 30 believed the economy had a negative impact, the resulting index would be 20. (50-30=20) To get to 100 positive, 100% of the respondents would have to respond the economy had a positive impact on their operations. 

In 2020 the index was at -42.03 for reference. (If I recall correctly, 2020 wasn't a great year.)  So moving from -2.08 down to -15.78 tells us from the results thus far, the mood in the industry has turned decisively negative versus last year.

The largest negative impact to the index comes from the economy. The industry is clearly feeling the tightening. While sales results for the high-end of the wine business are still buoyant post-recovery using the separate SVB Premium Peer Group Platform as the source, inflation that started with supply chain disruption and heavy demand of goods during lockdowns has spread to fuel, food, rent, glass, and other commodities. That plays into increased shipping costs as well. With inflation hitting all producers and few if any able to pass on those cost increases, we are seeing lower net margins in the business this year. 

Increasing interest rates with no Fed slowdown on the horizon, along with a slowing China market related to COVID lockdowns, and geo-political instability particularly in Europe is dragging down world economies and the combination is leading to a very strong dollar. While a strong dollar sounds good if you say it fast, what it really means is imports get a leg-up against domestic producers and that could be a piece of the -34.64 reading for substitutes.

But substitutes are more than foreign wine. In a total US wine business that is closing in on negative volume growth for the first time since 1994, substitutes become your neighbors winery. But certainly cocktails and high-end spirits play a larger role in that bleak index reading. Other data we have from SipSource shows that spirits and craft cocktails started to show strong growth during reopening, while wine growth by volume turned negative when restaurants started to reopen. There is more here - such as consumers younger than 65 drinking more across categories that we will need to unpack in the report.
Labor, which led the negative response indicators last year comes in at -29.82. The relative number is a strong negative no matter how it's viewed though. Labor is more expensive and quality of staffing harder to find since businesses reopened post-lockdowns, particularly in areas where the cost of housing is high. For agriculture, immigration policy also plays a role in making field labor more scarce and driving up field labor costs.

On the positive side of the ledger, the wineries responding to the survey so far report good consumer demand with an index indicator of  +18.67. It is interesting to hear about all the issues in labor availability and associated cost increases, higher cost of inputs like glass and fuel and pressure from imports and other substitutes - and still see that consumer demand is good. That is one of those indicators where you have to know who is responding and in this case, it's the premium wineries above $15 bottle price who make up the larger part of the wine industry. The lower price brands wouldn't be so quick to put consumer demand at the top of their list, given the butt-kicking wine has taken against spirits with restaurant reopening.

One of the factors that makes premium wine recession-resistant is the consumer base which generally speaking is white-collar with family incomes above $100,000 annually. Particularly for the higher earners, the lock-downs created a savings rate that was unprecedented. Even today, the top 10% of wage earners still have 2 trillion dollars of savings ready to buy discretionary luxury goods, and those dollars have been burning holes in consumer pockets, explaining part of the positive consumer demand reading for wine.

We will go into more depth on this when we release the Annual SVB State of the Industry Report in middle-January.

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