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Wednesday, December 4, 2019

All the King's Horses...

It's selloff season. Earlier this week, Ballast Point, purchased by Constellation Brands four years ago for a billion dollars, was sold to tiny Chicagoland Brewer Kings & Convicts. We don't know the terms of that deal, but we know the sale price was substantially less than a billion bucks.

That follows the sale of Portland-based Craft Brew Alliance, which sold out to Anheuser-Busch for significantly less than a contract stipulated after AB simply let that contract expire and paid what it wanted. Then there's Colorado-based New Belgium, which recently sold to Little Lion/Kirin.

If you're an objective observer, you might conclude that the craft beer bubble is bursting. The problem, of course, is that interested parties typically fail to perceive the existence of a speculative industry or bubble until it's too late. Only in retrospect is reality plain to see.

There are plenty of examples of bursting bubbles out there, the most recent being the U.S. housing bubble that collapsed in 2008, leading to massive destruction of global wealth. By early 2009, the 12 largest financial institutions in the world had lost half of their value. Not great.

The craft beer industry isn't on the level of the housing collapse. However, I have characterized craft beer as a bubble industry more than once in these pages. It's a concept that is not generally well-received among industry-connected folks. But never mind. What do we know about bubbles?

Hyman Minsky (1919-1996) was an American economist whose research attempted to provide an understanding of the characteristics of financial crises, which he attributed to swings in a fragile financial system. Minsky identified five stages in a typical credit cycle or bubble:

Displacement: A displacement occurs when investors get enamored by a new paradigm, such as an innovative new technology or product, at a time when interest rates (or the cost of market entry) are historically low.

Boom: Prices rise slowly at first, following a displacement, then gain momentum as more participants enter the market, setting the stage for the boom phase. During this phase, the asset in question attracts widespread media coverage. Fear of missing out on what could be an once-in-a-lifetime opportunity spurs more speculation, drawing even more participants into the fold.

Euphoria: During this phase, caution is thrown to the wind, as asset prices skyrocket. The "greater fool" theory plays out everywhere. Valuations reach extreme levels during this phase. New valuation measures and metrics are touted to justify the relentless rise in asset prices.

Profit Taking: By this time, the smart money – heeding warning signs – is generally selling out positions and taking profits. But estimating when a bubble will collapse can be difficult because, as John Maynard Keynes put it, "markets can stay irrational longer than you can stay solvent."

Panic: In the panic stage, asset prices reverse course and descend as rapidly as they ascended. Investors and speculators, faced with margin calls and plunging values of their holdings, now want to liquidate at any price. As supply overwhelms demand, asset prices slide sharply.

I'm not sure where the various pieces of the craft beer industry belong in the five stages. Newer breweries probably belong in the Boom or Euphoric stage. They're fresh and see the sky as the limit. Profit Taking will come soon enough. But it's clear that elements of the established industry have entered the Panic stage, a point at which they will sell for any reasonable price to avoid the realities of a flat market that is overcrowded and intensely competitive.

Keep in mind that a bursting bubble isn't strictly defined by a selling spree. The flipside of that is the places who have nothing to sell and simply close. We've seen that here at home with the likes of Alameda, Lompoc and others. The Laurelwood version of the story differs because some of its brands have a regional following and could be sold.

One thing to note about a bubble: Once it is punctured and losing gas, it's unlikely to inflate again. If what's happening in craft beer is a bursting bubble, all the king's horses and all the king's men won't be able to change that.

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