Scotland The Brave, Charles Maclean

THE FUTURE FOR SCOTCH WHISKY

The Scotch whisky industry is currently experiencing a period of growth unprecedented in its entire history, founded upon anticipated global sales over the coming decades. But have the actuaries, and market forecasters got their sums right? In this article, I will consider some of the factors which are likely to influence the fortunes of Scotch in the coming years. In his annual Scotch Whisky Industry Review, leading analyst Alan S. Gray includes a lengthy section titled ‘Problems Facing the Industry’. The most recent edition (2016) lists over twenty such ‘problems’. So what follows is by no means exhaustive! As a historian, I will begin by looking at the past.

WORDS CHARLES MACLEAN

LESSONS FROM HISTORY

The market for Scotch whisky has always been cyclical. The industry has expanded capacity to meet demand, then contracted as demand falters. There have been three significant eras of expansion, each of which has resulted in over-production, owing to a collapse in demand mainly caused by factors beyond the industry’s control.

The first boom period was the decade following the passing of the Excise Act 1823. The Act made it possible for small distillers to make good whisky and sell it at a reasonable price, which laid the foundations of the modern whisky industry. Between 1824 and 1834 no less than 260 distillers took out licenses. Many had previously been distilling outside the law; all were small operations, and most businesses failed after only a few years.

Then came ‘The Hungry Forties’, presaged by poor harvests in the late 1830s and compounded by the terrible potato blight, which caused the death of millions in Ireland and Scotland, followed by outbreaks of cholera and typhus and by a general recession in many countries. Consumption of Scotch dropped by nearly 20 per cent [2.6 million litres of pure alcohol (LPA)], and there were many bankruptcies within the whisky trade. But 20 distilleries established during the decade are still in production.

The second period of dramatic expansion was during the 1890s when 40 new distilleries were commissioned, many of them built by blending houses to supply malt for their burgeoning trade. 19 of these are still in operation. There were 161 working distilleries

in 1899, which saw the annual increase in stock rise from just under 5.2 million LPA in 1891-2 to 35 million LPA 1897-98. By 1900, stocks under bond were massively out of proportion to demand, and between 1900 and 1906 a variety of factors combined to destroy confidence in Scotch– including an economic downturn, changes in fashion, price-cutting and increased taxation.

The third boom era was between 1955 and 1975, during which 24 new distilleries were commissioned and many more expanded and modernised. All but six of these are still in production. The reasons for the rapid growth of distilling in the 1960s lie in the relaxation of restrictions on production. The United States market, which had taken the bulk of exports since the end of the war, showed a phenomenal rate of expansion. In 1960, American imports were 54 million LPA; by 1968 they were 150 million LPA.

It was not to last. The first oil crisis (1973) and the end of the Vietnam War (1975), which had stimulated the US market, combined with a general economic recession in the West and a move away from brown spirits in favour of vodka, white rum and wine to make trading difficult for Scotch whisky. A further severe global recession in the early 1980s exacerbated the problem. The spectre of over-production hovered over the industry: between 1960 and 1980 output had more than doubled (to 260 million LPA), and the amount of whisky under bond had quadrupled to well over 2.5 billion LPA.

In 1981 and 1986, 29 distilleries were taken out of production; 18 of them have remained closed - although three, Brora, Rosebank and Port Ellen, are currently being revived.

EXPANDING CAPACITY

The current whisky boom eclipses these boom periods. Never has so much been invested in expanding production. 32 new distilleries opened between 2004 and 2017. At least five more will open in 2018, including Macallan II, Lagg and Ardnahoe, with a combined capacity to produce slightly over 73 million LPA a year. 12 of these distilleries are small (under 200,000 LPA), 11 are medium-sized (200-750,000 LPA), but nine are capable of producing in excess of one million LPA per annum.

I know of a further 25 distilleries which are either proposed or under construction, plus the three which are being revived. It goes without saying that ancillary facilities – warehousing, bottling plants, cooperages and bio-energy plants – have also been increased or upgraded.

In addition to these new distilleries, many well-known distilleries have been substantially expanded. Several have doubled capacity, and three - The Glenlivet, Glenfiddich and The Macallan – are building massive new distilleries on site, capable of producing 32 million, around 20 million (yet to be divulged) and 17 million LPA per annum respectively.

Over the past ten years, malt whisky production capacity has increased by a staggering 60 per cent, from 239 million LPA in 2007 to 383 million LPA in 2017. Of course, not all distilleries operate at capacity every year, as annual output is based on anticipated future requirements.

The optimism manifested by this increase in capacity is based upon the anticipated global demand for Scotch whisky over the coming

decades – a remarkably tricky exercise, vulnerable to factors beyond the industry’s control, including the global economy and international politics, not to mention sale of alcohol regulations, fiscal arrangements and fashion in over two hundred markets.

Let’s hope the marketers have their projections right and their crystal balls well polished.

ROUTES TO MARKET

It’s clear that the new distilleries fall into two camps which might be described as ‘craft distilleries’ and ‘mainstream distilleries’, by and large based on size/capacity.

The larger units - some built by leading whisky companies (Diageo, Pernod Ricard, Edrington, William Grant & Sons), some by well-funded new enterprises controlled by people with long experience in the whisky industry - will mainly follow the traditional Scotch whisky industry practise of trading the majority of their spirit/whisky for blending purposes. This route to market is useful, so long as the global market for blended Scotch is buoyant. But although the most recent figures are encouraging, it has been unsteady over the past ten years. The smaller distilleries will rely on bottling and selling their makes as single malts. On the one hand, global sales of malt whisky have steadily increased over the past ten years; on the other, the difficulties of bringing their products to market cannot be under-estimated.

Many smaller distillers haved mentioned this as being the single greatest hurdle – more significant than finding the investment for building a new distillery and funding production for at least three years before the spirit can be named ‘Scotch’. Anthony Wills, owner of Kilchoman Distillery on Islay with a current capacity of 240,000 LPA, estimates that the cost of energy, raw materials, wood and the production staff of five, is around £3,000 a day. But this is only the beginning of the story.

The problem is finding reliable agents and distributors in every market the brand owner wants to operate in, and keeping them supplied with product if the brand does well. From the distributors’ perspective, the challenge is to persuade retailers to stock new and unknown brands while the retailer protests, “In order to stock your new malt, I must remove an existing malt. Am I more likely to sell yours than a well-known brand?” The answer may well be ‘yes’ to start with – malt whisky drinkers, like wine drinkers, are pluralist (they don’t stick rigidly to one brand), and they are keen to explore – but will they buy a second bottle…? Furthermore, the problem will be compounded in the not-toodistant future by the growing range of brands and expressions released to the market. Parallels might be drawn with the current explosion in gin brands.

Having said this, it is possible that nontraditional routes to market via online (global) sales will become increasingly important for smaller producers. We shall see.

GLOBAL COMPETITION

Scotch is facing stiff competition from non-Scotch whiskies/whiskeys, and this will increase in the years to come.

The vast increase in capacity mentioned above is paralleled in many countries. The statistics below relate to ‘The Big Four’ nonScotch producers, but there are many other countries all over the world distilling whisky for the first time.

In the USA, the number of Distilled Spirits Permits (DSPs) – the federal permit required

to operate a distillery lawfully – has grown from below 100 in 2007, to 560 in 2010, to 1,825 in 2016. In 2015 alone, almost 400 DSPs were issued, a rate of more than one per day. Since 2016, more than 1,000 craft distilleries have been operating in the United States - an industry that was virtually non-existent 15 years ago.

The number of Japanese distilleries has gone from eight to 20 since 2010, while the total export value of Japanese whisky has increased nearly tenfold from 1.07 billion yen (about $10 million AUD) in 2006 to 10.378 billion yen (more than $100 million AUD) in 2015.

Ireland grew from five to 18 distilleries between 2013 and 2017, with a further 16 proposed. Not all are small: William Grant’s Tullamore Distillery has a capacity of 3.6 million LPA and produces both malt and grain spirits. Between 2008 and 2016, sales of Irish whiskey doubled (4.4 million cases to 8.7 million 9-litres cases in 2016) with sales projected to exceed 12 million cases by 2020, and 24 million by 2030.

My friend, Davin de Kergommeaux, Canada’s leading whisky writer, tells me: “Canada’s eight major whisky distilleries have been joined by over 100 micro-distilleries, at least half of which are beginning to make whisky. Together, these new entrants produced less than 0.1 per cent of the 22.5 million cases of whisky bottled in 2016. This will increase slightly as new producers’ stocks begin to mature. Canada consumes just 15 per cent of its production at home, exporting the rest to over 155 countries. Overall, distilling contributes $5.8 billion annually to Canada’s gross domestic product.”

And let us not forget Australia, where another learned friend and whisky expert, Chris Middleton, informs me: “Australia has also now passed 100 distilleries too, some of which include whisky as part of their spirits portfolio - maybe only a cask or two made during the year. Over 90 per cent are small nano-distillers (under 25,000 LPA capacity). By my calculations, nearly 80 per cent of Australia’s whisky is produced by the top seven distilleries.”

In addition to ‘The Big Four’ non-Scotch producers, mention must be made of India, the largest producer and consumer in the world: seven out of the top ten largest selling brands by volume are Indian. However, most Indian whisky is not technically ‘whisky’ since the base material is molasses, not cereal grains.

But it should be remembered that, while the Scotch whisky industry cannot afford to be complacent, Scotch currently sells three times more than its nearest rival.

REASONS TO BE CHEERFUL

Whisky is now being made in significant quantities all over the world, and the best of the makes are high quality. They are also designed to be different to Scotch, and are certainly not an imitation. But are these whiskies a serious threat to Scotch?

Scotch, especially Scotch malt, offers a far broader range of ages, flavours and styles than non-Scotch and, because of the rigorous legal definition, provides a more consistent

product. Simple in essence, it is also the most complex spirit known to man, organoleptically. The provenance and romantic history of Scotch whisky are appealing: Scotland – ‘le pays Sauvage’, ‘the land of mist and mountains, clans and castles’ - is intriguing. It is also perfect for the long maturation of whisky. Scotch whisky has cachet and a story to tell. A fellow whisky writer summed it up for me: “When you buy a bottle of Scotch, you buy a hell of a lot more than ‘liquor in a bottle’. You’re buying history, craft, time and tradition – and the blood of one small nation.”

Although often now assisted by technology, the craft skills developed over very many years and generations concerning the process, maturation and blending are vital to creating flavour, while the scientific bases of flavour continue to be investigated - and, happily, continue to be elusive. The industry is continually exploring ways to develop attractive flavours while respecting the very tight legal definition of ‘Scotch’, such as yeast and barley varieties, longer fermentation, stills operation and wood finishing.

Somewhat arrogantly - but with justification - the Scotch whisky industry’s view is that ‘all roads lead to Scotch’. They embrace and support non-Scotch distillers, in the knowledge that once consumers acquire a taste for whisky, they are sure to explore Scotch whisky – and hopefully to settle there!

SO, AS WE PEER INTO OUR CRYSTAL BALLS.

Will demand continue to grow to meet supply? Or are we filling a lake of whisky, surplus to requirements, as happened in the early 1980s? And if we are creating a surplus in the short term, will this increase its value in years to come? Those companies which still have stocks of whisky from the previous ‘whisky loch’ - now at 30-40 years old - can sell them for eye-watering prices…

Although export figures have gone up and down over the past ten years, the overall trend is up, with 2017 being a record year for sales. With good reason, the Scotch whisky industry has high hopes for China, where Diageo is running a major, education-based, generic promotion of ‘whisky’. Exports to Singapore were up 29.4 per cent by value in 2017, from where most whisky is shipped to China. Exports to Latvia, an entrepot for Russia, were up 105 per cent by value last year. Mexico and Brazil currently stand fourth and fifth in the league of ‘best-sellers of blended Scotch by volume’.

The sheer geographical spread of the markets for Scotch offers a degree of protection if one market fails – the eggs are distributed in many baskets. Here are some examples of by value export figures from 2017: USA +7.7 per cent, South Africa +20.7 per cent, France +2.1 per cent, Germany +13.5 per cent, Spain +5.2 per cent...

The global whisky market is driven by the global economy, and individual markets by local economies. In other words, consumers must have sufficient disposable income to afford it. Other factors include duty and other fiscal imposts and regulations (not to mention prohibition in certain markets), availability, fashion, changing lifestyles (including health concerns) and competition from other alcoholic (and now non-alcoholic) drinks.

There will be some casualties among the recently founded malt whisky distilleries, but is it better to hazard over-production now, rather than miss (global) opportunities later? The highly-paid bean-counters and actuaries say ‘yes’ and this demonstrates great confidence in the future of Scotch.