Ettelman & Hochheiser, P.C.

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“THE LEGAL BUZZ”
MILLER & COORS II: TO SELL OR NOT TO SELL (That is the question)

Back in the 90’s, Miller and Coors embarked on what was to be an ill fated attempt at wholesaler consolidation with their now infamous Shared House policy. That policy called for consolidation at the wholesaler level by encouraging the sale/purchase of brands with the goal of having both Miller and Coors in the same wholesaler house. The pundits of the day believed it was the only way that Miller and Coors could compete with Big Bad Budweiser. While Miller and Coors were moderately successful in convincing wholesalers to sell/purchase and combine the brands in one house, the benefits Coors and Miller envisioned were not achieved and the grand experiment was short lived. Ironically, both Miller and Coors have recently gained on Anheuser Busch, having absolutely nothing to do with their Shared House policy.

Fast forward to 2008 and lo and behold those crazy Miller and Coors guys are at it again. This time, however, it’s different – the consolidation which they have announced is not at the distributor level it is at the brewer level. It’s a whole different ballgame with Miller and Coors executives announcing they expect to realize $500 million in synergistic savings right off the bat. Sounds great! So, if the consolidation is at the brewer level wholesalers don’t have to worry this time around right? Wrong! Consolidation at the brewer level always results in a desire to consolidate at the wholesaler level. The only question is when and how the desire will be implemented. Recent moves may portend what they may be thinking.

The Miller-Coors joint venture was approved by the Department of Justice on June 6, 2008, and appears to be headed for closing by June 30, 2008. In a show of confidence that they would obtain government approval, Miller-Coors named Tim Wolf, the present CFO of Molson Coors, to the Orwellian sounding position of Chief Integration Officer, long before the approval was announced. While integration no doubt deals with the daunting task of organizing the combined operations, there is also little doubt that consolidation of the distribution network falls under that title. Indeed, consider Leo Kiely’s description of Mr. Wolf’s new job when they announced the position: “Tim Wolf will lead the integration process and the disciplined delivery of the $500 million integration synergy goal.” When brewers start talking in terms of “integration process” “disciplined delivery” and “integration synergy goals” you can rest assured that wholesaler consolidation is part of those goals. Well, it didn’t take long after the approval was announced for Miller-Coors to confirm that which we all anticipated; not only will distributor consolidation be a focus of the new administration, they are going to tell distributors by year end whether they are viewed as sellers or purchasers.

As some may remember in a previous article, we urged you to prepare for the upcoming consolidation efforts by analyzing your market and territories and honestly and objectively assessing your operations and your competitors’ operations. Since, (as Coach Lombardi used to say) the best defense is a good offense, we urged that you adopt a comprehensive strategy prior to knock on the door by Miller-Coors – which we now know to be only months away. For some of you, it will no doubt make sense that you either buy your competitor or sell to your competitor. For others, a joint venture or merger may be the right move. Estimates are that only 55 to 60 percent (by volume) of distributors presently service both Miller and Coors, so there are plenty of opportunities for such a sale or a merger. For others the only option left may be to fight the attempt to consolidate. In this article, we will look at some issues affecting potential sales or joint ventures and also take a look at how beer franchise statutes may impact your decisions.

Analyze Your Rights

After analyzing your market and your competition you should have a fair idea of whether you should be a buyer, a seller, seeking a joint venture or simply fighting any attempt to consolidate. The next step is to analyze your legal rights to see what impediments there are to attaining your goal. The first place to look in determining your legal rights is your distribution agreement. Most agreements, and certainly both the Miller and Coors agreements contain requirements that brewer approval of any sale or merger must be obtained. Many agreements, including both Coors’ and Miller’s purport to give the brewer a right of first refusal to acquire the brand (and sometimes more than just their brand) in the event you desire to sell. The most recent Miller Amendment goes even further, before you can even negotiate a potential sale, you have to notify Miller, and they then have the right to negotiate a sale. Considering the fact that Miller-Coors has already announced that they have drafted a new agreement which they will be presenting to Miller-Coors wholesalers imminently, you can bet your bottom dollar that the agreement will be heavily skewed in favor of Miller-Coors being able to force or at least control your ability to sell. Here, we can not stress enough the importance of reviewing the new agreement carefully, and analyzing whether they can force you to sign the new agreement; many state franchise statutes prevent brewers from amending agreements without cause.

It is also important to look at your distribution agreements for your other brands. Often times these agreements may contain restrictions on your ability to sell any of your brands, not just the brand which is the subject of the distribution agreement. The Miller Amendment is a primary example. Several years ago we represented a number of wholesalers in negotiating the then new Miller Amendment. As initially drafted, the Miller Amendment not only required you to give notice to Miller if you were simply considering a sale, but appointed Miller your exclusive negotiating agent for such sale. In effect, the Miller Amendment prevents you from testing the waters with any third-party before giving notice to Miller that you intend to sell. Moreover, even if you should somehow make it through the maze of the procedure outlined in the Amendment and reach a deal with a third-party, Miller then has a right of first refusal. Further, it has thirty days from the date they were notified of the deal, or thirty days after they receive any requested information from you following their due diligence inquiries in which to exercise their right of first refusal. If you signed the Miller Amendment as presented you have some significant hurdles to overcome in any attempt to sell to any entity other than their hand picked purchaser.
The Coors agreement, which, although not as draconian as the Miller Amendment, also contains a right of first refusal. If the breweries rights are enforceable, the effect of both agreements is that the market for your brands is extremely limited. Since there is no chance that Miller or Coors will approve a sale to any entity which they have not hand-picked, you are essentially limited to a single buyer. The impact of these brewer rights is downward pressure on value. If you own a truck with a fair market value of $20,000 but there is only one person to whom you can sell, there is little likelihood that you will get market value for that truck. Talk about a buyers market!

Fortunately, it is questionable as to whether the contractual right of first refusal and absolute right to approve a sale are enforceable; particularly where there is a franchise statute that provides to the contrary. A recent federal court decision adopted this firm’s argument that where distribution agreement incorporates the law of the jurisdiction where the product is sold and that law conflicts with provisions in the agreement, the state law controls. This provides a potential argument that where a beer franchise statute provides that a brewer may not unreasonably withhold their consent to a transfer, and there are many of them, Miller-Coors may not be able to block a sale with either their right of first refusal or right to approve. Bottom line, review your agreement and review your local law.

Your Legal Rights to Fight Termination

If you decide that selling or merging is not in your best interests, you must then analyze what rights you have to fight consolidation. This requires an examination of not only your distribution agreements but of all the laws which apply to your relationship with your suppliers. The most important of these laws are state franchise laws, many of which provide protections for wholesalers that prevent a brewer from terminating without good cause. Consequently, in assessing your ability to stave off any Miller-Coors attempted consolidation, it is important to know what protections you are afforded by law.

1. States Without Beer Statute Protection

Only three states (AK, DE, HI) and the District of Columbia do not have a beer statute of any kind. In addition, five states (CA, KS, MO, OK, and WI) have beer statutes, but they do not provide that termination may only be effected if the brewer has “good cause”. However, California does provide limited protection in that a distributor may not be terminated for failing to satisfy a sales quota that is commercially unreasonable under current market conditions. If you operate in one of these states the termination of your rights as a distributor will be subject to the express terms of your distribution agreement, as well as other applicable laws including the Uniform Commercial Code. Simply because you are in a state that does not have franchise protection against termination without good cause does not necessarily mean that you can be terminated as a result of the brewers desire to consolidate. This analysis, however, tends to be very fact intensive and is beyond the scope of this article.

2. States that Prohibit Termination Except for Cause

Forty-one states have beer statutes that provide that a wholesaler may not be terminated by a brewer, except for “good cause” or “just cause.” Although not every state defines “cause” in the same way, most prevent a wholesaler from being terminated unless it has committed a material breach of the agreement and has failed to cure that breach after the brewer has given it notice. However, nuances in each statute require a thorough analysis to determine precisely how the statute, and any case law decided under the statute, defines good cause. For example, here are two quick examples of good cause. Notice the vast differences in protection granted.

First, Illinois law provides that “good cause’ exists if the wholesaler or affected party has failed to comply with essential and reasonable requirements imposed upon the wholesaler or affected party by the agreement.” A subsequent section of the Illinois Act provides that no brewer may cancel or terminate an agreement without good cause, and the brewer attempting to terminate has provided notice to the wholesaler and the wholesaler has not cured within 90 days. Under some limited exceptions such as illegal acts, insolvency, or failure to make payment, notice is not required. Thus, under Illinois law, unless a wholesaler has breached the agreement and failed to fix its breach, a distributor may not be lawfully terminated.

On the other hand, Arizona defines “good cause” as “failure by the supplier or the wholesaler to comply with the provisions of an agreement as delineated therein, which provisions are not unconscionable.” While the two statutes may seem nearly identical, Arizona does not require prior notice and an opportunity to cure. The lack of such notice requirement could prove an enormous difference because it may allow a brewer to terminate a wholesaler on what might seem to be minor matters or even worse, for pretextual reasons. Moreover, since brewers are always griping about performance it may be impossible to know what is really a breach, or a claimed breach versus what is a mere statement of opinion or disagreement.

The following states provide both cause and an opportunity to cure prior to any termination (AL, AR, CO, FL, ID, IA, KS, KY, LA, MD, MI, MN, MS, NE, NV, NH, NJ, NY, NC, ND, OR, PA, RI, SD, TN, TX, UT, VT, VA, WA, WY). While, the following states provide “cause” protection but not an opportunity to cure any alleged breach (AZ, IN, MT, NM, OH, SC, and WV). In addition, three states provide for cause protection without an opportunity to cure, but require that a brewer receive permission from the state liquor authority before termination (CT, GA, MA).

As a general rule, since good cause is virtually always defined as a breach of an agreement (with only a few exceptions) a brewer’s desire to consolidate can not rise to the level of good cause. Accordingly, if it comes down to an attempt to terminate as opposed to Miller and Coors historical strategies of “friendly persuasion” they will have to do so by asserting a breach of the distribution agreement. The good news for wholesalers is that Miller and Coors tend to represent a significant percentage of any wholesalers volume and profit. As such, the prospective loss of the brand may threaten the very existence of the wholesaler. While that may sound like bad news it really is good because wholesalers that are threatened with the loss of their entire business if they lose the Miller or Coors brand will likely be able to obtain a preliminary injunction against immediate termination which will require Miller-Coors to actually prove its case before they can terminate. Historically, obtaining a preliminary injunction against termination has been difficult if the termination does not threaten the viability of the entire business. Where there is no such threat, the lawsuit becomes one for damages as opposed to an attempt to stop the termination.

Bottom line: the Miller-Coors joint venture is going to stir up the waters for some time. If you are not in a Shared House, you will either be the chosen or the target. If you are the target you really need to do some significant due diligence and honest analysis as to what is in the best interest of your business over the long run. Get some help, and DO IT NOW.

3. States That Permit Termination For National or Regional Consolidation

Finally, there are three states that, in one fashion or another, provide potential exceptions to the “good cause” requirement for brewer consolidations. Specifically, while Kentucky, New York, and New Jersey provide “good cause” protection, they also contain exceptions for a national or regional policy of consolidation. New York, for example, permits a brewer to terminate if a brewer implements a national or regional consolidation which is reasonable, nondiscriminatory and essential, and otherwise complies with stringent statutory requirements. The Kentucky statute virtually mimics the New York statutory requirements and similarly establishes a high threshold for any brewer attempting to terminate pursuant to a purported policy of consolidation.

The New Jersey statute is different in that it does not mention the term “consolidation” at all. However, when there is a transfer of brands at the brewer level the New Jersey statute permits the successor brewer to terminate an existing wholesaler and to move the brand to a wholesaler of the successor brewer that is then presently distributing other brands of the successor brewer in the applicable territory, provided that the existing wholesaler is paid the fair market value of the brands being taken. In truth, this is not really consolidation but, rather, alignment. Regardless, when brands change hands at the brewer level, the New Jersey statute permits brewers to move out of one house to their pre-existing wholesalers of choice.

The New Jersey should not be available to any attempt by Miller-Coors to consolidate, however. While Miller-Coors may be a “successor brewer” under the New Jersey statute because the distribution rights may move from Miller to Miller-Coors and from Coors to Miller-Coors, there are presently no existing Miller-Coors distributors, i.e. distributors that presently have a distribution relationship with the new entity Miller-Coors. Thus, Miller-Coors should not be able to use the statute because brands may only be moved by a successor brewer to an existing wholesaler of the successor brewer.

CONCLUSION

The bottom line is that the Miller-Coors joint venture will provide both tremendous opportunity but also tremendous risk and trepidation for many wholesalers. No one has a crystal ball at this stage to determine who will win and who will lose, or even what form the attempted consolidation will take. Only time will tell. However, only by properly preparing for the future and knowing your options and your legal rights can you chart a clear course through this uncertain period.