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July 25, 2011 | last updated December 1, 2011 2:26 pm

Absolute control | How Maine's lucrative liquor contract with Maine Beverage Co. determines what we drink and how much we pay for it

From maker to market

When a bottle of liquor is sold in Maine, the bottle's supplier, through a broker, first negotiates a retail price with the state. The state taxes the supplier based on how much it costs to make and ship that bottle. The state then purchases the bottle and stores it at the Maine Beverage Co. warehouse in Augusta. Next, the bottle is sold and distributed to one of 400 agency stores, which sell it to consumers for a set profit based on the bottle's retail price. Maine Beverage collects its guaranteed profit margin of 36.8%, based on sales of all liquor in a given year. Any remaining profit gets split 50-50 between Maine Beverage and the state.

Liquor defined

The state generally defines liquor, regulated by the Bureau of Alcoholic Beverages and Lottery Operations, as distilled spirits higher than 13% alcohol, or 26 proof. Beer and wine, on the other hand, are overseen by the Department of Public Safety's Liquor Licensing and Compliance Division. The segregation dates back to the repeal of Prohibition, after which many states sought to retain tight control over spirits while developing a more relaxed attitude toward beer and wine.

A history of Maine's liquor oversight

2003
After 70 years under the Bureau of Alcoholic Beverages and Lottery Operations, lawmakers approve privatizing the state's wholesale liquor business

January 2004
The state awards a 10-year wholesale liquor distribution contract to Martignetti Cos. of Massachusetts

February 2004
Two losing bidders for the contract, Pine State Trading Co. of Augusta and MaineCentric of Auburn, appeal to the state. Distillers White Rock and M.S. Walker demand the state vacate the contract award, fearing unfair promotion of competing products.

March 2004
The appeal is denied.

May 2004
After a court filing, three of the parties compromise. Martignetti agrees to share profits with Pine State and its New York financial backer, forming Martignetti Cos. of Maine, which operates Maine Beverage Co. MaineCentric drops its appeal.

Sept. 2010
Gubernatorial candidate Libby Mitchell pitches renegotiating the liquor contract to pay for education programs

June 2011
The state budget passes with a provision that Maine renegotiate its contract with Maine Beverage Co. by June 2013. The contract expires in 2014.

As we blend margaritas or shake up martinis this summer for some warm-weather imbibing, it's no wonder the furthest thing from our minds is the journey our bottles of gin or tequila take to get to our glasses. And though we may cringe as the local cashier rings up our purchase, most of us give little thought to who decides how much we pay for our alcohol.

But now that the Legislature wants to wring more money out of its contract for the state's wholesale liquor business, the distribution and pricing of alcohol returns to the forefront. Legislators have voted to renegotiate a state contract signed in 2004 that privatized Maine's liquor operation and gave the state a quick $125 million to balance its budget, but cost taxpayers about $100 million in lost revenue in the long run. Now, lawmakers hope to earn a bigger share of that business, today valued at more than $350 million, well over twice the price they agreed to seven years ago. For perspective: The liquor contract dwarfs the value of the Maine Turnpike widening project by more than double.

Maine oversees and regulates liquor like no other product sold within its borders, a reflection of the state's uneasy relationship with alcohol since becoming the first dry state in the nation in 1851, beating federal Prohibition to the punch by nearly 70 years. "It's not bread," says Dan Gwadosky, head of the Maine Bureau of Alcoholic Beverages and Lottery Operations. "It can be used very responsibly. When it's not, it can have devastating consequences." Beer and wine, on the other hand, are handled under an entirely separate system.

Maine is one of 18 control states that opted against reverting to the sale of alcohol through private sellers after Prohibition's repeal. While all states control the sale of spirits through regulation, Maine and its 17 counterparts, to varying degrees, substitute state government for the private marketplace when it comes to liquor sales.

Maine's arrangement — contracting the entire wholesale distribution and storage business to a private company for a commission — is unlike any other in the country. "Maine is really the only one that contracts the wholesale out to a private entity," says Steven Schmidt, a spokesman for the National Alcohol Beverage Control Association, which represents the 18 control states and several control counties in Maryland. As in the other control states, the setup creates a legalized monopoly of the lucrative liquor business. The state retains control over prices and in Maine, a private entity — a partnership among a Massachusetts company, a Maine business and a New York private equity firm — enjoys a profit margin that would make even Steve Jobs envious.

From supplier to shopper

Under its arrangement with Maine Beverage Co., the company that holds the current wholesale liquor contract, every bottle of liquor sold in the state passes through Maine Beverage's warehouse in Augusta. Whether it's Glenlivet single-malt from Scotland or vodka made right here in Maine, it eventually calls the state capital home before making its way to your closest retailer. One true but counterintuitive example: When Bow Street Market in Freeport places an order for Cold River Vodka that's distilled from potatoes fewer than two miles away, those bottles head to Augusta first before doubling back to Freeport.

Regardless of whether it's Bow Street Market in Freeport or the Hannaford store in Falmouth, the wholesale price the retailer pays remains the same. Whether it's a mom n' pop convenience store or a major supermarket chain, located five miles or 50 miles from the Augusta distribution center, each pays, to cite Maine's perennial bestseller, the same $10 for a fifth of Allen's coffee brandy.

That's because a handful of bureaucrats in Augusta decide how much we pay for liquor (when we're not heading south to New Hampshire to stock up). Suppliers tell the state's five-member Liquor and Lottery Commission how much they want to charge for their products, but the commission has the final word, and adds its markup based on a formula that includes nine criteria, including how much other states are charging. The commission also decides which products can be sold in Maine.

Each of the 2,600 products sold here are priced with the state's contract with Maine Beverage, which promises the company a healthy profit margin of 36.8%, in mind. "We establish margins for each category," says Gwadosky, of the state's alcohol bureau. For example, a single-malt scotch, an expensive product that sells only so many bottles, has a low typical gross margin of 32%. New, untested products, on the other hand, start with a higher margin and "earn their way to a lower margin," Gwadosky says. Allen's coffee brandy is an exception, a proven product that nevertheless has the highest margin of any product at 43%.

After earning its guaranteed margin, Maine Beverage splits any remaining profits with the state 50-50, an amount that will total more than $60 million over the life of its contract. Not a small sum, but the state would have earned $280 million over the same 10 years if it hadn't privatized, about $100 million more than it earned from the $125 million upfront payment plus profit-sharing proceeds.

In general, control states like Maine generate almost double the revenue per gallon that non-control states earn, says Schmidt of the NABCA. With influence over pricing and distribution, control states tend to earn more per bottle, even though per capita consumption is lower, he says. But that can come at a cost to consumers, who are in some cases taxed more for spirits than for beer and wine, says David Ozgo, chief economist for the Distilled Spirits Council, a national trade association representing leading distillers. Ranked by revenue per gallon of alcohol sold, including beer, wine and distilled spirits, Maine ranks a middling 23rd in the nation, he says.

Suppliers' representatives, known as brokers, come to price-setting meetings well-informed of the margins the state seeks, and can adjust their costs per case to settle on a given price. Any special price cuts apply to all retailers that buy that product. "If it's on sale at one store, it's on sale at another store," Gwadosky says. While the state wants fair prices for its residents, it also must avoid slashing prices to the point of encouraging binge drinking and other alcohol-related problems. But at the same time, higher alcohol sales mean more revenue for state programs. "It's managed every day... It's a calculation, businesses do the same thing every day," Gwadosky says.

Once suppliers and the state settle on a price, the product makes its way to agency stores, which earn a set profit percentage based on the item's cost. For example, a 1.75-liter bottle of Bailey's Irish Cream retails for $45.99. An agency store purchases that bottle at wholesale for $40.47, earning a profit of $5.52, or 12%. Retailers then sell the product to a consumer or to a bar or restaurant, which can charge whatever they want to mix up an Irish coffee or a mudslide.

Looking ahead

Maine Beverage Co.'s 10-year contract for the state's liquor business expires in 2014. In June, as part of the $6.1 billion biennial budget, lawmakers included a provision to renegotiate the contract by June 2013. Instead of a large upfront payment like the one the state netted in 2004, legislators are seeking $20 million up front, but also to right a past wrong and earn more revenue over the life of the contract.

Of the money allocated to the state under the new contract, 15% would be used for clean water programs, 20% for the highway preservation and rehabilitation paving program, 30% for the budget stabilization fund and 35% for the general fund.

Maine Beverage is keen to renew the contract. The state will choose whether to simply renew with Maine Beverage or put the contract out to bid. "We've been pitching [to renew] since the first day we took over," Dean Williams, president and CEO of Maine Beverage, says in half-jest. By shortening lead times for stores to receive orders, bumping up delivery frequency, improving marketing and streamlining the warehouse and distribution process, Maine Beverage has grown the business from $87.5 million in 2004 to $126 million today, enriching the state as well as itself, he says. "We have brought a lot of value to the state," Williams says. "We think we're the best operator for the business."

Maine Beverage is made up of an alliance that would have appeared unlikely back in 2004. At the time, Martignetti Cos. of Norwood, Mass., the country's seventh-largest wine and spirits distributor, beat out two competing bidders for the contract, MaineCentric of Auburn and Maine Liquors LLC, a company created by Pine State Trading Co. of Augusta and its New York-based financing partner, Lindsay Goldberg. MaineCentric and Maine Liquors both appealed the state's decision and later took their complaint to court.

But under a compromise agreement, Martignetti agreed to share liquor sales and distribution profits with its former adversaries, Pine State Trading, which operates the Augusta warehouse, and the deep-pocketed Lindsay Goldberg. "We couldn't have ended up with a better partner," Williams says. The three formed Martignetti Cos. of Maine LLC, in which Lindsay Goldberg has a two-thirds ownership stake and Martignetti the other one-third. Pine State holds no ownership interest.

The other competitor, MaineCentric, a company affiliated with SPC Transport Co. of Auburn, which distributed the state's liquor before privatization, dropped its appeal. SPC President Todd Prawer says he hasn't given much thought to whether he'd bid for the contract renewal in 2013, but wouldn't discuss the events of 2004.

Maine Beverage, meanwhile, hopes to hold onto a contract that will cost it more in the future, but no doubt still prove profitable. "It's not often that a company is excited about paying more money," Williams says.

Jackie Farwell, Mainebiz senior writer, can be reached at jfarwell@mainebiz.biz.

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Bill sets up fight over liquor contract process

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