Under assault from dozens of micro and small-batch distilleries that are popping up every day, it appears that the major US distilleries are beginning to fight back. Here are how two majors are taking distinctly different approaches.

Brown-Forman:

Brown-Forman owns big whiskey brands such as Jack Daniels (7% of the whiskey market), Woodford reserve, and old labels such as Early times and Old Forester. With the growth of the whiskey market Brown-Forman has been able to increase production and sales of Jack Daniel’s to 11 million 9 liter cases, a 7% increase over the previous year even with price hikes. The company recently declared massive cash dividends with profitability and net income approximately doubling over 2004 levels. But even with all of this success, the return on invested capital has remained fairly constant. This means that increased profitability has only come after large new investments: more money in, more money out. But with lower priced Jack Daniels as the mainstay of the company’s cash flow, it is difficult to get the invested capital back out at higher ratios.

To combat the new competition, Brown-Forman has slowly begun to develop and market new products using the same basic ingredients and a higher price tag. Tennessee Honey is the most recent effort and it follows the lead of earlier premium whiskeys such as Gentleman Jack and the Jack Daniel’s single barrel bottling. All of these new products are marketed using the Jack Daniel’s label and brand. However, in its most recent financial reports, Jack Daniels has admitted that much of the income growth in 2012-2013 came after distributors agreed to modest price hikes. Of all of the different labels in the Brown-Forman brand inventory, the premium brands experienced 20-25% increases, easily trumping most other labels which are stuck at 1-7% growth. With the price hikes now over, growth is slowing. So, what to do?

The answer seems to be a decision to Increase production and capital investment and keep investing in the brand. Although its annual and quarterly reports don’t say anything about it, I suspect that Brown-Forman will develop new premium brands. Evidence includes the announcement on August 22, 2013 by Brown-Forman of a $100 million investment that includes the addition of stills, barrel warehouses, and new operations. This is a massive increase in production capacity. Based on that investment figure, the plant should easily double its current production of 23 million gallons per year. If you have ever been to a large-scale whiskey production facility, and if you know anything about modern alcohol distillation, it is a poorly hidden fact that most distilleries are extremely inefficient and poorly designed operations. Nobody in their right mind would lay out a plant the way most distilleries are laid out. It is amazing that they make whiskey as well as they do. And don’t get me started on the small batch and craft distilleries and their equipment. A new plant is going to be state of the art and actually ought to produce a better product.

What will all of this new investment get Brown-Forman? It has one advantage that new craft distilleries lack:

Massive Amounts of Existing Stock. Brown-Forman reportedly has about 50 million gallons already racked in its warehouses. With new production coming on line, more of those barrels can remain in the warehouse to become a longer-aged and likely smoother product. What that means is that in just two years loads of whiskey aged 6 years can be bottled and labeled for shipment. Every year after that the whiskey gets older and perhaps even more valuable. That means that Brown-Forman (and any other distillery that follows this model) can compete head to head with the craft and micro distilleries. Those distilleries are just now coming out with 4 year whiskey. The advantage that Brown-Forman has is that it can radically increase its price for a new labels and still undercut the new competition on price. Because of the efficiencies from the newer plant, the cost per liter will likely drop even below the cost structure of the current plant. Will Brown-Forman create those new premium labels? More importantly, can the Jack Daniel’s brand support new high-priced products that use the company name? It ought to, because Jack Daniel’s is a very good whiskey.

Heaven Hill Distilleries, Inc.

Heaven Hll Distilleries, Inc. does not have the powerhouse capacity of Brown-Forman or its Jack Daniels plant in Tennessee. As the largest independently owned and operated distilled spirits company in the U.S., it has long relied on multiple labels to gain market traction. Whether bottled as Evan Williams 1783, Elijah Craig or Henry McKenna, it is going to be a solid whiskey. Perhaps because Heaven Hill is not tied to any particular whiskey, it has some flexibility to develop new labels that can at least pretend to be unique.

This allows it to fight back against both craft or micro distilleries and their sleazy cousins, the fake label whiskey companies. You know the kind of company I am talking about. they buy barrels of major distillery whiskey, bottle it, slap a fancy label on it, hike the price, and write up a nice backstory to help market someone else’s whiskey. So, graced with no powerhouse brand and lots of whiskey, Heaven Hill can create its own backstoried whiskey.

Some examples are Fighting Cock and Larceny Kentucky Straight whiskeys. The bottles look like a craft distiller’s bottle, but the contents are pure Heaven Hill. It is said that there is a major contraction in the supply of extra warehoused major distillery whiskey. That is good and bad. It is good that the industry apparently has the legs to hike its prices given that the demand is outstripping the supply (at least at the current price points). It is also good in that it will make it more difficult for pure marketing plays to continue their hype. It is bad for consumers until production ramps back up.

Two very different approaches to solving the same problem.