A Sampling of What’s Happening with Online Wine Buying and Shipping[1. This article first appeared in the September 2008 issue of e-Commerce Law & Strategy.] By Cary S. Wiggins[2. Cary S. Wiggins is a Member of Cook, Youngelson & Wiggins in Atlanta, and serves as chair of the American Bar Association’s Beverage Alcohol Practice Committee. He is also the author of Meeting the Sin Laws, an award-winning blawg accessible from the firm’s Web site: www.cywlaw.com. Mr. Wiggins can reached at email@example.com.]
Now can I ship wine to out-of-state consumers? That’s what people at wineries, and even retailers, have been asking ecommerce counsel since the Supreme Court decided Granholm v. Heald, 544 U.S. 460 (2005), which struck down wine-shipping regulations in Michigan and New York as discriminatory under the Dormant Commerce Clause. There are at least 50 answers to the question.
But before we tackle that sprawling question, a quick review of the players is appropriate. Most states use a three-tier system to regulate their internal alcohol distribution markets. [quote1] Under this system, manufacturers of alcoholic beverages sell to wholesalers (first tier), who sell to retailers (second tier), who then sell to consumers (third tier). This erects a wall between manufacturer and consumer. As a practical result, the wholesalers are middlemen who mark up and then sell alcohol to retailers. Incidentally, California, Oregon and Washington, which produce 93% of the country’s wine, use two-tier systems in which retailers buy from producers.
Like any tale worth telling, the three-tier system’s evolution has ironic contours. The tiers concept came from a 1933 study-turned-book, Toward Liquor Control, commissioned just before Prohibition was repealed by the Twenty-First Amendment. The study’s authors had a primary goal in mind: eliminating “profit motive” from the distribution and sale of alcoholic beverages. See, R.B. Fosdick & A.L. Scott, Toward Liquor Control, 57 (Harper & Bros. Publishers 1st ed. 1933). The layered-distribution format is a post-Prohibition throwback, designed (they say) to reduce organized crime’s hold on the liquor trade, to collect taxes and to prevent sales to underage consumers. Whatever the case, the three-tier system has survived because of profit motive.
THE WINE CASE: GRANHOLM
Fast-forward 70 years. Small wineries have mushroomed; more than 4,000 wineries exist, and no state is without one. In the e-commerce era, out-of-state wineries possess the marketing and distribution means to get their product to non-resident consumers, but they lack the states’ permission to do so. They must go through instate wholesalers, and these wholesalers are not always inclined to carry the out-of-state winery’s label. The problem, as Alan Wiseman and Jerry Ellig posited in their 2004 study, Market and Nonmarket Barriers to Internet Wine Sale: The Case of Virginia, is that since the 1960s, the number of wineries had increased six-fold, while the number of wholesalers had decreased to one-sixth of 1960s’ level. Fluid e-commerce markets were pushing rigid three-tier systems to a breaking point on one issue: interstate wine shipping to consumers.
Granholm addressed whether the regulations discriminated against interstate commerce. It did not reach other Commerce Clause issues, e.g., whether mandatory wholesaler requirements impose a form of economic protectionism. Nor did the Court address, under a lesser scrutiny, whether these wine-distribution laws imposed significant burdens on interstate commerce that exceeded local benefits under Pike v. Bruce Church, Inc., 397 U.S. 137 (1970). That set the stage.
THE WINE WARS
Today, the wine-shipping battles are fought largely between wineries and wholesalers — the latter frequently aligned with state governments. The battlefields are state capitols and federal courts. The legal weapon de jure is the Commerce Clause. As one district court has noted:
The Commerce Clause only guarantees an open market, a market free from prohibitive or burdensome regulations; but it does not guarantee a market free from all regulation. As such, under the Twenty-First Amendment, States may engage in a process of balkanization by using regulations such as a three-tiered distribution system to create gated communities composed of state consumers, but not gated communities that include in-state businesses to the exclusion of all out-of-state businesses. (See, Black Star Farms, LLC v. Oliver, 544 F. Supp. 2d 913, 921 (D. Ariz. 2008).)
Because out-of-state wineries are often outmatched by in-state wholesalers when it comes to influencing the state’s legislation, these wineries sometimes choose to litigate when they view the state law as discriminatory to interstate commerce. Challenging state police powers in federal court is a thorny endeavor, though. Speaking at the 2006 Ecommerce Symposium, Kenneth W. Starr noted that “thoughtful judges” are concerned that using the Dormant Commerce Clause in this context is a “pox on this entire enterprise.” 3 Journal of Law, Economics & Pol’y 127, 132-33 (2007).
So is federalism in this context the equivalent of state protectionism? Some principals and counsel of out-of-state wineries think it is. They view a resort-to-court strategy as a necessity. In Beau v. Moore, No. 4:05CV000903, 2007 U.S. LEXIS 83659 (W.D. Ark. Nov. 1, 2007), the plaintiffs (a Michigan winery and an Arkansas resident) challenged Arkansas’ three-tier system that prevents wineries from selling and shipping directly to retailers and consumers. When the suit was filed, Arkansas wineries were exempted from the three-tier distribution and so were permitted to sell and ship directly to consumers and licensed retailers. After the suit, Arkansas amended its laws to ban all direct shipping of wine to consumers, with no exceptions.
In Siesta Village Market, LLC v. Perry, 530 F. Supp. 2d 848 (N.D. Tex. 2008), the plaintiffs (who included a Florida wine retailer) challenged the constitutionality of various Texas statutes that preclude out-of-state wine retailers from selling and shipping wine to Texas consumers. Texas, a three-tier state, allows retailers to ship wine to consumers located within that retailer’s county; out-of-state retailers do not enjoy the right to this “in-state” market. The district court held that the statute violated the Dormant Commerce Clause. The wholesalers might have won the battle, however. In crafting a judicial remedy, the court held that the out-of-state retailers must purchase their wine from Texas wholesalers. An appeal is under way.
More recently, the Seventh Circuit invalidated an Indiana statute protecting wholesalers, Baude v. Heath, Nos. 07-3323 & 07-3338, 2008 U.S. App. LEXIS 17050 (7th Cir. Aug. 7, 2008). The clause provided that a winery could sell directly to consumers only if it did “not hold a permit or license to wholesale alcoholic beverages issued by any authority” and was not owned by an entity that held such a permit. Functionally, the statute prevented California and Oregon wineries from direct shipping because, as manufacturers in a two-tier state, these wineries were deemed “wholesalers” under Indiana law. Indiana argued that the clause was designed to protect the state’s “three-tier system,” under which retailers may buy their inventory only from wholesalers.
Judge Easterbrook wasn’t buying it. He invoked Pike and asked whether Indiana’s facially neutral rules “impose[d] higher costs on interstate commerce as a practical matter.” To support the statute, the wholesalers argued that “the three-tier system may help a state collect taxes and monitor the distribution of alcoholic beverages, because there are fewer wholesalers than there are retailers, so state enforcement efforts can focus on the middle layer.” The court acknowledged the concern, but said that “once a state allows any direct shipment, it has agreed that the wholesaler may be bypassed. It is no harder to collect Indiana’s taxes from a California winery that sells to California retailers than from one that does not.” From there, he held that the “wholesale clause protects Indiana’s wholesalers at the expense of Indiana’s consumers and out-of-state wineries.”
Indiana’s statute reflects a new breed of wine-shipping regulation: facially neutral. Before Granholm, courts struggled to reconcile the Twenty-First Amendment and the Commerce Clause. Now courts know that a facially discriminatory statute will not be saved by the Twenty-First Amendment. The question becomes whether a facially benign state law nonetheless discriminates in purpose, or discriminates in effect, to violate the Dormant Commerce Clause.
DISCRIMINATORY EFFECT, DISCRIMINATORY PURPOSE
[quote2] In theory, the states’ task is simple: Create a playing field that does not discriminate against out-of-state wineries, while maintaining regulatory control over alcoholic beverages. States have broad power to prevent underage access to alcohol, collect taxes and maintain an orderly and regulated market. What has complicated this task is a thriving — and, indeed, politically active — wholesaler industry. Why would these middlemen remove themselves from the distribution chain? For now, the wholesalers don’t wish to experiment with new market dynamics. And some interesting legislative devices have emerged.
Some states (e.g., Indiana, Kentucky and Maryland) issue winery shipping permits to wineries that produce less than “X” gallons annually. In a challenge to Arizona’s production limit, a district court observed that “more than half of the wineries across the country produce less than 20,000 gallons of wine per year and are thus eligible to take advantage of the gallonage cap exception under Arizona’s domestic farm winery permit,” noting that more out-of-state wineries than in-state wineries had obtained domestic farm winery licenses. With that finding, the court held that “Arizona’s gallonage cap exception does not restrict the flow of interstate commerce in favor of in-state wineries and in effect opens up the State’s wine market to allow more out-of-state wineries than in-state wineries to take advantage of Arizona’s gallonage cap exception and directly ship to Arizona consumers.” Black Star Farms, LLC v. Oliver, 544 F. Supp. 2d 913, 928 (D. Ariz. 2008).
Massachusetts’ gallonage caps on direct shipping are now under attack. See, Family Winemakers of Calif. v. Jenkins, No. 1:06-CV-11682- RWZ (E.D. Mass.) (plaintiffs’ summary judgment motion pending).
Some states (e.g., Minnesota) limit cases shipped to consumers rather than gallons produced by wineries. In Minnesota, a winery may ship no more than two cases of wine to a customer per year. Indiana tags the other end of the commercial transaction: A winery may ship no more than 3,000 cases per year to all customers.
Florida’s 2008 legislative session concluded without passing a bill that would have limited shipment to eight cases per household, per year; another house bill that would have prevented wineries producing more than 100,000 cases from shipping directly to consumers died, too.
Face-to-Face Purchase Requirements
Other states (e.g., Arizona, Kentucky and Mississippi) have imposed a “face-to-face,” or “on-site,” purchasing requirement on direct shipping sales. The consumer must purchase the wine in a face-to-face transaction on the winery’s premises to ship that wine home. Some states will allow the wine to be broken down into multiple shipments during the year.
Face-to-face restrictions have been challenged. In Black Star Farms, the plaintiffs (including a Michigan winery) argued that Arizona’s in-person exception violated the Dormant Commerce Clause. Recognizing that the in-person exception was facially neutral, the plaintiffs argued that it “in effect” creates an economic barrier that benefits in-state wineries and burdens out-of-state wineries because consumers cannot afford to travel to out-of-state wineries just to buy wine. The court disagreed. Upholding the face-to-face requirement, it said the Dormant Commerce Clause “does not require States to provide out-of-state businesses with additional rights to compensate for existing advantages that in-state businesses possess through geographic location.” A face-to-face challenge to Indiana’s statute also failed. (See, Baude v. Heath, supra.)
Other states impose high permit fees that might exclude small nonresident wineries with only limited sales in the state. A district court recently held a New Jersey fee unconstitutional, in Freeman v. Fischer, No. 03-3140, 2008 U.S. Dist. LEXIS 49718, at 18 (D.N.J. June 30, 2008). The court held: “The Act requires out-of-state wineries to pay twice the fees paid by in-state wineries for essentially the same privileges, but defendants posit no evidence that these fee amounts were calculated based on increased costs of regulating out-of-state wineries or some other legitimate state service rendered to out-of-state wineries and not in-state wineries.”
According to Law Professor James A. Tanford’s article “E-Commerce in Wine,” 13 states had reciprocity laws before Granholm. See, 3 Journal of Law, Economics & Pol’y 275, 325 (2007). These laws say, essentially, that an out-of-state winery may ship directly to consumers, but only if that winery’s home state affords reciprocal direct-shipping privileges. (Until this year, three states had reciprocity laws; now two do, because Wisconsin repealed its reciprocity law, to be effective on October 1, 2008.)
WHERE CAN I SHIP WINE?
A wonderful resource for learning where wine may be shipped is WineInstitute.org, which bills itself as a “public policy advocacy association of California wineries.” The Web site offers a summary of state wine-shipping laws. California and New Hampshire are among the least-restricted shipping destinations.
Other states have closed Internet sales altogether. According to FreeTheGrapes.org (another aggregate site, last visited Aug. 17, 2008), Alabama, Arkansas, Delaware, Kentucky, Maine, Mississippi, Montana, New Jersey, Oklahoma, South Dakota, Tennessee and Utah fall into this category. Other states are debating what to do. Pennsylvania, for instance, just ended its legislative session without “coming to grips” with Granholm, reports Christopher Wink for The Morning Call of Allentown, the state’s third-largest city.
One proposal would have allowed in-state and out-of-state wineries to ship wine to consumers through Pennsylvania’s state-owned liquor stores. Customers would then have the wine shipped from the store, or pick up the wine from the store.
WINE WARS SHAPING CONSTITUTIONAL LITIGATION
Facial challenges are becoming fact-intensive. Last term, in rejecting the challenge to Indiana’s voter-ID law, the U.S. Supreme Court noted that there was not “any concrete evidence of the burden imposed on voters who now lack photo identification.” Crawford v. Marion County Election Bd., 128 S. Ct. 1610 (2008). It’s put up, or shut up. This is why, in Baude, Judge Easterbrook said it would be “awfully hard to take judicial notice that in-person verification with photo ID has no effect on wine fraud and therefore flunks the interstate Commerce Clause” if the Supreme Court could not do it in a voter-ID setting.
At least one scholar believes that discrimination-in-effect evidence is necessary to bolster a facial-discrimination claim. David S. Day, The Expanded Concept of Facial Discrimination in the Dormant Commerce Clause, 497 Creighton L. Rev. 497, 513-14 (2007). Facial-discrimination claims are “increasingly interwoven with discriminatory-effects theories” (Day at 514 n.110).
And the Wine Wars are proving that.